It would be difficult to find a financial pundit who would advocate investing in fiat currency over the long term,

and rightfully so, as statist monetary and fiscal policy has generated inflation resulting in a devaluation of every major currency throughout history. Even the ostensible King Dollar has lost over 90% of its value over the last century. To this point, you may find proponents of hard money arguing for a new gold standard. Alternatively, you may find those proponents of gold, gold bugs, supporting the thesis that the price of the shiny metal will keep increasing, so long as we rely on a fiat currency bound for destruction, in peril due to its central bank masters. But these gold bugs would do well to acquaint themselves with Karl Popper, and constantly test their claims as the financial credit crisis has shined a new light on what gold may actually be worth. Theory does not favor gold as a currency, and logic does not favor gold as an investment, for any reason, be it a hedge against inflation or as the ultimate defense just in case society collapses, the fear trade. Its very commonplace to hear of the value gold could provide as a currency. Gold is a store of value untouchable by politics, it has existed in society since the dawn of mankind, and it is safe from tyranny. The true test of feasibility with respect to a gold standard system lies not in its practical usage, helped by recent technological advances, but in the constraints endured under such a system. Ron Paul, the leading gold proponent in Congress, has asked: Why is gold good money? Because it possesses all the monetary properties that the market demands: it is divisible, portable, recognizable and, most importantly, scarce making it a stable store of value. Indeed, gold is divisible and recognizable and modern technology makes it portable. However, empirical data casts doubt on its stability. As Paul Krugman demonstrates with the chart on the left, the real price of gold is hardly stable.

But could this unstable metal provide for a stable financial system? The answer is no. As Krugman again notes: Now, the gold bugs will no doubt reply that under a gold standard big bubbles couldnt happen, and therefore there wouldnt be major financial crises. And its true: under the gold standard America had no major financial panics other than in 1873, 1884, 1890, 1893, 1907, 1930, 1931, 1932, and 1933. Oh, wait. (Picture, left.)

It is also the case that gold is not a flexible currency. Consider the European Unions current debacle for evidence of the problems resulting from an inflexible currency under times of

economic duress. Each European country lacks the ability to print its own money and each country uses a 1-to-1 exchange rate, losing the ability to devalue its currency. Its a money system that mimics a gold standard and has rendered those countries unable to handle the recent credit crisis. Indeed, the results of the EUs current problems and those that arose during the Great Depression, under a gold standard, are very similar: countries are vulnerable to speculators and interest rates are rising at the wrong time. Moreover, the policies of interest to one country, like anti-inflation policy to Germany, damage other countries, such as Greece. Matthias Matthijs, a political economist at Johns Hopkins University, states: While the whole word has been adopting a pragmatic consensus on economic policy since the Great Recession, Europe And Germany in particular is stubbornly sticking to a policy that has all the downsides of the old classic gold standard. From the US to Russia and Japan, and from Brazil to India and China, the rest of the world has been careful to preserve substantial flexibility with its domestic fiscal and monetary policy levers. No such caution in continental Europe, where a one size fits none monetary policy by an independent central bank that cannot act as true lender of last resort and a Brussels-imposed fiscal straightjacket that has not served a single euro member state well reign the day. The aftermath is ruinous, as recent data shows the EU flirting with a new recession and there are talks of its disintegration. Meanwhile, the United States, because of its freedom in setting economic policy, has allowed us to act diligently to fight economic collapse, emerge from recession and stifle deflation. Though domestic policy in response to the Great Recession has brought about new allegations about the United States Dollar, the assertion of impending dollar doom has always had a shroud of propaganda about it, and, in time, the cult followers of Ron Paul, Peter Schiff and the like will grow jaded of their prognostications. The stage has been set for a currency crisis and a sovereign debt crisis, and theyre going to come relatively soon, says Peter Schiff, the most notable gold bug of all. Though, Schiff has been claiming this for the last decade, and likely will be for another to come.

Enough credible research exists to debunk the theory behind a gold standard. Still, there are those who concede the inefficiencies of a gold standard but still believe that gold has a value which exceeds its utilitarian value. Their rationale is that gold serves as a hedge against inflation. While their choice of gold as protection cant be criticized, there are still better choices when logically considered. Bear in mind, though, that no financial experts advocate investing in a fiat currency over the long term. No matter the metric one uses to demonstrate the long term depreciation in a fiat currency, whether it be M2 growth, interest rates (real or nominal), amounts of debt, etc., diversification is especially important due to that depreciation. In this sense, gold bugs would do well to apply logic to their appreciation of gold. Over the long run, there is no rationale that would justify owning gold over an asset that actually produces something. Buying gold is a bet on one thing and one thing only: that there is someone else who will come along and be willing to buy it at a higher price. Until now, this bet has fueled itself, originating with buyers who fear economic collapse, likely derived from economic phenomena since the late 20th century, and continuing as more buyers foolishly follow price as proof. But gold will never produce anything for you, and while you can use gold bullion for industrial purposes, one ounce of gold now will be one ounce of gold 100 years from now. The question then is, logically speaking, what benefit is there to owning gold over owning a producing asset, when forced to diversify

against currency risk? In impeccable fashion, Warren Buffet persuasively destroys the case for gold in his 2011 shareholders letter: This type of investment [assets that will never produce anything] requires an expanding pool of buyers, who, in turn, are enticed because they believe the buying pool will expand still further. Owners are not inspired by what the asset itself can produce it will remain lifeless forever but rather by the belief that others will desire it even more avidly in the future. The major asset in this category is gold, currently a huge favorite of investors who fear almost all other assets, especially paper money (of whose value, as noted, they are right to be fearful). Gold, however, has two significant shortcomings, being neither of much use nor procreative. True, gold has some industrial and decorative utility, but the demand for these purposes is both limited and incapable of soaking up new production. Meanwhile, if you own one ounce of gold for an eternity, you will still own one ounce at its end. What motivates most gold purchases is their belief that the ranks of the fearful will grow. During the past decade, that belief has proved correct. Beyond that, the rising price has on its own generated additional buying enthusiasm, attracting purchases who see the rise as validating an investment thesis. As bandwagon investors join any party, they create their own truth for a while. Over the past 15 years, both internet stocks and houses have demonstrated the extraordinary excesses that can be created by combining an initially sensible thesis with well-publicized rising prices. In these bubbles, an army of originally skeptical investors succumbed to the proof delivered by the market, and the pool of buyers for a time expanded sufficiently to keep the bandwagon rolling. But bubbles blown large enough inevitably pop. And then the old proverb is confirmed once again: What the wise man does in the beginning, the fool does in the end. Today the worlds gold stock is about 170,000 metric tons. If all of this gold were melded together, it would form a cube of about 68 feet per side. (Picture it fitting comfortably within a baseball infield.) At $1,750 per ounce golds price as I write this its value would be $9.6 trillion. Call this cube pile A. Lets now create a pile B costing an equal amount. For that, we could buy all U.S. cropland (400 million acres with output of about $200 billion annually), plus 16 Exxon Mobils (the worlds most profitable company, one earning more than $40 billion annually). After these purchases, we would have about $1 trillion left over for walkingaround money (no sense feeling strapped after this buying binge.) Can you imagine an investor with $9.6 trillion selecting pile A over pile B? A century from now the 400 million acres of farmland will have produced staggering amounts of corn, wheat, cotton, and other crops and will continue to produce that valuable bounty, whatever the currency may be. Exxon Mobil will probably have

delivered trillions of dollars in dividends to its owners and will also hold assets worth many more trillions (and, remember, you get 16 Exxons). The 170,000 tons of gold will be unchanged in size and still incapable of producing anything. You can fondle the cube, but it will not respond. The context of Buffets argument needs to be understood: primarily, the current price of gold being roughly equal to ~$1,600 per ounce. As that price fluctuates, pile B will contain more or less. Moreover, it is already established that holding dollars is not recommended. Consider a drop in price of gold to $1 per ounce then, and at some point along its path, pile A becomes more attractive than pile B. I would certainly prefer to hold all of the gold in the world over 1/1600th of everything in pile A. Its futile to attempt to pinpoint the price at which investors should prefer gold to producing assets. Its entirely subjective and each persons opinion is based on myriad factors. Instead, examine golds recent price ascent from ~$300 per ounce in 2000 to ~$1,600 per ounce currently and decide if this price level is sustainable. I do not believe so, and moreover, my opinion becomes more resolute as gold becomes more expensive, contrary to the price as proof belief of the masses. Allow me to rely on the venerable Warren Buffet once again: Beyond the staggering valuation given the existing stock of gold, current prices make todays annual production of gold command about $160 billion. Buyers whether jewelry and industrial users, frightened individuals, or speculators must continually absorb this additional supply to merely maintain an equilibrium at present prices. Likely, the false hope which motivates the foolish gold speculators will not last forever, and gold will follow the path all too common to such scenarios: internet stocks and houses more recently, or tulips in the 17th century if you prefer. And while there will certainly be times during which investors become fearful and rush to gold again, Im just as confident as Buffet that pile A will compound at a rate far inferior to that achieved by pile B.