There are several misconceptions pertaining to gold and the gold market that lead many people to the conclusion that gold is not something they want to hold in their portfolios. One of these misconceptions is that gold doesn’t have very much use value. True, some gold is used in electronic devices, but most of it is stored, hoarded, or turned into jewelry. Investors listen to people like Warren Buffet, who say that we dig up gold just so we can bury it again, and come to the conclusion that they do not want to hold gold in their portfolios.
But such thinking is overly simplistic and misleading. The fact of the matter is that gold’s use value is in its exchange value. While economists tend to differentiate the two when analyzing commodities, doing so is inappropriate for gold. Gold has unique characteristics that make it especially desirable as a medium of exchange. This is why it has been used as such in so many cultures for thousands of years in history.
First, gold’s supply is relatively stable. While most commodities are consumed in industrial production, most of the gold produced is not. Consequently, the supply of other commodities is largely dependent upon their use values in today’s economy, and a shift in the economy such as a technological advance can change the supply-demand fundamentals of commodities. Consider oil as an example. Before cars became ubiquitous, oil had very little use value. While it is true that oil was used in lamps and for lubrication in machinery, the industrial demand for oil was negligible relative to its supply.
Now virtually all of the world’s economic activity involves the use of oil-based fuels in some way. Given that oil is burned and therefore unrecoverable, a small increase in economic activity can create a shortage, while a small decrease in economic activity can create a glut. Furthermore, if a more efficient form of energy is discovered and/or harnessed so that it can replace oil as a dominant global energy source, the use value of oil will plummet to virtually zero.
But gold’s supply is relatively stable, and a technological advance will not change this unless it is alchemy. Over the past 100 years, the supply of gold is up just sixfold, or about 1.8 percent annually. This is extremely stable and makes gold an excellent store of value. By comparison, fiat currencies are not good stores of value historically. For instance, the monetary base in the U. S. is rising at $65 billion per month, which is more than 1.5 percent, which means that the supply of dollars is rising almost as much in a month as the supply of gold rises in a year.
While having a stable supply doesn’t make gold a great investment, it does make it something desirable to hold when other assets such as stocks or bonds become expensive.
In addition to gold’s stable supply, it has other qualities that make it especially suitable as a form of money or as a store of value. For instance, it is very easy to store. It is not destroyed easily, and one can store an enormous amount of wealth using gold in an incredibly small amount of space. With gold trading at $1,320 per troy ounce (one troy ounce is 1.097 ounces), one needs just 52 pounds of it to store $1 million in wealth. If we compare this to copper, 52 pounds of copper is worth just $170.
Gold also has other monetary qualities. For instance, it is fungible. This cannot be said about many other commodities, especially if they aren’t metals. Every bushel of corn is different from every other. So is every cow or the oil found in different wells. Gold, along with other metals, is also divisible. One can buy extremely small amounts of gold. At the retail level, one can even buy grains of gold (one grain is 1/15 of a gram).
Ultimately we have seen many qualities that make gold especially desirable as a form of money and as a store of value. True, each quality discussed is attributable to other commodities with the possible exception of stable supply. But only gold has them all.
This doesn’t make gold a “good investment.” Rather, it means that gold is something to hold when there aren’t many investment opportunities. With stocks and bonds trading at historically high valuations, it follows not only that these are not great investments (although I wouldn’t avoid them altogether), but that gold is worth holding in this market environment.
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