The People’s Gold By Alvaro Vargas Llosa - Independent

January 14, 2008

WASHINGTON—Some assets rise because people feel there will be no end to their good fortune. That kind of “irrational exuberance” partly explains the dot-com bubble of the 1990s and the real estate bubble of the new millennium—to use the felicitous expression coined by former Federal Reserve Chairman Alan Greenspan, the man whose infelicitous management of the U.S. currency contributed to both. And then there are those assets that rise because of a fear of the future. Gold is by far the most interesting example.

The spot price of gold (which means the price for immediate adelivery as opposed to a futures contract) hovered around $800 an ounce in December and is not far from $900 now. But it would be a mistake to conclude that, in the manner of various speculative assets in recent memory, gold has suddenly shot up. It has risen steadily since 1999; only in 2007, when the mortgage crisis hit the U.S., did it experience a sharp 30 percent rise.

Particularly important in relation to the stardom enjoyed by gold today is the fact that its price is being driven by managers investing the funds of ordinary people who are worried that inflation and the resulting weakness of the dollar will produce lasting damage to the U.S. economy. The growing demand for jewelry in countries such as India and China and the declining production of gold bullion in South Africa, the world’s No. 1 producer, have played a part in what is happening. But Peter Munk, the chairman of Barrick Gold, and others have repeatedly stated that the current price of gold is the child of investors rather than user demand.

Because of the awkward names given to investment funds these days, it is easy to lose sight of the fact that many of these institutions represent not a few wealthy speculators but millions of people trying to protect, or make good use of, their money. Some of this money is pouring into “exchange-traded funds,” which are simply pompous mechanisms through which people buy and sell bullion, among other commodities. These mechanisms now own more gold than most of the world’s central banks, in what amounts to a privatization of bullion. Unlike oil, whose rising demand has a direct connection to increasing economic production in places such as China, the demand for gold is not tied to productive needs so much as to the psychological factor we usually call insecurity.

What does this tell us about today’s world? Essentially, that trust in fiat money, the system by which the government manages the currency through the arbitrary manipulation of interest rates and the buying and selling of debt, is crucially low. Every new figure that seems to point toward a recession in the U.S.—for instance, the recent data related to a contraction in the manufacturing sector—increases the suspicion that the mismanagement of money has hurt the economy as a whole. So the people turn to gold.

At first sight, gold is an absurd investment—it doesn’t earn any interest. But putting money into gold becomes sensible once we realize that the value of gold is inversely proportional to the devaluation of the currency; the less that paper money is worth, the more gold is worth. Since the creation of the Federal Reserve in the early 20th century, the dollar has lost more than 90 percent of its value. That is why one dollar will buy you less than 1/800th of an ounce of gold today.

Gold, which used to be a symbol of the greed of empires, has ironically become a grass-roots revolt against the “imperial” management of money by the state. The Spanish conquistadors must be turning in their graves—and Peru, the world’s sixth-largest producer, is getting its revenge centuries after massive amounts of gold passed from the hands of the dictatorial Incas to the hands of the Spanish colonial bosses.

Of course, there is a difference. In colonial times, gold was actually the creator of, rather than a safe haven from, inflation; by flooding the European market with bullion from the Americas, the Spanish empire caused a general distortion of prices. Today, the general distortion of prices—reflected in the credit and housing market crisis—has led people, through their investment fund managers, to rush toward gold in search of protection.

Dr. James L. Payne is Research Fellow at the Independent Institute and Director of Lytton Research and Analysis and author of numerous books, including A History of Force: Exploring the Worldwide Movement Against Habits of Coercion, Bloodshed, and Mayhem,and he has taught political science at Yale University, Wesleyan University, Johns Hopkins University, and Texas A & M University.

Randal R. Rucker is Research Fellow at the Independent Institute, Professor of Agricultural Economics and Economics at Montana State University, and co-author (with E.C. Pasour, Jr.) of Plowshares & Pork Barrels: The Political Economy of Agriculture.

Charles V. Peña is Senior Fellow at the Independent Institute as well as a senior fellow with the Coalition for a Realistic Foreign Policy, senior fellow with the George Washington University Homeland Security Policy Institute, and an adviser on the Straus Military Reform Project.

William Ratliff is Adjunct Fellow at the Independent Institute, Research Fellow at Stanford University's Hoover Institution, and a frequent writer on Chinese and Cuban foreign policies.

Ivan Eland is Director of the Center on Peace & Liberty at The Independent Institute and Assistant Editor of The Independent Review. Dr. Eland is a graduate of Iowa State University and received an M.B.A. in applied economics and Ph.D. in national security policy from George Washington University. He has been Director of Defense Policy Studies at the Cato Institute, Principal Defense Analyst at the Congressional Budget Office, Evaluator-in-Charge (national security and intelligence) for the U.S. General Accounting Office, and Investigator for the House Foreign Affairs Committee. Full Biography and Recent Publications

Jonathan J. Bean is Research Fellow at the Independent Institute, Professor of History at Southern Illinois University, and editor of the forthcoming book, Race and Liberty: The Classical Liberal Tradition of Civil Rights.

Anthony Gregory is a Research Analyst at The Independent Institute. He earned his bachelor's degree in American history from the University of California at Berkeley and gave the undergraduate history commencement speech in 2003. In addition to his work with the Independent Institute, he regularly writes for numerous news and commentary web sites, including LewRockwell.com, Future of Freedom Foundation, and the Rational Review.
Full Biography and Recent Publications

Dominick T. Armentano is professor emeritus in economics at the University of Hartford (Connecticut) and a research fellow at The Independent Institute in Oakland, Calif. He is author of Antitrust & Monopoly (Independent Institute, 1998).

Alvaro Vargas Llosa is director of The Center on Global Prosperity at The Independent Institute. He is a native of Peru and received his B.S.C. in international history from the London School of Economics. He is widely published and has lectured on world economic and political issues including at the Mont Pelerin Society, Naumann Foundation (Germany), FAES Foundation (Spain), Brazilian Institute of Business Studies, Fundación Libertad (Argentina), CEDICE Foundation (Venezuela), Florida International University, and the Ecuadorian Chamber of Commerce. He is the author of the Independent Institute books The Che Guevara Myth and Liberty for Latin America. Full biography and recent publications.

Pierre Lemieux is an economist and co-director of the Economics and Liberty Research Group at the Université du Québec en Outaouais and a Research Fellow at The Independent Institute in Oakland, California.

Alexander Tabarrok is research director at The Independent Institute, associate professor of economics at George Mason University, editor of the Independent Institute books, Entrepreneurial Economics, The Voluntary City (with D. Beito and P. Gordon), and Changing the Guard: Private Prisons and the Control of Crime.

Robert Higgs is Senior Fellow in Political Economy at The Independent Institute, author of Against Leviathan and Crisis and Leviathan, and editor of the scholarly quarterly journal, The Independent Review. Click here for a bio on Dr. Higgs, the noted economist and historian.

William Marina is Research Fellow at the Independent Institute in Oakland, Calif., and Professor Emeritus of History at Florida Atlantic University.

David T. Beito is a Research Fellow at The Independent Institute, Associate Professor of History at the University of Alabama, and co-editor of the book, The Voluntary City: Choice, Community and Civil Society.

William Marina and David T. Beito belong to "Liberty and Power," a group blog at the History News Network.

For further articles and studies, see the Center on Peace & Liberty and OnPower.org.

Nicolas Heidorn is a public policy intern at The Independent Institute in Oakland, California.

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