by Gary North
Slogans come and go. Popular political slogans reflect the prevailing political lies of a generation, which get replaced by the political lies of the next generation.
When my parents were in college, President Roosevelt made famous this phrase, regarding the national debt, meaning the debt of the U.S. government to investors in U.S. government debt: "We owe it to ourselves." These days, the fundamental reality of that slogan is becoming apparent: some people owe it to other people. Those who owe have different goals from those who are owed. But in 1935, the slogan was widely believed. It is amazing what the public will believe, despite counter-evidence.
Nobody in 1935 would have imagined that the 6,000 banks that had gone bust, 1930—33, had owed it to each other. They had owed it to their depositors, who lost their money when their local banks went bust. There was no government-subsidized FDIC insurance in those days. As borrowers, most of these same people had owed money to the now defunct banks, whose assets (the debtors' obligations) had been bought up cheap by surviving banks, who then pressed the debtors for payment. So, the farmer who was being evicted from his land because he could not pay the mortgage now owed this money to a different bank from the one that had owed him money in his savings account, which was gone with the wind, along with the original bank. In private banking, another slogan ruled: "Heads, you lose. Tails, you lose."
Those voters who had experienced this two-way squeeze on their net worth knew better than to believe "we owe it to ourselves" with respect to commercial banking. Yet they bought the same slogan when it was applied to the biggest debtor of all, the U.S. government.
I can still remember someone in 1959 telling me, "we owe it to ourselves." But that slogan was fading in popularity by then. I have not heard it in years.
Forty years ago, when I was just getting started, this slogan was widespread, though not part of the national consciousness: "You can't eat gold." That was back in the dear, dead days of the 1944 Bretton Woods agreement, when 35 dollars could be exchanged for an ounce of gold, if the dollars were held by a foreign government or a foreign central bank. Roosevelt had stolen the gold from the public in 1933 for $20 an ounce and then turned it over to the Federal Reserve System. Then he raised the price in 1934 to $35, which enabled the FED to expand its reserves, thereby expanding the money supply. The great winners in 1934 were investors who had bought gold mining shares in 1933. The great losers were the voters, who lost their ability to pressure the banks to stop issuing fiat money.
The flow of gold out of the FED began in 1957 and continued until Nixon unilaterally revoked the Bretton Woods agreement on August 15, 1971. He closed the gold window, as the media put it at the time. In between 1957 and 1971, those few people who believed that the country should return to a "gold standard for citizens" rather than a "gold standard for central bankers" were challenged by this slogan: "You can't eat gold." The sloganeer then sat back, proud of his insight. My response was always the same: "You can't eat Federal Reserve Notes, either." The sloganeer always became confused. I would sometimes add, "By the way, in some primitive societies, women are the means of exchange." This observation usually ended the chat.
I have not heard "You can't eat gold" in 25 years. All it took was the rise in the price of gold from $35 to over $800, 1971 to January, 1980, to put the slogan out of circulation. Gold's post-1980 retreat in price did not revive the old slogan. Gold has not approached $35 an ounce since 1971. When gold bugs quadrupled their money by ignoring "You can't eat gold," the sloganeers retreated. They got tired of hearing about the capital gains made by unbelievers who had never believed in the slogan. There is nothing like tripling your money at the expense of a slogan's believers to reduce the popularity of the slogan.
Of course gold is inedible. In most societies, money is inedible. This is a sign of social progress, I say. It is a primitive society indeed where people eat the currency unit. This is especially true in societies where women are money.
Money is the most marketable commodity. A marketable commodity has five characteristics:
High value in relation to weight/volume
Note: point four is a real hindrance to societies in which women are money.
Gold has long served as money because it has all five characteristics. But gold substitutes have become popular: bank notes, letters of credit, credit cards, and Federal Reserve Notes. Gold is heavy. It is risky to transport. It is quite valuable, so making change is a problem. But the fact that it is inedible was never a downside of the gold standard.
WHY SLOGANS FADE IN POPULARITY
There is one major reason: the conditions that favored their popularity fade. There are two ways that changing conditions kill a slogan: (1) by removing any need to challenge the slogan; (2) by destroying the believability of the slogan. In other words, a slogan fades when the sloganeers completely win or completely lose.
In the case of "We owe it to ourselves," the fading came because nobody with any influence challenged the growth of federal debt after 1941. The supply-side economists in the 1980s announced that "deficits don't matter." The Keynesians had always believed that deficits do matter most of the time: positively. "The larger the better in recessions, and don't worry about them during the boom." The monetarists believed, "deficits don't matter at the margin." But the economy is always operating at the margin. This calms the monetarists. Only the Austrian school kept yelling that deficits do matter. Nobody listened.
"You can't eat gold" faded for two reasons: (1) nobody except the Austrians defended the gold standard after Nixon ended it; (2) the legalization of gold ownership for Americans came in 1974, after which gold was just another commodity, as far as most financially alert people were concerned. "You can't eat gold" was no more relevant in a debate over monetary policy than "You can't eat copper."
So the two slogans faded because of the complete victory by the defenders of permanent government debt, who were very often critics of the traditional gold standard. The two positions were related: rising government debt and the absence of the traditional gold standard.
That the two are related operationally had been one of the core arguments in favor of the traditional, government-guaranteed gold standard. The gold standard economists had argued that the primary restraint on the creation of money by the central bank had been the threat of a run on gold by the public. Remove this threat by breaking the legal link between money in circulation and gold in government or bank vaults, said gold standard economists, and both the money supply and government debt will soar. That prediction has been borne out by events after 1933 and 1971.
Here is the government's procedure. The government sells debt to the public. It also sells to the central bank, which buys this debt with newly created money. This newly created money drives up the price of goods and services. Rising prices create rising demand by voters for the government to do something to help them. The government then passes a cost-of-living-adjustment (COLA) law governing welfare, including Social Security. It raises Medicare payments. More money flows out. More tax revenue is therefore needed. There is always tax resistance. But new money puts people into higher tax brackets. A graduated income tax then skims off a rising percentage of the taxpayers' income. The government likes this. Inflation is good for its revenues. Politicians do not complain when the central bank buys more debt and creates more money.
The boom in commodities that took place in the late 1970s drove up commodity prices. Then, when Volcker's FED tightened money in the fall of 1979, the recessions of 1980 and 1981 drove down the price of commodities. So, when the FED's reinflation began after August 13, 1982, when Mexico nationalized the banks and threatened default, the price of commodities stayed low. There had been overproduction in the boom period. Producers had been fooled by monetary policy to expect further price inflation. They guessed wrong. They guessed wrong especially in mining and oil production. So, the result was low commodity prices for two decades, despite rising prices of final products, such as housing, and rising wages.
Now we are seeing the recovery of commodity prices. Oil is the obvious example. The price of gold has risen almost in lock step with oil. Sellers of raw materials are facing what every seller wants: more people at the auction. China and India are coming into the world of mass production. Mass production of consumer goods requires the mass consumption of raw materials.
Asia is not burdened with the political liabilities of Social Security and Medicare. This means Asia has extra capital to invest. It can increase workers' productivity, now that capitalism has begun to replace socialism. Socialism kills the productivity of capital. Even without high savings rates, Asia would become more productive, merely by turning decisions over the allocation of capital to private owners. But Asia is also thrifty. This double benefit gives Asians a tremendous advantage. Low labor costs are a product of low productivity. The masses of Asia are about to increase their productivity. They will do so by becoming ever more competitive with Western producers.
What I am saying is this: the conditions that led to the abandonment of the old slogans are about to be reversed. The old slogans are forgotten today, but the conditions that provided the sloganeers with such a victory that they abandoned the slogans are now fading.
"We owe it to ourselves" is not going to sell in a world in which retirees are absorbing an ever-larger percentage of the productivity of workers. "You owe it to us" has replaced "We owe it to ourselves." The victims — younger workers — have not yet come up with a slogan to match "You owe it to us," but they will. When the bite gets larger, they will. Count on it. "We owe it to the children" is on the slogan short list. "The right to die" is in reserve. If it gets big, "the need to die" will move up a notch. "The obligation to die" is always in reserve. "There comes a time to pull the plug" will have its day in the court of public opinion.
But what about "You can't eat gold"? Will it ever return? I doubt it. Old slogans, once discarded, are like Presidential candidates who lost. They remain discarded. The case against the gold standard is so widely believed today that I don't expect to see a gold standard installed anywhere in my lifetime. But the case against the dollar is likely to become widely accepted in capital markets. What will replace the dollar as the world's reserve currency is problematic. My guess is that no single currency will. The efficiency of the currency markets is so great that investors can go from one currency to another at a moment's notice.
I think gold will remain linked inversely to the dollar. As the dollar falls internationally, gold will rise. If gold starts rising in relation to other currencies, too, that will mark a break with the fiat money world of central banks.
I think gold is ultimately tied to oil. You can't drink oil, and you can't eat gold. But if you own either oil or gold, you surely will have caterers lining up to cover your banquet table.
A BULL MARKET IN GOLD
Economist Mark Thornton recently published an article that argues the case for gold from technical analysis. His charts are impressive. I recommend that you take a look at them.
The first chart shows the ups and downs of gold, 1975 to the present. It does not chart gold at $35/oz in 1971. Gold at $400 is not much above what it was in 1996. The question is: Has there been a permanent turnaround? Thornton thinks there has been. So do I. He writes:
Trend lines are figments for illustration purposes. What they show in this case is that the price of gold has trended downward for the last 23 years. The trend lines start from the very top of the bubble and the next two "tops" in the early 1980s. Starting from the top of the bubble, the trend line intersects the gold price (in red) in early 2001 at around $265/oz. Gold lost 70% of its value over this 20-year period, more if you account for the depreciation in the dollar. The second trend line starting at the next top intersects the gold price in early 2002 at around $300/oz. and the third trend line, starting from the second peak and touching all subsequent peaks, intersects the gold price in early 2003 at around $350/oz.
Had someone taken his gold, sold it, and bought a mixture of stocks and bonds, he would have earned in the range of 15% per annum. At 15% per annum, not counting taxes (such as in a tax-deferred retirement fund), 15% for 20 years would earn 16 to one. So, we should compare a $1,000 investment in gold vs. $1,000 in a stock/bond mixture. That's $300 vs. $16,000. It was bad news for investors in gold.
Is this likely to repeat? I think this highly unlikely. The swing will go the other way, though I have no idea what the percentage swing will be.
Thornton's second chart is revealing. It shows a major reversal in the trend.
It displays one major cyclical bear market from early 1996 to early 2000 and a major cyclical bull market from early 2001 to the present. The graph presents a pattern of prices that looks like a "W" or what in technical analysis is referred to as a "double bottom." This is a highly favorable pattern, and gold prices have increased by over $150 since their low point in early 2001. Technical analysis would suggest a high probability that gold prices will go higher, but do not expect to get rich in a matter of days.
He does not rely on technical analysis alone. He also considers fundamentals. Here, too, he sees a bull market.
Technical analysis paints a picture of the past and provides a few clues to the future direction of markets. However, fundamental economic analysis is a far more important tool both for constructing technical analysis and for anticipating future changes in markets. My best guess based on fundamental economic analysis is that we have indeed begun a secular bull market in gold. Both the dollar and gold could stabilize for some time before continuing their present long-term courses. In the case of the dollar it is in a downward trend, and in the case of gold there is an upward trend. These trends are fundamentally based on the inflationary policy of the Federal Reserve, the deficit spending of the federal government, and the continued weakening of the US economy.
Is the U.S. economy weak? Compared to Asia, yes. Compared to Europe, no. Is the FED in inflation mode? No more than usual. Is the deficit in crisis? Yes. This is where the old argument for the gold standard as a restraining factor comes into play once again. It is the astronomical increase in the deficit that offers gold bulls a major hope. This deficit must be funded. Asian central banks are now funding it. They will not do so indefinitely. When they decide to stop the policy of offering below-market loans for the U.S. government, paid for by inflating their own currencies, the dollar will fall, interest rates in the U.S. will rise, and the economic boom will end.
Woe unto the political party whose man is in the White House when this happens.
The fall of the dollar seems as sure as any forecast that rational people could make. This will bring with it a rise in commodity prices. Gold and oil are now linked, I believe. Gold is no longer a restraining factor in government policy, but oil is. Gold will follow oil, and oil looks to be in a bull market because energy is in a bull market. Asia and India are plugging in.
The closest thing to the Bretton Woods agreement today is the decision of Arab policy-makers to sell oil for dollars. I do not expect this policy to survive beyond this decade. When Arabs select another currency, the dollar's monopoly will go the way of all monopolies. The party will be over for Americans, who have been able to buy the world's crucial commodity with fiat money. Fiat money always goes the way of all flesh.
Don't plan to eat Federal Reserve Notes. But they could make a good fire-starter.
March 31, 2004
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