Money Supply Instability
The following is excerpted from a commentary originally posted at www.speculative-investor.com on 9th December 2012.
According to a recent comment by a well-respected analyst, one of the problems with using gold as money is that the supply of gold could experience large swings due to changes in mine production. The ignorance reflected by this comment is simply breathtaking. The usual complaint about using gold as money is that the supply of gold doesn't increase fast enough to facilitate strong economic growth, as if producing more stuff requires more of the general medium of exchange. To know why the 'insufficient rate of supply growth' complaint is bogus you must have a basic understanding of good economic theory, which most people don't have. However, to know why the 'large swings in gold supply' complaint is bogus you only have to take a cursory glance at some charts. It seems that the analyst mentioned above didn't even bother to take a cursory glance at some charts before spreading what is, to put it politely, misinformation.
The charts of relevance show what tends to happen to money supply under the current global monetary system, that is, under a system where the money supply is primarily determined by a central bank. But before we get to these charts, let's briefly consider the global supply of gold.
Over the past 100 years the total aboveground supply of gold increased at 1.5%-2.0% per year, year in year out*. On the occasions when the growth rate moved out of this range, it was only ever by a small amount. There were periods of larger increases in gold production during the 1800s and early-1900s due to major high-grade gold discoveries and the invention of the cyanide leaching process, but the current trend is towards marginally lower global gold production. In any case, even if we make the unrealistic assumption that an amazing new technological advance will allow the global gold mining industry to double its annual output, the result would only be an increase in the gold inflation rate from around 1.5%/year to around 3%/year.
So, the global gold supply will probably continue to increase at around 1.5%/year, but under an absurd scenario could possibly increase as rapidly as 3%/year. It will never decline, because for the same reason that gold can't be created out of thin air it can't disappear into thin air. How does this compare with our fiat money?
Here are a bunch of charts that show how it compares, beginning with a chart prepared by Mike Pollaro that reveals the year-over-year (YOY) rates of growth in the supplies of the US$ (identified as TMS2 on the chart), the euro, the British Pound and the Yen. The chart shows that with the exception of the Yen, the annual rate of supply growth in the world's major currencies has, since 2000, oscillated between -3% to 2% at the low end and at least 18% at the high end. The Yen has been more stable in that its growth rate has oscillated between -1% and 5%.
(Click on image to enlarge)
Turning to some other currencies, the following charts show that:
And some people have the nerve to claim that money-supply instability is a risk posed by a gold standard!
Large changes in the money supply get in the way of economic progress and always end up occurring when central banks and/or governments have the power to determine the money supply.
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