Gold Unleashed!

I have received a lot of email regarding my November 27th post on Real Money. Specifically, the correspondence was divided into two camps. One was arguing that the price of gold is strongly inflated due to the falling value of the United States Dollar. The other was vehemently professing that the soaring demand from countries like China and India played a major factor.

Both factions are correct, to an extent. The nature of gold, as stated previously,  is that it has intrinsic value that no treasury in the world can devalue. As such, it is highly desirable at the moment by countries and individuals who don't value paper currency on the same level.

With the treasury printing presses in the US and Europe set ready to greatly devalue the dollar and the euro, the one asset governments cannot devalue is thrust into limelight. Relative of these currencies, gold will retain its value.

However without buying or selling of the gold itself, its price would remain the same regardless of where the dollar goes. It is the actual volume of gold purchases that drives up the price (demand).

So to answer my readers - you are both right. The falling value of the dollar is providing the motivation for countries and individuals holding the dollar to convert it into another asset that is more stable - gold. These purchases drive the demand and, subsequently, the price up.

The recent Federal Reserve intention to provide more liquidity only means that our government is ready to do more of the same. They will continue printing tonnes of money, hoping to devalue their debt and your savings. This should provide sufficient and significant additiinal motivation for countries and individuals holding dollars to convert them to gold.

Caveat: The worsening situation in Europe may provide a temporary flight toward the US Dollar as a perceived safety asset. During this time you may see some institutions and individuals sell gold for dollars. As a result, the price of gold and precious metals may fall to an extent. However, in my mind the safety in the US Dollar is a false perception and this boom will not last long. Therefore, I will use this period of Dollar's strength (and precious metals' fall in price) to purchase gold and silver.

There are many ways in which you may own gold. Bullion, coins, stocks, ETFs - it is up to you. Just remember that there are no guarantees in life and weigh risk/reward carefully.

"Real Money"

One thing that people often can't seem to accurately grasp, due to years and years of indoctrination, is the concept of what real money means. Nowhere is this lack of grasp more evident than the United States of America. The reasons for this syndrome is years, decades and over a century of dollar dominance.

The truth, which people seem to forget is that every dollar in your pocket is a government-issued currency, backed by the faith of that government. If the government can no longer substantiate the value of the dollar, the paper currency you carry in your pocket, and in all of your accounts, is just that - paper. Not even worth the paper it is printed on.

If the government cuts on its revenue collection, it will have less money in the budget. Government currently spends wildly on elected officials and provides a slew of entitlements (corporate and individual); which forces the Treasury and the Federal Reserve to engage in printing money to cover these expenses. Sounds great, doesn't it? Until you realize that every time money printing occurs, they amount of paper money you have is being devalued.

Over the course of the past three years, since 2008, the United States Treasury has tripled (3x) the amount of  United States dollars in existence. As a result, every dollar in your pocket should now (2011) be worth one third (33%) of what it did in 2008. So how come the prices in most cases didn't increase threefold?

The reason being is that our economy has actually contracted over the course of the past three years. We haven't experienced real economic growth in over three years. We have actually suffered deflation during this period in time. The Federal Reserve officially engaged in Quantitative Easing (printing money) in order to "kick-start" the economy, when in fact the chairman of the Federal Reserve was attempting to prevent a natural, albeit painful, free market correction - deflation.

In a period of deflation, prices and salaries fall resulting in the increase of the dollar's value. Therefore as the Federal Reserve was helping the Treasury print money, the prices and salaries didn't skyrocket threefold, because the economy was suffering a period of deflation.

People who understand this gradual devaluation of the dollar have already rushed to purchase hard assets, whose value isn't dependent on the faith of the United States government. We are talking about foreign property, precious metals (gold, silver), and other things whose value is stable and not dependent on the dollar.

Gold, Silver are "Real Money", because unlike the dollar, their value does not depend upon the United States government, nor any other authority. These precious metals carry value in themselves. In a way the value of Gold and Silver do not change - their pricing in terms of US Dollar changes due to the change of the value of the dollar.

The skyrocketing price of Gold and Silver is a reflection on people's (and governments') speculation on the lack of value of the US Dollar. More individuals are acquiring gold as a safety net against inflation. But it's not just individuals who are acquiring Gold and Silver. China, and the entire Asian region, is buying gold in bulk. Chinese, who own the vast majority of US debt, have a reason to be concerned about the plummeting value of the dollar.

Therefore, they're trading in dollars into "Real Money". What's right for you? Only you can make that decision.