Gold Bubble?

I thought I'd share part of an email exchange I've been having with a friend over the last few years concerning both the price of gold and the $A. I've been long both for several years now. Anyway, this was his email, followed by my response. Note that this was back when the $AUD/USD was at 0.80 and gold under US$1000 / ounce:

There's a real market for gold based on production supply and demand from people who use it in manufacturing etc. This market has valued it at roughly $300-$400/oz for the last 10 years. (Obviously there's always been speculators and investors as well but they haven't affected the price to the extent they are now). The demand for gold that has pushed the price so high has been people buying gold for gold's sake, for whatever reason - hedging against inflation or whatever. But, there's going to come a point where people no longer want their money tied up in an investment that generates no earnings and doesn't pay any interest. The moment there's a better place for investors to deploy their capital, gold is going to get dumped. 

It's not going to happen anytime soon, but 12 to 18 months from now I predict gold is going to start quickly dropping back to its historical average price just like housing did in the US.

And my response:

We'll see I guess, but I suspect you're wrong. 

Gold is money; it has been used as such since the dawn of time. The development of what people use as a currency goes right back to the barter economy. A person would swap 3 chickens for a sheep, etc. Eventually, there comes a time when a particular commodity which has a demand/market in its own right (which is also its scarce, durable, divisible, etc) is used by people not only to trade for other goods, but used in anticipation of being able to be used for future transactions. I could sell you 3 chicken for a gold coin even though I don't personally want the gold coin for any manufacturing or aesthetic purpose, but because gold coins are demanded by lots of other people who I may want to buy thing off in the future. Eventually you get to a critical mass and that commodity becomes the means of exchange throughout an economy. Money is born... 

Its for this reason that nearly all currencies started off as measures of weight, not as an intrinsic measure of value in their own right. Pounds Sterling was literally one pound of sterling silver. "Franc", "dollar"  and "mark" all have similar origins. Interestingly, as of today, the current value of a British Pound is about 1/228th of a pound of sterling silver, which merely goes to show the effects of hundreds of years of continual debasement. 

Anyway, people eventually realised that paper or coins that were controlled by a central bank that represented a value of precious metal would be much easier to use rather than lugging around the precious metals themselves. And so it was for an extended period of time. Then, some governments decided to create completely fiat money, money that had no intrinsic base to it and was merely printed by the government (this was usually used as a way of deliberating inflating their way out of debt such as in the Weimar republic in Germany). 

Fiat money is in an of itself only valuable because society as a whole accepts it as a means of exchange. Unfortunately, giving government the power to print its own money to pay for whatever it wants creates a huge incentive for abuse. Inevitably, governments use the money supply as a way of taxing individuals through inflation. The productive capacity of an economy is (over the very short-run) fixed, but by printing more money, the government is able to buy more of that output as a greater share of the total money supply would be under its control. Obviously, more money chasing the same level of goods creates inflation, which in turn reduces the value of the money held by all individuals (hence the "inflation tax"). 

Anyway, in the early 1970's, after the collapse of the Breton Woods system, the US government got rid of the gold standard and introduced completely fiat money. This is fine, so long as they don't abuse the immense power at their hands. But alas, that brings us to the current day. Politicians are able to create huge liabilities either through outright borrowing or by creating entitlement programs that agree to pay people large pensions or other benefits in the future. Obviously, the politicians who create these liabilities in order to get voted in are long gone by the time that the liabilities themselves fall due. The current US government debt is close to 100% of GDP, but including the present value of future unfunded social security, Medicare and Obamacare liabilities, the number is many, many times higher than this. There is no way that the US government can possibly ever repay this money. Ever. The interest payments on the debt alone are projected to be more than 20% of GDP within several decades. 

There are three options available to them: 

i) Renege on the entitlement promises 

ii) Default on your debt

iii) Inflate your way out of debt by printing more money 

Now ii) is unlikely, and there is a chance that there will be some movements on i), but ultimately, the US government will resort to iii). And it already is. That's what is politely referred to as "Quantitative Easing". The US government is engaging in hundreds of billions of dollars worth of quantitative easing, and has been for over a year.This is happening at precisely the same time that it is racking up debt at ever increasing levels (the current budget deficit alone is more than 10% of GDP). And this is going on well before the real debt of the unfunded pension liabilities starts to hit. 

The US government will debase their currency into oblivion over the next few decades. But they can't debase gold. Gold is money, it has always been used as such. It is an alternative currency. And that's why the gold price is hitting a new record high every other day. Whilst is has some purposes in manufacturing, etc, it is not an investment, per se, it is money itself. And it is the only way that people can protect themselves from the coming hyper-inflation in the US. 

That's why I think you'll see it hit US$1500 /oz by 2012 and US$3000 / oz this decade. That's also why you'll see the US$ continue to collapse.

18 months later, and I could agree with myself more. Now the AUD/USD is over 1.07 and gold is over US$1500 / oz. I have been long gold since it was US$600 / oz. 

Why They Fought

Says it all, really...

Idiocy of the Day

Those genii at GetUp have decided to stage a protest against the laws of supply and demand:

Prosper Australia, a little-known group which supports tax reform on land, has ignited a small but growing online push calling for a "buyers' strike" to protest against the high cost of housing. 

“I undertake not to bid at auction or negotiate by private treaty to buy real estate until prices moderate, just as they have in all the countries we compare ourselves to,” the Prosper pledge states on its website.

What's next, a protest against gravity? And whom, precisely, are they protesting against?

Theses idiots are protesting against the outcome (high property prices) without protesting against the cause, which is government regulation.

Why aren't they protesting against the hundreds of millions of dollars in subsidies to first home owners that have been poured into the housing market by successive Australian governments? These policies, aimed at promoting housing affordability, have instead been the single greatest cause of the reduction in housing afforability even seen in Australia.

Why aren't they protesting against state goverments for restricting the supply of new houses through draconian planning laws? What about the tax laws which incentivise investment in property and penalise other forms of savings and investment?  What about protesting against the RBA, who set interest rates instead of allowing supply and demand to set the cost of borrowing and the return on saving?

These are the real causes of the property bubble in Australia. And don't get me wrong, a bubble it is. A bubble that is going to end very, very badly for property owners and for the Australian economy as a whole.

Something for Nothing...

Speak to any leftist for any length of time, and you'll surely come across concept of the necessity for some good or service to be provided "free" to some segment of the population. 

Dig a little deeper, and you'll probably make a remarkable discovery; the aforementioned speaker actually believes that it is indeed free, as if resources somehow fell from the sky as if manna from heaven. 

If there is one immutable law of economics it is this: Nothing is free. Not Ever. Somewhere, someone pays for it.

What the collectivist is actually saying is that they want a good or service to be paid for entirely through tax receipts, where the end recipient of the good or service bears no individual cost per unit consumed.

The great French economist Frederic Bastiat said it best when he said: 

Government is that great fiction through which everybody endeavors to live at the expense of everyone else. 

Not only is the acclamation of "free" healthcare or "free" education completely misleading, it is actually almost exactly wrong. Services provided by the government, far from being free, are actually much more expensive than comparable services produced by the private sector.

This clip from Thomas Sowell sums it up rather nicely... 

If you only watch one video about the causes of the GFC....

....watch this one. And it was recorded in 2006.

Taxpayer Funded Religious Indoctrination

This is a disgrace.

THE Victorian Education Department is forcing public primary schools to run Christian education classes taught by volunteers, angering parents and schools that do not want to host them. 

An email exchange, obtained by the Sunday Age, reveals the department told one parent that his school ''must'' keep its Christian religious instructor whether it wanted to or not. 

A number of Melbourne primary schools have questioned whether students should be taught about Christianity. But the department and Christian religious education provider Access Ministries says they have no choice.

That's right. I, as a taxpayer, am forced to fund the teaching of bronze-age superstition to public school students. Believe whatever you want, teach your kids whatever you want at home, but don't you fcking dare force this into public schools at the expense of a lesson about maths, English or science.

This makes my blood boil. If I lived in society that actually valued individual rights and had a Constitution predicated on their protection (like the US, this would be thrown out on the grounds of it being a clear violation of the separation between church and state in about 10 seconds. Alas, I live in Australian, with no Bill of Rights and a Constitution about as strong as a Kennedy's willpower at an open bar.

Here is a link to the Humanist Society website that has been setup to fight this insanity.

The Broken Window Fallacy

Of all the idiocy that passes for economic commentary in today's media, few things bug me more than the perennial assertions that natural disasters can act as a fillip for economic activity through forcing resources to be allocated to reconstruction efforts. Here's an example from the Financial Times.

In the longer term, the earthquake is certain to force heavy spending on construction and public works in the affected region....

By forcing households and businesses to dip into their savings to finance reconstruction, the disaster is likely to support economic growth in the later months of this year. 

Japan’s construction sector has been badly squeezed by efforts by the ruling Democratic party to shift spending “from concrete to people”, cutting public works budgets in favour of child allowances and more generous welfare. Much concrete will now be needed in the northeastern prefectures, providing a boost to hard-pressed contractors.

We've heard similar comments recently about the floods in Queensland and the destruction caused by cyclone Yasi. Commentators always fall for what is referred to as "The Broken Window Fallacy". 

The Broken Window Fallacy goes a little like this; if you break a window, you have to allocate some resources to get it fixed. Someone has to buy the necessary supplies and then exert time and effort to make a new window, someone else has to install it (creating jobs!!), and the income they receive from this is then spent on something else, which in turn triggers a Keynesian pattern of spending and re-spending which increases activity throughout the whole economy. 

What's the flaw with this logic? Well, it just doesn't make any sense. It looks at the activity that they can see (the new window), but ignores the activity that would have been generated had those resources been allocated elsewhere. If I didn't have to waste my resources to purchase the new window, I could have bought more capital equipment, or gone out for dinner, or participated in any other activity, all of which would have generated more utility to me than wasting it on fixing something had it never been broken. 

You see the same fallacy come up when discussing the jobs that government "creates". Governments cannot create jobs; they only destroy them. Every job that government "creates", it does so by forcibly taking resources from the private sector, destroying efficient jobs driven by real market demand, and reallocating them to whatever government program that politicians or the special interest groups that support them want. John Stossel recently had a segment on this concept relating to Obama's green job's initiatives. 

At the end of the day, natural disasters destroy resources; they destroy capital equipment, and they force huge re-allocations in future spending patterns to recreate the stores of capital that used to exist anyway. This is a disaster for any economy.