Debunking goldbugs | FT Alphaville

Debunking goldbugs

Goldbugs don’t just believe in the fundamentals of gold. They worship at the altar of gold.

The goldbug view represents a market philosophy, a doctrine and a belief-system.

Question it and you incite anger, rage, ridicule.

For ‘non-believers’ this can be frustrating. It’s impossible to have a rational discussion on the subject because goldbugs inevitably intervene with ‘ absolute’ views, none of which are open to adjustment. They stick to those absolutes, even if the facts don’t fit support the narrative.

One might say the following 10 commandments reign at all times:

1) Thou shalt not have any other money than gold.

2) Thou shalt not make paper idol money.

3) Thou shalt not call bullion a relic ever.

4) Remember the day Nixon broke the gold standard.

5) Honour thy gold reserves.

6) Thou shalt not suppress the gold price.

7) Thou shalt not borrow gold from another man.

8) Thou shalt not steal another man’s gold.

9) Thou shalt not bear false witness against gold or talk down gold.

10) Thou shalt not covet another man’s gold.

While FT Alphaville is sympathetic with some of the points raised by goldbugs, we feel what gets in the way of constructive debate is the goldbug’s utter and complete hatred of the so-called paper money system.

Yet the fiat system has a lot more going for it than you might think.

Unlike the gold system, which asks you to put your faith in an inanimate shiny object, a paper “fiat” system asks you to put faith in relationships, in your neighbours, your community. It asks you to believe that society will honour its debts because it doesn’t make sense for it not to — largely because it is just as dependent on you honouring your debts to it, as you are on it honouring its debts to you. It’s a system based on quid pro quo relationships. A symbiosis based on trust.

The following analogy from Charles Eisenstein, the author of sacred-economics — a somewhat hippy-esque analysis of the current global crisis yet one which raises very interesting points about limits to growth, entropy and money decay — explains it well:

Suppose I have twelve loaves of bread, and you are hungry. I cannot eat so much bread before it goes stale, so I am happy to lend some of it to you. “Here, take these six loaves,” I say, “and when you have bread in the future, you can give me six loaves back again.” I give you six fresh loaves now, and you give me six fresh loaves sometime in the future.

In a world where the things we need and use go bad, sharing comes naturally. The hoarder ends up sitting alone atop a pile of stale bread, rusty tools, and spoiled fruit, and no one wants to help him, for he has helped no one.

Anthropologist and author David Graeber makes a similar argument. He believes that fiat currency is nothing more than a favour system and that it’s wrong to call it a debt-based economy. It’s far more akin to a credit-backed standard, one that evolves from a need to share what you’ve got today because you don’t know what favours you might need to call upon from others tomorrow.

What’s more, what you have today is often subject to decay. Thus hoarding (and acting only in your own interest) doesn’t actually make sense for the economy.

Debt comes into it because, in the old disintermediated and fragmented world which lacked today’s connectivity, it made sense to harmonise individual credits with those of others. Also, before the advent of marketplaces, you couldn’t guarantee that you would find a grateful recipient for your surplus milk production before it went to waste.

The obvious entity to provide that harmonisation function was the sovereign lord to whom the community entrusted its allegiance. Since he had the faith and trust of all, it made sense to exchange individual credits — representing a multitude of different favours from options on chickens and cows to milk and fuel — in return for non-perishable “debts” of the sovereign, or promissory notes.

What’s more, the sovereign was best placed to allocate these perishable resources to those who needed them (before they decayed) because of its natural position as a central planner for the community.

But there’s another factor. By issuing sovereign debt against all of these different credits, the sovereign fulfilled another important role too. It created a ‘constant’ security that allowed the community’s varied credits to be centrally cleared and turned into fungible claims over each other’s goods, transforming chicken credits into securities which were exchangeable into everything and anything.

Meanwhile, because the credits picked up by the sovereign tended to represent individual surpluses — those things produced above and beyond the need of the individual which perish over time — they also came to represent the system’s overall productivity and wealth.

(These sorts of credit systems were very notable in ancient Mesopotamian societies, which turned the ledgers which recorded credits outstanding into promissory style notes, which then circulated as money. )

A balanced system

Ideally, efficient allocation of all this ‘wealth’ ensured that this closed system was balanced. The community was producing exactly what it needed. There was no waste.

The sovereign could then collect taxes (in the form of its own ubiquitous debts) equal to the “spending” it had distributed to the community. An act which paid off what it owed, and extinguished its debts to individual merchants. You could say, the sovereign borrowed from the rich (those with surplus wealth which will otherwise perish) and redistributed the wealth according to the needs of the community. Since everybody received something, including the ‘rich’, a tax (cancellation of debts outstanding) kept the system in balance. Very MMT.

The decay of money factor

Yet, if the sovereign didn’t manage to allocate all the resources in time, it was prevented from fully extinguishing its debts. This meant that the debts lived on, while the economy became increasingly wasteful. Merchants funding the sovereign debt, meanwhile, did so at the cost of this overproduction. They were creating goods that the economy did not need and did not want to return favours against.

(Trade with external systems could caveat this, but for the purpose of this post we’ll stick to the idea of a closed system.)

In this environment it’s understandable why a liquidity preference would have developed for the promissory notes in question. The debt or promissory note becomes a unit of exchange as well as a store of value in its own right. Its  superiority also arguably ensures that it commands a rate of interest, because those who are prepared to lend it do so at the cost of holding perishable good collateral instead, which decays over time. Decay which must be compensated for through interest.

While overproduction and overcapacity remain an issue — too many perishable goods end up chasing a concentrated amount of non-perishable sovereign debt money —  a deflationary environment threatens the system. This either has to be compensated for by money supply/debt growth or by making the currency less preferable to hold than perishable goods, i.e. by introducing negative interest rates which see money decay at the same rate as goods in the system.

From hereon modern economics comes into full swing. Capacity utilisation becomes a critically important factor in determining the value and supply of monetary units in circulation. The greater the utilisation the more efficient the system, the less goods to outstanding monetary claims. The lower the utilisation the less efficient the system, the more goods to outstanding monetary claims.

The perishable mismatch

But consider this. The credits the sovereign receives in exchange for debt are perishable while the debts it creates are non-perishable.  They don’t decay over time in the same way. They don’t go unused. In most regards they even earn an interest and are subject to compound growth. So while the wealth that originally backed them perishes, these debts linger on and grow.

A mismatch between real wealth (now perished) and this monetary claim over wealth (not perished) comes into being. For as long as the economy is growing,  producing and consuming more and for as long as the debts are used only as a store of value and are not redeemed this mismatch is not a problem. There is more than enough “wealth” to honour these claims in the event they are called in.

But if the economy contracts and everyone decides to call in these debts for perishable goods, there isn’t enough goods in the system to honour the debts. A clear inflationary environment follows.

Luckily for the system, the sovereign can expand or contract the number of debts that circulate within its community to match the current production/wealth profile of the nation and keep the system in check.

But gold represents an opt out from this entire collaborative process. We’ll explain why that’s hardly beneficial for the economy in our following post…

Related links:
– Reuters
On the demonisation of debt
– FT Alphaville
Better the quality collateral you know?
– FT Alphaville
Negative interest in cash, or goodbye banknotes
– FT Alphaville