NOVEMBER 2013

November Article

Why Gold Is Damaging To The World’s Economy

Debates on gold negative impact to the world’s economies were widely discussed, however they often referred to ancient periods, a distant memory that only exists in textbooks and other historical texts. But what if we can find one, which is happening today? Complete with all the available modern data, computers and of course, the internet? This would be an interesting case to study, so here, we present an interesting study on the effects of large gold purchases to an established mature democratic economy. This article is translated and adapted from a section of the book “Siri Kegagalan Emas” (Gold Failure Series) written by one of the authors of the 259 Trillion Vs 5 Trillion Series, discussing the Indian Rupee (which is a hot topic right now) and why it crashed recently.

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Let’s now look from an economic point of view and show the impacts of large gold purchases and then subsequently, of its hoarding. Many gold bugs have made statements and claims that only by using gold as currencies and by storing it to be turned as the ultimate “wealth preserver”, that the economy of the country could be rescued and ultimately that of the entire world. It is like a “demi-god” to them. Simply store and hoard, and everything will be fine. Their statements are far off the mark, for they have no proof to back their silly claims. Only by being smart and by working hard every day, and by helping each other would the economy be strong and the economic participants, rich. Gold would in fact ruin the economy, if only they knew. The more they buy (and keep), the worst the economy would become. Since they made many of these incorrect statements without solid proofs, why don’t we for once, show them one real proof, and one that is quite recent too.

We shall explore the economic performance of that of India, the largest buyer and certainly, the largest hoarder of gold in the world. India is categorized as a poor nation because each of its constituents are earning less than USD2,500, a year. If we count their entire wealth, their wealth would be about USD4,000 for each man, woman and child. If we compared that to the United States (which we had shown in our previous book series through a lengthy calculation showing that it is still the richest nation on the planet), India is very far behind. Americans’ per capita wealth easily exceed USD200,000 (or USD800,000 if all tangible and intangible are counted). If India wanted to be on similar level as America, it will need to work nonstop at least for the next 80 years, and keep every single cent it makes without ever consuming any of it. Since this is not possible at all, then in reality, India is behind by more than a hundred year!

Sadly, despite their poor economic conditions, India is also the world’s largest buyer of gold. They bought a total of 1,079 tonne of gold in 2012, according to the Reserve Bank of India. This is a lot of gold. In fact, it is three times more than America’s own yearly purchases! India consumed as much as a quarter of all of the world’s gold production. Further, their gold demand has been increasing through the roof, which is an area of contention for its central bank. It seems that the more gold they bought, the worse off they would become. We can check its economic data in order to find out if it is true. India diverted so much of their income and wealth into buying useless gold, that just months after making repeated record purchases, their economy began to bear the brunt of lost productivity and lost economic opportunities (because scarce resources were diverted into something that are simply stored in metal boxes).

Since the year 2000, India has tripled its annual gold purchases, and has been making record new purchases every year for the past few years. The worst part is, India has been buying these record quantities of gold at a time when the price of gold itself has shot up many folds. In essence, their annual purchases have increased by six folds or more. Surely, these large purchases (the gold are simply stored and hoarded) are not without consequences and would soon bring their economy into trouble territories. Indeed, it has; their currency was slowly being devalued as they continue making those purchases and when their economy could not sustain such purchases any longer, their currency tumbled and crashed to record lows.

Starting in late 2012, the Rupee started to go down in value. The value of Rupee kept on dropping and kept on breaking new lows repeatedly, while the gold bugs (including those Muslims gold bugs who wanted to bring back the Islamic gold Dinar) kept on saying that the reason the Rupee was falling is because of the inherent problem with ‘useless’ paper money. They kept saying that fiat money is problematic and is not good. According to them, fiat paper money is bound to drop in value. How wrong they were! They were so blind; the reason for the Rupee’s fall is actually none other than because of they themselves, who kept on buying more and more gold and expect they would somehow become rich. They were destroying their own economy. It is not the Jew, or anyone else. They could use whatever kind of currency they want, whether paper based or commodity based or just about any other ‘religion ordained’ currencies, those currencies would still go down just as much, if all they do is buying record amount of useless gold and then hoard all of them. They are becoming poorer, not richer. This is the economic fact and the economic truth. Unfortunately, fiat money is blamed as the usual scapegoat. Their government and its central bank were blamed as well. Their only mistake was not educating these gold buyers that they (the gold buyers) are wasting their country’s valuable and limited resources which could have been used for other useful endeavors.

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Due to the falling currency, the Reserve Bank of India (the RBI) and the Indian government had appealed to the public to stop buying gold. This is a rare event in the history of the world, yet here it is. Gold bugs pretend not to hear or read this important news. This evidence is occurring right in front of everyone’s eyes and it is a big smack in the face for these gold proponents. The RBI went further and banned companies from buying gold outright, because the crisis was becoming deeper and was starting to affect the general economy. All of these were happening right in 2013, thus there was no need to refer to the distant past to argue on the bad effects of gold as currencies or as a store of value on the world’s economy.

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These charts show that the more gold they bought, the worst off they become. They are making themselves poorer.

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India’s current account deficit has increased tremendously, causing their currency, the Rupee, to fall. Notice that in just a few short years, due to these large gold purchases, their deficit has grown to RM249 billion a year! (80 billion dollars). For the year 2007 until 2008, the ENTIRE current account deficit is due to gold purchases. From then on, on average, 80% of the deficit is due to gold purchases. India buys most of its gold from overseas by surrendering its natural resources and hard earned income to foreigners. Who say that buying lots of gold would make a country rich? Or more advance? Not true! In fact, getting poorer would be the end result.

For decades, Indians had been buying gold and hoarded them in their houses and temples. Up to today, it is estimated that a total of 18,000 tonnes of gold is being hoarded in India, worth an amazing RM3.06 trillion (1 trillion dollars) in 2012! (based on World Gold Council data). Reuters on the other hand reported a larger number, as much as 31,000 tonnes, hoarded inside Indian homes and temples. That’s just trillions of dollars of hoarded ‘useless’ metal, not generating anything for their owners. In Reserve Bank of India special report regarding gold (published in early 2013), they proposed that the government imposed a tax on all gold purchases, in order to reduce the deficit and discourage imports. This proposal was accepted and the government imposed the tax starting in 2013, and by the end of the year, the government has increased this gold-tax three times to more than 15%, due to the Rupee’s free fall.

In this special report, they also mentioned that after a ‘thorough’ analysis of gold prices historical data spanning more than three decades, they came into a conclusion that a sudden large scale drop of gold’s price is extremely remote. Therefore, all gold purchases made on credit, and all pawn services would not go bankrupt if there is a big retreat in gold’s price because the chance for it to occur is almost nil. The bank listed down that billions of dollars of gold related loans are outstanding in the economy and all of these credit are based on the price of gold. One of the largest issuer of such lending is the country’s multitude of banks and gold related financial institutions. RBI said that the chance for the price of gold to drop by 30% or more in the next three months was a mere 0.1%. The probability of a drop of that magnitude within the next six months, was according to RBI would be a really low number of only 0.2%.

They couldn’t be more wrong. As soon as they published their report, gold’s price started to fall, and it fell by more than 30%, in the few months that they said it could not have happened. Despite purchasing additional 470 tonnes of gold in the first six months of 2013, the large drop in the price of gold has devalued the entire gold holding of Indians by an amazing 500 billion ringgit (almost equal to the entire GDP of Malaysia). Despite purchasing more gold, the value of gold in their hands is now only worth 2.5 trillion ringgit (less than a trillion dollars). Surely many gold hoarders, the gold dinar proponents and all other gold bugs could not sleep well at night knowing they have not made a single cent since the year 2011! And now they are stuck with bars of useless metal and could not sell it off to other people, unless they take in a big loss.

An analysis made on the very same set of data analyzed by the RBI (which had led them to conclude wrongly) on the possibility of gold’s price implosion reveals that the reason they were caught off-guard is that whenever gold’s price goes up by 25% or more within a preceding two year period, the chance for it to go down by 30% or more afterwards, is a very high number of 75%. This fact was never taken into account by the RBI. This event occurred several times in history, and the most recent was in 2011 when it went up spectacularly. Within one and a half year, gold retreated significantly.

We expressly wrote, back in 2011 that gold’s price would only go up to USD2000/oz before freefalling back to its minimum “floor” level of USD1,250/Oz (with data available at that time). Our warning was met with laughter because they were so disillusioned with their shining gold bars and the notion that it will go up and up for eternity. Fortunately, several attentive readers did heed the warning and avoided buying gold during the peak and they were spared the horror. As it turned out, none of the gold bugs made any meaningful investment returns since 2009. As published in the last book of the 259 Trillion Vs 5 Trillion series, we have shown how we actually arrived at that specific price number and indeed gold price fell in 2013 to that level and has hovered there ever since, waiting for the next impetus. And this second impetus is already here, it’s the decline of the Indian economy. Just a small decline in the economy of India is enough to pummel’s gold’s price to a very low level (try calculate the new floor using the method presented in Book 3). A third impetus would come from the Chinese. If China economy tanks and gold demand drops further, then the current support at USD1200/oz would be broken and the price would crashed to the next support level. If you have managed to perform the calculations and research, (we did it for you) you would be surprised to discover that the latest new data suggests that the next support price for gold is only around USD800/oz (next highest mine floor cost) as all the current expensive mines would cease production (many has already closed down according to latest reports).

Now, what if India never buys those yellow metals in the first place? Imagine for instance, what would happen if India invests its hard earned incomes into shares of good companies in the stock market the world over? Would they end up richer? Assuming that they could get a return of 12% a year on their investments, Indians could obtain RM320 billion (100 billion dollars) a year on their 2.5 trillion ringgit capital if it is invested into shares of good companies all over the world. That amount, is more than enough to cover all of their current account deficit, with some leftover as a surplus. Should they never have bought gold in the first place all of this while, they could have bought 70 million high quality cars, directly from the United States, consuming the US’s entire car production for nine consecutive years!

If Indians used their money to buy oil instead and not gold, they could have bought as many as 8 to 10 billion barrels of oil (Indian entire proven oil reserve is only 5 billion barrel). If they decide to buy tablet computers and Ipads, they could have bought as many as 2,700 million tablets, enough to give two, to each of their citizen. This would surely give their economy a very big boost in terms of productivity and education. Should they simply go and buy books with this vast sum of money, they could have bought as many as 32 billion books, giving each Indian as many as 27 books. Again, this will move their economy into a whole new equilibrium, with a much greater potential (provided they read those books!) This will provide a great impetus for growing their economy extensively over the next decade, and longer. India can use their money to build roads, schools and many other needed infrastructures to permanently upgrade their economic potential. This is the real road to wealth. This road does not require a nation to waste its resources by buying gold and then keeping them in bunkers and thereafter resorting to false belief that its price would go up and up (for no reason).

If only their politicians are smarter, they could have reduced their dependence on imported oil for energy (as much as four fifth of their oil need is imported) by buying solar panels and generate as much as 500 GW of electricity, every day. This is bigger than Malaysia’s entire electric generation capacity of just 20 GW. If only they did not hoard gold, they would be far richer today, than ever. Not just they would not have a large current account deficit, they would be generating additional income by exporting electricity to neighboring countries such as Bangladesh and Pakistan that badly requires additional electricity. Everyone on their subcontinent would be better off, but if only they did that. Unfortunately this was not the case. Such is the curse of hoarding gold! Everyone should stop and reflect on themselves, as to why they keep those useless metals in safety boxes for no economic return whatsoever.

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Every Indian kept on average, 20% of their wealth in gold. For the next ten years, Indians would lose more than 800 billion ringgit, A YEAR, on an investment that would be worth as much as 8 trillion ringgit, if they sell all of their gold holding and invests the proceed into useful activities. In just 20 short years, Indians would reap a return of 2.6 trillion ringgit, A YEAR, on an investment valued as much as 24 trillion ringgit! This is how they can catch up to America, in fact it is the only way for them to catch up. All other Muslim nations should also take note. Gold will not make them rich no matter what. Because India did not liquidate their gold and sell it off and would rather keep all of their gold well hidden, each Indian would stand to lose as much as 5 thousand ringgit a year (or 150 dollars a month), for eternity and this value would just keep creeping up. Such is the cost of lost economic opportunities. As long as India keeps on diverting its precious hard earn income into the purchase of useless gold, they would not be able to break free from poverty as easily as they thought they could.

Back in the 1990s, Indian economy was in a precarious situation and they had to ask for an emergency loan from the IMF and the European nations. India had to give up 60 tonnes of its gold holdings as collateral for the loan. The gold was secretly flown out of the country at night due to the fear of a backlash should the media and the public found the agreement out. Unfortunately, today the situation is far worse. They bought lots of gold at high prices, and selling them now would surely result in large losses. They are indeed stuck between a rock and a hard place.

World’s famous economists such as Milton Friedman and Lord Keynes have attributed the Great Depression to the problem of gold’s supply (and demand). Gold has consumed world’s prosperity again and again, and it must be prevented from doing so all over again. This ‘barbaric relic’ as it was called, must not be allowed to rear its ugly head and affects the entire world as it has before.

[The article is loosely adapted from page 230 – 241 of the book]

Sharif Rahman & Amy Norwood

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Here is an interesting explanation on why gold was chosen as currency before. The article explained that based on science of nature, man has little choice but to adopt gold as early money. It has little to do with store of value or of its other properties. Should there is another metal with better properties, man surely would have used it instead. Unfortunately, there was no better item to be used. Today, the world is vastly different, and man has created a better form of money. Thus gold is no longer an ideal form of money. Check out the article in the link below.

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Why do we value Gold?
[http://www.bbc.co.uk/news/magazine-25255957]

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