By Julian D. W. Phillips
In 1971 President Nixon closed the window that allowed U.S. dollars to be sold for gold owned by the U.S. Just before that, the price of gold was $35 an ounce. Since then gold has been called a ‘barbarous relic’, a term used by Keynes, the famous economist.
From that time on, the world’s currencies stood merely on the confidence their governments engendered and the control they exercised over international financial dealings of all kinds. That confidence lasted until 2007 when the credit crunch brought government financing on both sides of the Atlantic into question. Up until now the performance of the underlying value of currencies has hidden these questions as exchange rates are adequately ‘managed’ through swap arrangements to stabilize exchange rate movements to the extent that violent moves don’t happen. But the real value of currencies in terms of their real solvency is now a matter of open debate. As of now, relative to the amount of gold available to markets, the price of gold is the only measure of value that currencies can be held to. We look at that and look at the conditions that are determining the value of currencies now and in the future.
The Currency Experiment
When Nixon closed the ‘gold window’ to European governments in 1971 he relied on the oil producers of the world to price oil in U.S. dollars only. This made the USD a necessity. Except for the few oil producers who refine their own oil, every country needs to import oil after using the U.S. dollar to buy it. This gave the U.S. the control they needed over currency markets, to ensure that the dollar became and remained the sole global reserve currency until now.
A look at the euro, which –although the world’s largest trading bloc— shows that if a currency is measured solely on the performance of its government and Balance of Payments, it remains vulnerable to market forces that react to that measurement. With oil in backup, that vulnerability fades. That is, until profligate printing of that government’s currency becomes so obvious that it cannot be ignored. This is where the U.S. dollar is coming to now.
The ‘currency experiment’ has persisted for 41 years, but for the last five, it has faltered and continues to do so. With the focus on the short-term, the real consequences of that experiment have been largely ignored. It’s time to take a more distant view of what has happened so that we can get a balanced perspective of its cost.
Value of Paper Money – The Harsh Reality
During the 42 years of the currency experiment with no gold or silver standing behind currencies we have seen the gold price multiply from $35 to $1,770. That's over 50 times in 42 years. And there's still much more to come it seems, with the assistance of governments.
If one was fortunate to get out at anywhere above $800 back in the eighties and back in at $300 in the next twenty years that number goes up to 64 times $35. That’s what solid long-term funds should have done, to maximize profits. (It is far better than trading and far less nerve-racking.)
But don't look at that as a profit figure. That’s not the point we are making here. Look at it as a statement on the failure of the currency experiment and currencies' ability to measure value. Now translate that into the value of savings over that period –a harsh reality indeed!
A Pension fund is measured on the money flowing in and less the money flowing out. The assets in the middle should be rising to cover the additional costs of paying pensions when the workers retire and the cost of living increases. That’s why they depend on Pension Fund Managers and Pensions. If the money leaving is more than that coming in, then the fund is moving to insolvency.
As Alan Greenspan pointed out so strongly, this is happening now and with ‘baby boomers’ retiring now, that is the current situation in most Pension Funds (such as is now reported about the Chicago Teachers). The future of such Pensioners even now as well as the Pensions of those working now looks bleak.
If you strip out the causes of higher prices that are due to supply and demand factors (which usually readjust over time) then you are left with monetary inflation. A rate of monetary inflation of 2.5% has been deemed acceptable because it is manageable and gives the impression of growth.
Today’s quantitative easing in the U.S., Europe, Japan and China has now accelerated to a much faster pace in the hopes of stimulating faster, sustainable growth. QE1 and QE2 may have staved off a depression, but they have not translated into sustainable growth. We are all now waiting to see if QE3 will do so.
We’ve all become aware that money printing lowers the value of a currency; however, the benefits of increased liquidity in the system –it is hoped— will compensate for that. Savers are the victims of such a policy, if they save those currencies even when growth is resuscitated.
Some savvy enough may turn to currencies, which they believe will not be devalued in the same way and retain their value, i.e. Yen or Swiss Franc. But for the last year or so, both the Swiss and Japanese governments have interfered in the market place to lower the value of their currencies internationally, so they can retain their international trade competitive levels. The Yen is still being treated as a ‘safe-haven' currency even though the Bank of Japan has made it clear that it will engineer a weaker Yen for a long time to come. The same is true of the Swiss Franc, both countries placing their export competitiveness above the value of their currencies.
We can therefore state: The concept of a currency as a measure of value has now departed completely.
Such currency market changes leave room for gold and silver to act as that measure of value, as currencies fall against them. Look again at the price of gold before 1970 and now. It translates into a 100%+ gain every single year for the last 41 years. (So much for an item you dig up, then put back in the ground.) But this is a measure of decline in currency value over that same period! The culture that precipitated this history is still in control and certainly intends to continue down that road. Some commentators believe that the gold price can triple in the next few years. That would change the rise from $35 until then to 317% per annum since before the 1970’s. What will that tell you about the value of currencies the world over? And what does that point to in the future?
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