Gold to Fight Fiat Currencies for Useless Title

“In the land of the blind,” the old saying goes, “the one-eyed man is king.” In the world of untrustworthy investment assets, therefore, which asset deserves to be supreme global ruler?

US Treasuries? Picassos? Shares of Apple Computer? Vintage Corvettes? Beachfront Real Estate?

It’s a tough call, made even tougher by the volatility of the foreign exchange markets and the capriciousness of national tax authorities. Truth be told, there is probably not just one supreme asset that merits trust above all others. But if there were just one, that asset would be gold…simply because it has the longest and most impressive resume.

Nevertheless, this trustworthy asset commands surprisingly little respect from most American investors. They remember gold as the asset that slumbered for two decades while stocks jumped 10-fold. And despite gold’s strong performance during the decade just passed, most investors are still quick to point out that gold has delivered a negative inflation-adjusted return since 1980. That’s 30 years and counting.

“At some levels,” reasons Brett Arends of The Wall Street Journal, “gold, as an investment, is absolutely ridiculous. Warren Buffett put it well: ‘Gold gets dug out of the ground in Africa, or someplace. Then we melt it down, dig another hole, bury it again and pay people to stand around guarding it. It has no utility. Anyone watching from Mars would be scratching their head.’

“And that’s not the half of it,” Arends continues. “Gold is volatile. It’s hard to value. It generates no income… It’s a currency ‘substitute,’ but it’s useless.”

Arends offers a familiar and relatively coherent critique of gold’s stature in the world. And yet, if gold is as ‘ridiculous’ and ‘useless’ as he contends, the dollar must be doubly ridiculous…and the euro triply useless. What intrinsic “value” or utility do these sovereign IOUs possess?

A dollar possesses value only because enough people agree that it does. But if a large body of dollar-holders rebelled against this notion, the dollar’s value would decline, if not disappear altogether. Faith and habit support the dollar’s value. Nothing more. Isn’t that a bit ridiculous too?

And yet, the world’s ridiculous “faith-based” monetary system underpins the entire network of global commerce. Without dollars and yen and euros, global commerce would function very poorly. So the system persists, despite its obvious shortcomings. Oil producers, for example, continue to spend decades developing new projects, building pipelines and expanding refineries so that they can continue to exchange one gallon of gasoline for three pieces of green paper.

The whole thing is kind of insane…when you really think about it. But this form of insanity is benign in most economic settings. Everyone knows that a piece of green paper possesses zero intrinsic value. But no one cares, as long as four pieces of green paper buys a breakfast at Denny’s, five pieces of paper buys a lunch at McDonald’s and six pieces of paper buys a coffee at Starbucks.

Unfortunately, here in A.D. 2010, currencies are coming under suspicion. No one knows which currency is good or which is bad…or if any currency at all can be trusted. The global monetary system is creaking under the weight of excessive government debts. In such an environment, what asset is truly safe?

If money itself is not trustworthy, what is? What asset evokes confidence? What national treasury, government agency, financial institution or pension system inspires complete trust?

The time has come to ask ridiculous questions…and to continue asking ridiculous questions until some of the ridiculous answers begin to make perfect sense.

Gold might be as “useless” as the Journal’s Arends contends, but an ounce of it buys about 1,200 dollar bills. In a few years time, this same useless ounce of metal might buy 5,000 dollar bills.

The question then would be, “What do I do with all these green pieces of paper?”

Eric Fry
for The Daily Reckoning