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Dollar vs Gold

Updated on June 12, 2012

What is the Deal With Gold?

"Gold is a great thing to sew into your garments if you’re a Jewish family in Vienna in 1939, but I think civilized people don’t buy gold, they invest in productive businesses."

-Charlie Munger, Vice Chairman of Berkshire Hathaway.

"In Truth, the gold standard is already a barbarous relic."

-John Maynard Keynes, economist.

Gold. Nothing creates more controversy than mentioning gold in relation to investing. Many investors claim that gold has no value, that it does not produce wealth, and therefore one should not invest in it. As the quote above by John Maynard Keynes alludes to, he thinks that gold is a barbarous relic. He is talking, in this sense, about how gold has a minimal role in the economic model set up by the Bretton Woods agreement (established in 1945 after world war two. It made the dollar the reserve currency for the world, and made gold a secondary player as money).

Should investors consider gold as an asset for a portfolio? To better answer that question, I would like to show you two charts:

The Value of the Dollar over the last 12 years
The Value of the Dollar over the last 12 years
The Value of Gold over the last 10 years
The Value of Gold over the last 10 years

The Devaluing Dollar

Both these charts clearly show a trend: gold is going up in value while the dollar is going down. This is not a recent trend. Ever since the Federal Reserve was established in 1913, the dollar has lost over 95% of it's value in relation to gold. Why? The dollar is not tied to any backing. It is a fiat money that can be printed at will by the government...and it has been. We now have Trillions of dollars in the system. As more dollars are printed, the value, or purchasing power of each individual dollar drops.This is inflation. For this reason alone, it may seem that gold has a place for investing, but there is more one must consider.

Saving and Investing

The distinction between what is saving and what is investing also needs to be understood. If someone produces more than he consumes, and refrains from spending the excess, he is saving (sometimes referred to as if it is a bad thing). This is a form of growing wealth. If someone produces more than he consumes and decides to take the difference and lend it to a business or the government and expects a return of his initial money with compensation, such as interest payments or capital gains, he is investing. It is also another potential for growing wealth. Investments are usually done from savings, but people or institutions also borrow money to invest as well (still, someone somewhere had to save for there to be investing capital...unless it is simply printed money, but that is a point to expand on another day).

In essence, savings are simply holding onto excess reserves, while investing is putting those excess reserves "to work". It is important to realize that when one invests, one exposes his capital to risk. Instead of making gains, he can lose all or a portion of it. As a matter of fact, investing is much more risky than most people realize. Take stocks, for example. An investor, before buying a stock, should examine the balance sheet and cash flow statement of the company. Does it have too much debt? Does it have a positive cash flow? If not, why not? What is the company doing to insure future positive cash flow? What are the long term trends of the industry? Does the company pay dividends? These, and many other questions should be satisfactorily answered before the the investor buys the stock. I guarantee you that most investors do not delve this deeply into their investments. He leaves too much to chance...and he will most likely see a loss of his capital.

One other point investors need to be aware of is that his investments must at least match the rate of inflation just to break even. The mainstream economists say that inflation is running between 2 to 3 percent annually. I beg to differ. measures the rate of inflation the way the government used to back in the 1970's. This organization shows that inflation is actually closer to 10%. In any case, an investor must make a return on his money of at least 3%, every year just to break even. This, in and of itself, is a risky proposition.

Counterparty Risk

To invest properly, one also needs to be aware of counterparty risk. The free-dictionary describes counterparty risk as follows:

Counterparty risk is the risk that the person or institution with whom you have entered a financial contract -- who is a counterparty to the contract -- will default on the obligation and fail to fulfill that side of the contractual agreement.

All paper investments have a counterparty risk. It may be big, it may be small, but the risk is there. Companies could go bankrupt. Municipalities may not be able to pay their bonds at full face value. Financial institutions may go under. And yes, counterparty risk applies to the dollar, along with all fiat currencies. The fact that the dollar has steadily lost it's value is a symptom of counterparty risk.

Gold, on the other hand, does not have a counterparty risk. It is an asset in it's own right. It will hold it's value, whatever it may be. Take heed, though, for if one decides to use a financial institution to hold his gold, that is exposure to counterparty risk. One must weight the risks and benefits of personally holding his gold or using a third party institution. There are trustworthy institutions, but one must do his due diligence to minimize his risk. As an example, Gerald Celente of trends research lost $200,000 worth of gold because the institution he used did not hold up it's end of the bargain (this happened to a man who does his due diligence..showing that there is always risk).

How Investors View Gold

Many successful investors do own gold. Typically, they own anywhere from 5 to 10% of their wealth in precious metals, mainly gold, but also some in silver and platinum. The reason? Simply as a hedge against inflation. Generally, there is an inverse relation between the devaluation of a fiat currency and precious metals: as more dollars are printed, gold goes up in value; and if there is a contraction in the money supply (dollars), the value of gold will go down. The remainder of their portfolio will be in businesses,stocks, real estate, bonds, and some in cash for liquidity.

My Two Cents Worth

I think the view of successful investors in relation to gold is a prudent one, but I have a different take that makes more sense to my situation. I am middle class, which means that I have some money left over at the end of the month, but not much. I cannot muster enough capital to make investments in stocks or real estate pay off, much less afford the risk. I am simply looking more to save my wealth (yes, that means I am hoarding), but by holding my wealth in cash, or bonds for that matter, I will lose purchasing power over time (bonds are paying rates that are below the rate of inflation). As an example, if we are seeing just a 3% inflation rate, money (in dollars) I have saved now will only hold 70% of it's purchasing power in 30 years. That is a losing proposition. As a matter of fact, I am willing to bet that is a reason we see such low savings rates in this country lately. Most people know on some level that their dollars simply will not be worth much later on.

It seems to me that the best bet I have for maintaining purchasing power of my hard earned savings is to buy and hold precious metals. I have better faith in that over government bonds or a savings account whereby I am holding dollars. This does not mean that I will only hold precious metals, for if I see a good investment, I will sell off some of my metals and put my capital toward that investment. I also do buy some stocks, and when real estate is a better investment, I will consider that too.


This brings us back to the original question: Gold vs. Dollar? With all things considered, gold plays an important role in wealth preservation and savings. If the last 100 years have anything to say about it, gold is the best place to put your wealth to maintain purchasing power with very little risk. As long as an investor buys a little at a time to smooth out the highs and lows (this is dollar cost averaging), he can confidently preserve his wealth.

Right now, gold is going for over $1,500.00 an ounce (wow! it used to be $35.00 an ounce in 1945). This is out of many people's price range, but silver can be bought for roughly $30.00 an ounce. It has many of the same qualities of gold. It is a bit more volatile, but it can still be used as a form of wealth preservation as well.


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    • Gregg Hoffman profile image

      Gregg Hoffman 5 years ago from 2322 Central Park Blvd. Denver, Co 80238

      Yep. Just finished reading one of yours. You have a lot of followers and comments on them. Good work.

    • Keith Engel profile image

      Keith Engel 5 years ago from Pittsburgh, Pennsylvania

      Indeed I do.

    • Gregg Hoffman profile image

      Gregg Hoffman 5 years ago from 2322 Central Park Blvd. Denver, Co 80238

      Yes, I am familiar with Thomas Sowell. I read his articles often, but have as of yet to read any of his books. I did read Ayn Rand's book as well. Very good sources.

      Do you write articles on these subjects here? I am going to follow you.

    • Keith Engel profile image

      Keith Engel 5 years ago from Pittsburgh, Pennsylvania

      Several sources and my own analysis and problem solving mind that is highly integrated with knowledge. I don't view matters in a vacuum I understand and look at matters in a very interconnected way. It is actually part of a theory that I will be writing on and publishing soon that is philosophical in nature called the General Unified Singular Web Systems Theory. It is a combination of the GUT, General Unified Theory, and General Systems Theory into one coherent understanding and whole of looking at existence, knowledge and other matters.

      As far as sources there is a book out by Ayn Rand called Capitalism: the Unknown Ideal that covers various matters one of them is with the Fed and the its involvement in Stock Market Crash.

      Thomas Soweel in Basic Economic 4th Edition also concludes the same. Here goes two quotes from the books. I did have a two part article series covering this that I may republish.

      This is from that article.

      As Thomas Sowell, in Basic Economics 4th Ed., puts it, “Yet the worst deflation and the worst bank failures in the country’s history occurred after the Federal Reserve was established. The financial crisis of 1907, which helped spur the creation of the Federal Reserve System, was dwarfed by the financial crisis associated with the stock market crash of 1929 and the Great Depression of the 1930s.”

      “Common Fallacies about Capitalism” in Capitalism: The Unknown Ideal by Ayn Rand: “Throughout most of the 1920’s, the government, e.g. The Federal Reserve, compelled banks to keep the interest rates artificially and uneconomically low. As a consequence, (loaned e.g. debt) money was poured into every sort of speculative venture( the stock market). By 1928 the warning signals of danger were clearly apparent: unjustified investment was rampant and stocks were increasingly overvalued.”

      If you look at the whole housing crash that caused the economic issues in 2008. What was the Government Mandating be done to the interest rates of house loans as well as the lending of money? Why did Derivative Mortgages and the like enter the market? Because the Government intervened in the housing market attempting to ensure that "everybody" could own a home, even if they couldn't afford to do so. They forced banks to give out bad loans to people who didn't deserve them.

    • Gregg Hoffman profile image

      Gregg Hoffman 5 years ago from 2322 Central Park Blvd. Denver, Co 80238

      I don't have to get you started. I am in complete agreement with everything you said.

      I read a lot of Austrian economics, and they are saying the same things you do. Where do you get your info?

    • Keith Engel profile image

      Keith Engel 5 years ago from Pittsburgh, Pennsylvania

      Aye, don't get me started on the Fed. 1913 was the year this country tranformed. You had 16 and 17 amendments being added, allowing the income tax and Senators to be elected upon instead of appointed. Then you have creation of the Fed whose purpose is an economical impossibilty, trying to keep the economy in perpetual boom. The fed is the reason behind the Crash in 1929 and other economic disasters as a matter of fact government involvement in the exonomy does more harm than good.

    • Gregg Hoffman profile image

      Gregg Hoffman 5 years ago from 2322 Central Park Blvd. Denver, Co 80238

      Kieth, You are absolutely right. Inflation did really take off once we went off the gold standard, but it has been happening since the inception of the fed. The Bretton Woods agreement was the catalyst to Nixon ultimately taking us off the gold standard. I feel strongly people need to know this and it's consequences.

    • Keith Engel profile image

      Keith Engel 5 years ago from Pittsburgh, Pennsylvania

      If you can't afford gold buy some silver coins instead as silver is generally around 30 dollarsnor so a troy oz. While gold has been @1500 a troy oz or more.

      Though I would suggest that you add that America got off the gold standard in 1971. It sounds like you sugeest this took place in 1913. Inflation really jumped off in 1971 and the deflation of the dollar has been ongoing. It doesn't help the value of the dollar when oveall debt in the country is 54 Trillion dollars. Since the value of the dollar is backed up by the taxpayers ability to pay off this debt the value continues to drop each time this goes up and as you stated printing of more money.

      Gold and silver have never been wothless in the course of human historey. Almost every fiat currency eventually bedomes a worthless piece of paper.

    • August Xavier profile image

      August Xavier 5 years ago from Chicago, Illinois

      Good stuff, man. Very concise and clear and easy for a financial stooge like me to understand. Thanks for writing this. voted up and useful.