Golden Futures

What function does gold serve in the economy?

For more than three millennia, gold has served as both a unit of exchange and a store of value in the global economy. The stock of gold is relatively stable. There are about 155 thousand tons of gold in the world, and each year the world’s mines supply some 2600 additional tons of the metal. It’s chemically stable, and surprisingly malleable. It has sometimes been referred to as a currency without a country.

But the growth in supply has varied over time. In the 17th century, gold from the New World flooded Spain’s economy, causing rampant inflation—one of the underlying factors that led Spain to attack England via the Spanish Armada. In the late 19th century, the gold supply couldn’t keep up with rapid productivity growth in the US, leading to significant deflation and social disruption. William Jennings Bryan’s famous “Cross of Gold” speech was a protest against the gold standard.

As a result, many people have a deep seated conviction that gold is a useless, barbarous relic of a bygone era with no yield and a volatile price. Others feel that it is a hedge against inflation, since the supply of gold cannot be manipulated. Certainly as the Fed monetized the deficit and inflation grew during the ‘70s the price of gold grew eight-fold. But inflation has been remarkably low over the past 5 years, even as gold prices have risen again.

So is gold money? Money serves three purposes: a unit of exchange, a unit of account, and a store of value. Gold has served the latter purpose since the late-‘90s, but cannot serve the first without government sanction, and it’s never been an accounting standard—that’s always been Dollars or Deutschmarks or Pounds.

Unless inflation reemerges in the global economy, gold is unlikely to regain its early prominence. Were it to reemerge as a currency standard, Congress (or the Fed) would have to set the amount backing a dollar—something they could change. And growth in the supply of gold would once again become a concern.

So unless inflation accelerates and prices begin to rise dramatically, it’s hard to see how gold adds economic value to a portfolio. The price of gold is a curious thing, but over the long run it’s more of a curiosity than a serious consideration.

Douglas R. Tengdin, CFA
Chief Investment Officer
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By | 2014-09-09T11:11:35+00:00 October 23rd, 2012|Global Market Update|0 Comments

About the Author:

Mr. Tengdin is the Chief Investment Officer at Charter Trust Company and author of “The Global Market Update”. The audio version of each post can be heard on radio stations throughout New England every weekday. Mr. Tengdin graduated from Dartmouth College, Magna Cum Laude. He received his Master of Arts from Trinity Divinity School, Magna Cum Laude and received his Chartered Financial Analyst (CFA) designation in 1992. Mr. Tengdin has been managing investment portfolios for over 30 years, working for Bank of Boston, State Street Global Advisors, Citibank – Tunisia, and Banknorth Group. Throughout his career, Mr. Tengdin has emphasized helping clients manage their financial risks in difficult environments where they can profit from investing in diverse assets in diverse settings. –
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