Thursday, May 19, 2011

The Future of Physical Gold (Part I - Dialectic Foundations)

The element Au consists of 118 neutrons, 79 protons and 79 electrons. Many particle physicists would now tell you that electrons do not always act as tiny little points of matter in space-time, but rather can consist of superimposed wave-functions that have a very large, if not infinite, number of possible values. If this premise is true, then how could we get from these rather ephemeral electrons to a solid atom or an element that exists at much larger scales, such as a flake of gold?

The answer is most likely the process of "quantum decoherence", in which superimposed quantum states separate into discrete units of electric charge, mass and spin (angular momentum). This process is overwhelmingly supported by experimental evidence and explains why a "single" electron can pass through two separated slits at the same time, but will only pass through one when it interacts with a photon from a measuring device. [1]. Physicists may disagree on the fundamental significance of these results, but they cannot deny the results themselves.

I believe that a convenient (and generalized) theoretical framework for thinking about the process is complexity theory, to the extent that quantum decoherence leads to increased systemic complexity in the resulting particle and the particle displays emergent properties. When the superimposed particle-states interact with an external environment, its wave-functions "collapse" and it takes on properties of mass, charge and momentum that simply did not exist before.

The stable atom containing these electrons can also be thought of as a complex system with internal structure, a relatively high degree of order and inter-dependent parts. It too has emergent properties, because it exhibits fundamental traits that do not exist at the level of its individual constituents. To better understand the process, imagine that you are floating above an Ocean near the coastline and looking down:

From this perspective, the Ocean appears to be a coherent body of water without any series of waves that exhibits discrete properties (amplitude, wavelength, frequency). Alternatively, you can imagine that you have come down to Earth, so to speak, and are now standing on the beach looking out into the water:

Now, we clearly see multiple waves with discrete properties moving towards us and breaking as they approach the shoreline. The first overhead perspective would represent a particle existing in coherent quantum states, while the second represents a particle that has interacted with its environment and has lost that coherence. Both of these perspectives are fundamental representations of reality, and neither is more "correct" than the other. They do, however, reflect a reality that has fundamentally changed from one perspective (level of complexity) to another.

The point of the above theoretical musings is to help the reader begin thinking about what it means for something to have a "fundamental nature", and how that nature can change as systemic complexity increases. Specifically, with regards to gold as a "monetary" asset, we can ask ourselves what its fundamental role has become in our highly inter-dependent systems of societal organization, and what it will ultimately be.

(The descriptions of FOFOA's views below are my personal interpretations and have not been confirmed as either being accurate or inaccurate by FOFOA)

One of the most insightful and popular physical gold advocates is a blogger called Friend of a Friend of Another ("FOFOA"), and he frequently writes about what he believes to be gold's unique role in the modern global economy. He argues that physical gold, unlike fiat currency assets, has traditionally been and will continue to be the most stable "store of wealth" used by nations, central banks, many large corporate institutions and wealthy individuals around the world.

The nominal dollar value of debt-backed assets held by these "giants" currently outstrips that of their gold-related assets by a large margin, but he argues that the dollar is merely a liquid means of exchange and temporary store of value for the major players. They are hoarding gold and patiently waiting for the dollar to "find" its true "store value" in relation to physical gold, at the bottom of a very deep monetary well.

In essence, they will outrun the "haircuts" on debt-assets by converting them into gold and other hard assets before any of the smaller players even know what hit them [Another, FOA on Hyperinflation] [emphasis mine]:

"Human nature has followed this path for thousands of years. You know the old joke about outrunning the bear? Well, these lenders will influence our financial policy as such. They will try to get their debt securities liquefied first, spend the fiat and in this process outrun you and I. Leaving anyone they can beat to the mercy of the hyperinflation bear eating their remaining fiat assets…

Allowing the US to destroy our own system and offering an avenue of escape for investors worldwide is a master political play. Why dump your dollar reserves when such an action would make you the bad guy? Buy some gold quietly, yes. But, better to let your dollars dissolve and have your assets transformed by a dollar / physical gold devaluation."

The dollar hyper-inflationary process (in terms of price) could take off tomorrow or a few years from now, but, regardless of the timing, the only assured way to preserve one's excess investment wealth is by exchanging dollar-based assets for physical gold from here on out. A fundamental problem begins for this argument, in my opinion, when it attempts to predict the long-term destiny of physical gold through the lens of isolated monetary and political systems.

Isolated to the extent that they are perceived as being both able and willing to unleash a dollar devaluation "bear" on the current financial system, allowing a new global paradigm to inevitably rise in its wake. In our global society, however, we (and FOFOA) should be talking about how the role of gold will be influenced not only by monetary, currency and political systems in isolation, but also by these systems as naturally dependent components of our complex economic and financial systems; as discrete waves in the high seas of industry and credit.

Readers of this article who adhere to the concept of "Freegold" may notice that the theoretical distinctions between it and what I lay out are very subtle. That is certainly true, but subtle differences in such a broad context can spawn vastly different implications for global society's future path. Are we really watching the monetary, social and political systems around the world siege the global financial system and take back a large portion of the value lost through years of imaginary capital creation and wealth concentration? Or are we simply watching them respond in kind as mechanical parts of an unholy and inseparable union?

Can the atom let its electrons go free and reclaim their place in the coherent fabric of the Universe, or will they first be forced to float down to lower energy orbitals, a bit closer to the bright white sands of the shore? Abstract theories and philosophies help us place specific developments into a much broader context, as long as they are initially built on a block of solid foundation. FOFOA writes the following critique of Karl Marx, in his article The Debtors and the Savers [emphasis mine]:

Today we have many fine, intelligent and exacting analysts all looking at the same economic data and coming up with vastly different analyses of the present global financial crisis. What sets them all apart from each other is not intelligence, or math skills, or even popularity. What sets them apart is the foundational premises on which they operate.

And a false premise can skew a brilliant analysis 180 degrees in the wrong direction
. Few analysts fully disclose their premises. But Karl Marx did, and in this we can find the one, key flaw that sent his analysis off in a disastrous direction.

Marx writes, "The history of all hitherto existing society is the history of class struggle." He got this part right! What he got wrong was his delineation of the classes.

I couldn't agree more with the bolded statements above, but, naturally, I disagree with what immediately follows. FOFOA goes on to describe Marx's premise - the capitalist system of production contains a constant dialectical struggle between the working class (labor) and the capitalist class (owners of productive capital) - but argues that, instead, the struggle is actually between the debtors (net consumers) and the savers (net producers). It is claimed that the debtors are essentially oppressing the savers by spending beyond their means, devaluing their debt (currency) via printing and diluting the value of the savings in the system.

However, as I plan to demonstrate in further detail, it is FOFOA who argues from the false premise that debtors occupy a distinct class in society apart from savers, and that the former are merely consuming more than they contribute to productive society. That premise naturally leads him to conclude that the next phase of economic evolution will involve a global monetary system that essentially rids the savers of debtor oppression, by containing a branch that functions and derives value independent of the paper financial system. Through this logic, he spins himself around to have his back conveniently turned on Marx.

The latter was, in fact, technically correct with his theory of dialectical materialism and his class delineations, but he did not envision the extent to which large financiers would absorb the functions of the capitalist producer class. He also failed to see how debtors would come to comprise such a large share of the working class, right alongside the savers. We have ended up with a global class struggle between financial owners of capital, on the one hand, and debtors (including governments/taxpayers) and savers on the other (both of them being "workers").

The defaulting debtors are not necessarily "net consumers" over time, but many times receive less and less compensation for their productive efforts. The subtle distinction leading to this class delineation instead of the debtors/savers opposition is the specific dialectic involved. FOFOA's dialectic stems from the Hegelian tradition of two opposing ideological forces (i.e. “easy money” debtors vs. “hard money” savers) synthesizing to create a new paradigm. Essentially, the cart is being put well before the horse, which is a fact that Marx (and Engels) recognized when they developed the theory of dialectical materialism and turned Hegel on his head [].

"My dialectic method is not only different from the Hegelian, but is its direct opposite. To Hegel, the life-process of the human brain, i.e. the process of thinking, which, under the name of ‘the Idea’, he even transforms into an independent subject, is the demiurgos of the real world, and the real world is only the external, phenomenal form of ‘the Idea’. With me, on the contrary, the ideal is nothing else than the material world reflected by the human mind, and translated into forms of thought." [Marx]

The material environment of human existence is what underlies the development of socioeconomic structures in society and their inherent class delineations, and these opposing forces (“oppressor” vs. “oppressed”) are what drive the political economy. For example, the industrial (energy) revolution is what really allowed the capitalist system of production to root itself around the world, and this economic system necessarily created two general classes in society – the owners of the means of production (capitalist) and those who are forced to sell their labor to the capitalist (worker).

When discussing the scopes of these very abstract and fluid systems, it helps to have some kind of visual representation, simple and crude as it may be. The following is a snapshot of the critical systems influencing Marx's material dialectic at this point in time:

Blue to White Color Progression = Height From Cone's Base ( Complexity up)
Connected Red Diamonds = Sociopolitical Systems Derived From the Financial Capitalist System

The currency system is the smallest and most specialized part of the cone, as it only encompasses mediums of exchange and stores of wealth that have been officially sanctioned by national or transnational political institutions. Our monetary system is larger because it includes the currency cone plus any tangible or intangible asset that can act as a medium of exchange and a store of wealth, regardless of whether it is officially recognized by a political body (as long as it is generally recognized by prevailing social norms in a given region).

Money is actually a less abstract (complex) concept than currency, as it can reflect the relative value of tradable goods more directly (in fact, it may be the goods themselves). All forms of currency (i.e. U.S. dollar) are money, but not all forms of money are currencies. Physical gold can be thought of as money, since it is a widely accepted means for members of a society to store their savings (net income minus non-investment consumption). It can also be used as an informal medium of exchange in many parts of the world, but it may not necessarily be accepted by large merchants in the developed world and certainly not governments collecting taxes.

FOFOA claims that, since physical gold now only acts as a global money reserve rather than a currency reserve (or a backing of currency), it is an ideal store of value for savers. That is arguably true because its "value" does not have to be diluted by expanding the currency supply for the purpose of providing "liquidity", easing debt burdens and stimulating growth. In that sense, physical gold could be a repository for saving excess wealth without stifling economic activity, and currencies used in the global monetary system as mediums of exchange can independently float against its price on the market, as the global reserve asset.

The "reference point" of gold would provide a natural carrot and stick mechanism, in which political or financial institutions that use their currency "printing presses" with relative control are rewarded with an influx of gold capital, while those that use them with reckless abandon are punished by gold capital flight to another currency region. Is such a mechanism really capable of being implemented, though, or are we projecting an ideal monetary system (a coherency) onto our global society that is very unlikely to occur, and fundamentally impossible to predict with certainty?

The following passages from Reference Point Revolution help illuminate the flaws in the logic of the Freegold paradigm [emphasis mine]:

"But right now, for perhaps the first time in history, individuals can join central bankers and the true Giants of the world by participating in the ultimate hedge fund. One that, like modern hedge funds, focuses on the hedge itself as the key investment with the most leverage, with the expectation of life-changing returns. And the main differences between this and traditional hedge funds are 1) much less risk, and 2) it is open to ALL individuals, including you!" [FOFOA]

"If you are following closely, now, we can begin to see how easy it is for the concepts of modern money to convolute our value and understanding of gold. It is here that the thought of a free market in physical was formed. Using the relationship of a free physical market in gold, we will be able to relate gold values to millions to goods and services that are currency traded the world over. Instead of having governments control gold's value to gauge currency creation; world opinion will be free to associate the values of barter gold against barter currency. In this will be born a free money concept in the minds of men and governments." [FOA]

The Freegold perspective tends to view the global monetary system as a coherent body of water, in which monetary waves can take on a nearly infinite number of forms or functions as the oppositional ideologies of humans naturally progress. That perspective does not adequately reflect the complex, inter-dependent society that has evolved over the last few hundred years, beginning with the industrialization of national economies and ending with the global financialization of nearly all economic activity. During that time, the monetary waves became increasingly discrete, diverse and dependent as they traveled towards the shores of their destiny.

The properties (roles/values) of these waves have necessarily been constrained by the vast financial body of water in which they were formed, and their potential wavelengths must be measured as a function of financial dynamics. The global financial system is characterized by digital instruments that attach legal claims onto the productive assets of others. These assets may be farmland, human labor, machinery, the actual production process, supply lines, currency, money or any number of things, but such assets do not solely imbue the instruments with value.

Another important aspect of a financial instrument's value is its ability to be issued and traded on a "liquid" market and act as a medium of exchange, promoting the ease of economic transactions. For example, "negotiable instruments" in the U.S. are required to be "payable in currency", rather than just money, because a promise to pay someone in physical gold would not be easily negotiated through markets. Finally, and perhaps most importantly, the financial instruments obtain value through the social and political leverage they affix to the debtors themselves, which include individuals, corporations and governments.

These systems, like the monetary and currency systems, have also been fundamentally transformed into tools of the financial economy. For that reason, the political will of major countries will not drive the global monetary system to its final destination, but instead both politics and money will be driven by the dynamics of industrial and financial capitalism. Eventually, all monetary waves will break on the shore and their components will recede into the water, but those components will never exist independently of the industrial and financial bodies of water, as long as the latter have not yet dried up.

As a consequence, those who are invested in various forms of money, including the U.S. dollar, physical silver and/or physical gold, will not be able to store their wealth outside the broader system of industrial production and finance until they have fully broken down, and that process could last for some significant period of time. This fact implies that no monetary store of wealth can be insulated from the manipulative forces of capitalist production, systemic finance (leveraged speculation) or the sociopolitical leverage at their disposal during such a period.

Through political control, money can be transferred between segments of society at will by means of redistributive policies, capital controls or even outright confiscation, and it could also be made much more available ("liquid") to those with "adequate" economic influence over those with little or no leverage whatsoever. If the Freegold system were to take root in certain parts of the world soon, then it would most likely consume itself rather quickly, since many of the system's underlying structural instabilities would not be absolved by its presence. These instabilities stem from the mechanisms of value creation, realization (profit taking) and speculation in the financial capitalist system.

They escape the imagination of Freegold advocates because, along with the flawed dialectic foundation, the concept is founded on a fundamental misunderstanding of economic value in a capitalist system. The broader inevitability of financial capitalism is ignored to make room for the perceived inevitability of a global and gold-based monetary paradigm. In Part II, we will visit the foundation of economic value in modern society and it will become clear that value, just like politics and money, has been fundamentally transformed from what it once was in the relatively simple barter societies of our past. Until then, let this dialectic foundation settle.

There is only one holistic system of systems, one vast and immane, interwoven, interacting, multivariate, multinational dominion of dollars. Petro-dollars, electro-dollars, multi-dollars, reichmarks, rins, rubles, pounds, and shekels. It is the international system of currency which determines the totality of life on this planet. That is the natural order of things today. That is the atomic and subatomic and galactic structure of things today!  -Arthur Jensen, Network

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