THE DEBAUCHERY OF CURRENCY - A Bloody History of Money

GOLD IS MONEY

J.P. Morgan once said, “Gold is Money. Everything else is credit.” What prompted J.P. Morgan to differentiate between gold and credit? This concise statement profoundly captures the nature of the modern banking system. These two simple sentences are critically important to the creation and use of Bitcoin.

Gold, because of its unique qualities, has been the one material that is universally accepted in exchange for goods and services for millenia.

For centuries, gold in the form of coins or bullion has played a major role as a global currency and unit of account, or pricing measure. As a store of value, gold began to serve as backing for paper currency systems when they became widespread in the 19th century, and from the 1870s until World War I, the gold standard was the basis for the world’s currencies. Although gold’s official role in the international monetary system had come to an end by the 1970s, the metal remains a highly regarded reserve asset, and approximately 45 percent of all the world’s gold is held by governments and central banks for this purpose. Gold is still accepted by all nations as a medium of exchange for international payment.

WHY GOLD IS MONEY

Of all the naturally occurring elements on earth, which are suitable to meet the four physical criteria of good money? Let’s start with the periodic table of elements. Then by process of elimination, we’ll remove elements that don’t meet every one of the good money criteria. Portability means it can’t be a gas. That eliminates hydrogen and noble gases. It can’t be organic; those things decay and are not durable. Many metals don’t react well with air or water. Iron rusts, pure sodium explodes, and mercury is a liquid. Some materials like asbestos are health hazards, so we can’t have that as money. And many metals like aluminum have good qualities but they are easily obtained (so not scarce). Some metals are too tough or brittle to be easily divisible, like tungsten. Others, like titanium, have a melting point that is too high to be useful for making coins.

When you look at all the possible elements that could meet the criteria for good money, less than ten make the list. These are known as noble metals. Noble metals are metallic elements that show outstanding resistance to chemical attack even at high temperatures. The shortlist of chemically noble metals includes ruthenium (Ru), rhodium (Rh), palladium (Pd), osmium (Os), iridium (Ir), platinum (Pt), gold (Au), and silver (Ag). This classification is called the platinum group.

Some lists also include copper (Cu) and to a lesser extent, nickel. This classification is called the coinage group. Americans will recognize nickel as the name of an actual coin—a 5-cent piece.

Of the four metals in both the coinage group and the palladium group, palladium, and platinum are too rare to be useful to make coins. There isn’t very much of this material on earth, so the cost to obtain it is too high relative to its value as money. Also, the coins would have to be very small. That leaves just gold and silver.

Gold is less abundant than silver. It is more malleable, even at room temperature, and so this makes striking coins much easier. Silver tarnishes, but gold never does. When it comes to making coin money, gold’s characteristics give it a slight advantage over silver; hence it is worth more.

This is why gold has value as money. Its softness makes it divisible, which makes it portable. It meets all four criteria associated with scarcity. It is durable, keeping its quality forever. Its density, which gives it weight, makes it feel like it’s worth more than other metals. It is easily melted into jewelry and re-cast into coins without much heat. It can be stamped or engraved with denominations and names of kings and kingdoms. So unique and valuable is gold that pseudoscientists called alchemists tried for centuries to turn lead into gold. Gold is special because there is nothing else like it on earth. Gold is the oldest form of money that meets all five of these criteria. Not coincidentally, Bitcoin also meets each of these five properties of good money, which is why it is sometimes referred to as “digital gold.” To understand that Bitcoin is money, you must first understand that gold is money.

Gold’s Price Behavior

The continued issuance of government debt can have an impact on the price of gold over time. When governments issue debt, such as Treasury bonds, they essentially borrow money from investors in order to finance their operations or fund various projects. This creates an increase in the overall money supply in the economy. If the increase in money supply is not accompanied by a corresponding increase in economic output, the value of bad money created by debt declines relative to good money like gold. In other words, the price of gold increases since it represents a viable savings vehicle to preserve wealth for the future.

The issuance of government debt debases the national currency, which makes gold more valuable as a store of wealth.

Price Manipulation in the Precious Metals Markets

You’ll notice two bubbles in the price of gold, one in 1980 and another in 2011. Though inflation was abnormally high at the time, it was not the primary cause of the increases. These were periods where prices in the metals markets were manipulated.

In 1980, the Hunt brothers, Nelson Bunker Hunt and William Herbert Hunt, along with other family members, attempted to corner the silver market by accumulating a significant amount of silver futures contracts and physical silver. Their intention was to drive up the price of silver and profit from their holdings. This increased demand for silver spilled over into the gold market as well, under the dubious belief that the prices of gold and silver must maintain a certain price ratio at all times.

Between 2008 and 2016, JPMorgan engaged in a pattern of manipulation in the precious metals markets. Traders would place orders on one side of the market which they never intended to execute, to create a false impression of buy or sell interest that would raise or depress prices.

This manipulative practice, which is designed to create the illusion of demand, or lack thereof, is known as “spoofing.” In 2020, JPMorgan Chase & Co agreed to pay more than $920 million and admitted to wrongdoing to settle federal U.S. market manipulation probes into its trading of metals contracts.

THE GOLD STANDARD

Gold was the most widely used form of money in history. As countries and economic markets matured, they implemented a uniform currency regime known as the gold standard.

The gold standard is a monetary system in which the standard economic unit of account is based on a fixed quantity of gold. The gold standard was widely used in the 19th and early part of the 20th century. The gold standard was originally implemented as a gold specie standard, by the circulation of gold coins. The gold specie standard arose from the widespread acceptance of gold as currency. The US Constitution specifically mandates gold and silver coin as the only acceptable form of currency states could use. That same article prohibited the individual states from making their own specie (but not their own paper money).

After reigning supreme for 5,000 years, gold is no longer significantly used as a medium of exchange anywhere in the world. What happened?

The success of metal money like gold came with a hidden cost. Rulers and governments eventually realized that by slimming down the coins to smaller weights and mixing them with cheaper base metals, they could enrich themselves by circulating debased currency worth less than what people expected. Could you spot the difference between a 4-ounce coin and a 5-ounce coin without a scale or training? Or a solid gold coin and one that was 80% gold and 20% tin? If they both had the King’s face on them and were roughly the same size, you wouldn’t notice.

Neither did the ancients. Governments have been intent on cheapening the value of money for as long as gold has been money.