A long time ago, in a history book long since forgotten it was written that the U.S. Dollar was just another name for 1/20th of an ounce of gold. A fully free banking (and gold backed currency) system have never been achieved in the world, so we have nothing to compare our present situation to except perhaps "close calls".

A long-standing misconception in this country is that America is the land of Capitalism, that Capitalism has been tried, failed (or was mildly unsuccessful), and thus needed to be "controlled". The truth is, Capitalism has never made it to center stage. What was born in this country was a mixed economy (anybody remember that from economics 101?). Because of this fact, it is hard to say (from a purely perceptual standpoint) exactly what a world completely free of Government control of the banking industry would be like.

Nonetheless, prior to WWI, the banking industry in the U.S. (and most of the world) was more free than controlled, and the nation's dollar was backed by gold. This provided a unique, and rather safe, method to save money. If banks expanded the credit market too rapidly (lowered interest rates, and gave out too many loans to too many people too fast), there was gold to act as the ultimate arbiter. Lending was, ultimately, curtailed by limited gold reserves. When banks overextended themselves, the economy would go through a sharp, but short-lived, recession. The market would correct itself, and business would resume as normal, healthier than before. This was a cure for the mistakes made by reckless banking policies.

This all changed in 1913, when it was decided that the cure was somehow the disease. If bank [reserve] shortages were the causes of economic slumps, then why not just remove the "plug" that keeps them in line (gold)? If banks had unlimited lending ability, then the economy would never go into a recession again (obviously this is false, as the crash of 1929 and the ensuing Great Depression demonstrated).

With gold backing paper IOU bank notes, inflation of the money supply is difficult. Under a pure gold standard, it would be impossible as all credit that that is extended has to be a claim on tangible assets. The Government has no income except for the taxes it collects from it's citizens. To circumvent this, they created a new concept of "deficit financing" by issuing Government bonds. The bonds could be accepted by banks as an actually existing deposit (even though no deposit was being made - only a promise of a future deposit).

Through various mechanisms, the Government sponsored Federal Reserve (which is a collection of some 12 privately owned banks which are sponsored, controlled, and supported by the Federal Government) has the power to create an unlimited amount of money. Unfortunately, this also now makes the U.S. Dollar subject to what we now perceive as "normal" - inflation.

Many individuals mistakenly believe that to combat inflation all that needs to be done is to outpace it. If inflation is 3%, then all that needs to be done is earn 4% on an investment. However, this does not preserve the value of the money, it merely increases the holding of dollars which are becoming more and more worthless. To combat the problem of inflation, the only real solution is to return to gold - either by buying the metal itself, or by buying financial instruments that are guaranteed backed by gold.

Many individuals will argue that gold has become a relic, and a volatile commodity. This is perhaps one of the biggest misconceptions about gold. Consider that for 5,000 years this metal has served as a safe store of value. During times of war or economic uncertainty, gold has stood as the protector of wealth. It's only in modern times that it has become "unfashionable" to own it.

To illustrate the safety of gold, let me demonstrate a classic, everyday example of the effects of inflation:

One of the biggest misconceptions over the years has to do with the price of gasoline. Just recently, it has been said that the price of gasoline is “out of control”, that we are hitting “record highs”, or it has gone up by a factor of 150% and that wages and earnings have not kept pace.

Whose fault is this? Usually the blame is placed squarely on the “greedy” oil and gasoline companies. But that view is an erroneous one, often promoted by the media and politicians up to and including the President of the United States.

In 1980, the price of gasoline was about $1.25/gal. A short while ago gasoline was $3.00 a gallon - that's $1.18 in 1980's dollars. If you are figuring today’s minimum wage at $6.75, and take home pay for a year being a measly $12,500, and we assume the average tank of gasoline for a "normal car" being a 15 gallon tank, then at $3/gal that's $45 to fill the tank (if you make that kind of money, you are likely not driving a 12 mile/gal automobile, and if you are, maybe you should think about getting a new car!). If you fill your tank every week, that's $2,340 per year spent on gasoline. That represents 18.72% of your yearly income towards gasoline for your car.

A year's worth of gasoline back in 1980 would have amounted to $975.  Minimum wage was about $2. So now a minimum wage earner may earn maybe $100/week after taxes (if it's less, then the gas/earnings ratio obviously goes up) so now, as a percentage of income, we're talking about 18.75%.

Thus, despite the dishonest media spinning facts out of context, and the toll booth compassion of politicians, gasoline - once adjusted for inflation- is roughly the same, both in price and as a percentage of net income. So, what has changed? The value of your dollars has changed.

In fact, if we pick any point in our nation's history, we'll find that it is inflation that has wrecked our economy and caused a perceived increase in the cost of living while simultaneously diminishing our real wealth.

The U.S. Dollar is the volatile “investment” of sorts. Whenever gold is measured in terms of value it is always done it relation to "Dollars" or "Euros" or some other fiat currency. Remember that gold has been, for 5,000 years, an objective measure of value. Gold cannot be created out of thin air, it must be mined out of the Earth. If the costs of production exceed the value to be mined, then it naturally enhances the value of the gold that has already been mined and acts to stop gold from "saturating" the market.

Thankfully today, inflation-proofing your savings is easy (at least in theory). You need only buy gold. The problem most folks often encounter when trying to find a place to buy gold from is finding a place that is affordable and practical. Many financial institutions that offer gold have a minimum requirement that is above $10,000 (you must buy at least $10,000 worth of gold - basically a dollar amount that excludes the majority of Middle America).

To solve this problem, a man by the name of James Turk has created GoldMoney, a company that allows you to purchase gold and store it (or take physical delivery of it any time you wish). The best part is, you can set up an account with GoldMoney and use it as you would a savings account, linking it to your current bank account to make deposits and withdrawals - all of which is backed by (yup, you guessed it) gold (and silver).

There aren't too many outside services that I refer people, but this is one of them. For my part, I do get a share of the fees that Goldmoney.com normally charges when you open an account with them, but if you check over their list of fees, I'm sure you'll find that they are some of the lowest, if not the lowest, on the Internet (or anywhere for that matter).

To open a precious metals account, or to read more about this fantastic company, click here.

Comments

[David C Lewis, RFA]

************************************************************************@ Onisha:

All very good points! As always, this is not meant to be a recommendation to buy anything and you should talk to a financial adviser before doing ANYTHING. OK, here goes:

(a) This is debatable. While the expressed purpose of the Government is to protect individual rights, I think it does have an excellent mechanism for devaluing the dollar in the Federal Reserve/fractional reserve banking system.

There are entire books published on this topic, but to keep it brief, let's take the current state of affairs. The Government wants to intervene, and it has only a few ways it can do so:

1) raise taxes
2) borrow money and
3) print money.

#2 and #3 are closely related because they are both basically printing money out of thin air. #2 just gives an air of respectability because bonds are issued, but to pay the interest on the debt, you'd have to resort to #1 or #3. If Obama is really giving 95% of Americans a tax cut, then obviously the way to do #2 is #3.

The reason I don't think that gold confiscation would be much of an issue nowadays is because there is no motivation to do so, politically speaking. We are completely off of a gold standard.

(b) I don't think they would get very far. What makes a currency valuable? And, how could they exchange a worthless currency for something that is truly of value? If they could, wouldn't they just keep U.S. dollars?

Meaning...there is a very definite reason why currencies become worthless and purchasing power decreases. Even if you could exchange the hypothetically worthless dollars for a new currency, the value would be the same. Exchange $100 today for an equivalent amount of 1950's dollars and the value would be the same, you would just have less 1950s dollars.

(c) This presents a real problem and why I normally recommend people start out with cash equivalents, like high cash value, dividend paying, limited pay insurance contracts. For precicely the reasons you say - because your local grocery market and hair dresser take U.S. dollars. And, since we don't really know how this will all play out, it's nice to have something in the currency that we have now so that later on, you've built up something to spend in your currency (and if you are using private insurance contracts, you've hedged against taxes too). And because gold is not money anymore. It's a commodity/investment. The purpose of the gold is to try to hedge against inflation. So, you use this in combination with cash equivalents as a stable financial foundation.

Gold does fluctuate daily, but remember what is its value measured in terms of (in the USA anyway). ...the DOLLAR. So, is it that GOLD is fluctuating or is it that the real value of the DOLLAR is fluctuating?

Over the long-term, you would expect to see gold's value remain relatively stable. I mean, you might see some appreciation, but not a lot. It basically holds its value relative to goods, services, and other fiat currencies.
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[Onisha]

I've always been curious about the idea of owning gold. a few things are a deterent and i am curious on what your thoughts are:

I use my U.S. dollars to purchase gold:

a. Since the Government is not in the business of devaluing currency by offering alternatives to the dollar (unless CDO's count), I would not think it a stretch that if the purchase of Gold were pervasive inthe states and began being traded, gov't would resumed the practice of confescating gold as it did in 1933.

b. While the value of the dollar is deflating the cost/value of gold is increasing. Limiting my ability to purchase gold at a beneficial price during a recessionary period. If the dollar goes the way of the Rupie, wouldn't citizens just exchange their dollars for whatever the current currency is?

c. What would be the means of obtaining goods and services, like bread, gas, or getting my hair done? While the cost of goods and services are relatively stable, the value of gold is quite succinct and changes daily.