Between 1969 and today, the dollar’s purchasing power relative to gold declined by 97.3% (the blue line). By banning gold from having any monetary role, the US removed price stability from the dollar. More recently, since the great financial crisis the quantity of fiat money in the global currency system has expanded dramatically relative to the long-term average growth rate of money and bank credit. This is illustrated in our second chart, which records the growth in the total amount of fiat dollars in the US banking system.
The fiat money quantity is the sum of true money supply and commercial bank reserves held at the central bank (the Fed). It is the measure of all deposits, including those of the commercial banks. Monetary inflation has expanded dramatically since the great financial crisis, illustrated by its acceleration above the long-term trend. The consequences for the dollar’s purchasing power in time will be to accelerate the dollar’s decline even more.
The monetary expansion of the dollar has been echoed in the other major currencies, with negative consequences for global price inflation in the coming years. Meanwhile, gold’s inflation, at roughly 3,200 tonnes annually, is about 1.9% of above-ground stocks. The different rates of increase between above-ground gold stocks and the fiat money quantities of unbacked state-issued currencies is what ultimately drives the price of gold measured in those unbacked currencies. It is easy to see why a higher gold price, reaffirming gold’s role as sound money at a time of excessive fiat currency inflation, is viewed by the major monetary authorities as a potential threat to their currencies’ credibility.
There can be little doubt that without the propaganda war against gold led by the US monetary authorities, without the expansion of unbacked paper gold constituting artificial gold supply in the futures and forwards markets, and without the secret interventions of the US’s Exchange Stabilisation Fund, the gold price would be considerably higher, expressed in dollars.i
However, gold remains centre-stage as a global hedge against the decline in purchasing power of fiat currencies. Besides rescuing the financial system from collapse nine years ago, the expansion of bank credit is inherently cyclical.ii The credit-cycle for China’s yuan appears to be moving into a new expansionary phase, reflected in a rising trend for nominal GDP. This will be put into context later in this article, but it is noticeable that on the back of China’s GDP growth, Japan, the EU and the UK are also enjoying export-led revivals.
The US does not share these benefits, partly because China and Russia, the founders of the Shanghai Cooperation Organisation (SCO), are deliberately freezing America and her money out, and partly because of America’s own tendency towards trade isolationism.iii It is therefore less certain that America is close to moving from the recovery stage of the dollar’s credit cycle into expansion. In the absence of other factors, the difference in interest rate outlooks this implies should be reflected in a declining dollar exchange rate against the other major currencies, a trend that has been under way since last January.
Despite the massive expansion of fiat money over the last nine years, it is possible for governments to stabilise the future purchasing power for their currencies. It will require their fiat currencies to be tied convincingly to the characteristics of gold. It depends on the government concerned accepting that gold is superior money to its own currency, owning sufficient physical gold reserves to convince the markets, and the gold price being at a level where the arrangement sticks. There is no doubt that China, Russia, as well as the other SCO member states and their populations regard gold as a superior money to fiat currencies, partly because their fiat currencies do not have well-established records of objective exchange value.
In the US, Japan, the UK and through much of Europe, the populations have experienced a longer, generally more stable objective exchange value for their currencies. Under pressure from their governments to use only state-issued currency, they have lost the habit of regarding gold as money. The monetary authorities of these countries, with a few exceptions, also do not regard gold as having any monetary role at all, beyond paying lip-service to a vague concept it has value as an asset which is no one else’s liability.
Therefore, understanding the role of gold and the protection it can offer fiat currencies is split into two geographic camps: the governments of Asia which are actively accumulating, or would like to accumulate additional reserves of monetary gold, and the governments of North America and Western Europe which see the gold price as irrelevant from the monetary point of view.