By Louis Golino | CoinWeek.com | Jul. 16, 2012
Traditionally the notion of some new kind of gold standard is an idea that has appealed mainly to conservatives concerned about having a sound currency that does not lose its value over time to inflation.
It was not long ago that any discussion of a new gold standard was considered kooky by most economists, and that is still largely the case, as seen, for example, in the views of prominent economist Nouriel Roubini, who famously predicted 2008 economic crisis. Mr. Roubini, who is also known as Dr. Doom for his pessimistic perspective, strongly opposes any notion of a new gold-backed currency.
But as the global economic crisis becomes more intractable, and virtually every other asset class except gold has declined in value in the last five years, gold has emerged as more than anything an alternative to the world’s leading currencies.
Increasingly even some mainstream economic and financial experts are starting to wonder if gold might have some kind of role to play in stabilizing the global financial system.
As James Rickards of Tangent Capital explains in his book, Currency Wars, economists and central bankers have not traditionally taken gold seriously. That has started to change, especially with respect to central bankers, particularly if one watches what they do rather than paying too much attention what they say. They may dismiss gold publicly, but they have been quietly amassing hoards of it at the same time.
Two important trends underlie the renewed interest in gold all over the world, and they may provide the eventual underpinnings of some kind of gold-backed reserve currency.
The first key trend is that, as Peter Schiff, CEO of Euro Pacific Precious Metals, wrote recently in www.goldseek.com, “The return of gold is unmistakably the product of a strategic, not merely a tactical, shift in global banking policy.” In particular, central banks around the world stopped selling gold years ago, and they have been buying up large amounts of it in recent years, especially in the developing world.
Ironically, as Mr. Schiff explains, Western governments in the U.S. and Europe have a larger share of their financial reserves in gold than anyone else. The central banks of the U.S. and Europe have respectively 75 and 64 percent of their assets in gold, while emerging market banks have only 20%, but they are playing catch-up.
One of the drivers of higher gold prices in the future will be the continuing desire of central bankers in the developing world to diversify their assets by increasing their gold reserves.
The trend towards gold accumulation by central banks in the developing world is an especially noteworthy development. Those banks increasingly are seeking to diversity their assets away from the U.S. dollar and the more they grow economically, the more gold they are expected to acquire. They already account for about 60% of global demand for gold.
The other important development is the reclassification of gold as a tier 1, or non-risk asset for banks, which is very bullish for gold, and which could help lay the groundwork for an eventual gold-backed reserve currency.
The trends discussed above are helping to give gold a large role in the global monetary system, and in the monetary policies of countries all over the world.
There is definitely no guarantee of new gold price records, or a precious metal-backed currency, or of the systemic financial collapse many people seem to feel is all but certain to occur.
And while it is true the U.S. dollar is likely to lose purchasing power over the coming years, it may be quite a while before the dollar loses its reserve currency status. When it does, it is unlikely to be replaced by the yen, which is not yet widely used enough, or the euro, which is far too weak. It is more likely to be replaced by some kind of new reserve currency that is backed by gold or gold and silver.
A new global reserve currency based on gold could help produce the global monetary stability the world urgently needs, but it will probably take a decade or longer to be implemented.
At the moment according to Barry Elias in a June 21 piece in Market Oracle (www.marketoracle.com), the global gold market is approximately $8.5 trillion, and the global money supply is $26 trillion. That means that gold would need to increase threefold to about $4800 an ounce over the coming years in order to have a stable global monetary regime backed by the yellow metal that would be designed to protect purchasing power and keep a lid on inflation.
Some people seem to confuse a new gold standard with a gold-backed reserve currency. They are related, but are not the same. A new gold standard may not be workable or likely because there is probably not enough gold to use it as currency, depending on how it is valued. And there are questions about how the money supply would be contracted or expanded when that is necessary. For those reasons I remain skeptical of a new gold standard.
But given the major moves in the last couple years by central banks to shore up their gold reserves, and the change in banking regulations that gives commercial banks a lot of incentive to own more gold, we can already see the groundwork for a gold reserve currency. Just don’t expect it to happen overnight.