And should America return to a gold standard?
According to CNN and others, Ron Paul, a thoughtful, peace-loving, and freedom-loving 2012 U.S. presidential candidate, is worried that the gold bullion from the United States Bullion Repository in Fort Knox, Kentucky is gone. Or it's been replaced by gold-coated wolfram bars.
He proposes a bill that will verify whether the gold is there. His worries are based on internet rumors that were actually being resent by many powerful people in the financial world - so it wasn't just about some fringe homeless hacks. A few years ago, it was found out in Hong Kong that some of the gold bars were actually tungsten (wolfram) steel bars coated by gold.
These fake golden bars were produced during the Clinton years, about 15 years ago - I don't want to call them Summers years because it could have been before Larry Summers, too.
Now, the Treasury people are saying "don't look here, it's a waste of money!" They say that it would cost $60 million to test the gold. Paul says that he was informed by their colleagues that the price of the operation would be only $15 million.
Of course, it's a question whether you want to believe the Treasury people who have had access to the depository. The mainstream attitude is surely to believe them. However, there could be good reasons why you may want to be more cautious. For example, their comments about the required "assaying" sound excessively uninspired.
They say that the only way to figure out whether it's gold it to destroy the bars by drilling holes into them! Wow. Physics knows other methods besides drilling and looking! ;-)
Distinguishing real and fake gold
Remarkably enough, gold is very heavy. Its density is 19,300 kg/m3, 19.3 times heavier than water. You see that iron only has 8,000 or so. Is there a mundane enough element or compound that could resemble gold?
Note that I have used Wolfram Alpha to obtain the right figures. You might think: what about wolfram himself? You may ask Wolfram what is the density of wolfram and the answer is 19,250 kg/m3. Wow. It's almost precisely equal. The numbers are so close that Wolfram Alpha forgets its legendary accuracy and when you calculate the ratio of these two numbers, it boldly claims that the ratio is equal to 1. ;-)
Wolfram is 0.25% lighter than pure ("24 carat") gold. However, it's several percent heavier than the more common "22 carat" (91.66%) gold which is used to produce some standard golden coins. At any rate, it is de facto indinstinguishable when it comes to weight. The density could be measured up to the 0.25% precision but it could be tough etc. because slight adjustments of the claimed purity of the gold bars could explain any difference anyway.
However, physics doesn't end with weights!
For example, there are electromagnetic phenomena. Take, for example, electric resistivity. Gold has 22 nanoohm meters while wolfram has 49 nanoohm meters, more than twice higher! Gold is a better conductor and even if you replaced "just" the bulk by wolfram, you could measure the different resistivity (or conductivity).
I am confident that this would cost far less than $60 million. And one could design even better tests. The people at the Treasury could ask a committee of Princeton, Harvard, and Stanford physics grad students to design a good method - for free - and this method could be applied to the gold reserves. They could end up sending sound waves (Gene's preferred solution: see the comments) and electromagnetic waves of various frequencies etc. directly to the depository and from the profile of the response, they could immediately tell you everything. The operation could really cost $15 thousand, if you did it well, not $60 million.
So I think that Ron Paul's worries are potentially serious and there are cheap ways to eliminate the doubts - at least the most radical doubts such as the hypothesis that most of the gold in Kentucky is actually wolfram (or air). ;-)
Ron Paul also proposes to return to the gold standard - which is why he's worried about Fort Knox. Gold is a great and beautiful material but I think that such proposals are anachronisms as of 2011.
How much gold does the U.S. actually possess?
The Fort Knox depository contains 5,046 tons of gold (hopefully) - while the underground vault in Manhattan - supervised by Federal Reserve Bank of New York - contains 7,716 tons. In total, that's 12,762 tons of gold which is about 6% of all the gold ever refined throughout the human history (the latter is about 200,000 tons - or 30 grams per person who lives today). There are probably other places in the U.S. where gold bars (or fake gold bars) are being stored but let's neglect them and consider the two largest ones only.
What's the current market price of all this gold?
Well, that's easy to calculate. One ounce - 31.1 grams - costs 1500-1550 U.S. dollars. That's almost exactly $50,000 per kilogram (calculate how many kilograms of gold your wealth may be converted into and if it is heavier than you, please send me a few dollars by the PayPal button below haha) or $50 million per ton. If you multiply it by those 12,762 tons, you get about $0.64 trillion dollars.
It's a remarkable amount of wealth from an individual's viewpoint. On the other hand, it's just a third of the (last) annual U.S. budget deficit! Every four months, the U.S. debt is increased by the equivalent of all the major U.S. gold reserves. ;-) Even if all the gold were stolen, it would still be 3 times smaller a problem than 1 year of the budget deficits. In other words, the gold in the two depositories is just $2,000 dollars per U.S. citizen (including infants).
The childhood days of the financial system were connected with precious metals. Those were romantic times and the market economy existed in its primordial, cute form. Things and coins were readable, solid, robust, reliable. I am sure that Ron Paul's heart is impressed just like mine - or the heart of any free-market advocate.
On the other hand, the current world is different, at least when it comes to the technical details. The amount of wealth on the Earth is just vastly greater than the price of all the gold we have ever possessed. Gold is simply not "everything we have": it has become a tiny part of it. I could say that our knowledge, know-how, and organization of the society and the economy is much bigger a part of our wealth. But even if I remain very material, those $0.64 trillion in the two major U.S. gold reserves represent just a tiny portion of our wealth - a tiny fraction of the price of all houses that people possess, a tiny fraction of the people's annual income, and so on.
So it's obvious that it is impossible to "back up" all of our wealth by actual gold. This problem with gold is perhaps even more serious than the complaints that its price is really variable because new gold may be found - and maybe artificially produced in a cheap nuclear way in the future which could really destroy Ron Paul's system. ;-) (A diamond-based currency may almost be destroyed using the technologies that exist today: we may produce artificial diamonds at an acceptable price.)
(Some media including Russia Today have speculated that the war in Libya had to erupt because Gaddafi wanted to introduce a pan-African gold-backed currency, a dinar, which would be very bad for the U.S. because of America's lower gold/dollars wealth ratio.)
I have mentioned all the required numbers so let me just multiply them. Because those $0.64 trillion are 6% of all the gold ever refined throughout the human history, the current market price of all the gold ever refined in the human history is about $10 trillion dollars. That's the GDP of the world for two months or so! Clearly, we're producing much more wealth every year than all the gold we have ever had.
Quite generally, it is unrealistic to back up all assets by gold - and it is equally unrealistic to back them up by any other actual commodity because every particular commodity is just a tiny fraction of our wealth! People's wealth is inevitably composed of many components - whose price ratios are inevitably fluctuating. The more advanced the civilization becomes, the higher is the number of the "types of things" which may contain a part of our wealth. But if you want the most constant unit of wealth, well, the fiat money is the best thing that people have discovered. The fiat money is relatively stable because its value is linked to the price of many things - via inflation that is meant to be fixed (and low) - and the relevant basket contains many things. Because it's so inclusive, the value of the fiat money is naturally "less fluctuating" than any individual thing in the basket.
Different currencies still have wildly fluctuating exchange rates. That makes them less constant - it's impossible to say that all of them are constant - but this variability is very important for the market to readjust itself, too. The precious metals were no different: the gold/silver price ratio has wildly fluctuated, too.
It's very common for the gold-to-silver price ratio to double - or drop to one-half - within 5 years. In fact, this change occurs almost in every 5-year period.
Fiat money: issues
When you accept the fiat money, there's of course the question how the central banks should regulate its value - inflation etc. - primarily by the interest rates. There's a lot of conceptual things and technical details to say about these matters. Should they just try to keep a constant low inflation? How do you exactly define the inflation given the evolving types of wealth that may exist - that appear and disappear? What's your basket now and how will you update it? Shouldn't you include houses and stocks in it, too? But in principle, this system works and is inevitable for a modern multi-dimensional economy such as the economy of the world in 2011.
At this point, I should try to give a lecture about the money supply and its different types - with an ever smaller degree of liquidity, including debts that have an increasing risks that they will never be repaid. Those things may look messy and people could have a tendency to eliminate those things altogether. But it's not possible. These different types of the money supply are just a manifestation of the hierarchies, complexities, and huge extent of the wealth in the present world. Those hierarchies are not diseases: they're inevitable by-products - and, in some sense, even the main products - of the functioning free markets.
The less liquid types of the money supply are generally connected with longer time scales - a sort of classification that physicists are familiar with from the Renormalization Group. And it is damn reasonable for the society to have "different levels of the money" much like it is reasonable for an underlying ultraviolet law of physics to have various effective descriptions that are appropriate for various energy (or time) scales. The "slower money" create a sensible, nearly constant environment for all the "faster transactions". But the "slower money" must also be in the state of motion and this motion has to obey the rules of the market.
At the end, the money at all levels should allow the people to have what they need to be happy and what they need to work as efficiently as they can - and they should also naturally encourage them to do things that are valuable or useful for others. Any kind of theft or transfer of the money - at any level - that is uncorrelated with bringing the "deserved" subjects the wealth they deserve inevitably reduces the efficiency of the system. By "theft", I also mean the bailouts for those who shouldn't get them, and so on. Those things have to be fought against; it's naturally the "deserved" owners who fight for their own interests.
However, it's natural and inevitable that at different levels of the money supply and debt, there exist different standards how obligations are enforced, and so on. There should exist some kind of justice - but it is only natural to expect this justice or "universal standards" how the debt has to be repaid etc. when we compare the debts of comparable forms or the money supply at the same level.
So I could understand if there were an automatic formula or algorithm that dictates what the interest rates should be - instead of the constant emotional talk about "exceptions we must make to support the economy" and all this stuff which is nothing else than distortion of the optimum rules, usually for someone to be likable (if not a "savior") in the short run - although in the longer run, it becomes obvious that it was just a counterproductive distortion. But if you agree that the fiat money with an algorithmically preserved value of the money is good enough a concept, I would still claim that the real-world systems are actually not that far from it.
I like Ron Paul's general libertarian opinions about the market and other things - but I am afraid that he is pretty naive about the diversity of the financial tools that are genuinely needed for a sophisticated economy such as the the world economy 2011 to operate well - and which have pretty much naturally evolved in order for various things to work at many scales for the individual scales to communicate with each other constructively.
And should America return to a gold standard?