RoR: Forum

Jim:

In a completely free market, though, that wouldn't work. Gold would be one commodity among many competing to be a means of exchange. It would compete against platinum, against silver, against rare earth metals.

As John sated in post #35

We have thousands of years of commodity currency in gold and silver to draw upon. I don't think it was by accident these precious metals were chosen as a preferred medium of exchange for millennia.

When all the dollars have been destroyed and the government is out of the business of manipulating the currency gold and silver will become the de facto alternatives as they have been over all human economic history.

I would ask you, Jim, why is gold at the particular value that it is today?

Sam

Post 41

Saturday, March 5, 2011 - 1:24pm

I notice in the article Bernanke said Gold isn't a panacea. But I don't think he's ever argued why a fiat currency is a panacea, so he seems to hold up gold to a standard he's not willing to hold our current fiat currency up to.

Post 42

Saturday, March 5, 2011 - 1:36pm

Jim,

I favor a totally free market in the selection and use of money. I am not advocating the forced use of a gold backed dollar. I think that a gold backed dollar is one way to vastly improve on what we have now, and would be an excellent step towards total freedom in the area of money.

And you misunderstand the nature of what I'm in favor of in that area. The dollar would become just a reciept that guarantees anyone that they can bring in some fixed amount of them to a bank and trade them for 1 ounce. It would not be a 'dollar' as we know it today... it would be a 1,500th of an ounce of gold (in the form of a reciept).

I don't, and never have, supported any legal tender laws (except that if the government issued gold certificates, they would be required to honor their being cashed in for the amount of gold) - never that the government could exlude the use of any other kind of currency.
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You wrote, "...while gold has many qualities of an ideal currency, and thus has some value just because of that, it still is a commodity, and people in a free market will still evaluate it against all other commodities based on what the gold can be used for."

And then you went on to say that people would never accept gold in exchange for a mansion: "I would decline to sell [the mansion] for that because I value the commodity of the mansion way more than I value the commodity of that scrap of shiny metal. And in a free market, no one else would value that scrap of shiny metal as being worth a Kahala mansion, either, because in a free market only things that had actual value could be exchanged, certainly not fiat money, even fiat money in the form of gold."

Two errors here: First, there is no such thing as fiat money in the form of gold - NOT when it's value, as money, is set by the market. That is because it can't 'printed' - that is, you can't make more of the units of gold money for less than they are worth as a medium of exchange.

The commodity value of a metal is set by the market demand of the various uses for it relative to the supply. A key use for gold in a free market is as an exchange medium and a mechanism for storing value. That, like all of the uses for gold, get counted in the demand portion of the equation - it is not discounted as of no value. Just as we don't discount the factor of demand for gold in jewelry because it involves the vanity of decorating ourselves with shiny baubles, but we do discount the potential use of gold for rain-gutters - they would be the best possible rain-gutters since they would never rust - but the cost would be too high, hence no demand.

You said you would not trade the mansion for the gold... But in fact you would, because in that real world situtation you would see a large enough quantity of gold as being able to buy things that you would value more than the mansion. An exchange medium acquires its value in an exchange by what it can willingly be exhanged for. You are not, in that circumstance comparing the use of the mansion with having a pile of metal that could be hammered into jewely.

The commodity value of metal apart from its use as money can be low, it only needs to be high enough to prevent the manufacture of a fiat currency. For example, if paper and ink as commodites other printed money became worth more than the denominated note, then a ceiling would have become established for inflation. But since it is easy to print extra zeros that won't happen in a range that is practical.

A unit of money is worth what others will give you for it that you would want. That's the exchange value of money. The store of value worth of a unit of money is just the degree to which you reasonably expect the exchange value of that unit to be stable over time.

Post 43

Saturday, March 5, 2011 - 2:03pm

Jim wrote,

Replacing USD with gold, with the government enforcing gold as the only currency, means you have replaced a completely valueless fiat currency with a fiat currency that has some value, but not necessarily the full value that the government insists it has.

Of course, the government should not force people into accepting gold as their medium of exchange. It should allow people to use whatever form of currency they choose. But let's assume, for the sake of argument, that they did require gold as the medium of exchange. If it were the only medium of exchange, how could the government dictate its value, since the value of gold would be whatever goods and services could be exchanged for it? The only way the government could "insist on" its value is through some form of price controls.

For example, if an average apartment were renting for one once of gold, the government would have to require the landlord to accept less or the tenant to pay more. That's the only way in which it could dictate the value of a commodity money. The only other way would be if the federal reserve continued to print federal reserve notes and the government to enforce legal tender laws. Otherwise, the value of gold would be determined by whatever goods and services people were willing to exchange for it.

In a completely free market, though, that wouldn't work. Gold would be one commodity among many competing to be a means of exchange. It would compete against platinum, against silver, against rare earth metals (if they can be encased so as to not be poisonous), against (insert physical commodity possessing most of the attributes of an ideal currency.) And while gold has many qualities of an ideal currency, and thus has some value just because of that, it still is a commodity, and people in a free market will still evaluate it against all other commodities based on what the gold can be used for.

True, and these other commodities might be used alongside gold, just as silver was, but I think there would be a limit on the number of commodity monies merchants were willing to accept even if there were no legal limit on what could be used as a medium of exchange.

If I owned a huge, fancy beachside mansion in Kahala (or a mansion in Beverly Hills, or wherever), and Steve came up to me and offered to buy it off me in exchange for a piece of gold the size of a dime, I would decline to sell it for that because I value the commodity of the mansion way more than I value the commodity of that scrap of shiny metal. And in a free market, no one else would value that scrap of shiny metal as being worth a Kahala mansion, either, because in a free market only things that had actual value could be exchanged, certainly not fiat money, even fiat money in the form of gold.

Well, if the fiat money were gold, it would have actual value, just as gold does today. But a piece of gold the size of a dime would only be about 1/10 of an ounce. I know, because I have a gold coin that size, and it is 1/10 of an ounce. Right now, an ounce of gold is about $1,400, so 1/10 of an ounce would be equivalent to $140. Of course, no one is going to exchange a mansion for a measly 1/10 of an ounce of gold (assuming no price controls!). They wouldn't exchange one for a price that is ten thousand times that amount, i.e., for 1,000 ounces of gold). But they might exchange one for 5,000 ounces of gold (i.e., for $7 million).

If gold were the fiat money, it would have the advantage over our present paper currency that it couldn't be created out of thin air. It would have to be mined, which would prevent it from becoming an inflationary burden on the economy.

Post 44

Saturday, March 5, 2011 - 2:09pm

Bill,

I understand that Gresham's law was formulated with legal tender laws in mind, but the underlying principles have a wider application. For example, when the treasury makes a significant change in the color or artwork on a dollar bill, there will a portion of the population that will not want to accept the new ones, being suspicious, and when they get stuck with some, will spend them first. And when the US Mint created the Susan B. Anthony dollar it was not well received and people shunned it. These existed under the Legal Tender act but had nothing to do with an intrinsic value, but rather to the likes, dislikes or utility of the particular unit that was shunned.

I would restate the broader concept to be that people will retain those forms of currency they see as having more utility as a store of wealth spending those they see as having less utility as a store of value. The 'bad' money doesn't drive the 'good' out of existence, just out of circulation and into saving.

With no legal tender act and total freedom for anyone to use anything they wanted as money with anyone that agreed to accept it, there would still be recognized forms of money that would come to be preferred for exchange, as they were very convenient in that use, yet others, of comparable value, would be more valued for their stability as a long-term store of value. So I might retain gold, putting it in a lock box adding to my savings for retirement, while using a fiat paper script issued by a bank for small daily transactions that didn't involve a credit card. The paper, if it is accepted of course, is handy but I'm not trusting it to hold value over time. So, that would appear to have the effect of driving the 'good' currency out. But really it is just competition as an exchange media and competition as a storage media - the two sides to money.

I see Gresham's Law as a representation of the principle governing competition between exchange medium given that different monies have differing values both as an exchange medium and as a store of wealth.
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Edit: Changed the wording in the 1st sentence from "...in mind, but it has a wider application" to "...in mind, but the underlying principles have a wider application." The initial wording was an error and didn't reflect my intentions.
(Edited by Steve Wolfer on 3/05, 5:41pm)

Post 45

Saturday, March 5, 2011 - 3:58pm

Steve,

You wrote,

I understand that Gresham's law was formulated with legal tender laws in mind, but it has a wider application. For example, when the treasury makes a significant change in the color or artwork on a dollar bill, there will a portion of the population that will not want to accept the new ones, being suspicious, and when they get stuck with some, will spend them first. And when the US Mint created the Susan B. Anthony dollar it was not well received and people shunned it. These existed under the Legal Tender act but had nothing to do with an intrinsic value, but rather to the likes, dislikes or utility of the particular unit that was shunned.

You're just talking about some forms of currency being more highly valued than others, but that's always going to be the case, as some media of exchange will invariably turn out to be more serviceable than others, which is how gold and silver came to be preferred to other commodities. But this has nothing to do with Gresham's Law succinctly expressed as "bad money drives out good."

Gresham's Law refers to what happens when government forcibly overvalues one money (e.g., gold) and undervalues another (e.g. silver), by dictating the exchange ratio between the two as against their actual exchange ratio in the broader market, as was done by the British in the late 17th and early 18th Centuries. In such cases, the undervalued money (e.g., silver) is driven out of circulation, either by being hoarded or by being spent in foreign countries. So, the term "bad money" refers to the overvalued currency and the term "good money," to the undervalued one. Without the government's stipulating an artificial exchange ratio, supply and demand would bring the ratio into proper alignment, thereby eliminating the overvaluation/undervaluation.

Neither the new differently colored dollar bills you refer to nor the Susan B. Anthony coins would fit the definition of "good money" under Gresham's Law. Neither one's disappearance from circulation was due to its being undervalued in the sense of having less purchasing power in the regulated domestic market than in the broader world market.

Post 46

Saturday, March 5, 2011 - 4:59pm

I would ask you, Jim, why is gold at the particular value that it is today?

Because that is the price, in dollars, that supply and demand have driven the price to. That is, considering what goods people can purchase for 1,400 dollars or so, the uses of an ounce of gold is currently subjectively valued by the marketplace as a whole as equal to those commodities priced in dollars at $1,400.

If the value of the productive output of the U.S. populace rose tenfold, and the volume of gold remained constant, the price of gold would likely not rise to $14,000.

If you look at a basket of goods from, say, 1890, and found the market price of those goods in fractions of an ounce of gold, and then looked at an equivalent basket of goods now, what I've read is that the price of those goods in gold hasn't changed much. The price of gold in dollars has soared since 1890 because the dollar has been devalued by government.

To give a concrete example: the price of a ton of potatoes in 1890, measured in gold, is roughly the price of a ton of potatoes in 2011 when measured in gold.

The price of a dollar in 1890 measured in gold, however, was much higher than the price of a dollar in 2011 measured in gold, because a dollar in 1890 is different from a drastically devalued 2011 dollar.

Does that answer your question?

Post 47

Saturday, March 5, 2011 - 5:33pm

Jim:

I put it to you, in addition to the reasons you have mentioned, that a large part of the run-up in the price of gold is that of fear and distrust of governments and gold is the standard of value that people flock to in times of peril. They know that if and when chaos, hyperinflation and anarchy threaten that gold will be able to bribe officials, purchase protection and food and will be the default currency. Whisky, cigarettes, drugs can be exchanged but they are all consumables and can't persist for any length of time.

When the chips are down gold will be the currency of choice.

The price of gold in dollars has soared since 1890 because the dollar has been devalued by government.

Exactly. That just illustrates that gold is the constant, independent of the actions of the government to legally steal the wealth of its citizens.

Sam

Post 48

Saturday, March 5, 2011 - 5:42pm

Bill,

Gresham's law predicted the 'bad' currency of post-1964 American dimes, quarters, and 50-cent pieces driving the pre-1964 currency out of circulation.

"Bad" is percieved by the market place for different reasons - thus those people who saw the Susan B. Anthony coin as 'bad' made it into a 'bad' coin by seeing it that way. People who saw the 1964 quarter as silver and the 1965 as not so much, branded the post-1965 as 'bad'. I'm not saying these are both Gresham's Law - they aren't - I'm saying that they share key principles and that Gresham's law is just one expression of these principles.
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I changed the wording of my first sentence. You see where I started my post saying, "I understand that Gresham's law was formulated with legal tender laws in mind, but it..." I should have been clearer at that point (see my edit), but I thought I was being clear when I said, "I see Gresham's Law as a representation of the principle governing competition between exchange medium given that different monies have differing values both as an exchange medium and as a store of wealth."
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You said, "You're just talking about some forms of currency being more highly valued than others..."

No, I am saying more than that. I'm tying together four things:
1) some currencies being more highly valued than others,
2) currencies are valued for two different things - exchange convenience, and store of wealth,
3) Different currencies are in competition with each other over the relative desirability of the currency for exchange purposes. They are also in competition as a stable long-term store of wealth. The same units being used to different purposes and thus differing values.
4) Gresham's law is a specialized example of the confluence of the preceding three things.
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You wrote, "Neither the new differently colored dollar bills you refer to nor the Susan B. Anthony coins would fit the definition of "good money" under Gresham's Law. Neither one's disappearance from circulation was due to its being undervalued in the sense of having less purchasing power in the regulated domestic market than in the broader world market."

The differently colored dollar bills, and the Susan B. Anthony dollars were the 'bad' money not the 'good.' They had the same denomination and both were under the legal tender act. Those characteristics they share with the competition between different currencies that do meet the definition of Gresham's law. They were shunned and removed from circulation. And that was because people saw them a 'bad' compared to other forms of the same denomination. They are NOT examples of Gresham's law, but they are closely related to Gresham's Law as springing from the same underlying principles.

Post 49

Saturday, March 5, 2011 - 6:15pm

I wrote, "Neither the new differently colored dollar bills you refer to nor the Susan B. Anthony coins would fit the definition of "good money" under Gresham's Law. Neither one's disappearance from circulation was due to its being undervalued in the sense of having less purchasing power in the regulated domestic market than in the broader world market."

Steve replied,

The differently colored dollar bills, and the Susan B. Anthony dollars were the 'bad' money not the 'good.' They had the same denomination and both were under the legal tender act. Those characteristics they share with the competition between different currencies that do meet the definition of Gresham's law. They were shunned and removed from circulation. And that was because people saw them as 'bad' compared to other forms of the same denomination. They are NOT examples of Gresham's law, but they are closely related to Gresham's Law as springing from the same underlying principles.

But under Gresham's Law, it's the good money that's driven from circulation, not the bad. The currencies you're referring to were driven from circulation because they were seen as bad, not because they were seen as good.

Post 50

Saturday, March 5, 2011 - 6:48pm

Bill,

Referring to those examples I wrote, "They are NOT examples of Gresham's law..." Didn't you read that? Maybe you just like to argue. :-)

Post 51

Sunday, March 6, 2011 - 12:22am

Steve,

I was referring to your statement that they are "closely related to Gresham's Law as springing from the same underlying principles"; I don't think they are.

Post 52

Sunday, March 6, 2011 - 4:05am

Bill Dwyer wrote (post 39):

Just to be clear, Gresham's law operates only in the presence of legal tender laws.

I disagree. First, let's be clearer about what "legal tender" means. "Legal tender is a medium of payment allowed by law or recognized by a legal system to be valid for meeting a financial obligation" (Wikipedia).� It usually does not mean payments made other than by legal tender are forbidden. Even if some means of payment are forbidden, such payments may still occur. Personal cheques, credit cards, debit cards and similar non-cash methods of payment are not usually legal tender. Also, U.S. dollars circulate extensively outside the U.S., and�U.S. legal tender laws don't apply there.

So legal tender laws have little or no bearing on Gresham's law broadly stated, which concerns what money will be hoarded and what money will be spent and thus circulate more.

I think there are far better reasons the Canadian Gold Maple Leaf hasn't replaced the U.S. dollar as a circulating currency than the existence of�U.S. legal tender laws.

(Edited by Merlin Jetton on 3/06, 4:37am)

Post 53

Sunday, March 6, 2011 - 6:33am

I don't think its that big of a problem if the government only accepts USD for taxes, fines, etc. The problem is that the government confiscates your backing if you create a backed currency.

Post 54

Sunday, March 6, 2011 - 1:57pm

Merlin:

I think there are far better reasons the Canadian Gold Maple Leaf hasn't replaced the U.S. dollar as a circulating currency than the existence of U.S. legal tender laws.

One of the reasons is that it's not divisible. But generic "gold" is.

It is interesting to speculate on how a transition to a gold based economy would take place. Your cell phone could have a bar code scanner and an app for instant conversion from the posted dollar price to the spot price of gold. Then it would automatically debit your gold account. Technology would make it easy.

Sam

Post 55

Sunday, March 6, 2011 - 2:28pm

It is interesting to speculate on how a transition to a gold based economy would take place. Your cell phone could have a bar code scanner and an app for instant conversion from the posted dollar price to the spot price of gold. Then it would automatically debit your gold account. Technology would make it easy.

Yes, a checking account with a debit card and all deposits automatically converted from dollars to gold would be an interesting development. It seems launching such an account would require an expensive infrastructure. I expect such an account would carry maintenance fees, and there would be no upside since gold doesn't earn interest. That's not to say it couldn't earn interest by the gold bank making loans denominated in gold. How many people would want such an account would also be a concern, and it would take a large number to get those fees down to a tolerable level. Legal problems for trying to operate as a bank might also be significant.

Post 56

Sunday, March 6, 2011 - 3:19pm

Merlin:

We're working from two different premises. You're assuming that there would never be a popular movement for the fed to get out of the control of the economy and it would just relinquish all its influence, assets and power. Ron Paul's efforts would be a big step in that direction and that is what I'm looking forward to.

(Edited by Sam Erica on 3/06, 3:21pm)

Post 57

Sunday, March 6, 2011 - 3:39pm

You're assuming that there would never be a popular movement for the fed to get out of the control of the economy and it would just relinquish all its influence, assets and power.

Your ESP needs repair. I'm not making any assumptions about what might happen decades hence. But I am assuming no stampede in the next few years.

If you want most of your savings in gold, you can do that now fairly cheaply. But a checking account & debit card will not be included.
(Edited by Merlin Jetton on 3/06, 3:56pm)

Post 58

Sunday, March 6, 2011 - 4:07pm

I EXPECT to see a stampede in the next few years - or least the panicky state that usually precedes a stampede. I hope it will go in the direction of implementing the kind of fiscal and monetary changes Ron Paul has called for, but panics are panics and people may go for a much, much bigger dose of the Progressive Hope and Change instead. But I believe that it will be a major changes in the dollar that will kick off the panic (Maybe a large devaluation due to a major, sudden drop in the use of the dollar as the reserve currency, or inflation going past double digits, etc.)

Post 59

Sunday, March 6, 2011 - 7:12pm