Telegraph: When governments print money, buy gold

by Jeff Randall

"If you don't trust gold, do you trust the logic of taking a pine tree, worth $4,000-$5,000, cutting it up, turning it into pulp, putting some ink on it and then calling it one billion dollars?"
- Kenneth J. Gerbino

The price of gold tells us a lot about ourselves. It holds up a mirror to the way we are governed, our economy and its prospects. It reflects not only the physical dangers of floods, famine, terrorism and war, but also the financial perils of systemic addiction to debt and budgetary incontinence.

"The modern mind dislikes gold," said Joseph Schumpeter, "because it blurts out unpleasant truths." With gold trading at about $900 an ounce - more than 200 per cent higher than it was at the turn of the millennium - today's message from the bullion market is not comforting.

In the eight years since the arrival of the 21st century, the FTSE-100, the London stockmarket's main index, has lost about 15 per cent in value. The shares in companies that comprise "Footsie" usually pay dividends, sometimes more than five per cent a year. Gold pays none: never has, never will.

So why have investors been abandoning conventional assets, such as government bonds and stakes in blue-chip businesses, in favour of a metal that appears to offer no reward for holding it? The answer, I'm afraid, is crumbling faith in the world's central banks, and in particular the US Federal Reserve, where the presses have been working overtime.

Some argue that the soaring gold price has been driven by temporary anxiety over global instability. The metal is a safe haven in troubled times. But answer me this: when was the last time the world felt like a cosy hideaway? Ever since mankind turned up, Planet Earth has never been a safe place.

Wars in Iraq and Afghanistan, a more muscular Iran and the unpredictability of Moscow are contributing to nervousness. But what's really upsetting investors is the speed at which money is being printed by governments, especially America's, that cannot face the problem of funding wild expenditure plans solely from reserves or taxation.

In that sense, the gold price's journey towards $1,000 is a resounding vote of no confidence in authority. It's the market flashing a red light.

This week, the BBC's World Editor, John Simpson, reported under cover from Zimbabwe, where the cost of a meal for himself and some friends in a Harare restaurant was 290,000,000 Zimbabwean dollars. Ever the gentleman, Simpson left a ten-million-dollar tip. In this nightmare state, as Simpson put it, "everyone is a millionaire", yet also, "grindingly poor".

This is an extreme version of what happens when a currency is debauched. Zimbabwe is at the very end of a road down which all excessively wasteful administrations travel. It is a long haul, and not many go all the way like Robert Mugabe. Nevertheless, the price of gold is signalling fears that the US dollar, and to a lesser extent sterling, is on course for painful corrosion.

Currencies come and go, but gold has been a store of value for more than 5,000 years. Gold is rare, but, thanks to Gutenberg, paper money is not. Presented with an opportunity to churn out extra cash at little expense, it takes a special kind of government to resist. Few seem able to do so.

According to former Fed chairman Alan Greenspan: "There is no inherent anchor in a fiat-money regime [a currency not underpinned by gold]. What constitutes its 'normal' inflation rate is a function solely of a country's culture and history." For many, that flexibility has proven ruinous.

Inflation wrecks currencies in the same way that termites destroy wooden houses. The world's two most successful currencies, the US dollar and the British pound, both of which are still used by other nations to hoard wealth, have each lost more than 95 per cent of their value in the past 100 years.

Since 1971, when Richard Nixon broke the dollar's formal link to gold, America has pumped out trillions of new dollars. Money from thin air. China alone is sitting on more than $1,000 billion of reserves, as American consumers pile up debts to buy "essentials" from factories in Shenzhen and Guangdong. No wonder the buck has lost its fizz.

By contrast, there is a finite supply of gold. This keeps it honest. As financial commentator Peter Burshre pointed out: "Regardless of the dollar price involved, one ounce of gold would purchase a good-quality man's suit at the conclusion of the Revolutionary War [American War of Independence], the Civil War, the presidency of Franklin Roosevelt and today."

Gold doesn't always appreciate in price, of course. In 1980, it was selling at more than $800 an ounce. Twenty years later, it had dropped to $275. It is theoretically possible to get rich by betting on fiat currencies and against gold. But the scoring average of all those who try is pretty poor.

Ask Gordon Brown. He achieved what most expert dealers can only dream of. In 1999, he spotted the bottom of the gold market, a 20-year low. The trouble was, Brown's order was "sell". As Chancellor, he told the Bank of England to dump nearly 400 tonnes of British gold reserves, since when the price has shot up. That decision cost the Treasury billions.

Control-freak politicians abhor gold because it ignores them; it won't do what it's told. It defies economists and laughs at central bankers.

Sophisticates claim that, in a world of electronic money, gold is a barbarous relic. But as the sub-prime horror ravages the international banking system, millions of ordinary savers know better. While ministers debate the merits of flooding the global system with liquidity to ease the credit crunch, Delhi taxi drivers are buying gold, accelerating the shift of wealth from west to east.

"Practically all governments of history," said Friedrich von Hayek, "have used their exclusive power to issue money to defraud and plunder the people." Gold stands in the way of this process; it is a protector of property rights.

If you are still not convinced, let me remind you of what Hitler had to say: "Gold is not necessary. I have no interest in gold. We'll build a solid state, without an ounce of gold behind it. Anyone who sells above the set prices, let him be marched off to a concentration camp. That's the bastion of money."

The Third Reich was supposed to last 1,000 years. It fell apart a long way short of that, but gold is still here.

At some stage, the recent price surge will cool. When? No idea. But I do know that, to equal the last peak of $846, in November 1980, the price today would have to reach $2,500.