Applied Philosophy

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I am really tired of writing articles that no one read; I had promised an article about the Gold Standard, the above diagram was prepared months ago.If you want to read the article that should have accompined accompanied the above picture leave a comment below and in a week’s time I will write a paragraph for each IP address (so no cheating!).

The use of gold and silver coin has no inherent weakness. It is the concept of legal tender that is flawed and unjust. By fixing the rate of exchange between gold and silver, and declaring what constituted legal tender, the powers that be seriously intervened within what was supposed to be a free market. Any chance to function as a free market was gravely impaired. The system was doomed to fail from the start, as the seed of its own destruction lay within – waiting to blossom. Alexander Hamilton was the architect of its design; and he did not knowingly make mistakes. He was very capable and as accomplished as they come.

It is one thing to fix or set the standard of a monetary system. This the Coinage Act of 1792 did when it set the standard as a weight of silver: 371.25 grains of pure silver. This is sound monetary policy.

To fix the exchange rate between gold and silver at 15 to 1 is an entirely different matter. This would have been better left undone. Let the free market decide upon the exchange rate between gold and silver, not a statute or legal tender law, which is nothing more than forced obedience – the King’s prerogative. This was all Hamilton’s doing.

—The Constitution On Legal Tender and Lawful Money (pdf) by Douglas V. Gnazzo [my emphasis]

In Beware the Boom! I wrote the following

The gold standard with a floating gold-silver ratio is the true standard. Fixing the ratio of silver to gold turns it into a derivative of gold. This feature of the British gold standard was a flaw that caused its ultimate demise and replacement by pure fiat currencies. A floating ratio means that the money supply can expand and shrink with the economy automatically without the need of an external regulator. A central bank will always be behind the curve and either shrink or expand the money supply more than needed, creating structural problems in the system; these will ultimately bring the system down.

I have been planning to write an extensive post on this subject (I even prepared a graphical item!) but time constraints prevented me from doing so. I will try to post some press-clippings until I have enough time to do the research and write the long-awaited post about the real gold standard.

In High Treason in Zimbabwe I suggested the introduction of a gold coin, which I called the Zimbi, to solve the hyperinflation of Zimbabwe:

The zimbi would have turned the monetary system of Zimbabwe from the weakest on Earth to the only one based on gold, thus ensuring that Zimbabwe becomes the world’s only country with a trustworthy currency. Capital would pour into Zimbabwe from all over the world and its economy would boom.

Now Reserve Bank of Zimbabwe Governor Dr Gideon Gono has suggested a plan to reintroduce the Zimbabwean dollar as a gold backed hard currency:

THE GOLD STANDARD

1.23 The gold standard is a monetary system in which money in circulation is freely and fully convertible into a fixed amount of gold. Under such an arrangement, the value of local currency is fully backed by gold. The system allows holders of local currency to redeem paper money for gold at a specified rate.

1.24 The total amount of money in the country would be fixed in relation to the amount of monetary gold. The Central Bank is only able to expand money supply if there is a corresponding increase in gold reserves.

1.25 The gold standard, which is characterised by stable exchange rates removes business uncertainties and facilitates trade and commerce.

THE CURRENCY BOARD

1.26 Under a Currency Board arrangement, Monetary Authorities only issue domestic currency, backed by foreign exchange reserves. The Central Bank issues notes and coins that are convertible into the anchor currency at a fixed rate of exchange.

1.27 Under a Currency Board, however, the country loses monetary autonomy to the anchor country.

OPERATIONAL MODALITIES OF ISSUING THE GOLD/DIAMOND BACKED LOCAL CURRENCY

1.28 Under the gold/diamond backed monetary system, Government will need to provide adequate mineral resources to back each unit of the local currency issued.

1.29 It will be critical to capacitate local gold and diamond producers in order to produce adequate mineral resources.

1.30 Government will establish an Independent Committee of Stakeholders to ascertain and certify the quantity of gold or diamonds produced to back the issuance of the local currency. This Committee would, thus produce certificates of authenticity, indicating the true levels of gold, diamonds, platinum, against which now money would be printed.

1.31 The operational modalities of the gold/diamond backed local currency issuance are as follows:

Step 1:

1.32 Diamond/Gold producers deliver to the designated delivery point

Step 2:

1.33 An all inclusive Independent Panel of stakeholders certifies the quantity of gold/diamonds produced and delivered.

Step 3:

1.34 Upon delivery of gold/diamonds the Independent Panel of experts issues gold/diamond certificates to RBZ, authorizing it to issue local currency equivalent in value to the amount of gold/diamond delivered.

Step 4:

1.35 RBZ instructs Fidelity Printers to print local currency equivalent to the value of the gold/diamond certificates and reports back to the Panel for verification and transparency,.

Step 5:

1.36 Fidelity Printers prints local currency amount equivalent to the value of gold/diamond delivered.

Step 6:

1.37 RBZ issues local currency to the Public through the Banking channels.

RESULT

1.38 The result would be smooth functionality in the country’s payments system, without the risk of over supply of money.

—Reintroduction of Zimdollar – the Defence, by Gideon Gono

Although this plan will not solve all problems and will have problems of its own, it is a thousand times better than the treasonable act of dollarisation. Reaction:

“Reserve Bank of Zimbabwe Governor, Dr Gideon Gono who has identified inflation as the country’s number one enemy and fought to give the national currency a semblance of value, has generated intense debate after he recently called for the reintroduction of local unit.

In a presentation he made in Parliament this week, Dr Gono proposed that the new currency be backed by gold or diamond production in the country, so that it has actual value, as one could have a measure of gold in exchange for money.

The reintroduction of the Zimbabwe dollar, he said, was therefore ‘not a blind return to the money printing press.’”

—Zimdollar Debate – More Than Simple Economics

Addendum

By adding diamond to gold in his plan, Dr. Gono, is confirming what I wrote in Liquidating the Debt of the United States:

Gold is the most liquid hard asset and at the same time easily manageable and transferable, but other hard assets could be mobilised by a government.

In Beware the Boom! I wrote the following about China’s gold reserves:

China’s official numbers are constant, but gold produced in China is not exported, hence the gold is being accumulated outside the official reserve.

And now we read:

“China, owner of the world’s biggest forex reserves, said Friday its gold reserves had risen to 1,054 tonnes by the end of 2008.

China is now the fifth biggest holder of gold reserves in the world, with only six countries having a holding of more than 1,000 tonnes, Hu Xiaolian, head of the State Administration of Foreign Exchange, told Xinhua in an interview. The new figure represents an increase of 454 tonnes from 600 tonnes in 2003, the last time China announced an adjustment of its gold holdings.

The country adjusted its holding of gold reserves twice this century. It raised its holding from 394 tonnes to 500 tonnes in 2001, and to 600 tonnes in 2003, Hu said.”

-China’s gold reserves reach 1,054 tonnes, China Daily

Over the last six years China’s gold reserve has been increasing at a yearly rate of about 10% while all published statistics showed it as a constant. Since 2000 the reserve has increased two-and-a-half times. Even with the latest increase the reserve is still pitiful, equalling about a three-hundredth of an ounce per person. The following table compares that to other countries:

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In ancient times people had to perform labour to extract from nature the substances they needed to survive, thus direct labour resulted in direct satisfaction.

Later barter developed where people would perform labour and extract from nature more than they needed, afterwards they would exchange their surplus with a different substance extracted by someone else. Thus in this situation past labour was exchanged for past labour.

Later indirect barter through a monetary commodity developed. Now the two people bartering did not have to meet and exchange their goods in one operation, instead surplus goods are exchanged for a monetary commodity, which in turn is exchanged for needed goods. The monetary commodity, like all commodities, represented past labour and it was also the most liquid thus guaranteeing that the second exchange operation will be completed.

Later (much later) gold and silver emerged as the final monetary commodities. The direction of development went towards mined products from the moment they became abundant to fulfil the role of money. The first mined commodity to play that role was salt, which did not need refining.

A British Guinea

A piece of minted gold contain the following labour: labour to discover the gold, labour to mine the gold ore, labour to refine the gold, labour to mint the gold, labour to secure the gold through this process. When one gives up his surplus product for a piece of gold he is exchanging past labour with past labour in monetary form. The new form has many advantages: it does wear out or perish, it is much denser making it easer to store and transport and most importantly it is liquid.

“Gold is the indispensable regulator of debt in society. … Well, we have just tried [bureaucratic regulation of the level of debt] and found that whenever irredeemable promises are to be liquidated by issuing more irredeemable promises, debt proliferates beyond any limit.
…
People wake up and realize that they are surrendering real goods and real services in exchange for irredeemable promises.”

-The Anti-Gold Gospel According to Kaletsky by Antal E. Fekete

Now we live in an age where all the developments of the last ten thousand years are being thrown away and replaced by new un-tested gimmicks. We throw away monetary commodities and replace them with fiat currency, but do we really know what we are getting ourselves into?

As I tried to show in The Printing Press is a Harsh Mistress one unit of fiat currency is equivalent to one unit of public debt on the central bank balance sheet. If one accepts a fiat currency then he will not be accepting past labour but instead the promise that future labour will generate enough public income (through tax, excise, et cetera) to service the public debt. Thus selling goods for fiat currency becomes an exchange of past labour for future labour.

Imagine a farmer exchanging his surplus wheat for the hunter’s surplus winter catch. The farmer fulfils his obligation at harvest but has to wait six months for his share. What would happen if the winter’s catch were too low? This is why meat is smoked or cured and exchanged at harvest time. The farmer gets last year’s catch instead of next year’s catch.

The problem with future labour is not only unforeseen circumstances but more importantly is that before generating a surplus enough has to be generated to pay the workers, but since they too are paid with fiat currency this will only increase the amount of future promises. This cycle means that the quantity of money has to increase exponentially at a rate outpacing the economy. As more money is created its exchange value drops, the dollar has lost about 97.7% of its value (gold from $20.67/oz. to $900/oz.) since becoming a fiat currency.

A US Gold Dollar

There is no need to add the phrase “In God We Trust” to coins with intrinsic value because if you have them then your prayers have already been answered by the Almighty.

The newly installed prime minister of Zimbabwe, Morgan Tsvangirai, is the worst kind of traitor; he has just surrendered the sovereign right of the people of Zimbabwe to issue money to the United States:

“Zimbabwe’s prime minister, Morgan Tsvangirai, has taken an important step toward establishing the new power-sharing government’s credibility by fulfilling a commitment to pay the army and other public-sector workers in dollars because the national currency is worthless.”

—Zimbabwe starts paying soldiers in US dollars, 19 Feb, The Guardian

From now on all assets in Zimbabwe will be priced in US dollars:

“Zimbabwe shares, battered by the world’s highest inflation rate and a decade-long recession, may rebound after the stock exchange reopened yesterday from a three- month suspension with listings re-denominated in U.S. dollars.
…
Reopening the exchange was one of the first steps by the coalition government formed last week as part of a power-sharing agreement between Mugabe, 84, and opposition leader Morgan Tsvangirai.
…
Zimbabwe may be forced to use a combination of the dollar, the rand and other currencies, Tsvangirai said.”

—Zimbabwe Stocks May Soar as Bourse Reopens in Dollars, 20 Feb, Bloomberg

Dollarisation of the economy is the worst kind of high treason, because it surrenders one of the most important sovereign rights of the people, giving up parts of the country (as the Germans did at the end of the Great War) is the height of honour compared to it. Even the most inflated fiat currency in the history of the world is preferable to this!

If they have any US dollars (they don’t) they should then send it all to the mint in South Africa and request the following coin:

Every one troy ounce of pure gold would make eight zimbi’s. The low weight and purity would ensure that there is no foreign demand for the coin from investors.

As to the Zimbabwean dollar, they would stop printing it but keep accepting it for public debt and taxes. People will pay the government with dollars while accepting only zimbi’s, very quickly all the dollars will be absorbed and there would be only zimbi’s.

The state can also exchange one zimbi for 4.66 gram of 22K gold (or equivalent), thus putting a 10% seigniorage on the coin; for every thousand coin given to the public the state makes a profit of a hundred zimbi.

The zimbi would have turned the monetary system of Zimbabwe from the weakest on Earth to the only one based on gold, thus ensuring that Zimbabwe becomes the world’s only country with a trustworthy currency. Capital would pour into Zimbabwe from all over the world and its economy would boom. The opposite is now happening:

“Reconstructing Zimbabwe may cost as much as five billion US dollars (four billion euros), Prime Minister Morgan Tsvangirai said Friday as he opened his hands to neighbouring countries.
…
Motlanthe said South Africa, chair of the Southern African Development Community (SADC) bloc, had directed regional finance ministers to develop a plan to help Zimbabwe, and again called for sanctions to be lifted.”

—Reconstructing Zimbabwe may cost $5bln, 20 Feb, AFP [my emphasis]

They might not have dollars ‘printed’ in the US, but they certainly do have gold mined in Africa:

“The Vice-President of Zimbabwe has been accused of trying to sell millions of dollars in gold nuggets and diamonds in defiance of international sanctions.
Joyce Mujuru used her daughter as a go-between to seek a deal for the gold, according to Firstar, a commodities trader based in Britain, which says that it was approached in November.
…
Firstar claims that Mrs Mujuru’s daughter and Spanish son-in-law, Nyasha and Pedro del Campo, offered to sell 3,700kg of gold for $90 million to Firstar Europe Ltd, a precious metal dealer. At the present market rate, one kilo of gold sells for $30,700 (£21,500). ”

—Zimbabwe’s vice-president foiled in 3,600kg gold deal, Times Online

Three tonnes of gold (let’s assume the 700kg pays all the costs) would make 771,803 zimbi’s; instead of using it in their own country they want to send to Europe in exchange of ‘paper’!

Successive Chinese dynasties built and maintained a magnificent wall to protect their empire. The Ming dynasty (an ethnic Han dynasty) maintained this great barrier and improved it to protect itself from the Manchu tribes in the northwest. The tribes were never able to overcome the wall, but a disgruntled general (Wu Sangui) decided to open the gates at Shanhai Pass and let the Manchu tribes enter.

The result was the fall of the Ming dynasty and its replacement by the Qing dynasty, a non-Han dynasty. The Qing changed China in a way that weakened it—they weakened the cultural bonds of society to bolster their domination—and laid it open to the Western powers in the nineteenth century. China has yet to restore its place in the world after four hundred years of one general’s treasonable act. Morgan Tsvangirai has just opened the gates of Zimbabwe for the barbarians.

Introduction

Today I would like to re-visit a subject that I have already covered twice. In When Gold is Worthless and Hyperinflation and Gold Bugs I argued that gold is not really the safe haven that some advertise it to be. My concern here is historical rather than economic, I am not interested in investment or wealth management; what concerns me is society and the ability of the economy to benefit all members of society.

There is a strong egotistical streak hidden behind the mask of Individualism, the predominate philosophy of gold bugs and those interested in preserving their wealth from the approaching hyperinflationary storm. Egotism is a shortsighted stance that eventually costs more at the end than what it promises at the beginning. Those who recognise that the system of fiat money is doomed are duty bound to do something about it, trying to save only themselves by buying gold is an egotistical solution that will fail at the moment it is most needed.
Read the rest of this entry »

A seven part series, ‘Recipe for Famine’, on bloomberg.com charts the effects of neo-liberal policy on agriculture in the third world:

• Part 1: Dead Children Linked to Aid Policy in Africa Favoring Americans
• Part 2: How Famine Lurked Behind Vienna Toast Where Joe Cocker Crooned
• Part 3: World Bank’s ‘Wrong Advice’ Left Silos Empty in Poor Countries
• Part 4: Government Bribes in Cameroon Divert Funds From Food Amid Riots
• Part 5: Wasting Enough Rice to Feed 184 Million Is Habit Only Rats Love
• Part 6: Corn Futures Spark Riots as Speculators Take Trading to Limit
• Part 7: Eating Isn’t Option When Minnesota Corn Burns in Houston Cars

‘What is sauce for the goose is sauce for the gander’ or to paraphrase:  ‘What causes famine in poor countries causes famine in rich countries’.

  Read the rest of this entry »

Is it possible to have a fiat currency that does not end in hyperinflation? In this post I will try to explain why the answer is a resolute No.

Irresponsible governments who print prodigious amounts of paper to fund expenses beyond their ability to carry the debt are certainly going to end with hyperinflation, as is the case in Zimbabwe for example. The belief is that governments that have monetary experts at the helm and a strong economy that can service the debt-No economy can pay off the debt of the government and prosper at the same time unless the payments are colonial profits-then the currency can live on without the danger of hyperinflation; that belief is completely false.

To begin let us look at a time when the gold standard was in effect, so by comparison we can better understand fiat money. Here is the balance sheet of the Bank of England Issue Department at the end of 1869 (see Bagehot on Money):
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Introduction

I found an article on the Internet by the interesting title of The Debasement Puzzle: An Essay on Medieval Monetary History (reprinted in the Federal Reserve Bank of Minneapolis Quarterly Review, 1997). A trio of economists wrote the article, all three working at the time for the Federal Reserve System:

• Arthur J. Rolnick
  Senior Vice President and Director of Research
  Federal Reserve Bank of Minneapolis
• François R. Velde
  Economist, Research Department
  Federal Reserve Bank of Chicago
• Warren E. Weber
  Senior Research Officer, Research Department
  Federal Reserve Bank of Minneapolis

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Introduction

As the financial crisis went mainstream talk about the US national debt increased, the media and all kinds of commentators are discussing the huge increase in the debt during the Bush presidency and the ways to pay it off. As usual a lot of nonsense is being said on the subject. In The Humility of Uncle Scrooge I argued against those who thought the US debt could be paid back as if it is a personal overdraft.

Others, who are wise enough to see that the debt can’t just be repaid, suggest that the US should “negotiate” with its major creditors (namely China & Japan) to restructure the debt in exchange of political “concessions”. This is basically what third world countries do when they default on their debt, they get long-term financing from the IMF and in exchange open up their internal markets for foreign capital, lift all regulations on investors and cut welfare spending.

What those who make this proposal miss are the following simple truths:
Read the rest of this entry »

The Last Remission

Since September almost everyone has become a financial expert with opinions and plans, I had nothing to say because I have already discussed the crises back in August (see Bagehot on Money & Zimbabwe’s Monetary Policy). Now that the moment of crises has passed people are returning to the diverse issues they usually discuss, so I thought I would look ahead and chart the future to prepare for the next surprise.

“Normally, there is a lag of about a year or so between money creation and inflation but eventually, what’s recently happened will result in massive inflation, a much lower U.S. dollar and a soaring gold price.”

-Financial History in the Making, by Mary Anne and Pamela Aden

The amount of money created in the last couple of months has transformed fiat money creation from a quantity change into a quality change. Like a straw added to the pile on the back of a camel, adding one more straw above a certain limit transforms the pile into a crushing weight, only this money was more like the rock that broke the camel’s back.
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I recently heard, on a web-cast, a gold bug saying that the coming hyperinflation-due to the $700 billion Paulson plan-will be beneficial to those who have gold. Is that correct? The answer is a resounding NO.

Inflation does not increase the value of bullion it just changes its price in fiat currency. The price of a house in the US measured in gold is about the same it was in 1970, while in dollars the price has multiplied. The value of gold remained the same while the price increased twenty times.
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Two Lines

The following graph is from St. Louis Federal Reserve Bank:

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Blue line: ‘Total Borrowings of Depository Institutions from the Federal Reserve’

Red line: ‘Non-Borrowed Reserves of Depository Institutions’

From the red line we concluded that US banks are insolvent, from the blue we concluded that the Fed (Federal Reserve) has assumed their liabilities. The result will be a terminal decline of the dollar (to zero) causing hyperinflation. Read the rest of this entry »

With the eminent collapse of the fiat currencies system in a hyperinflationary burst, the talk of securing wealth in gold is rising; the qualities of gold, as a store of wealth and a measure of value, are exalted by countless internet sites and economic blogs.

The superiority of gold compared to fiat currency is beyond dispute, what irks me is that the benefits of gold might be slightly exaggerated. Hyperinflation is possible with gold currency and history is full of instances when a purse of gold was paid for a loaf of bread or a cask of water, examples of such inflation could be found in any account of medieval siege and lesser inflation was associated with bad weather, war or epidemics.

As for gold as a store of wealth that is 100% true, gold will store wealth long after the owner, and the owner’s heirs, are dead. When archaeologists find hordes of gold in a specific layer they concluded that there were disasters and calamities in this time causing people to horde gold; what is interesting is that a large number don’t come back for their gold!!

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