X

Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2018 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.


Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
You just can't beat gold! - Outside View by S.S. TARAPORE
  • MyStocks

MEMBER'S LOGINX

     
Login Failure
   
     
   
     
 
 
 
(Please do not use this option on a public machine)
 
     
 
 
 
  Sign Up | Forgot Password?  

You just can't beat gold!
Jan 9, 2015

Even now it is not too late for emerging economies to get into the game. Gold trumps reserve currencies, any day

August 15, 1971, marks the demise of the Bretton Woods international monetary system when the tenuous link between gold and the US dollar was snapped by President Nixon. It is now nearly 44 years since this link was broken and the so-called Bretton Woods II has brought forth chaos in a reign of fiat currency.

Yet, the intellectual arrogance of mainstream economists, policymakers and heads of State continues to have unshaken faith in fiat currency.

When the definitive history of the post-August 1971 international monetary system is written up, the coming generations will hardly believe that international powers placed their trust in a faulty system of fiat currency.

Advocates of a pristine international gold standard are dismissed as atavistic cranks despite inexorable signals that a return of the international monetary system to gold will ultimately take place, albeit after a major upheaval.

Unique role of gold

The post-2008 international financial crisis will, in a historical context, appear to be puny compared with the crises to come that will result in gold's ultimate triumph over the fiat-based reserve currency system.

Gold is unique as it is a commodity, a store of value and a medium of exchange.

In a sense, gold is the only true international monetary asset and yet for a full hundred years, gold's pre-eminent role has been usurped by a reserve currency governed by a fiat currency. It is no wonder that over this period the world has seen a total debauching of the major international reserve currencies.

Tall intellectuals believe that an enduring international monetary system can be developed by a multi-polar currency system with new reserve currencies as the older traditional reserve currencies go on the wane. To sum up, zero plus zero plus zero has to equal zero and fiat currency without any backing has to fail.

Despite peremptorily dismissing the importance of gold in the international monetary system, the major countries, as of September 2014, held a very large proportion of their forex reserves in gold: US (72 per cent), Germany (67 per cent), Italy (66 per cent), France (65 per cent) and the Netherlands (54 per cent). For countries with a low proportion of gold the figures are: China (1 per cent), Japan (7 per cent), India (7 per cent), Russia (10 per cent) and UK (11 per cent).

Thoughts on a gold standard

When gold reclaims its rightful place as the only legitimate reserve currency, it is clear which countries gain and which countries lose. In recent years, central banks as a whole have been net buyers of gold.

Given the organic nature of gold, the gold standard consistently outperforms the synthetic nature of central bank discretion-based fiat money creation.

Jens Weidmann, president of the Bundesbank, in a 2012 speech referred to gold as "in a sense a timeless classic".

The Bank of England Financial Stability Paper No. 13 concludes that a fiduciary management greatly underperforms in terms of economic growth, financial stability, inflation and recession, in comparison with its predecessor, the gold standard. Adolf Hitler was opposed to the gold standard and he believed in a "solid state without an ounce of gold. Anyone who sells above the set prices, let them be marched off into a concentration camp".

Lewis E Lehrman and John D Mueller refer to the "reserve currency curse". They argue that ending the greenback's reserve currency role will raise savings and make US companies more competitive.

They quote Jacques Rueff, the French economist who said "that when a foreign monetary authority accepts claims in dollars (instead of gold) to settle its balance of payments deficit it increases money supply in, say France, without reducing money supply in the US. Jared Bernstein, an adviser to Vice-President Joe Biden, urges that to get the US economy back on track, the government needs to drop its commitment to maintain the dollar reserve currency status. While no other global currency can replace the US dollar, the world's monetary authorities hold 900 million ounces of gold which is enough to restore, at an appropriate parity, the classic gold standard - the least imperfect monetary system in history" (cited with permission from Ralph Benko of the Lehrman Institute).

What India should do

Ralph Benko, in a column in Forbes (June 2014), refers to signs of a gold standard emerging from the UK in terms of a book by Kwasi Kwarteng, member of the UK House of Commons, titled War and Gold: A 500 Year History of Empires, Adventures and Debt . As Benko puts it, War and Gold is a compelling successor to Liaquat Ahamed's Lords of Finance.

Kwarteng concludes that the gold standard will never formally return but movements in the price of gold may well suggest that investors may informally adopt one, given their lack of faith in paper currency.

The emerging market economies (EMEs) which, in recent years, built up their forex reserves rapidly, lost a major opportunity by not building up the gold portion of their reserves. It may even now not be too late to do so.

Given the inherent instability of the reserve currency system, the Reserve Bank of India (RBI) should build up its gold reserves by a quantum jump to at least one-third of its total forex reserves as part of a loss minimising strategy in a volatile international monetary system.

Further, the RBI would do well to implement the KUB Rao Working Group's report which recommended the building of a buffer stock through monetisation of the large domestic private hoard of gold. If you can't beat gold, join it!

Please Note: This article was first published in The Hindu Business Line on January 09, 2015.

This column, Maverick View is authored by Savak Sohrab Tarapore. Mr. Tarapore, is an economist and he runs his own Multi-Language Syndicated Column. Mr. Tarapore's other column, which appears in The Freepress Journal, is titled Common Voice.

Disclaimer:

The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and have not been authenticated by any statutory authority. The author and Equitymaster do not claim it to be accurate nor accept any responsibility for the same. The views constitute only the opinions and do not constitute any guidelines or recommendation on any course of action to be followed by the reader. Please read the detailed Terms of Use of the web site.

Equitymaster requests your view! Post a comment on "You just can't beat gold!". Click here!

  

More Views on News

What They Forgot to Tell You About Sensex at One Lakh (Smart Contrarian)

Nov 29, 2017

Stocks that could beat Sensex returns in the long term.

How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

Jun 10, 2017

Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

4 Things To Do When You Are Not Able To Pay EMI (Outside View)

Feb 22, 2018

PersonalFN lays down simple steps to take if you find paying EMIs difficult.

This Investor Lost US$ 444 Million! How You Can Avoid the Same Blunder... (The 5 Minute Wrapup)

Feb 22, 2018

Here's how you can minimize losses if you have invested in the wrong company...

Is This the Most Absurd Government Agency? (Vivek Kaul's Diary)

Feb 22, 2018

Is this government agency doing the job of sounding an alarm if the financial system were ever in danger?

More Views on News

Most Popular

The Foundation for Sensex 100,000 is Laid(The 5 Minute Wrapup)

Feb 17, 2018

Top three reasons for Tanushree's presentation at Equitymaster Conference to be centered around a possible 30% correction.

The Era of Easy Money is Coming to an End. What Happens Now?(Vivek Kaul's Diary)

Feb 9, 2018

The easy money policy of the Federal Reserve of the United States, which drove up stock markets all over the world, is ending, with the Federal Reserve looking to shrink its balance sheet.

The Markets Want Your Money. Don't Give It to Them.(Smart Contrarian)

Feb 9, 2018

MFs are having a gala time taking money from over-eager investors and funneling it into equities. Smart investors, though, know better than to do that.

The Big Gamble(The Honest Truth)

Feb 15, 2018

Once you accept the fact that elections are round the corner and that this budget is geared to reach a 40% target, everything makes sense.

NPAs Set to Rise Further with New RBI Rules(Chart Of The Day)

Feb 15, 2018

The RBI overhauls bad loan framework. Banks may come under additional pressure due to rising NPAs and increased provisioning.

More

Small Investments
BIG Returns

Zero To Millions Guide 2018
Get our special report, Zero To Millions
(2018 Edition) Now!
We will never sell or rent your email id.
Please read our Terms

S&P BSE SENSEX


Feb 22, 2018 (Close)

MARKET STATS