Tag Archives: inflation

Why does money inflate?

People who live in developed nations have grown used to inflation of around 2% a year over the last few decades. Why do prices generally rise by that amount? What drives the purchasing power of money in these countries? Why can’t prices stay constant year-over-year rather than increasing?

To help answer some of these questions, let's go far back in time. We'll divide the last one thousand or so years into three monetary eras: the silver coin period, metal-backed notes, and fiat money. How would the nature of inflation have changed as you passed from one era into the next?

The medieval coin era

Silver coins were the chief medium of exchange in the first five or six centuries of the last millennium. Even though coins were composed of scarce metal, inflation was a fairly common occurrence in medieval times. Coins were not perfectly durable. They suffered from wear and tear, both from sweaty hands and as they came into contact with other coins while in a pocket or purse. Since the value of a medieval coin was ultimately determined by the amount of silver in it, the purchasing power of the coinage would naturally decline each year as it shed silver. So rising prices, or inflation, was inherent to medieval coin systems.

The wear and tear of the coinage would often be accompanied by deliberate attempts on the part of the public to remove silver from coins. This came in the form of clipping, in which people would cut small bits of silver from the coin's edge, and sweating, in which a bag of coins was shaken, the dislodged bits collecting at the bottom of the bag. Clipping and sweating were illegal and punishable by death during medieval times, but that didn't stop people from doing it.

Clippings from old coins

To make matters worse, from time to time kings and queens would adopt a policy of aggressively reducing the silver content of coins in order to raise revenues, mostly to fight wars. In medieval times, mints operated differently than they do now. Anyone could bring raw silver to the mint to be turned into coins, paying a small minting fee to the monarch. By reducing the silver content of the coinage, the monarch incentivized everyone to quickly bring in their old silver coins to be coined into new coins. After all, people could get more coins for each ounce of silver they owned, thus allowing them to pay off more debts than before. This would create a one-time spike in mint throughput, thereby boosting royal revenues from fees.

A Thousand Years of Prices: UK Consumer Price index

One of history's most aggressive medieval debasers was Henry VIII, who announced ten debasements between 1542 and 1551, each in the region of 30-40%. These diminutions were so successful in driving silver to the royal mints that Henry had to erect six new ones just to meet demand. Between 1541 and 1556, the English consumer price index rose by 123%. It's possible to see this spike in the chart above.

Not all kings and queens debased the currency. Every once in a while one of them would try to restore the standard by announcing a general recoinage. All citizens were obliged to bring in their coins to the mint where they would be weighed and then melted down into new coins. The new coins would have a restored amount of silver in them, thus undoing some of the wear-and-tear-induced inflation of previous years.

Finally, advances in silver mining technology and new discoveries had a major role to play in determining the level of medieval prices. If the supply of silver suddenly increased while demand remained unchanged, the price of silver would decline relative to that of other goods. And since coins were themselves composed of silver, their purchasing power would decline. Or, put differently, inflation would occur as all prices in the economy rose. Deflation, a fall in prices, was just as likely to occur under a silver coin standard. If the population was growing with the supply of silver failing to keep up, then the price of silver would have to rise, or a general deflation would set in.

To sum up, inflationary episodes during the medieval silver coin area could be explained by a complex combination of natural wear and tear of coins, debasement by kings and queens counterbalanced by the odd recoinage designed to restore the standard, and changes in the fundamentals of the underlying silver market. The strongest inflations occurred when all these forces were aligned. For instance, if a new drilling technique suddenly opened up deeper silver deposits for exploitation, and the monarch was simultaneously debasing the standard to help fund wars, then—combined with natural wear and tear—the result would be a rapidly increasing prices.

The metal-backed banknote era

Bankers soon learnt how to make money out of paper. This would begin to change the complexion of inflation.

As long as bankers maintained full convertibility of their banknotes into the underlying commodity, then the banknotes they issued could not have any direct influence on the economy-wide price level.  Alterations to the quality and nature of the coins themselves, as well as deeper changes in the underlying silver market, still dictated inflation, as they did in the coin era.

It's worth investigating this point further. Inflation occurs when people have too much money in their wallets relative to demand. With nowhere to go, money becomes a hot potato. Merchant A doesn't want to hold an extra $100 bill or silver coin in their wallet, so he spends it at Merchant B's store, who doesn't want it so she spends it at person C's store, and on and on, each trade in this chain pushing up prices ever so much. The hot potato process only comes to a halt when all prices in the economy have been driven high enough that the $100 bill or silver coin is no longer unwanted, and it comes to a rest.

By providing an alternative exit for banknotes, convertibility short-circuits this hot potato effect. Say a banker had lent too many banknotes into circulation relative to demand. Rather than boomeranging through the economy hot potato-like, an unwanted $100 bill quickly returns to the issuing bank for redemption, long before it has exerted any influence on the price level.

Although they had no direct influence on the general level of prices, banknotes would have had an indirect influence on prices. As paper money gradually became more popular relative to coins, the demand for silver would have declined relative to the supply, and this would have put gentle downward pressure on the silver price and conversely upward pressure on the economy-wide price level. Second, as people opted to use paper money to meet their spending requirements, coins would have slowly disappeared into vaults. Since this mean that coins circulated less, the inflation that had historically occurred thanks to wear & tear, clipping, and sweating would have receded.

The real novelty in the age of metal-backed bank notes was when convertibility was temporarily suspended. During these periods, bankers and the banknotes they issued could have a direct influence on the economy-wide price level. With the traditional exit into specie or coin being severed, any banknote issued in excess of public demand would act like a hot potato. Rather than returning to their issuer, they caromed through the economy, pushing prices higher.

While there were a number of early paper money experiments, the most well-known include the Swedish experience under an inconvertible paper standard from 1745 to 1776, the British suspension of pound convertibility from 1797 to 1821, and the U.S. Greenback era from 1861 to 1878. Each of these periods of inconvertibility was accompanied by high inflation and coincided with major wars. For instance, in the mid-1700s the Swedes had entered into several conflicts including the Seven Years War, while by the late 1700s the British were on the verge of encountering Napoleon. In the U.S., greenbacks were used by the Union to finance their war against the Confederates.

A US $1 greenback note from 1862

Had banknotes remained redeemable during these conflicts, it would have been impossible for governments to issue large amounts of them—they would have quickly returned to the issuer. By severing the window, many more banknotes could be put into circulation than would have otherwise been the case.

All three suspensions were only temporary as they ended with a return to specie convertibility. It was only in the 20th century that the first permanently-inconvertible standards emerged.

The fiat money era

In 1971 President Nixon removed the ability of foreigner governments to convert U.S. dollars into gold. The world was now on a permanent fiat standard.

Under both coin-based monetary systems and fully-convertible paper standards, the monetary authorities had only a little bit of control over inflation. The key influences over the price level—wear and tear, clipping and sweating, and new precious metals discoveries—were things that happened to the currency, the monetary authority having little say in the matter. When they did exercise control, it was only through policies of coin debasement or attempts to restore the standard.

Under today's permanent fiat system, these external influences have all but disappeared. Instead of being foisted on the economy by chance, the economy's inflation rate is now created by the monetary authority.  Those who are in charge can choose to have the currency gain purchasing power over time (i.e. deflation), stay constant, or lose purchasing power over time (i.e. inflation).

In most western democracies, the monetary authorities have chosen a 1-3% inflation rate. This may seem odd, given that a constant price level is attainable. One drawback of perpetual 1-3% inflation is that people must constantly face losses on their holdings of coins and banknotes. This induces wasteful behaviour. For instance, people may choose to hold less cash than they would otherwise prefer. And they will have to constantly make trips to the bank and back to deposit banknotes in order to earn interest (this is what economists refer to as shoe leather costs). If inflation was 0%, or even -1 to -2%, the public would no longer have to worry about perpetual losses from cash and could choose to hold comfortable amounts of the stuff.

While monetary authorities understand the drawbacks of 1-3% inflation, they still choose it as a target because they see a much bigger threat in the form of sticky wages. In the simplest model of an economy, when a shock hits and demand suddenly disappears, prices fall until buyers are once again drawn back into the market. But if some of these prices are sticky, in particular the wage rate, then this downward trek in prices can never occur. Rather than reducing everyone's salary, employers will be forced to fire workers. General unemployment and gluts of unsold inventory—or a recession—are the result.

Central bankers believe they can offset some of these unpleasant effects. While a $20 per hour wage rate may be so sticky that it can’t adjust in the face of an economic shock, an inflation rate of 1-3% means that even though the nominal value of that wage stays constant next year, its real value will have adjusted down to ~$19.60. So in the event of a shock to the economy, a central bank that targets an inflation rate of 1-3% provides the missing flexibility to wage rates, and thus promotes a quicker readjustment period.

The second reason for adopting an inflation target of 1-3% is that at these levels, short-term interest rates have typically ranged between 3-6%. After all, lenders need to make a profit, and will demand a sufficiently positive interest rate to compensate for losses from inflation. The tool that modern central bankers use to guide the price level is the overnight interest rate on balances maintained by commercial banks at the central bank. This tool becomes useless when it falls much below 0%, the effective lower bound to interest rates. Once interest rates are reduced to around -0.75%, banknotes (which yields 0%) begins to look quite attractive as an asset. Reduce interest rates a little bit more and a mass exit from bank deposits into cash will begin, the banking system imploding in the process. So by targeting an inflation rate of 1-3%, central bankers are attempting to build a big enough cushion into interest rates so that they can be sure that their main monetary policy tool has little chance of becoming useless.

And that's why people in Western nations experience a 1-3% increase in prices each year.

What is in store for the future?

So if you had lived through the last 1000 years you'd have experienced a number of different monetary regimes, the price level dynamics different in each one. Even under commodity standards, inflation was a common occurrence. And even on a fiat standard, deflation is an entirely possible phenomenon.

In closing, will the current 1-3% inflation target that has been adopted by most Western monetary authorities ever change? In certain quarters, there is talk of central banks increasing their inflation targets to 4%- 5%. Over the last few years, interest rates have fallen close to—and even in some cases underneath—the 0% bound, muting the power of the central bank's interest lever. If inflation was 4%, say many central bankers, then short-term rates would be much higher (say 6-7%), thus building in an even bigger cushion for subsequent interest rate reductions come the next crisis.

Alternatively, central bankers might one day decide to target an inflation rate of 0%. This would mean that short-term rates would be very low, leaving little-to-no cushion for further policy rate reductions when the next crisis hits. But there are several ways to guide interest rates far below 0%. Some economists talk of banning cash (especially high denomination notes like the ones below), for instance, or introducing a digital alternative on which a negative interest rate can be imposed. These measures would allow a central bank to reduce interest rates to -3% or -4% during a crisis without having to fret over an exodus out of bank deposits into banknotes. During these episodes with deeply negative rates, the public  would flee into stocks or gold or cryptocurrencies—but this would be a sign that the desired hot potato effect was working. Having bought plenty of room to reduce interest rates into negative territory when a shock hits, central bankers could safely target 0% inflation rather than 1-3% inflation.

Singapore's S$10,000, one of the world's largest value banknotes

Finally, might we ever see inflation in the teens like we did in the 1970s? Western central bankers have exercised a large degree of independence from their political masters in the executive branch of the government over the last several decades. This has allowed them to maintain careful control over the price level. However, if some unforeseen event were to occur that led Western governments to require huge amounts of financing—say another world war—then governments may try to re-exert control over monetary policy. If so, keeping inflation under control could cease to be an important goal of the monetary authority, and the high inflation of the 1970s might return.

28 Reasons to Buy Physical Gold

Throughout human history, gold has constantly emerged as an unparalleled form of savings, investment and wealth preservation. Due to its unique characteristics and features, gold has inherent value and cannot be debased. When holding physical gold, there is no counterparty risk or default risk. Wealth in the form of gold can also be held and stored anonymously.

From its ability to retain its purchasing power over time, to its safe haven status in times of financial turmoil and uncertainty, to gold's ability to diversify investment risk, there are many and varied reasons to own physical gold in the form of investment grade gold bars and gold coins.

1. Tangible with Inherent Value

Physical gold is real and tangible. It is indestructible, impossible to create artificially, and difficult to counterfeit. Mining physical gold is arduous and costly. Physical gold therefore has inherent value and worth. In contrast, paper money doesn't have any inherent value.

2. No Counterparty Risk

Physical gold has no counterparty risk. When you hold and own gold bars and gold coins outright, there is no counterparty. In contrast, paper gold (gold futures, gold certificates, gold-backed ETFs) all involve counterparty risk.

3. Scarcity

Gold deposits are relatively scarce across the world and difficult to mine and extract. New supply of physical gold is therefore limited and explains why gold is a precious metal. Gold's scarcity reinforces it's inherent value.

4. Cannot be Debased

Because of its physical characteristics and features, gold cannot be debased, and gold supply is immune to political meddling. Compare this to fiat money supplies which are constantly being debased and destroyed via deficit government spending, central bank quantitative easing and financial system bailouts. On a survivorship scale, gold has far outlived all fiat currencies by thousands of years.

5. A 6000 Year History

Gold has played a central role in society for thousands of years from the early civilizations of ancient Egypt, right up to the contemporary era. Gold has facilitated international trade throughout history, has been directly responsible for the economic expansion and prosperity of numerous civilizations throughout history, and has even been, due to gold exploration and mining, the direct catalyst for the growth of some of today’s best-known cities such as San Francisco, Johannesburg, and Sydney.

6. Store of Value

Gold is a preeminent store of value. Physical gold, in the form of gold bars or gold coins, retains its purchasing power over long periods of time despite general increases in the price of goods and services.

In contrast, fiat currencies such as the US Dollar are not stores of value and their purchasing power consistently becomes eroded by inflation or the general increase in the price level. Fiat currencies have a long history of either becoming totally worthless and going out of circulation, or else becoming completely debased, such as the US dollar, while remaining in circulation.

Since the creation of the US Federal Reserve in 1913, the US dollar has lost over 98% of its value relative to gold, i.e. the US dollar has lost over 98% of its purchasing power relative to gold.

Since 1913, the US Dollar has lost more than 98% of its value, while gold has retained its value.

7. Long- Term Inflation Hedge

Physical gold’s ability to retain its purchasing power over time is sometimes referred to as the “Golden Constant”. This reflects the fact that gold’s purchasing power is constant over long periods of time. This ‘constant’ exists because the gold price adjusts to changes in inflation and future inflation expectations. Therefore, physical gold is a long-term hedge against inflation.

8. A 2500 Year Track Record as Money

Because of its ability to retain value and act as a store of value, physical gold has been used as money for over 2500 years. Gold coins were first issued in the Lydian civilization in what is now modern Turkey. Subsequently gold was used as a stable form of money in Persia, ancient Greece, ancient Rome, the Spanish and Portuguese Empires, the British Empire, and right through to the various international gold standards of the 20th century.

It was only in August 1971 that the US famously suspended the convertibility of the US dollar into gold, a move which triggered the debt fueled expansion that is still having repercussions within today’s monetary system.

To put gold’s monetary importance into perspective, for 97% of the last 2500 years, gold has been chosen by numerous sophisticated civilizations as the form of money par excellence and an anchor of stability, precisely because of its ability to retain its value.

9. Safe Haven

Physical gold acts as a safe haven asset in times of conflict, war and geopolitical turmoil. During the financial market stresses and heightened uncertainties caused by wars, conflicts and turmoil, the counterparty risk of most financial assets spikes. But since physical gold does not have any counterparty risk, investors rush to gold during these periods so as to preserve their wealth. This is analogous to sheltering in a safe harbor. Gold can thus be seen as a form of financial insurance against catastrophe.

10. Portable Anonymous Wealth

Gold bars and gold coins combine high value with high portability. In times of conflict and war, gold bars and gold coins are ideal for transporting wealth and savings across borders and within conflict zones in an anonymous fashion.

11. Universal Acceptance

Gold is universally accepted as money across the world, with the highly liquid global market always providing ample sales opportunities for gold bars and gold coins. This means that whichever city you are in across the world, you can always sell or trade your gold bars and gold coins.

12. Emergency Money

Military personnel are often issued with gold coins that they carry with them in conflicts zones as a form of emergency universal money. For example, the British Ministry of Defense often issues RAF pilots and SAS soldiers with Gold Sovereign coins to carry on their persons during combat missions and activities, such as in the Middle East.

Worthless paper Currencies vs the Inherent Value of Owning Physical Gold

13. Outside the Banking System

In the current era of global financial repression, physical gold is one of the few assets outside the financial system. Gold is not issued by any monetary authority or central bank or government. Because its not issued by any government or central bank, gold is independent of the banking system. Fully owned physical gold, if stored in a non-bank vault or held in one’s possession, is outside the banking system.

14. No Default Risk

Unlike a government bond, there is also no default risk with gold because it is not issued by any authority that could default. Gold bars and gold coins are no one else’s liability. Physical gold cannot go bankrupt or become insolvent. Therefore, there is no need to have to trust any other party when holding physical gold.

15. Portfolio Diversification

Adding an investment in gold to an existing portfolio of other investment assets such as stocks and bonds, reduces the volatility (risk) of the investment portfolio and can increase portfolio returns. This is because the gold price has a low to negative correlation with the prices of most other financial assets, because gold is less influenced by business cycles and macro-economic cycles than most other assets.

Numerous empirical studies by financial academics, as well as industry bodies, such as the World Gold Council, have validated gold’s role as a strategic portfolio diversifier. Optimal allocations to gold in multi-asset portfolios have found to be in the 5% to 10% range.

16. Currency Hedge

There is generally an inverse relationship between the gold price and the US dollar, in that the gold price generally moves in opposite directions to the US dollar. Therefore, holding gold can act as a currency hedge of the US dollar, and help manage the currency risk of portfolios denominated in US dollars.

17. Gold's Metallic Properties

Gold has many and varied metallic properties. These properties provide gold with many technological and commercial applications and uses, which in turn contribute as additional demand drivers in addition to the investment and monetary demand for gold.

Gold is highly ductile (can be drawn into very thin wire). It is also highly malleable (can be hammered and flattened into very thin film). Gold is a very good conductor of electricity and heat. Gold does not corrode or tarnish. It is chemically unreactive and non-toxic to the human body. Gold has a high luster and shine, and an attractive yellow glow.

These properties explain gold’s use in electrical and electronic wiring and circuits (e.g. computers and internet switches), its use in the medical and dental fields, gold’s use in solar panels, space travel, and gold’s traditional uses in jewelry, decoration, and ornamentation. With new technological uses being found for gold all the time, gold's demand pattern is diversified and underpinned by its commercial importance.

18. Physical gold - A tiny fraction of Paper Gold

The London wholesale gold market and the US-based COMEX gold futures market generate huge trading volumes of paper gold that dwarf the size of the physical gold market. However, these markets only trade derivatives on gold (futures and unallocated positions), representing fractionally-backed and unbacked claims on gold that could never be convertible into physical gold by claim holders.

In a scenario under which these paper gold markets became unsustainable, the prices of paper gold and physical gold would diverge, with the paper gold markets ceasing to trade and collapsing, and only physical gold retaining any real value. Physical gold is therefore an insurance against the collapse of the world's vast paper gold markets.

19. By Definition - Not an ETF

Physical gold Provides all the benefits that gold-backed Exchange Traded Funds (ETFs) do not. ETFs provide exposure to the gold price, not to gold. Holding physical gold is by definition direct exposure to gold. With most gold-backed ETFs, you cannot convert the units into gold and take delivery of the gold, and in many cases, the locations of the vaults are not even known. If holding physical allocated gold bars or gold coins in a vault, such as with BullionStar in Singapore, you can always take delivery.

Gold ETFs have many counterparty risks since there are many moving parts in an ETF such as a trustee, a custodian, and a sponsor / issuer. Physical gold has no counterparty risks. When you hold a gold-backed ETF, the quantity of gold backing the ETF declines over time due to management fees being offset against the gold holdings. When you hold physical gold, you always remain with 100% of the actual gold you first purchased. There is no erosion of holdings.

20. Anonymous Storage

Gold can be stored anonymously, either in your possession within your house or property, or in a vault in a jurisdiction, such as Singapore, that has no reporting requirements. Since gold has a high value to weight ratio, storing gold does not take up much space.

21. Independent of Internet

Owning physical gold is not reliant on having internet access and access to electronic wallets and cryptocurrency exchanges. Furthermore, gold cannot be stolen by hacking an electronic address or by transferring or deleting a number in a computer.

The Benefits of Owning Gold Coins and Gold Bars

22. Real Gold is Measured by Weight

Physical gold is measured in weight, not through a number set by a politician or central banker. When you buy a 1 Kilo gold bar, or a 10 Tola gold bar, or a 1 troy ounce gold coin, or a 5 Tael gold bar, you will always have that gold bar or gold coin, irrespective of the fluctuations of fiat currencies.

While thinking of the value of physical gold in terms of a fiat currency might be convenient, a better way is to think of a gold holding in terms of weight.

23. Coins and Bars - Build a Collection

Buying investment gold bars and bullion gold coins allows you to build a diverse collection of bars and coins that are at the same time a fascinating pastime and a form of investment and saving.

Bullion gold coins from the world’s major mints are beautifully illustrated and often have a connection to history. Investment gold bars from the world's major gold refineries are distinctively different from each other and you can vary a collection by cast or minted bars, and a selection of weights.

24. Physical Gold Feels like Real Wealth

Physical gold feels like real wealth. When you hold ten 1 ounce gold coins in your hand, you intrinsically know that you are holding real wealth, gold that is scarce and that has been costly to produce.

25. Gold as Loan Collateral

Gold can be used as loan collateral. Since gold is highly liquid and valuable, it can be lent and used as a form of financing, and as a way of generating interest. The wholesale gold lending market between central banks and bullion banks is highly active. Likewise, retail gold holders can also in various ways lend their gold to receive financing or interest, with new innovations to do this arising all the time.

26. Central Banks hold Gold

Although the world’s central banks like to downplay the importance of gold because it competes with their fiat currencies, most central banks continue to hold substantial amounts of physical gold bars and gold coins in vaults around the world. They hold this gold as a reserve asset on their balance sheets, and they value this gold at market prices.

Like private gold investors, central banks hold physical gold because it is highly liquid, it lacks counterparty risk, and because gold is a safe haven or ‘war chest’ asset that acts as a financial insurance in times of crisis. Central banks also hold gold for the unpublished reason that if and when gold re-emerges at the centre of a new monetary system, these very same central banks will not be caught out having no gold.

27. Gold for Gifting

Gold coins and small gold bars make great gifts and presents, and gold is a traditional form of gifting in many societies around the world. Gifting a gold coin or small gold bar to mark a birth, or anniversary, or a wedding or other special occasion, is an ideal present that will be highly appreciated by the recipient.

28. Gold for Inheritance

Gold bars and gold coins are a great form of inheritance for your children and family members. Because gold is real, tangible, valuable, and has a highly liquid trading market, it is an ideal asset for inter-generational wealth transfers. Because physical gold is fabricated in convenient weight denominations, such as troy ounces and kilograms, it can be distributed equitably among recipients, and specified equitably in wills and trusts.

Golden Stockpiles – The Key to Gold as a Store of Value and Safe Haven

Much is written in the precious metals world about gold’s characteristics, as well as how the behaviour of the gold price allows gold to play the role of a unique financial asset that retains purchasing power over time, acts as a safe haven asset, diversifies risk, and provides hedging benefits.

However, much of the material written in this area skips over an explanation of how the simple, yet powerful, relationships and interactions of the gold price actually work. The appreciation of these simple characteristics and relationships facilitates a far more intuitive understanding of why holding gold - in the form of physical gold - can be so beneficial.

Stock-to-Flow

One of the commonly overlooked yet critical attributes of gold that allows it to play the role of a monetary asset par excellence is that physical gold has a vast above ground supply, thereby making the global gold market highly liquid.
Gold is mined to be accumulated and nearly all of the gold ever mined is still in existence in various forms, such as in the form of above ground central bank gold holdings, private investment gold hoards, gold jewellery, or within industrial, medical and scientific applications. With gold recycling services now highly advanced and widespread, this also allows gold holdings to be easily transformed between uses by refineries in a cost-effective manner.

Since nearly all the gold ever mined is still in existence, the world’s accumulated stock of gold is multiple times the annual addition to the stock, i.e. the flow of gold. For ease of illustration, assume that 186,000 tonnes of gold have been mined throughout history and that annual mine production is 3,100 tonnes of gold. This gives a total gold stock-to-flow ratio of 60 times. Depending on the gold price, global holders of gold (in all its forms) are able, and sometimes willing, to step up and participate in gold transactions.

Global gold supply is therefore affected, not just by annual gold mining output, but by the existence of this vast above-ground stock of gold. And it is this stock of gold, over the long-term, that has an influence on the gold price, and that can explain gold’s role as a store of value and as a safe haven asset, as well as explaining gold’s price correlations with other asset prices.

Maples

Store of Value and Long-Term Inflation Hedge

Over long periods of time, gold has been proven to retain its real purchasing power. Therefore, gold acts as a long-term inflation hedge and as the ultimate store of value. This may appear to be a complex magical process but the theory is quite simple.

A fiat currency whose supply expands recklessly (which is really all fiat currencies throughout history and at present) will become debased. This leads to price inflation, i.e. an increase in the price levels of goods and services expressed in that fiat currency. As goods and services prices rise, the price of gold also adjusts upwards to compensate for these price rises.

The gold price rises, because on a global basis, there always exists an exchange ratio between physical gold and all fiat currencies, and the vast worldwide above-ground stock of physical gold can always be valued in terms of fiat currencies. But unlike fiat currencies, physical gold cannot be debased. Therefore, the gold price, and the valuation of gold, simply captures and reflects the purchasing power of all fiat currencies, and acts as an inflation hedge and a stable store of value. In practice, in a free market, the gold price is actually a signal of future inflationary expectations, and so gold is known as an inflation barometer.

Is his 1977 book of the same title, a UC Berkeley professor, Roy Jastram coined this phenomenon “The Golden Constant”. Jastram analyzed price level data from 1560 to 1976 for England/UK and from 1800 to 1976 for the United States. He then measured gold’s purchasing power over these periods and found it to be constant over time. Jastram’s study was updated in 2008 by Jill Leyland and also extended to the French and German economies. Leyland’s analysis arrived at similar findings, and was especially illustrative of gold’s critical role during the hyper-inflationary period in early 1920s Germany during which paper currencies rapidly became worthless. The ‘Golden Constant’ was interpreted by both studies as being due to gold’s large but slowly growing supply, resistance to debasement, as well as the gold price's unique behaviour in times of currency depreciation and market and political stress.

The gold as a currency hedge phenomenon can also explained by the above relationships. As fiat currencies become debased or suffer confidence shocks, they depreciate in value relative to gold, because gold has a large, slowly growing and finite above ground stock and cannot be debased. This brings us to the next point.

2763

Gold as a Safe Haven and Hedge against Extreme Risk

Physical gold is a proven and accepted safe-haven. But why is this so? The answer is because gold acts as an inflation hedge and a currency hedge and so preserves wealth. In periods of market or economic stress, gold’s price rises because there is a flight to gold since, due to historical experience, the counterparty and default risk potential of most other assets gold comes to the fore, while gold has a highly liquid market, and gold is universally perceived as having no counterparty risk and no default risk. Therefore, gold takes on the role of financial insurance against monetary crises, geopolitical risks, and systemic financial system risks. Because of its high liquidity and lack of counterparty risk, gold also becomes the high-quality collateral during periods of extreme risk.

Gold’s Price Correlation vs Other Asset Prices

Fans of modern portfolio theory will be familiar with the fact that the gold price is not highly correlated with the prices of most other financial assets. Therefore, adding gold into an investment portfolio can lower portfolio risk. Again, the question is why? The answer is quite simple.

The low, and sometimes negative, correlation between the gold price and other asset prices is due to the gold price not being as dependent on economic and business cycles as most other financial asset or commodity prices. Therefore, the gold price doesn’t react to economic cycles in the same way as most other asset prices. This differing price reaction is… you guessed it… due to the large above-ground stocks of gold which can, due to gold’s liquidity and transformability, be mobilized (by price inducement) to enter the market place irrespective of the economic cycle.

Mobilizing physical Gold

As a practical example, this ability of existing above ground stockpiles of gold to be mobilized into the market is well illustrated by the large number of 400 oz gold bars that flowed out of central bank vaults and ETFs in London during 2013-2015, were transformed by Swiss gold refineries into smaller bars, and then flowed east to Asia. The west to east movement reversed in 2016, with large amounts of gold being imported into Switzerland from locations such as Dubai, Thailand, Turkey and Hong Kong for processing back into large gold bars and then sent back to the London market. Another example is gold recycling, which has an ongoing inverse relationship with the gold price. As the price rises, supplies of gold from recycling sources rise, since the price motivates potential sellers to enter the market. It's therefore worth remembering that gold mining supply is not the full story. Some of these huge above ground stocks of physical gold can and do enter the market in various ways and at various times. In this article, we have not even touched on the controversial subject of central bank gold leasing, a potentially large and hidden supply overhang, but a subject left for future analysis.

Offshore Bullion Storage or 3 eggs?

What does one hundred trillion dollars buy you?

How about a mansion in every country, an airplane at every airport and a private island in every ocean?

How about 3 eggs?

When Zimbabwe issued its infamous 100 000 000 000 000 dollar bill, it could buy 3 eggs on the day it was issued. A few days later, it could only buy one egg.

Zimbabwe 100 trillion dollar note buying 3 eggs

Hyperinflating Currencies

Unbacked fiat/paper/credit, and nowadays electronic currency, has a poor track record. After studying this list of 609 defunct currencies, out of which 153 died due to hyperinflation, it's obvious that every time fiat currencies are tried, they die through hyperinflation, war or political decrees.

Using the debt-based US Dollar as a store of value creates massive imbalances and misallocations globally. With an unprecedented debt bubble fuelling paper markets such as stocks and bonds, we stand on the cliff edge of a vertical drop.

Since the Nixon era, we have suffered under a fiat currency ponzi scheme wiping out most of the purchasing power of our currencies.

In MLM schemes, the idea is to recruit naive participants downstream to generate compensation for the recruiter.

This is exactly how the US Dollar and other fiat currencies work.

Early receivers of the MLM scheme such as the government, the banks and the central bank gain purchasing power whereas late receivers, such as us normal people, lose purchasing power.

Fiat paper currency is nothing but a cleverly designed MLM scheme to slowly over time steal and redistribute your private wealth.

Defend Your Assets

With the massive redistribution of wealth taking place through taxation and inflation, you have to defend your assets. Key self-defensive tactics include:

- Protect yourself by keeping your assets out of reach for the government and banks
- Minimize counter-party risks
- Ensure you are protected against currency collapses and bank runs
- Hold your assets in such a way that there's no reporting required to government
- Protect yourself against exchange and capital controls

Crooks can't help steal whether it's directly in broad daylight through a bail-in like in Cyprus in 2013, through taxation, through inflation or through confiscation such as the gold confiscation in the 1930's when the US president Roosevelt took the United States off the gold standard and confiscated private gold holdings.

How can you protect yourself? Gold is the natural answer as it resists inflation, maintains purchasing power and can be held confidentially.

Buying gold isn't enough though. What if your gold purchase is within reach of the government? If you buy gold in your home country, a tax agency such as the IRS in the United States can easily audit the bullion dealer to find out about your purchases. In addition, there's also reporting requirements for certain bullion transactions.

Defend your bullion from confiscation risks

When it comes to bullion storage, diversification is key. It's certainly wise to keep some of your bullion in your own possession but don't put all your gold eggs in one basket.

Offshore Bullion Storage

With the financial repression we are witnessing in the West expressing itself through taxation, inflation, bail-ins and confiscations, it's important to store some of your bullion offshore in a safe jurisdiction favoring confidentiality and security.

Gold has traditionally been stored in financial hubs such as in London, New York and Zurich. With doubts whether there is any gold left in the London and New York vaults which isn't already encumbered, Singapore is emerging as the strongest alternative for offshore bullion storage. Singapore clearly distinguishes itself as the best jurisdiction in the world to buy and store gold:

  • Singapore has no taxes on bullion
  • Singapore has no reporting requirements when you buy/sell/store bullion
  • Singapore has a stable pro-gold government creating a gold trading hub
  • Singapore has a strong rule of law and is one of the safest countries in the world
  • Singapore is a centre for wealth and asset preservation
  • Singapore consistently ranks top 3 in the world for business friendliness
  • Singapore strongly protects property ownership rights

Although we don't recommend holding wealth with banks, other than what you need for short-term expenses, Singapore is host to some of the best capitalized banks in the world such as DBS, UOB and OCBC.

With banks and international institutions pushing for a cashless society so as to be able to impose negative interest rates, surveil your transactions, and impose restrictions on your wealth, Singapore continues to be a cash-friendly jurisdiction. Although Singapore in 2014 stopped printing the world's most valuable banknote, the SGD 10000 dollar note, it's possible to use cash for all purchases including purchasing bullion. The SGD 10000 dollar note will continue to be valid indefinitely and the SGD 1000 note is still one of the most valuable worldwide.

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With Singapore emerging as the new global center for wealth protection, it's wise to check how you can buy & store gold in Singapore.