Given our enjoyment of gliterring objects, it is no surprise that humans have loved gold ever since crude nuggets of the stuff started turning up in streams somewhere - probably in Africa, if evolutionary theory is to be believed. What is surprising is that our fascination with gold has endured long past the point where the metal served any real economic purpose, pushing its price last week to an all-time high of almost US$1,250 an ounce.
Sure, gold is hugely important for jewellers, and has some industrial and electronic uses. It also comes sprinkled atop the froth on your cappuccino at Emirates Palace and now comes out of a new vending machine in the lobby. As a store of value, though, gold is pointless. It is absolutely useless. Let me explain. Gold did have a clear economic function long ago. It played an important role in the development of money, which replaced a system of communal living that existed before advances in transport made trade within regions and later between nations possible.
Though these advances happened at varying speeds in different societies, metals such as gold and silver were adopted as currency in most budding monetary systems. They were logical mediums of exchange because they were relatively rare, hard to counterfeit, easy to divide up and considered to have intrinsic value. With the invention in the 15th century of the printing press by Johannes Gutenberg, however, that function began to erode. While trade had been conducted for centuries using paper receipts issued by grain merchants and goldsmiths, the development of printing eventually made possible the mass production of cheap and portable paper notes that possessed all of the properties that made metal coins a workable currency.
The supply of paper notes could be controlled, giving them gold's scarcity. They could be made difficult to reproduce through complicated designs. Issuing notes of different values made them easily divisible. And they had as much intrinsic value as gold as long as people were willing to accept them in exchange for goods and services. At first, paper currency was explicitly backed by gold in much the same manner that goldsmiths in London had issued receipts entitling bearers to a quantity of the metal. As governments began to issue national currencies, they also backed them with physical gold.
But that ended in the early part of the 1900s, when many countries broke the gold standard to finance wars by printing huge quantities of new currency. The death knell of gold in the international monetary system came in 1971, when Richard Nixon, the then US president, abandoned the dollar's gold standard. After that, nearly all nations were running on official currencies. Although gold may still be a valuable commodity, its essential role in the financial world is long over. And yet despite that reality, many otherwise level-headed investors go mad over it in uncertain economic times. They buy gold during recessions, as they have been doing recently. Gold is, according to the gold bugs' logic, the one asset not likely to lose its buying power even if the world slips into financial meltdown.
They may be right. Even if they are, though, viewing gold as an ideal asset is illogical. Let's say, on the one hand, that the gold bugs' worst fears materialise and the financial order collapses. Should that happen, having a lot of gold around would not be especially useful because little would be produced in the economy on which to spend gold. There would not be any new Lamborghinis to buy or Hermes Birkin bags to outfit your new French wife with. The beach resorts you want to go to would be shut as they were not attracting enough business. The great, humming cities you want to catch a show in would no longer be great or humming, and no shows would be showing.
That may be a bit of an overstatement, but generally speaking, living large in a bad economy probably would not be so enjoyable. Let's now say everything does not collapse. In that case, gold is also relatively useless. Gold prices may rise and you may make money if you time the market right. But that's just speculation, and unless you have paranormal powers you're as likely as the next person to lose money as to make it.
Gold, moreover, is just a commodity. You might as well invest in wheat, rice, oil or, for that matter, heaps of expensive socks. All you're doing is waiting around and hoping the price of gold goes up because other people want to buy it. Unlike many publicly listed stocks, gold does not pay part of its profits back to investors as a dividend. And unlike bonds, you don't collect any interest. All you have is a pile of gold knocking around.
Gold also bestows no greater economic benefit, aside perhaps from lifting the profits of mining companies. By investing in stocks, you help markets allocate capital to its most productive uses. Put money in bonds and you help finance infrastructure projects, corporate expansions and other activities that would not have been possible without help from investors. Get into venture capital and you help seed the next generation of entrepreneurs and business start-ups. Even putting money in a bank account helps stimulate the economy because of the way the fractional reserve banking system works: the bank lends some of the money you put in, helping businesses boom.
Gold, though? It just sits there. Gold jewellery is nice. So is gold on your cappuccino. There's nothing wrong with those indulgences. In the end, though, gold is the global economy's appendix, an outmoded organ that has little to offer the investor, comes with few economic benefits and would realise its full value only in a major financial breakdown, which by definition would dampen its usefulness.
Making plays in the gold market may make sense for companies that use the metal, as well as for bankers with complex hedging schemes to work out. For the fearful investors who have helped fuel gold's five-year price peak, though, not so much. afitch@thenational.ae