Gold, Politics and Inflation

Hubert Moolman
Nov 28, 2008

Highlights

Real inflation in South Africa is an average of 68% per annum over the last 3 years.

We have been having hyperinflation for a while now.

What does gold have to do with inflation and politics? The answer is simple: EVERYTHING. The following quote from a 1966 article sums it up best:

"In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. (emphasis added) There is no safe store of value. Under a gold standard, the amount of credit that an economy can support is determined by the economy's tangible assets, since every credit instrument is ultimately a claim on some tangible asset. But government bonds are not backed by tangible wealth, only by the government's promise to pay out of future tax revenues, and cannot easily be absorbed by the financial markets. A large volume of new government bonds can be sold to the public only at progressively higher interest rates. Thus, government deficit spending under a gold standard is severely limited. The abandonment of the gold standard made it possible for the welfare statists to use the banking system as a means to an unlimited expansion of credit"
-Alan Greenspan [You can read the article here.]

What Mr Greenspan was in fact saying is that there is for us (the whole world) today no way of protecting our savings/wealth from government confiscation. This is so because the whole world is off the gold standard. That was when the USA abandoned the gold standard in 1971.

What is inflation in reality? It is the loss of buying power of the money we use. Where does the lost buying power go? Let me explain in simple terms. In fact let Mr Greenspan instead explain. After all, he not only wrote about this in 1966 but also executed it to perfection during his time as Chairman of the US Federal Reserve.

"Thus the earnings saved by the productive members of the society lose value in terms of goods.When the economy's books are finally balanced, one finds that this loss in value represents the goods purchased by the government for welfare or other purposes with the money proceeds of the government bonds financed by bank credit expansion."

Is the official reported inflation figure or loss of buying power accurate? Let us see:

The official cumulative inflation rate in SA from 1 Oct 2005 to 1 Oct 2008 was 24.82%. Now instead of testing the accuracy of this figure by re-calculating it using the official calculation, I will instead use Mr Greenpan's simple but accurate "definition".

Mr Greenspan says that with the absence of the gold standard there is no way to protect savings from inflation. So, I deduce that he is saying that the inflation (rate) is the difference between what goods would cost if we were on the gold standard as supposed to using fiat money(not backed by gold) as we use today.

Mr Greenspan's "definition" for real inflation makes checking the official figure, for accuracy and honesty, very easy.

I will simply calculate the difference in buying power from 2005 to 2008 between using gold as money as suppose to using rands as money. That difference would then represent loss of buying power as explained by Mr Greenspan.

So at the official inflation rate of 24.82%, a certain amount of goods would cost 24.82% more in 2008 than it cost in 2005, if we use rands as money. If we look at what the same goods would have cost in 2005 in gold ounces and compare it to what it would cost in gold ounces in 2008, we would do the following.

Price of gold on 1 Oct 2005 was R 2 986

Price of gold on 29 Sept 2008 was R 7260

(Please note that I used the closing price of GLD as listed on the JSE)

In 2005 the goods cost 3.35% (100/2986) of an ounce of gold.

In 2008 the goods cost 1.38% (100/7260) of an ounce of gold

The price of the goods is deflated by 58.81% (deflation) in gold terms.

So in fact, if we were using gold as money, the price of the goods would have been significantly lower. So we actually have deflation when we use gold as money.

So to get to Mr Greenspan's "definition" of inflation we simply do the following:

We equal the goods to 100% and say that the goods in 2008 using rands cost 124.82% (100+24.82% rand inflation) and using gold ounces it cost 41.19% (100% less 58.81% deflation)

That gives us a real cum. inflation rate of 203% for the 3 years ((124.82/41.19)-1). That is about an average of 68% per annum. This 203% in fact is the premium (penalty) for using fiat money as opposed to using gold as money. This premium in fact goes to the issuers of the fiat money (government) as Mr Greenspan explained.

203% inflation, I am afraid is not inflation but hyperinflation. What makes this even more shocking is the fact that if you were to do this calculation in most other countries you would also come to the conclusion that they are experiencing hyperinflation.

You might ask how this is possible. Well, inflation can be hidden in many ways, which goes together with using a flawed measure. Let's look at a few possibilities. This is not exhaustive, you can add your own.

1. Keep the price the same but give less quantity. For example soft drinks were mostly sold in 340ml cans or even more around the world. When the metal used to make the cans got expensive (and possibly the contents) they made it in 330ml which is now basically a world standard. Look at houses for example, the price is way higher but you get much less square metres. Maybe you have observed other examples?
2. Keep the price the same but change the quality. Veneer wood instead of solid wood, gold or silver plated metals or other cheaper metals instead of using solid quality metals.
3. Improvements due to technological advances and other should bring prices down. Instead prices keep rising.
4. Cheating when measuring the Consumer Price Index etc.
5. Shifting production - over the years world production has been shifted to countries such as China where people are willing to accept much lower labour wages.

So, if inflation is so much higher than is generally reported, how do we protect ourselves? The answer is simple. We simply consult Mr Greenspan again for the answer, and that is, use the gold standard. You can use your own gold standard by simply investing in gold (and silver).

Nov 26, 2008
Hubert Moolman CA (SA)
Cape Town
South Africa
email: hubert@hgmandassociates.co.za
blog: http://blogs.24.com/hubertmooolman

Hubert Moolman is a Partner at ProAct Chartered Accountants and the owner of HGM & Associates.

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