Buyers of Gold

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every recorded price, there is an exchange. For every buyer, there
is a seller. Gold has a price. Someone is buying gold.


are several possibilities. (1) He thinks the price of gold has not
yet peaked. (2) He thinks he has no better use for his capital.
(3) It isn’t his gold; he’s buying it on behalf of someone else.
If “someone else” is the electorate, then the buyer can do what
he wants. Voters have no meaningful understanding of gold. In this
respect, they are a lot like University of Chicago economists.

are the major buyers of gold? Gold mining companies, central banks,
gold speculators, and Indians. Then there are short-term speculators
who sell promises to buy gold in the future at a fixed price, but
who own no gold. We call them long speculators.

I have written here is the mirror image of what I wrote in my previous
report, “Sellers
of Gold
.” The main point I am trying to make here is this: the
primary buyers of gold are members of the same classes of people
as the primary sellers of gold.


observation may not seem to be apply to gold mining companies. It
initially appears that a gold mining company is exclusively a seller
of gold. This is not the case, however. A gold mining company is
an owner of gold in the ground. At some additional price, this gold
could be mined at a more rapid rate. This would take additional
capital investment and additional laborers, but the gold is there.
It is, in this sense, stored in a vault. The vault is the ground.

is Milton Friedman’s argument against the gold standard. He says
that an economy wastes resources by extracting gold from a below-ground
vault in order to store it in another vault. In his book, Capitalism
and Freedom
(1962), which was the book that launched his
long career among non-economists, Friedman wrote this:

fundamental defect of a commodity standard, from the point of
view of the society as a whole, is that it requires the use of
real resources to add to the stock of money. People must work
hard to dig gold out of the ground in South Africa — in order
to rebury it in Fort Knox or some similar place (p. 40).

argument is clever but specious (i.e., anti-specie). The central
economic issue here is liquidity. Gold in the ground is “dry” —
illiquid. Men do not know exactly how much there is in some mine’s
ground. They do not know how much it will cost to extract it and
refine it. Owners cannot extract gold ore fast enough, or get it
into a recognized, certified form fast enough, to enable them to
respond rapidly to consumer demand.

cannot use gold in the ground to make precise exchanges — exchanges
precise enough for gold in the ground to serve as money, which is
properly defined as the most marketable commodity. Gold in the ground
is “maybe.” Gold stored in the form of ingots or coins in a vault
above ground (or at least below street level) is “almost for sure.”

me put this a different way. (1) The information costs of refined,
certified, and labeled gold in a vault are much lower than the information
costs of gold ore in the ground. (2) It is not possible to reduce
information costs — a major advantage for economic participants
— at zero price. (3) The cost of lowering the information costs
regarding gold is what gold mining is all about.

in his career-long, ideologically driven quest for arguments favoring
the government-created monopoly of central banking, has always ignored
one of the truly important insights of the Chicago School of economics,
of which he is the leading member: information is not a zero-cost
. (By far, the best book on this subject is Thomas Sowell’s
and Decisions


conclusion is that an automatic commodity standard is neither
a feasible nor a desirable solution to the problem of establishing
monetary arrangements of a free society. It is not desirable because
it would involve a large cost in the form of resources used to
produce the monetary commodity (p. 42).

chapter of his book should have been titled, “Anti-capitalism and
Freedom.” On matters monetary, Friedman has always been a statist.
It is also worth noting that his reputation as a great economist
among his professional peers has always been based primarily on
his monetary writings.

I like Milton Friedman personally. I have known him for almost 30
years. But on the issues of gold as money and educational vouchers
as freedom-producing, he and I have disagreed — sometimes publicly
— for years. On the voucher question, see The Freeman, July,

mining firms are owners of less liquid gold. Managers may decide
that at the present price, it is uneconomic to supply gold to buyers.
Because they are holders of gold, gold mining companies are in effect
buyers of gold. We call this form of demand “reservation demand.”
It is that form of demand that says, “at this price, I am not a
seller of gold.”


demand is reservation demand. We forget this because prices are
set by buyers and sellers at the margin. Here is how this process
works. Fred and Bill make an exchange. Fred (a buyer of gold and
a seller of dollars) and Bill (a seller of gold and a buyer of dollars)
act as self-interested individuals in making an exchange: dollars
for gold/gold for dollars. If this exchange is recorded on an open
free market, and it is also the most recent exchange, then the free
market’s participants impute this price of gold in dollars to the
value of the same quantity of gold in everyone’s holdings. If Fred
buys an ounce of gold for $320, and if this exchange takes place
in an open market in which other participants are allowed to make
bids to buy or sell, then the market’s decision-makers impute to
every ounce of gold a price of $320.

reservation demand for both money and gold is gigantic. Everyone
except Fred and Bill are implicit participants in the gold market,
either as demanders of dollars or demanders of gold. Fred and Bill
are explicit participants. The two of them act as surrogates for
the rest of us.

holder of gold who refuses to sell to Fred for $320 when Bill is
willing to sell gold to Fred at $320 is an implicit buyer of gold.
He is an owner of gold who hangs onto it. His demand is implicit,
but it is nonetheless real. The gold owner thinks, “I want a higher
price than $320. I will hold onto my gold.” The same analysis applies
to the holders of dollars.

is why the primary classes of sellers of gold are the same as the
primary classes of buyers of gold. They are the people who “make
the market.” They are the people who are best informed about the
relationship between gold and money. As specialists with their own
money at risk, or the money of the organization that employs them,
the members of these groups act on behalf of all holders of gold
or money. The best information available (at today’s price of information)
is brought to bear on the price of gold.

same analysis applies to all other specialized markets.

reservation demand dwarfs recorded demand on every market at any
point in time.


both sides of Bill and Fred’s final, marginal transaction of gold
vs. dollars are hundreds of millions of people. Most people hold
onto dollars, caring little about gold. A comparatively few people
hold onto gold in preference to dollars. Or, I should say, more
people hold onto monetary gold in preference to dollars. With respect
to gold jewelry, holders of gold are quite numerous.

extension of the credit-based-money economy has escalated steadily
since the day that commercial banks confiscated their depositors’
gold at the outbreak of World War I, and then all national governments
immediately legalized this confiscation. The public has been taught
by government-funded and government-regulated schools and also by
the media that the pre-war gold standard was inefficient. Hardly
anyone knows that the wholesale price level for commodities remained
stable, 1815 to 1914, in those economies that were part of the international
gold standard. The largest confiscations of monetary wealth in man’s
history took place in Europe in 1914, and in the United States in
1933, yet the vast majority of the victims never complained. They
were told that this violation of contract was necessary for the
good of the nation, which in fact meant the good of the politicians,
the commercial bankers, and the central bankers. Three generations
of government-funded propaganda and central bank-funded propaganda
have produced today’s world, which Friedman identifies as one in
which “the mythology and beliefs required to make it [the gold standard]
effective do not exist” (Capitalism and Freedom, p. 42).

result has been the depreciation of the purchasing power of the
dollar since 1914 by a factor of about 18, according to the inflation
calculator on the Web site of the
Bureau of Labor Statistics
. Gold in 1914 sold for $20.67. Today,
it is over $300: an increase of about 15 to one, i.e., a little
less than the general depreciation of the dollar.

gold remain in the present price range? Will prices in general stabilize?
If consumer prices do stabilize, and gold’s relation to prices also
stabilizes, then there will be no spectacular rise in the price
of gold. If gold’s price were to rise to 18 to one over 1914’s price
of $20.67, it would rise to $372. Yet a few forecasters today are
talking about gold at $1,000.

speculator who believes that gold’s price will rise to such levels
has to believe one or more of the following: (1) the price of gold
is being kept down by gold sales by central banks that have been
disguised as gold leasing. (2) Future reservation demand by central
bankers is significantly lower than future reservation demand by
Indian housewives and gold speculators. (3) The thinness of the
gold market at the margin will result in a major price increase
when a relatively small number of holders of dollars start buying
gold. (4) The general economy is about to become more visibly inflationary.

believe in all four. I believe them in descending order.

bankers hold most of the world’s monetary gold. Indian housewives
hold gold in the form of jewelry. Either form of gold can be converted
into the other. The question is: which way is the conversion process
likely to take place? I think from monetary gold to jewelry gold.
Central bankers don’t like gold, since it inhibits their monetary
independence. They hold it mainly because they don’t trust the dollar,
the world’s reserve currency. Putting it bluntly, they don’t trust
each other. On this matter, I fully agree with them. When we read
of gold sales today, these are generally inter-central bank gold
sales. They are not sales to the general public. The sales to the
public are disguised as gold leasing.

leasing is one-way: from monetary bullion bars into jewelry or private
hoards of coins (minimal). I believe that this one-way flow of gold
will deplete the major reserves of gold that central bankers are
willing to transfer to the general public. I think the United States
and Great Britain will run out of disposable gold in this decade.

think that the would-be holders of gold have been hampered in their
willingness to hold gold by their fear of a falling price of gold.
They are convinced that two factors are responsible: (1) falling
prices of commodities in general; (2) central bank sales. They are
unaware of the permanent nature of gold leasing. They are unaware
of the magnitude of the one-way flow of gold into the hands of gold
accumulators, such as Indian housewives, at the expense of central

gold confiscations of 1914 and especially 1933 are being reversed.
But instead of Europeans and middle-class Americans taking advantage
of the return of gold into the private sector, Indian housewives,
Asians, gold bugs, and other “ill-informed” consumers are buying
at central bank-subsidized prices what had once been the property
of European and American commercial bank depositors.

decades ago, an economist friend of mine who served on the Senate
Banking Committee’s staff suggested a way to hurt sellers of illegal
drugs. The government should occasionally take its supplies of confiscated
heroin and cocaine and dump them onto the market. This would force
down the price of drugs and bankrupt drug dealers. This, he thought,
would reduce the supply of illegal drugs by reducing the supply
of pushers. The government has never followed his advice, but central
bankers have.


reservation demand by central bankers is low compared to the reservation
demand by Indian families. This is my personal estimation, which
I cannot prove from statistics I am aware of. I base it on what
I know about official central bank statements regarding the monetary
role of gold (decreasing role) and the size of the gold leasing
market (increasing). Central bankers have an ideological commitment
to reduce the use of gold in monetary affairs. So do Indian families.
There is mutual agreement here, and therefore the basis of a long-term
exchange of gold ownership. These exchanges produce a one-way flow
of gold from central bank reserves into jewelry.

steady purchase of gold by Indians will continue for as long as
central bankers sell gold to the general public, either officially
(Bank of England, 1999-2002) or unofficially (gold leasing market).
The primary limit is not demand by Indian families. The primary
limit is central bank reserves.

demand by Western central bankers is lower than reservation demand
by Indian families. If demand increases from other Asians, plus
Indians whose income has risen or whose fear of war has risen, plus
the central bank of China, then either the one-way flow of gold
will accelerate or the price of gold will rise.


demand by gold mining companies will increase. Here is why. Ask
yourself this question: “If I were sitting on top of a gold mine,
and I believed that the price of gold is likely to rise, would I
sell all of the gold I produce, day by day?” Not if you were profit-motivated.
You would hoard some of it.

your competitors, who made a lot of money by selling future supplies
of gold at a fixed price, and then profited when the price fell,
are now experiencing the opposite effect. They are now required
by contract to deliver gold at a fixed price. Their profits are
falling. Yours are rising.

mines that did not lock themselves into such contracts are now making
more money per ounce sold. They can sell less gold, make a profit,
and hold gold reserves for a future rise in price.

operations reverse the conventional textbook picture of supply and
demand. As prices fall, mining output increases for a long time
before bankruptcy closes a lot of them. Mines have fixed costs,
such as debt obligations. Management also doesn’t want to lose workers.
So, when metals prices fall, mines increase output to meet payments
on their fixed costs. They keep increasing output until their income
from sales will no longer pay for their variable costs (e.g., labor
expenses). Managers deplete existing reserves in order to keep the
mines operating.

the other hand, when metals prices rise, managers cut back on output
for the opposite reasons. They seek a speculative profit either
by withholding part of their output or by actually reducing output,
thereby reducing their variable costs.

when gold rises in price and is expected to keep rising, buyers
find that the supply of gold from mines does not rise fast enough
to push prices back down. Would-be buyers find that they are facing
new competition from gold mining companies whose managers have increased
corporate reservation demand.

central banks decide to buy gold, they must pay the going price.
Usually, they buy either from gold mines or each other. If gold
mines refuse to sell all of their output, and if other central banks
refuse to sell, and if Indian families are unwilling to sell enough
gold to meet demand at older prices, then the price of gold will

central bankers are unlikely to increase their demand for central
bank gold reserves. After all, it is not their gold. It belongs
to the central bank, whose profits are regulated by the national

contrast, the central bank of China is likely to increase its demand
for gold as a way to demonstrate China’s growing influence in world
markets. While Chinese central bankers have read the same textbooks
as Western central bankers, Chinese government officials are interested
in showing the West that China is no longer a backwater country.
Gold has long been a way that most Chinese have measured their wealth
and influence. They have not all accepted the West’s economic dogma
that monetary gold is either a barbarous relic (Keynes) or a waste
of resources (Friedman).


of gold (sellers of dollars) at the margin are likely to increase
their demand. Gold’s price is going to increase because:

  1. More investors
    will perceive that gold leasing is a one-way street, and so will
    not greatly fear gold dumping by central banks.
  2. More Indians
    will be able to afford to buy gold if the Indian economy grows.
  3. More Indians
    will buy gold if the threat of war increases.
  4. China’s
    central bank will increase gold purchases.
  5. Central
    banks always inflate.

reservation demand by gold mining companies is likely to increase
when the price increases. This will reduce supplies offered to the
public from new sources of gold.

is a political metal. Central bankers will use gold reserves owned
by the banks (not by themselves personally) to increase central
banking’s autonomy from gold. They will sell gold to the general
public from time to time. But, never forget, central banking’s autonomy
from gold requires central banking’s dependence on the world’s reserve
currency, which is the dollar. The more gold central banks sell,
the more green they accumulate. Central bankers face a dilemma:
“More green => more Greenspan.”

the long haul, more people than today will learn to trust gold rather
than central bankers. Friedman dismissed “the mythology and beliefs
required to make it [the gold standard] effective. . . .” But he
was correct in his general thesis: capitalism does increase freedom,
and freedom increases people’s wealth. Although Friedman and Keynes
and central bankers dismiss the suggestion that the monetary system
should be based on “an automatic commodity standard,” the essence
of capitalism is reliance on automatic, market-created, market-supplied,
market-policed institutional means of exchange, including money.
To reject a free market in money is to reject the ideal of capitalism.
It is also to reject the idea of freedom.

1990’s proved that freedom works. Communism collapsed. Capitalism
is efficient. Statism doesn’t work.

monetary system is statist. As surely as the public in 1980 should
have expected the collapse of the Soviet economy, people should
expect the failure of central banking.

or green? Gold or Greenspan?


6, 2002

North is the author of Mises
on Money
. Visit
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