The Dollar is Dead, Long Live Gold!

Stop the Presses!

The Federal Reserve Bank of the United States announced today before the opening of the stock market that it would create an exchange whereby bundles of mortgages would be bought in exchange for $200 billion of its reserves, for a period of 28 days. If that does not prove sufficient to “stabilize” prices and prevent a recession, it would be repeated.

Thus, if the prices do not stabilize and a recession does not prove to be prevented in the next month, this will be repeated (I have never heard of a one-month period proving this kind of change of trend). Keep in mind that this is coming out of the assets of the Fed, totaling $800 billion. If perchance the mortgages bought by the Fed are trash, and the depositors of them do not fare well, the $200 million borrowed by banks on such collateral will not be repaid. Repeat this every 28 days, and the Fed is soon out of cash.

A grade school kid will quickly tell you that by injecting this much credit into the market, the Fed could be broke in four months. To survive, it must start the presses, increase real liquidity, the M1 money supply. Checks will be presented, they must clear, and “real money” must be handed off. Where does it come from?

Cash for Trash

Accepting trash in exchange for “real money” in my neighborhood only made sense at garage sales, when junk has got to be moved to someone else's garage.

Investment bank and brokerage, Bear Stearns Companies, announced a liquidity shortage, 24 hours after saying everything was fine. Its stock dropped today by nearly half.

The credit crisis, started by a cave-in of sub-prime mortgages, is spreading to other areas of the financial sector that trade in debt derivatives. The stock market in turn goes in the toilet, dropping 194 points to 11,951 (down about 2,000 points from its high point last summer), despite a bailout from J. P. Morgan and the government.

Midas at leMetropolCafe explained that the Fed is turning into a board of trade in whatever you have:

A Fed statement released Tuesday said that loans to dealers under the new initiative would be secured for 28 days instead of overnight, as is currently the case, by a pledge of other securities, including federal agency debt and residential mortgage-backed securities.

Of course, the ‘Treasuries' paid out in exchange for the “other securities” are supposed to be returned at the end of the 28 days, but probably will not. At this point, the money supply must be increased. The printing presses start. It must be happening already, as the reconstructed M3 shows. And guess what, the latter component is what is increasing now, on top of the others, is increasing M3. How do we stop the presses?

More money chasing scarce goods means inflation.

Inflation is rising prices. The other side of it is the falling value of the dollar. It is caused by increasing the money supply faster than the growth of the economy.

Here is the inflation rate in relation to the money supply (M2 and M3):

Note the slight lag of the CPI (1-5 years) behind M2 and M3. This illustrates a likely cause and effect, which is also simply logical. Increasing the money supply causes inflation. Note also that M3 has been accelerating faster than M2 since the year 2000. According to Shadowstats dot com , it has been growing lately at a rate exceeding 16% per year.

 

Inflation shown as a falling dollar

And here is the inflation rate in terms of the falling purchase value of the dollar:

How long will it take before the dollar is so devoid of value before we have a monetary crisis? U.S. Treasury bonds, bills and notes will be dumped in huge quantities. Naturally, new Treasuries will not sell. Federal borrowing stops abruptly. The printing presses must run, nevertheless. The money supply of the M0 and M1 will skyrocket. Inflation will begin to roar, albeit lagging the growth of “money” by months. The purchasing power of the dollar continues shrinking. Who will want those dollars? People will revert to barter and will want to turn to foreign currencies.

A new currency will have to appear, why Amero, why not gold?

The United States must have legal tender. No upward revaluation of the dollar is conceivable. Moreover, the reputation of the dollar, as a name for a monetary unit, will be dirt. Voila, enter the Amero ! See Rense dot com. Can you imagine a "North American Union?"

The story starts over, like Groundhog Day, unless the new currency is gold and warehouse receipts for gold, for convenience to handle larger transactions. A hard currency would also have to be beyond the control of the government and the Federal Reserve. It must not be vulnerable to debasement. It cannot be allowed to be the means of the invisible tax called inflation.

The big issues with gold are the limited supply and the low growth rate of the available supply.

The current world gold inventory is estimated at 29,955 tonnes, of which the United States holds 8,133.5 tonnes. Focusing on the latter, which amounts to 260,272,000 ounces. This is too low an amount at the current price of $1,001 per ounce ( 3/14/2008 ), totaling $260,532,272,000 or $260.5 billion.

Money Supply Type	2006 Value	In Trillions
M1 Money Supply	$1,400,000,000,000	$1.4
M2 Money Supply	$6,800,000,000,000	$6.8
M3 Money Supply	$11,500,000,000,000	$11.5

The latter reconstructed M3 value is from Nowandfutures dot com. The Federal Reserve Bank of New York describes the M1, M2 and M3 money supply measures.

How much gold?

The amount of gold should be sufficient to the value somewhere above M2. It could be argued that it ought to support the full M3 supply; however, repurchase liabilities and Eurodollars seem to fall outside the domain of money, per se.

This leaves us with a conundrum: if all money were to be gold and warehouse receipts for gold, a one-ounce coin would have to be assigned the value in terms of today's dollar of $44,185. A one tenth ounce coin would be worth $4,418. This would not be workable. The unacceptable solution would be smaller coinage consisting of other metals. That would introduce an avenue for debasing the money.

If the U.S. government divested itself of all of its properties, buildings and land, estimated at $4,022,600,000,000 ($4 trillion), and bought gold at its current price, the result could be something more palatable:

Money Supply Type	2006 Value	One ounce gold	One tenth ounce gold
M1 Money Supply	$1,400,000,000,000	$322	$32
M2 Money Supply	$6,800,000,000,000	$1,562	$156
M3 Money Supply	$11,500,000,000,000	$2,642	$264

Good news, bad news

The good news, however, is that gold appears to be likely to reach a price between $1,562 and $2,642 per ounce in the foreseeable future. It finally hit a spot price of $1,001 today (2024/03/14).

However, this is still not good enough. A large number of denominations would have to be in the form of warehouse receipts. This is obvious in the case of large denominations such as $20 and above. It may also be necessary, but not in paper form for very small denominations, below $1 (in old terminology, regrettably, because they monetary system needs to use labels in terms of the amount of gold, not cute nationalistic terms such as “dollars” and “cents”).

However, unfortunately this makes the accurate assaying or control of the content difficult and the minting of the coin more expensive. The cost of minting coins out of 0.999 fine gold should be kept to a minimum. To achieve a system where the market will supply gold to the mint and to prevent hoarding or over-use of the metal for other purposes, the price of gold in the form of coins must to be slightly higher, but should not be too far above bars.

Bimetallism?

The United States has used both gold and silver for its money. The problem with using two or more distinct commodities for money is the relationship between them. This country had sufficient problems with this, since the value of gold was from 15 to 16 times the value of silver for over a century, that with serious fluctuations, gold and silver took turns driving the other out. There were times when gold was hoarded and others in which silver was. And today the ratio is gold being worth 40 to 50 times the value of silver. When will silver retain a value closer to one sixteenth that of gold? No one knows. Possibly never again.

The value of a loaf of bread, the current price, would fluctuate just a bit too much in terms of two simultaneous currencies, let alone a basket of various commodities. The price of bread would be difficult to compute from day to day, unless the monetary unit was unitary and a hard currency.

Even if the smallest unit of money were one hundredth of an ounce of gold – as small as an aspirin – I would vote for gold. That one gram paper-clip or dime is about one twenty-eighth of an ounce. That is as small a coin as I can imagine. That gram, in gold, would be worth about ninety-four dollars ($94). Could you deal with that?

Some people could deal with smaller units of gold, or would cope with a varying ratio of similar amounts of silver to gold. A dime-sized silver (0.088184 ounce) coin could vary from 1/50 to 1/15 the value of the same amount of gold, and be worth $1.76. The hard task of varying the prices of goods in the two or three metals might not work.

So we see that even two precious metals might not suffice; cannot supply small enough denominations. We would want the gold to maintain its value and stay in circulation rather than become “over-valued,” resulting in it being exported or hoarded ( Gresham 's law). The answer, I believe, is the use of guaranteed warehouse receipts for gold, in the form of coins made of cheaper metals, unabashedly worth less than their face value.

However, that is the best I can do. Gold rules!