Gold is money again despite the Treasury's expensive and ineffective attempts to demonetize it. The world seems to be moving toward a dual standard where the dollar is the major medium of exchange and gold is the preferred store of value.
Money is not just what governments declare as legal exchange and as a store of value. As a medium of exchange in business transactions, there is no substitute for the dollar in a world where billions of dollars are transferred by wire every day.
As a store of value to preserve real purchasing power over time, the dollar is crippled by persistent inflation. There was a time when the phrase "sound as a dollar" meant robust good health, but today it means chronic illness. Because virtually everyone believes the dollar will be worth less in 1990 than it is in 1980, virtually no one trusts the dollar as a lasting store of value.
Trust is the key. Investors who trusted the dollar saw the real value of their dollars shrink year after year due to inflation, particularly on an after-tax basis. Nations such as Japan and West Germany, whose central banks kept their assets in dollars, have seen the real value of those dollars decimated both by inflation and by the depreciation of the dollar relative to other currencies. The message of the 1970s is painfully clear: Financial punishment is the consequence of trusting the dollar as a store of value.
In their efforts to escape from a rotting dollar, investors and bankers turned to gold as the oldest store of value. Gold's prime virtue is that government cannot affect it. They cannot print more gold as they can (and do) print more paper money. They cannot block it as the United States recently blocked Iranian assets. Because gold is a more anonymous asset than stocks, bonds or real estate, it offers more opportunity to avoid paying taxes on profits.
The return of gold as money places the world's central bankers in the awkward position of saying one thing while doing another. For years they advocated the demonetization of gold and its replacement with the "paper gold" of special drawing rights by the International Monetary Fund, but today the total value of that paper gold is less than 3 percent of the real metal valued at current price.
While saving that gold does not matter, central bankers act as though it matters very much. They hoard it just as they did in more benighted times, because at more than $500 an ounce it accounts for well over half of world central bank reserves. When strapped for funds, they pledge their gold for loans rather than sell it, as Italy and Portugal did after the first round of oil price increases. The new European Monetary System gives gold a central role as a reserve assest in a belated recognition that gold is once again the premier store of value.
The official U. S. policy toward gold has been a Canute-like attempt to prevent the rising tide of gold from supplanting the dollar as a store of value. The Treasury sold large amounts of gold for less than $200 an ounce in a vain attempt to drive down its price, but those sales look like very poor decisions in light of today's price of more than $500 an ounce. The Treasury's stubborn refusal to accept the reality of gold as a store of value has been very costly to U.S. taxpayers.
The Treasury's attempts to drive down the price of gold look even worse in light of the oil-payments problem. Countries such as Saudi Arabia feel uncomfortable about exchanging their oil assets of substantial real value for our paper assets of uncertain future value. Because members of the Organization of Petroleum Exporting Countries now seem more willing to hold gold rather than paper dollars, our interest is in promoting a high price for our gold to exchange for their high-price oil.
The renaissance of gold is as much a defeat for conventional economics as it is for the Treasury. Economists point out that it is a waste of resources to dig gold out of a hole in South Africa or the Soviet Union just to transfer it to another hole in a New York Bank vault. Gold is a sterile asset that earns no interest but costs money to store and insure. Speculation in gold diverts resources away from more productive endeavors.
The tragedy is that the economists are right. Gold really is a barbarous relic, but it seems to be the only asset people trust in a world where the future is inflationary and the politics are unstable.