So says The Sane Investor (http://thesaneinvestor.blogspot.com/) in edited excerpts from an article* which Lorimer Wilson, editor of munKNEE.com (It’s all about Money!), has further edited ([ ]), abridged (…) and reformatted below for the sake of clarity and brevity to ensure a fast and easy read. Please note that this paragraph must be included in any article re-posting to avoid copyright infringement. The article goes on to say:
As an individual investor the recent resurgence of precious metal popularity and their strong relative returns, combined with an economic environment of high uncertainty, no doubt makes precious metals look attractive and a 5-10% or more portfolio allocation in precious metals…seems reasonable or, as some financial pundits would claim, even downright prudent. [Nevertheless,] here are my four reasons why a return to a gold or silver standard in the United States is downright near-impossible.
1. The Great Depression
While still debated by economists, it is believed that one of the major reasons for the Great Depression’s severity and length was a combination of the initial fiscal hawkishness of the Hoover administration and the inability and/or unwillingness of the Federal Reserve to increase the monetary supply.
The rigidity of the monetary supply was largely due to the gold standard in place at the time, and research by economists, including noe Fed Chairman Ben Bernanke has suggested that a good predictor of the length of a depression occurring in an individual country was how quickly it removed itself from a gold or silver standard.
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The events of the Great Depression have created an academic environment almost exclusively against a return to a precious metals backed currency, and thus any national political advances towards a return to a precious metals standard would face considerable headwinds from the academic community.
2. The Fate of the Liberty Dollar
The Liberty Dollar was an alternative currency backed by gold and silver started in 1998 by Bernard von NotHaus. While at one point being utilized by over 250,000 people, the currency was shut down in 2009 largely using US code 486, that states that, except by law, no one may distribute gold, silver or other metals as currency.
Mr. von NotHaus faces 15 years in jail and $250,000 in fines, showing that the federal government is very serious about competition with the dollar in the United States. As Ben Bernanke was a famed scholar of the Great Depression prior to becoming the chairman of the Federal Reserve, it is additionally unlikely the federal government will change its perspective on precious metals as an alternate currency any time soon.
With the precedent of the Liberty Dollar, the rise of a third-party gold or silver backed currency would face considerable headwinds from regulators.
3. Eventually Rising Interest Rates
With exceptionally low interest rates and unprecedented fiscal stimulus and quantitative easing, investors concerned about future inflation might have either looked to Treasury Inflation Protected Securities (TIPS) or commodities. Since five- and 10-year TIPS recently traded with real yields of 0.52% and 0.68%, respectively, and are backed by the federal government, whose profligacy was the cause for concern in the first place, it’s understandable that over the short- to intermediate-term money found its way in to precious metals.
However, as realized inflation continues to come in below estimates set by commodity price movements and more in line with inflation as predicted by the difference in yield between Treasuries and TIPS of equal terms, commodities may face downward selling pressure.
Moreover — as the Federal Reserve begins to raise interest rates in the future — if precious metals continue to trade sideways, investors will likely begin to switch to higher yielding assets like bonds or equities. This may cause a feedback loop where lower prices lead to additional selling.
4. Logistical Impracticalities of Precious Metals
In addition to the theoretical and historical arguments against a re-adoption of a new gold or silver standard, there are practical reasons why such a practice would be inconceivable today. The logistical case against precious metals consists of the following:
- Monetary supply would be in the hands of miners, as the introduction of new money would be dependent on the discovery of more silver or gold in a 100%-backed system. This would allow central bankers and politicians no levers to pull in a financial or economic crisis to increase the monetary supply to fight off deflation.
- The physical size of the markets for precious metals would mean that the value of silver and gold would need to increase many times over to cover the notional value of the USD and all other fiat currencies.
- A gold or silver currency would still require a central holder to issue certificates of deposit or promissory notes of the metal; thus currency holders would still be susceptible to counterparty risk in bankruptcy or economic shock.
- The value of gold and silver is still measured in dollars, and as long as their returns are benchmarked to other assets based upon dollars, the system is no where near leaving fiat currencies.
As many precious metal bulls will attest, the run up in silver and gold has been largely due to investment demand. Unfortunately, investment demand can be fickle and there is no industrial-backed reason why gold or silver should trade higher than they do currently.
Although precious metals-based currencies worked well to create a transparent base of value before the Internet, in today’s globalized economy and interconnected financial system, a currency backed by fixed commodities is unneccessary.
In light of this and the facts laid out above, investors would be highly encouraged to give pause when allocating a portion of their portfolios to precious metals.
- Why America Should Relinquish Reserve Status for its Dollar http://www.munknee.com/2011/04/why-america-should-relinquish-reserve-status-for-its-dollar/
- A Return to the Gold Standard Has Major Shortcomings http://www.munknee.com/2010/11/a-return-to-the-gold-standard-has-major-shortcomings/
- Is There a Viable Alternative to the Dollar as the Reserve Currency? http://www.munknee.com/2010/02/is-there-a-viable-alternative-to-the-dollar/
- The above article consists of reformatted edited excerpts from the original for the sake of brevity, clarity and to ensure a fast and easy read. The author’s views and conclusions are unaltered.
- Permission to reprint in whole or in part is gladly granted, provided full credit is given as per paragraph 2 above.