Gold
Why Now?
What is Money?
It sounds like a simple question with a simple answer.
In the spirit of The Matrix:
"You take the blue pill, the story ends. You wake up in your bed and believe whatever you want to believe. You take the red pill, you stay in Wonderland, and I show you how deep the rabbit hole goes."
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Let us first start off with a definition of money and then we will cover the characteristics of money.
Money is a Ledger
At its core, money is fundamentally a ledger. A ledger is a summary of transactions used to keep track of who owns what.
The earliest known written ledgers, dating back over 5,000 years to ancient Mesopotamia, were clay tablets used to track commodities, marking the first known instances of humans writing down lists of ownership, credit, or transactions.
Even before writing, ledgers existed in memory and oral form, implicitly maintained whenever someone owed something to another.
There are two competing ledger systems:
The Commodity Theory of Money where money naturally arises from a salable commodity to overcome barter inefficiencies.
The Credit Theory of Money where credit is fundamental and money arises from debt obligations within a social structure.
Both theories describe ways to maintain a ledger, but with different "maintainers of the ledger".
The Credit Theory: Ledgers are maintained by humans, either informally within small, trusted groups (kinship, friendship, honor) or formally by a centralized administrative state and the rule of law for larger groups (like banks). These human-controlled ledgers are historically prone to long-term degradation, defaults, and devaluations.
The Commodity Theory: Humans utilize a "trust-minimized" method by allowing nature and its physical laws to maintain the ledger. Physical exchange of highly salable commodities settles the ledger on the spot, and no human authority can debase the money by mere decree.
The choice between these systems often depends on the prevailing level of societal trust.
High-trust environments favor convenient and efficient human-administered credit systems.
Low-trust environments (e.g., between strangers or after financial system failures) lead people to rely on trust-minimized commodity monies for their payments and savings, despite potential inconveniences.
Ok so it is a ledger system but what is the need that drives it?
It is a Facilitator of Trade
Money emerged naturally to address the inefficiency of barter, specifically the "double coincidence of wants”. For example, if you have cows and want fish what are the odds of finding someone who wants cows and has fish and BOTH of you meet up and happen to have a double coincidence of what each other want?
Thus, money is a solution by providing a medium of exchange and a widely accepted accounting unit for storing and exchanging value, especially with strangers or in larger populations. It makes all other economic transactions more efficient.
Now that we have identified what money is i.e. a ledger and its purpose is to facilitate trade we can now discuss the different characteristics by which we measure the quality of money.
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Characteristics of Good Money
Money should be evaluated based on several ideal properties.
Divisibility
The capacity of money to be broken down into smaller units, suitable for transactions of varying sizes.
Historical Example (Gold): Gold's main weakness as a sole form of money was its limited divisibility, often requiring the parallel use of silver coins for smaller, everyday transactions. Early U.S. monetary policy, such as the Coinage Act of 1792, established a tri-metallic decimal system that designated gold for larger denominations ($10 Eagle) and silver for smaller ones ($1 Dollar) to address this challenge. The advent of banking systems and paper banknotes significantly enhanced gold's effective divisibility by allowing paper claims representing various denominations of gold to circulate.
Modern Example (USD Fiat): The USD, as a fiat currency, is highly divisible into numerous denominations of physical banknotes (e.g., pennies, dollars) and digital ledger entries. Its divisibility allows for transactions ranging from micro-payments to vast sums in the digital realm.
Portability
The ease with which money can be transported over distances, implying that it must condense significant value into a manageable weight or form.
Historical Example (Gold & Shells): Shells, especially when made into wearable jewelry, offered good portability as they didn't require being carried in hands. Gold, due to its high density and value-to-size/weight ratio, has historically been highly portable for large sums, making it suitable for central bank reserves and for individuals transporting wealth. In contrast, Yap's enormous rai stones, weighing thousands of pounds, were rarely physically moved, serving more as a localized ledger than a portable medium of exchange.
Modern Example (USD Fiat): Physical USD Fiat is highly portable and widely accepted globally for physical transactions. Digitally, fiat currencies are even more portable, moving as electronic ledger entries across vast distances instantaneously through telecommunication systems, making large-value transfers effortless.
Durability
The capacity of money to endure over time without degrading through rot, rust, or breakage.
Historical Example (Gold & Shells): Gold is exceptionally durable; it is chemically inert, does not rot, rust, or corrode, and can be remelted repeatedly, making it practically indestructible for long-term storage of value. Shells also proved to be long-lasting and durable forms of early money. Conversely, feathers were considered "not very durable".
Modern Example (USD Fiat): Physical fiat currency, like paper banknotes, is not inherently as durable as gold and degrades with physical use, requiring replacement by mints. While digital fiat currency itself doesn't physically degrade, its purchasing power has historically degraded over time due to inflation and the expansion of the money supply by central authorities.
Fungibility
The quality that ensures individual units of money are identical and interchangeable, meaning one unit is as valuable as any other unit of the same denomination.
Historical Example (Tobacco & Cocoa): Cocoa beans were relatively fungible. However, tobacco, used as money in the early 1600s in Virginia, was not perfectly fungible due to quality differences, leading to issues where lower quality tobacco would circulate while higher quality was hoarded. Minting precious metal coins aimed to standardize units and improve their fungibility, though debasement by rulers could compromise this over time, making purer coins less fungible with debased ones.
Modern Example (USD Fiat): The USD Fiat and other fiats, are designed to be perfectly fungible. One USD Fiat is interchangeable with another, whether in physical or digital form, and bank reserves held at the US Central Bank are also fungible.
Verifiability
The ease with which a recipient can confirm that the money is genuine and valid.
Historical Example (Coinage): The minting of precious metal coins by recognized authorities, with standardized size, weight, and fineness, significantly enhanced verifiability and facilitated commerce. Features like an emperor's face stamped on a coin or ridges on its edges helped prevent shaving of the metal and provided a degree of assurance regarding its quality and content.
Modern Example (USD Fiat): For physical fiat, security features like watermarks and special inks aid in verification, though counterfeiting remains a concern. For digital fiat (bank balances), verification relies on the centralized ledger systems of banks and central banks, which maintain and reconcile account balances. Central Bank Digital Currencies (CBDCs) are designed to provide central banks with "absolute control" and "technology to enforce" rules, allowing for easy verification and tracking of all transactions by the issuer.
Scarcity
The characteristic that the money supply does not increase rapidly. This is often the decisive factor between competing commodity monies and is best measured by the stock-to-flow ratio (existing supply relative to new annual supply).
Historical Example (Gold & Commodities): Gold has the highest stock-to-flow ratio among commodities, typically around 50x or above, with its above-ground supply increasing by approximately 1.5% per year. This inherent scarcity makes its value resistant to rapid debasement. Conversely, various forms of money like shell money, tobacco, cocoa, and rai stones eventually failed as money when technological advancements allowed their supply to be rapidly expanded, breaking their scarcity.
Modern Example (USD Fiat): Fiat currencies, such as the USD, are not naturally scarce. Their supply can be rapidly expanded by central banks, commercial banks, and governments "out of thin air". The U.S. broad money supply has grown at an annualized rate of around 7% since 1960, indicating continuous debasement. This flexibility is often used to smooth out economic volatility or finance government spending without direct taxation.
Utility
The money is intrinsically desirable in some way, serving a purpose beyond its monetary function, such as for consumption or aesthetic value.
Historical Example (Shells, Cocoa, Rai Stones): Shells and gold had aesthetic utility as ornamentation or wearable wealth, providing "intrinsic desirability". Cocoa beans had the utility of taste. Rai stones, while not consumable, were primarily aesthetic, serving to display and record wealth.
Modern Example (USD Fiat): Modern fiat currency generally offers no intrinsic utility; it is not consumable and not directly redeemable for anything else that offers utility. Its utility is derived solely from its widespread acceptance as legal tender within a jurisdiction and its foundational role within the established financial system.
Recent Historical Considerations
The shift from commodity-backed money (like gold) to fiat currency was significantly influenced by technological developments, particularly the rise of telecommunication systems. This created a "speed gap" where fast transactions could outpace slow physical settlements of gold, giving centralized banks and governments immense power over monetary ledgers. This power has historically been used to expand the money supply, financing wars and other government expenses by diluting citizens' savings in a non-transparent way.
Remember, if the Sovereign wants to increase/change spending for whatever reason the choices are some combination of the following:
1-Direct Taxation (relatively transparent). Often unpopular and a last choice of the Sovereign.
2-Borrowing (relatively transparent). Often popular and 1st/2nd choice of the Sovereign if Mr. Bond Market permits it.
3-Creating New Money (relatively opaque). Often popular and 1st/2nd choice of the Sovereign since it is done opaquely and its downsides are not immediately felt since “no one” is immediately feeling pain.
4-Spend Less On Something Else (relatively transparent). Often unpopular and a last choice of the Sovereign since some interest group(s) will lose out on benefits.
Never forget the following:
“We all know what to do, we just don’t know how to get re-elected after we’ve done it.”
With all that said, let us see how gold scores under this “characteristics of good money” framework.
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How Good is Gold at Being Money?
Gold excels across most attributes considered ideal for money:
Divisible: While historically limited in divisibility, requiring silver for smaller transactions, banking systems and paper banknotes enhanced gold's effective divisibility.
Portable: It packs a lot of value into a small weight, making it easy to move across distances, especially in physical form (coins, jewelry).
Durable: Gold is highly resistant to decay, rust, or breakage, making it easy to preserve purchasing power across time.
Fungible: Individual units of gold do not differ significantly from each other; one is as good as any other.
Verifiable: With coinage, widely recognized authorities could standardize units in terms of size, weight, and fineness, adding a degree of verifiability.
Scarce: Its high stock-to-flow ratio ensures its supply does not increase quickly, which is crucial for maintaining its value. Moreover, gold serves as "nature's decentralized ledger," meaning no human or group controls its supply or can easily "cheat" by flooding the market with it. This scarcity makes it highly resistant to debasement, unlike fiat currencies which can be expanded at will by issuers. Its long-term value is subject to the firm laws of nature, rather than the fallibility of mankind.
Salable: Gold is considered the "most salable good" in a society, meaning it's universally desired and can reliably be traded for other goods or services, enabling value to be transported across both space and time. Its liquidity, or widespread acceptance and holding, contributes to its salability.
Additional Considerations
Monetary Premium: Gold carries a significant monetary premium, an additional value above its pure utility, because many people hold it as a form of savings. Only assets highly resistant to increases in supply relative to existing supply can sustain this premium over the long run.
Commodity Ledger System: As a commodity money, physical gold represents final settlement, where its value does not depend on memory or the promises of a centralized entity. It provides a trust-minimized method of maintaining a ledger, where physical exchange settles transactions on the spot between non-trusted parties. This makes it useful in times of low societal trust or war.
Time Tested: Gold outcompeted all other commodity monies throughout history, reaching the modern era as usable money because it could maintain high enough stock-to-flow ratios against advancements in human technology.
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In essence, gold's value as a store of wealth stems from its inherent, natural scarcity and durability, making it a reliable hedge against the debasement of human-managed fiat currencies. While it has lost its role as a primary medium of exchange due to technological advancements favoring faster digital transactions, it retains its importance as a foundational reserve asset for central banks and a physical hedge for individuals seeking self-custody and long-term value preservation.
The information in this document is provided in good faith without any warranty and is intended for the recipient’s background information only. It does not constitute investment advice, recommendation, or an offer of any services or products for sale and is not intended to provide a sufficient basis on which to make an investment decision. It is the responsibility of any persons wishing to make a purchase to inform themselves of and observe all applicable laws and regulations.