Science and technology have produced many wondrous breakthroughs. But there are some things it cannot improve. A kiss from natural lips is still the lover's choice. Baby formula proved no match for the real thing. Ersatz money is a flop too. That last item is not so much a fact as a prediction.
The first modern competition between gold and paper money ended like the pre-modern ones. Gold won. Herewith, a short summary:
A rogue, John Law, was the protagonist of the story. He killed Beau Wilson in a duel. Then, he went on the lam...first to Scotland...then to Amsterdam...and finally to Paris. Like Alan Greenspan or Ben Bernanke, he made himself useful to people in high places - in this case the Duke d'Orleans, who needed money. Law had a way to get it:
"I have discovered the secret of the philosophers' stone," he is said to have remarked, "it is to make gold out of paper."
We need to look no further. Law may have been good with figures; it was at philosophy that he failed. A thing cannot be both one thing and a different thing at the same time. It is either gold. Or it is paper. Rarity and durability give gold value - as money. Paper's most conspicuous properties are just the opposite - it is common...and has a tendency to curl up and blow away.
Law's new, easy money helped France to an economic recovery - or so it seemed. But in the end, the philosophical error caught up with him. Gold has real value. If you can create it at will, why not create more of it? It was just a matter of time before he had created too much. Soon, there was an angry mob outside Law's office on the Rue Quincampoix. People who held his paper gold had come to see it in a different light. Where once they cherished it as paper gold...now they despised it as nothing but paper.
Law's scheme increased France's money supply - including banknotes and shares in his Mississippi company - by 300%. Prices in Paris doubled between 1718 and 1720. Then, when the new money system began to give way, the Duke d'Orleans "cranked up the printing press." By 1721, Law's money was worthless. "Banque" was a dirty word in France for the next 200 years.
The current experiment with paper money began on the 15th of August 1971. Henceforth, said Richard Nixon, foreign countries that wished to exercise their right to trade US dollars for gold could drop dead. From that point forward, the dollar was worth only what someone would give you for it. Philosophers held their breath. But nothing happened. Many have died since, waiting for the dollar to succumb first. Still, the millstones of monetary history may grind slowly, but the more slowly they grind, the more fingers they pinch.
The new paper money standard allowed for a worldwide credit boom - just as in Paris following the establishment of Law's scheme. The US created dollars. Its citizens spent them. The dollars accumulated as reserves all over the world...and every central bank raced to keep up. Soon, the exporters were producing too much. The importers were consuming too much. And there was too much money and credit everywhere.
The Japanese economy was the first to blow up - in 1989. The tech sector on Wall Street was next to go - in 1999. Finally, in 2007, the planet-wide bubble popped. Suddenly, the whole world was Japan. And now, every nation in Christendom, to say nothing of the others, is following Law's example. All issue paper gold - in the form of bills, notes, and bonds - as if they were the Banque Royale. Europe is estimated to need $2.2 trillion in deficit funding this year. America will need at least a trillion more. If the depression deepens, maybe $2 trillion. How long can this go on? Where will it lead?
"There are no means of avoiding the final collapse of a boom brought about by credit expansion," wrote Ludwig von Mises. "The alternative is only whether the crisis should come sooner as a result of voluntary abandonment of further credit expansion, or later as a final and total catastrophe of the currency system involved."
On Tuesday, the S&P rating agency issued a warning. If Japan continues in the direction it is going, it will have Hell to pay. Japan leads the way into the future. And into a monetary minefield. Her current deficit - a record - is more than her tax revenue. And her public debt is nearly 7 times as great. Her feet grow larger.
No natural life survives the lifecycle. And no paper currency standard has ever survived a complete credit cycle. It is just a matter of time until we hear the explosion and see body parts flying.
Regards,
Bill Bonner
for The Daily Reckoning Australia
P.S. to get The Daily Reckoning direct to your inbox sign up to our free e-mail newsletter or if you prefer to use RSS, subscribe to the Daily Reckoning RSS feed.
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About the Author
Best-selling investment author Bill Bonner is the founder and president of Agora Publishing, one of the world's most successful consumer newsletter companies. Owner of both Fleet Street Publications and MoneyWeek magazine in the UK, he is also author of the free daily e-mail The Daily Reckoning.
Comment by Ross on 1 February 2010:
It will now always be later rather than earlier due to contemporary interdependency on capital be it fake or real (if you can pretend and extend) and lack of a practical means of enforcement of terms.
Comment by Tom Sugar on 1 February 2010:
Here's a question...
What is to stop the US Fed printing money to "buy" Japanese debt to help them out?
Then later on the Japanese print some Yen and buy US debt to help them out.
The cycle keeps repeating....
So there is no limit to how much debt each country can have!
Comment by micky mouse on 2 February 2010:
I went and got some of the yellow stuff, but being relatively new to this (investment) caper I now have to admit to having had some jittery moments with regard to the buying and holding of physical gold or gold stocks over the last twelve months. And right now I'm starting to get them again, the notion that when all else fails gold will shine has inspired me at times; and it has made me wonder some darkish thoughts at others.
I sold an investment property 12 months ago, because among some other reasons it also seemed property prices in Australia, (according to the opinions of some investment writers), were bound to blow up (and they most likely will some time sooner or later). However buying gold in Australia at the time was very expensive, but I figure if gold goes US $1,500- $2,000 well that would be nice; but then again if the AUD$ is weak again as it was early in 2009 ...Mmmm. Not really such a great investment.
Ten years ago gold was a great investment, and it still could be right now, but what happens to gold if we have a major correction that breaks through the lows of March 2009. In late 2008 gold got down close to US$700, then came the amazing bull/bear rally that has carried us to here now. I have a number of feelings about where we are headed economically, and one of them is, that a major correction (sooner or later) could very possibly be the beginning of a prolonged deflationary episode and that most likely there would not be an ensuing amazing rally to regain a lot of that lost money and lost golden value as well.......it could be a slow recovery and I'm getting older all the time.
Is it possible that deflation could completely bugger up the value of gold too, there is a great deal of talk about the coming inflation as a result of all this money printing being carried out by the US Fed, the Bank of England et al. Of course all that paper money will not be worth the paper it is printed on and the price of gold will rocket to dizzying heights, I won't have to feel jittery any longer, that would be a good story.
There is a problem with this story though, there is still (according to some reports) somewhere between 50 and 300 Trillion Dollars worth of debts, IOU's and other stuff out there (somewhere) that hasn't been settled yet, wouldn't that be deflationary ? It is a hell of a lot more than the US$ 1 Trillion that Bernanke has printed up lately, I would be really interested to hear a whole lot more about the value of gold in relation to a severely deflationary financial/economic environment going forward.
It is clearly obvious that I am not a great financial mind (what kind of clown would've bought gold in early 2009), but things might be better out here in Disneyland if you could tell me a good story about gold and deflation.
Comment by Lachlan on 2 February 2010:
Don't worry mickey mouse, gold will go up as debt just keeps on piling up. People will likely buy gold at some point because there just isn't anything else to buy that isn't deflating. You could google "moneychanger interview", "john exter", or "liquidity pyramid" for that particular scenario.
I think derivatives exist to the value now of 1.4quadrillion dollars (quote:zero hedge)...see top of liquidity pyramid.
IMO there will come a critical time for gold. It will go through the roof eclipsing most predictions and then in moments it will be too late...all gone and time to buy something else.
Comment by Cameron Clawhammer on 4 February 2010:
Mickey Mouse... I don't think you could've played a better hand! Getting out of real estate 12 months ago at the peak and into gold in a dip!??! Have you seen the gold chart over the past couple of days?
What's your next move? (so I can copy:)
Comment by Ned S on 4 February 2010:
Darn Yeh, I forgot Mickey and his "mate" CC ... Kick arse Lachlan ... You are dealing with the Grub of Ages!!! (He also has a deeply "religious/philosophical" bent if I recall correctly - Was that "Chris"??? Tricked if I can really recall?)
Yap, Yap!
Comment by fred on 6 February 2010:
the nation must will print more paper $ if most developing countries did not want to borrow money to us! and so,people will guess that,most money will put into yellow stuff! so the price of yellow metal must rise!
Comment by Jimmy on 26 February 2010:
Mickey Mouse I share your sentiment and queries (about gold+deflation) - well said. I'm in a similar position, although younger than yourself. The answers of what to buy and when are almost impossible to know, given the myriad factors involved in the modern world. To me there is no question that the gold story will always play out across the decades and centuries. The short-term here-and-now is a lot tricker ... the 'unsoundness' of the current system causes too much confusion - our plastic money is worth both something and nothing at the same time, it is both real (cash/plastic) and virtual (numbers on a computer screen).
The only sense I can find is to say that your chosen store of value must work for you ... and in a sense that is all that matters. My friends in Australia find comfort in their mortgage. My wife feels safe having a few zeros on the bank statement. I am happy to sit and rub a 1 ounce gold coin between my fingers and feel that same glow that others have felt for thousands of years. By the same token, Bonner and crew must buy gold since that is what their world view dictates and they are saturated by it. Unfortunately once the 'is-it-right-for-me' becomes settled, other factors are also at play - it becomes a case of what does everyone else thinks, and what are they doing, and when. So tomorrow's property investment will become todays vineyard investment. Money sitting in the bank will continue to lose its purchasing power if the governments keep creating more dollars. History says Gold will survive - "a man should measure his wealth in ounces", which is effectively putting yourself on the gold standard and at that point you are happy with gold as a store of value. Relative purchasing power becomes another issue but then if the rest of the world were back on the gold standard as well it would be less of an issue. When the world's intertwined paper currencies collapse together we will still need an electronic-supported replacement currency - the only question becomes what it will be backed by. Gold is a good bet, but for all we know the aliens might come down and offer us their currency (watch gold tank). Don't forget too, that people may be stupid enough to gobble up another paper-based currency-replacement if it is sold to them through the mass-media (watch gold tank) which is more or . It's my prediction that gold will continue to gain in strength inexorably this decade like it did in the last, but will never 'spike' again. Your gold will look after your wealth - now go out and look after your happiness.