Fools’ Gold

The 17 July issue of The New Yorker contains an article by James Collins on a class of investors he calls "gold bugs," who hold that, in the final analysis, "gold is money, and only gold is money." Everything else is either a speculative bubble not properly built on a gold foundation, or the wonderful results of a financial system properly backed up by good ole gold. Gold is the only investment that will hold its value when the Big Crash comes; the accumulate-and-hold approach to investing in gold will bring better and more guaranteed long-term profits than any other possible investing strategy; the world would be a lot better off if all of this funny business were properly tied back to the transfer of gold it really represents.

In a word, these people are nuts. Gold is no more the "real" money than anything else we use as currency, and in some ways, it's less so. Thomas More summed up the anti-gold case pretty well in his Utopia:

It is certain that all things appear incredible to us, in proportion as they differ from our own customs. But one who can judge aright will not wonder to find that, since their constitution differs so much from ours, their value of gold and silver should be measured by a very different standard; for since they have no use for money among themselves, but keep it as a provision against events which seldom happen, and between which there are generally long intervening intervals, they value it no farther than it deserves, that is, in proportion to its use. So that it is plain they must prefer iron either to gold or silver; for men can no more live without iron than without fire or water, but nature has marked out no use for the other metals, so essential as not easily to be dispensed with. The folly of men has enhanced the value of gold and silver, because of their scarcity. Whereas, on the contrary, it is their opinion that nature, as an indulgent parent, has freely given us all the best things in great abundance, such as water and earth, but has laid up and hid from us the things that are vain and useless.

Aside from a couple of quibbles (man's inability to live without iron is literally true only in a rather narrow technical sense, having to do with hemoglobin), More basically lays it on the line. I'd like to pull out some of these themes a little further to make clearer what he calls "the folly of men."

First off, the claim that gold, existing in and for itself, has any sort of intrinsic value, is complete hokum. Value is a human concept; it's only meaningful in relation to some person and their wants and needs. If intelligent life disappeared off the face of the earth tomorrow, the contents of Fort Knox would have no meaningful value, high or low. It takes a person, a person who eats and drinks and likes to sleep out of the rain and who likes pretty objects, in order to say that food or drink or iron or gold has some value. These values may vary -- you value food less after a meal, and your artistic tastes change with time, and so on -- but the point is that value derives from the valuer, from your decision that you'd rather take a bath right now than go to a movie, that you'd rather have a hammer than a nail. Even the fallback argument, that gold is intrinsically valuable to people, is highly fishy. That's the Midas story: you can't eat gold, you can't build a house out of it, you can say all you want to it but it won't say much back. It's shiny and can be worked into nice shapes, and that's about it. I just don't seen an absolute case here.

As for the argument that gold is the only true money, well, that stems from a fundamental misunderstanding of the nature of money. Monetary value -- the kind of value reflected in the statement that "only money backed by gold is worth anything" -- is socially constructed, and there's nothing to show that society will necessarily construe gold to have monetary value, and nothing else. Money, as Homer Simpson says, can be exchanged for goods and services. That's what money is, that's all that money is, and gold enters into that definition nowhere.

Let's perform a little thought experiment. You and I, let us say, have met on the street, each of us carrying a sack of stuff. We open our sacks and display our goods, and being covetous of our neighbors possessions, we decide we'd like to engage in a little friendly exchange. I want your teapot in the shape of Moe Howard's head, and you want my Star Trek commemorative plates. You're all set to make the trade, but I don't want the teapot as much as I want the plates, so you offer to throw in a Chewbacca tie, at which point both of us agree we'd be better off making the trade than we are at the moment, so we shake on it, hand over the swag, close up our sacks, and go on our way. We've just gone through a perfectly acceptable barter transaction, built upon our respective values. Just to check, nope, no gold.

Where money comes into the picture is as a bookkeeping device, a way of simplifying the discussions we take part in to reach our final deal before we head along our respective paths. The process of fitting together these packages of goods that fit into mutually-accepable trades is a complicated one, combinatorially ugly, and requiring us to be weighing in our minds the values of strange and arbitrary sets of stuff: would I rather have the teapot and the tie and a bag of jelly beans, or the plates and the statue of Leonardo da Vinci made entirely out of elbow macaroni and the laser-powered elephant repeller? But if I introduce into my head some sort of abstract count, say that the teapot is "worth" eight and the tie "worth" two and the plates are "worth" nine, then (assuming independent valuations), I can factor my end of the bartering into a simple addition problem, and I'm willing to go ahead with any trade that gives me more of these abstract units than I give up. If you make a similar calculation, we don't need to be trying to separately compare every possible trade we could make. We can make partial trades -- the teapot for the plates, but I feel that I'm a behind on the trade, and you're a bit more ahead than you need to be to be happy -- and then separately make other trades to settle accounts -- that tie is worth less to you than your excess of these abstract units, but it would make up for my shortfall. Again, gold has nothing to do with it.

To the extent that we can compare our counts, we might as well bargain out loud using them. I give you the plates for nine credits, then you give me the teapot for eight and the tie for one, and we close up our sacks and go home happy. To an outside observer, the individual trades don't make any sense -- why did I just hand you the plates? -- but when we part ways, we've done exactly what we would have done under a barter system and the trade makes perfect sense. These "credits" are a fiction the two of us share for the duration of our trading session. They're meaningless outside this context, which is why they satisfy this seemingly bizzare conservation law in which the total net quantity that changes hands is zero. Whoever has a surplus needs to trade them in for goods and services before we part.

We could, perhaps, agree to use some sort of convenient marker to stand in for these abstract units, carved pieces of wood, say. This has the immediate advantage of concretizing our trades and making for easy visualization of what needs to happen in order for us to reach an overall agreement. It also has the more long-term advantage that we could extend our "session" beyond this encounter. I could hang on to those extra pieces of wood, and give them to you for the fish you just caught, the next time we meet. Or, if we got someone else to go along with this convention, maybe I could give them to someone else for his fish, and he might give them to you for a Three Stooges poster. Again, the individual trades look insane, but the whole follows a perfectly sensible pattern. The tokens are worthless in and of themselves, and are valuable only as they participate in a closed system of exchange, going around in circles opposite to the ones the goods are going around in. The tokens stand for abstractions, and those abstractions in turn are meaningful only as potentiality, the potentiality of being exchanged for things that really have value to you and me and that other guy behind the tree. This is the point at which the gold bugs make their key mistake, I think. Conflating the monetary value of gold-as-token and the (lesser) "intrinsic," decorative, value of gold, they assert that the abstractions of currency derive their value from their representational relationship to gold, the backer of that currency, a leap which is wholly wrong. The thinking is that on that day when everyone "cashes out" of the imaginary system and converts back into the concrete tokens, those who are left holding the gold have the value. And sure, they do, to the extent that they can make pretty rings and chains, but the monetary value of the gold is entirely gone, it disappeared in the moment when people stopped crediting the monetary abstractions.

It's all a huge shell gamae. This fact makes many people deeply uncomfortable, but their discomfort does not make it any less true. The whole system of exchange works because we expect that it will work. I'll accept your carved pieces of wood today because I expect that tomorrow someone else will accept them -- my expectation that the system will work tomorrow is what leads me to do my part to make it work today. On your end, that I accepted them from you today makes you more likely to take someone else's tomorrow -- your current experience with the system working makes you more likely to perpetuate it in the future. It's terrifyingly circular, especially when you realize that this is exactly the same mechanism that pyramid schemes and all those other illegitimate instances of investment rely on. My reaction to reading Irrational Exuberance was to realize that the question is not whether the stock market is overvalued, but whether the stock market can be said to have any meaningful objective value. Money and investment literally are confidence games -- collective enterprises held up only by people's confidence in them. What we deem to have value has value, and this deeming need not be causally correlated with anything that would be "valuable" in the absense of this collective deeming. It's the human investment that matters.

For an example, consider Sony's decision to ban Ebay auctions of items from their massively multiplayer online game, EverQuest. People were playing EverQuest, acquiring virtual items of some worth within the game world, selling them to the highest bidder on Ebay, and then arranging to meet up in the online world and hand over the items. Leaving aside the philosophical and aesthetic issues of these crossings to and from cyberworlds (a topic which fascinates me for other reasons, but this rant isn't the place), people replcated in this online economy all sorts of interesting features of the real one: I think that the "currency" of EverQuest gold pieces passes every single test for a "real" currency. It's built upon people's collective senses of personal valuations, people are willing to exchange it for things they value more directly (magic items which enhance their game-playing experience), and the system of value it establishes is held up by people's confidence that the EverQuest economy will keep on churning.

Some enterprising folks found the "border" to this world and set up currency exchanges, ones which act just like real ones. The EverQuest money stays in the EverQuest world, and the US dollars stay in the meatworld -- each a happily-functioning economy with its own circular flows -- but enable a broader joint economy, in which the money I got from my job (for my labor) goes to an enterprising young fellow who plays too much EverQuest for a cloak of protection he bought for six thousand virtual gold pieces which he acquired from spending lots of hours playing the game, and he then uses my money to order in a pizza. It's a kind of ultimate alienation of labor from the products of that labor, which in this case don't even exist, and I'd love to see what the Marxists make of this one, but more relevantly, given the many strange financial instruments and e-cash schems and electronic scrip and online banks and so forth kicking around these days, I challenge you to say that those six thousand virtual gold pieces are any less real than the money which gets direct-deposited to my checking account and then electronically transferred to my credit card to pay off my order at an online merchant. The EverQuest world isn't as sophisticated nor is the economy quite as reliable, and the trading to and from its currencies is trickier (especially now that it constitutes a black market of sorts), and the confidence holding it up is less rock-solid, but these are distinctions of degree, not of kind.

Or, consider the devaluation of the NASDAQ this spring, in which many billions of dollars just vanished, as though into thin air. As the stock prices tumbled, the collective valuation of the NASDAQ, as measured in the total number of shares outstanding times the marginal exchange rates between those shares and US dollars, plummeted. Again, people are uncomfortable that this money just "disappeared," and some of this discomfort spills over to an existential uneasiness about stock and other "paper" wealth, which seems to come and go with no accounting for itself. I think that the key observation here is that the total "value" of the NASDAQ was, and still is, and allways will be, far more than the amount of money that could ever possibly be withdrawn from it. You simply couldn't sell all the shares; in fact, you can't remove more than a very small fraction of them before the price, and the "value" of the remaining ones starts to drop. The value is accumulated in the system, in its liquidity, in people's willingness to believe that others will be buying and selling NASDAQ stocks tomorrow, and the day after. When you and I close up our sacks to go home -- and never to meet again --, the "value" of our carved pieces of wood evaporates, and we become that much "poorer." It's the same reason that we don't really become any richer if each of us carves more sticks, or why governments can't just print all the money they need to buy absolutely everything they want: it's the exchange-value we care about, and the system is only going to tolerate only so much abuse around the fringes before the value this abuse cannibalizes just disappears. What happened to the NASDAQ was a certain decrease in the overall confidence of its investors, a retreat in their expectations of what kinds of exchanges they'd be offered in the future in exchange for their abstractions. And this decrease in expectations alone causes a present decline in prices, and undoubtedly fueled even more of the decrease in expectations. There really is no way around these positive-feedback systems; they're intrinsic to any financial system, the sword by which it lives and therefore also dies.

The point is that any system of money is held up by this trust, indeed depends upon it far more than it depends on any "objective" criteria for its stability. Those objective criteria are important only insofar as they get the system rolling, provide it with a useful initial critical mass. This is how gold got its start. It was shiny, it was pretty, it was wholly superfluous and therefore something of a symbol of luxury, and its supplies were sufficiently restricted -- no matter how much anyone tried to alchemize some up -- that it was difficult to inject more gold into the system. The intrinsic decorative value gave it a bit of a foundation even when trust relations collapsed, and the scarcity enforced the closed-system assumption necessary to produce trust in gold as a record-keeping token of the monetary abstraction. But it's ridiculous to hold gold responsible for all the early success of money; something else would have taken its place -- and often did -- if gold wasn't up to the task, and it was the confidence relationships which made the system work, not the shiny yellow metal.

The gold standard, even at its prime, was a non-issue, a debate over the tightness of fiscal policy shoehorned into a slightly inappropriate form. Gold backing was a tool of confidence, a way of spreading reassurance about the worth of money -- but the reason it worked was not that the gold backing itself was valuable, but because it was a public tying-of-hands. With fixed quantities of gold kicking around, a gold-backed currency was subject only to certain limits of manipulation, a bank backed by gold deposits could engage in only so much funny business. You could, in theory, demand a complete reckoning at any point in time. To actually do so would destroy the system, but the possibility of the chopping block and subsequent cavity search, one might say, keeps the goose laying those golden eggs.

But what about the mythical dimensions of gold, the accumulated legends and cachet surrounding it? Well, on one level, they're just another positive-feedback confidence game: gold is valuable because it is fetishized by so many, and it is fetishized because of its absurdly disproportionate financial value -- except that, as I've been arguing, these "disproportionate" values are anything but, and that if we're going to take all these other currencies at their obverse value, we might as well take gold seriously, also. Gold has very effective PR agents, true, but given this whole argument, does this mere fact invalidate their claims? Yes, and no.

There is a very subtle distinction to be made here. Gold is not fundamentally different from any other financial instrument, its worth is no more or less socially constructed. But the claims made for gold are different, because gold is claimed to be unique among commodities and currencies: gold is the One True Commodity, the Currency of Currencies, the Monetary Messiah, a claim which I argue is demonstrably false. The value of gold, though, is held up by this rhetoric in all its falsehood. The confidence scheme underlying gold is more cowardly, more ashamed of its own nature, than other similar schemes; one runs into internal contradictions sooner if one tries to work within the self-referential system of the gold bugs than if one casts in one's lot with the T-bill or the blue-chips. To formal logicians, the distinction is exactly that between Rosser's theorem and Lob's: currencies and logical formulae founded on the truth of their own success have slightly more going for them than ones which predicate the falsity of their logical foundations. I don't have anything against gold for its own sake, but I think auric exceptionalism fails just as badly as American exceptionalism, and for much the same reason: things are more similar than people like to admit, and the absurd is always closer to hand. Better to deal with the elephant in the living room than to steadfastly insist that elephants don't live on this continent.

A bit of a postscript. I realized while writing this what it was that I think ultimately kept Cryptonomicon from being the novel it could have been (or perhaps symbolized the novel it was): Neil Stephenson's adolescent fascination with the gold bug position spills over into every part of the novel and keeps it from ever really rising above the adolescent. As every character gets caught up in the wild chase after an obsecne quantity of gold, and as the scenes of high adventure involved in this case grow increasingly over-the-top, the novel feels more and more like something out of a book of adventure stories I read as a teenager, which had all the classics, like "The Most Dangerous Game" and "Lennigan vs. the Ants," except that it's two orders of mangnitude longer and written for geeky teenage boys instead of just teenage boys. Something about the gold cachet is wired straight to the Treasure Island instinct and in the same way that the obsession with the gold bug theory of monetary value undercuts the intellectual force of Stephenson's thoughts on data havens and cryptography, the obession with gold itself undermines any maturity he tries to build up in the pacing of the novel's events. Everything devolves into an almost stereotypically masculine gee-whiz rush for the gold, complete with cartoonish violence, and Cryptonomicon winds up being just a ripping good long yarn, instead of the great breakthrough geek novel it might have been.