Making the Case....Continued part 4

Reference Point

The reason we have covered Gold in detail, is because Gold is the reference point where you can begin to locate yourself in the economic cycle. Gold is to the economist what the North Star is to a sailor. If you are navigating, you need to know your coordinates in reference to an specific point so you may know how to plot your course.

Profit, Capitalism and Rule of Law

I will touch on some very basic and fundamental principles that to many of you are obvious, yet I come across many that claim to know the basic fundamentals and still fail to understand how they apply to business and economics.

The fundamental principle of Capitalism is to make a profit. If you fail to make a profit within the allotted time to cover your costs, you will not grow. If you have a deficit, you are bankrupt. This principle originates and comes from the very simple observation of Life, if a cell does not receive the necessary nourishment required for its survival on time, it will starve to death. Any additional nourishment from the cell’s present needs are stored and later used in case of a deficit (that is why we get fat). The more efficient you are at making a profit, the faster you will grow. Now, this presents a problem in reference to Gold, because Gold does not reproduce itself. The only way to increase the amount of Gold is to mine it from the Earth, which is a very tedious and expensive process. This fact, however, has not stopped many people from charging interest rates higher than the extraction rate from the Earth, making repayment of the Gold loan impossible. Let me give you an example, let us say there are only 10 ounces of Gold extracted and in control of an Individual, that individual may find some other individual willing to borrow the 10 ounces of Gold at 10% per annum; yet the extraction rate of new Gold is only 2% per annum, this means that repayment of the loan is impossible because at the time the loan is due, the borrower will be short 80% of the interest. That is to say, 10 ounces, 2% extraction rate equals .2 of an ounce for a total of 10.2 ounces of Gold, while the due amount is 11 ounces of Gold! Keep this in mind, because another tenet of Capitalism is the protection of property rights and adherence to the Rule of Law. If you had made this bargain as the borrower, the lender is in every right to recover from you any collateral from your breach and failure to honor your contract. So it is very important for you to be informed and understand what you are doing before you sign any contract.

Initial Setting of Value

We need to address how the original value of Gold came to be set. Since all the Gold that has been accumulated did not appear at once from a vacuum, it is evident someone had to do something to extract it from the earth. This requires resources be spent in extracting Gold. It is possible that one of our ancestors came upon a nugget of Gold attracted by its shiny and yellow beauty, picked it up and took it with him. It was not until another individual saw the nugget and decided he wanted it for himself, and barring violence, he decided to trade something for the nugget of Gold; thus establishing the first trade and value of Gold in reference for some other commodity or service. Having established that some individual is willing to trade a certain commodity for Gold, it flows that someone must have began to mine for the metal in order to exchange it for any other desired commodity or service. In order to mine for Gold an individual must spend resources, the most fundamental being his time.

In order to make prospecting and mining for Gold profitable, an individual must receive enough compensation to cover his needs for survival with some left over. That is to say, he must get enough from the Gold mined to cover his basic needs like, food, shelter and protection. For example, if he was to find an ounce of Gold in one month, he would need to receive enough for that ounce of Gold to obtain enough food and other necessities to warrant his effort of mining for Gold. Every moment that an individual spent mining Gold, it was a moment lost from doing something else, like planting, hunting or gathering food. It must now be understood, that the Gold that came into circulation came from someone’s effort, labor and time.

As we go along, it will become evident how the perversion of these fundamental facts in reference to Gold shows how our economy is corrupted to the detriment of the many for the benefit of the few. Furthermore, we will come to understand how the fundamentals are perverted and why the perversion of the fundamentals leads to cycles of boom and bust in the economy.

Making the case for a Credit Contraction, Deflationary Depression. part 2

Now, the question must be asked: Why is Gold Valuable? Or, what makes Gold an excellent store of value? Better yet, let’s ask what is value and how does it apply to Gold.

Looking up the definitions of Value we get the following from Dictionary.com:

value  noun, verb, -ued, -u‧ing.

–noun 1. relative worth, merit, or importance: the value of a college education; the value of a queen in chess.
2. monetary or material worth, as in commerce or trade: This piece of land has greatly increased in value.
3. the worth of something in terms of the amount of other things for which it can be exchanged or in terms of some medium of exchange.
4. equivalent worth or return in money, material, services, etc.: to give value for value received.
5. estimated or assigned worth; valuation: a painting with a current value of $500,000.
6. denomination, as of a monetary issue or a postage stamp.
7. Mathematics. a. magnitude; quantity; number represented by a figure, symbol, or the like: the value of an angle; the value of x; the value of a sum.
b. a point in the range of a function; a point in the range corresponding to a given point in the domain of a function: The value of x 2 at 2 is 4.

8. import or meaning; force; significance: the value of a word.
9. liking or affection; favorable regard.
10. values, Sociology. the ideals, customs, institutions, etc., of a society toward which the people of the group have an affective regard. These values may be positive, as cleanliness, freedom, or education, or negative, as cruelty, crime, or blasphemy.
11. Ethics. any object or quality desirable as a means or as an end in itself.
12. Fine Arts. a. degree of lightness or darkness in a color.
b. the relation of light and shade in a painting, drawing, or the like.

13. Music. the relative length or duration of a tone signified by a note.
14. values, Mining. the marketable portions of an orebody.
15. Phonetics. a. quality.
b. the phonetic equivalent of a letter, as the sound of a in hat, sang, etc.

–verb (used with object) 16. to calculate or reckon the monetary value of; give a specified material or financial value to; assess; appraise: to value their assets.
17. to consider with respect to worth, excellence, usefulness, or importance.
18. to regard or esteem highly: He values her friendship.

Having read through all of the different definitions, we still have not found the fundamental reason from where Gold gets its value.

The question then becomes; who determines value? The answer; an individual. Now we are getting somewhere. If an individual determines value, does he determine value in an objective or subjective manner? Given that no two individuals are the same, how do they reach a consensus on what is the value of something? Or worst, how about if they cannot come to a consensus? How is such a conflict resolved? Well, at its most basic level, the individuals may agree to disagree or resolve the disagreement by violence, that is, the will of the strongest sets the value of the item or issue in controversy. It can then be said, that is the subjected will of an individual that sets value of an item in relevance to him. But how do we make the subjective value of one individual equal that of another? Although a strong individual may coerce a weak individual by violence to accept something as higher value, the weak individual may still disagree as to the value of the item or issue in controversy, but fail to express it by fear of incurring harm. Then, without coercion, how do we get the subjective will of two individuals to reach a consensus on a value of a certain item? The obvious answer is by achieving their voluntary consensus; that is, by the agreement of their own volition, or will, of the value of the item in controversy. Gold then becomes valuable by enabling an individual to persuade the voluntary will of another individual. Hence the cliché: Money is power.

Now we can clearly understand why Gold’s inherent characteristics make it an excellent storage-of-value, since it can’t be manufactured and its quantity can only be incremented by extraction from the earth and tedious labor. It is the individual’s belief that Gold can persuade the will of other individuals, as it has persuaded him that makes Gold valuable. That is to say, the individual has acquired faith in Gold’s ability to be used to persuade other’s will. Gold’s limited quantity, beauty and non-reproduction deny individuals the ability of making it worthless by careless reproduction or excessive supply.

Making the case for a Credit Contraction, Deflationary Depression.

There is much confusion as to what is going on in the world economy. The reason there is so much confusion is because most of us do not understand the three interdependent concepts of Money. Money and its use did not develop in a vacuum; it came about from the myriad of trials and errors our ancestors experienced in their daily exchanges with each other in times passed. Before we can understand where we are today, we must first understand where we came from.

Three Concepts of Money.

There are three concepts that are encapsulated in what we call Money, they are:

1. Medium-of-Exchange
2. Unit-of-Accounting.
3. Storage-of-Value.

We will address each of the three concepts so we can finally understand where we are today and better predict where we are heading economically.

First of all, let’s understand what a concept is. Dictionary.com defines a concept as follows:
http://dictionary.reference.com/browse/concept

Concept:
–noun
1. a general notion or idea; conception.
2. an idea of something formed by mentally combining all its characteristics or particulars; a construct.
3. a directly conceived or intuited object of thought.
–verb (used with object) 4. Informal. to develop a concept of; conceive: “Experts pooled their talents to concept the new car.”

We can see from the above definition that a concept is an idea that came about from our process of thinking. How do we get an idea into our physical world, or better said, how do we get something from our head to become real? Simple, we will it so. You by taking the necessary action on a belief or idea can make things happen as long as your concept or idea can take place according to the Laws of Physics or the Laws of the Universe. Pretty deep stuff huh? Don’t worry, it is not that complicated. We are born ignorant, that is, we are born not knowing about how the world around us works. Each of us is responsible for finding out what are the rules or Laws of the Universe that govern our existence in this world.

Imagine this, if you were the only one on the planet, you would not need Money. Why? Because you would not have anyone to trade goods or services with. You would have to do everything for yourself and produce everything you need for your survival from the natural resources of the Earth. You can now see that in order for the first concept of Money to come about you need more than one Individual. Ok, so let’s say there are two or more individuals, (For simplicity, we will not address political systems where one may coerce another with violence.) at the most basic level these individuals trade with each other by barter, that is to say, if one is a farmer, the other a rancher and another a fisherman, they can exchange their goods directly for those of the others. Problems arise in barter when the goods to be exchanged are not proportional to each others subjective assigned value or the other individual may not want what the other has to offer. A rancher may value his cow higher than his want for a couple of pounds of fish, while the fisherman may only want a couple of pounds of beef, ( See barter here: http://en.wikipedia.org/wiki/Barter ) or the rancher wants fish, but the fisherman does not want beef.

Medium-of-Exchange

Here is where we introduce the first concept of Money, that of a Medium-of-Exchange. Our medium of exchange must have certain characteristics, some of which are:

1. It must be transportable.
2. It must be divisible.
3. It must not be easily counterfeited.
4. It must be able to carry a high value to its inherent volume and mass.
( See Medium-of-Exchange here: http://en.wikipedia.org/wiki/Medium_of_exchange )

So how can we find a suitable medium-of-exchange? Well, our ancestors found it by experience, they tried using many things but the most qualified turned out to be a metal called Gold.

GOLD

Gold was found to be easily transportable, divisible; not able to be counterfeited, and could carry lots of value in a small size. It was because of Gold’s limited quantity on the Earth that enabled our ancestors the ability to set an arbitrary Monetary Unit. It would have been very hard for them to assign to any element a specific value as a Monetary Unit without reference to something else. As you would have it, it was Gold’s specific attributes that enable our ancestors to use Gold as the reference of value to the abstract concept of medium-of-exchange. Gold by virtue of its limited quantity divided by certain unit of measure could be used to set the price for other elements or products; and even time. To this very day and age, Gold is still the standard by which we can set our prices in relation to all the other elements.

By using Gold and a standard unit of measure our ancestors gave birth to the second concept of Money. They found out that they could account for other elements in terms of units of Gold. But weighting Gold was tedious and time consuming, they found out that they could make a certain quantity of Gold a standard unit of measure which easily became a standard unit of accounting. They progressed to minting coins. Gold’s limited quantity restricted the number of coins that could be made, therefore something else needed to be used in addition to Gold for use as a medium of exchange, hence, the use of Silver in relation to Gold.

By minting a standard Silver coin and assigning it a fractional value to that of a Gold coin they could expand their quantity of medium of exchange. For example, they could have one ounce of Gold equal ten ounces of Silver. This of course is not perfect, since Gold and Silver are two different elements, their proportions and ratios to each other can fluctuate. This caused prices to vary in reference to the two different elements.

Unit-of-Accounting

Once we have our medium-of-exchange we need to assign a Monetary Unit value to it, in the case of Gold we derive its Monetary Unit from its physical characteristics. Let’s say 1 ounce of Gold equals one Monetary Unit. This becomes our unit of accounting, which we can measure other element prices in reference to Gold. For example, we can say 1 Monetary Unit equal 1 ounce of Gold. So if we say, ten ounces of Silver equal one ounce of Gold, we have set our price of Silver ten times in relation to one Monetary Unit of Gold (1 Gold Ounce).

Now, let’s go back in time. We are camel sellers somewhere in the South Mediterranean. We have the latest and greatest model camel with humps and chromed hooves for a splendid price of 15 ounces of Silver. In comes Ahmed from the desert looking for a reliable camel. We showed him our models and after much haggling we settle on a price; we sell him a chromed three humped camel for 14 and a half ounces of Silver, we even throw in a new extra harness and manure catch bag (for used down-town in the village). Well, Ahmed has only two Silver coins weighting one ounce each and a bunch of small nuggets of Gold. After weighting the Gold, we find that Ahmed has 1 and three quarters of an ounce of Gold. We look up the day’s exchange rate of Gold and Silver on our daily sheepskin roll and find out that Rafik the money changer is accepting raw Gold at 1 ounce of Silver for 1/10 ounce of Gold. We do our quick math on our trusty abacus and charge Ahmed one and a half ounces of Gold. We charge Ahmed the additional 1/20th ounce of Gold for documentation and services fee.

Most of our local trade is made in Silver, so in order not to forget, we get a piece of parchment and write down our figures to the sale made to Ahmed. Since Lucca Paccioli has not popularized the double entry accounting system yet, we go ahead and write on our books:

Sold to Ahmed 1 camel for 1.5 OzT Gold or equivalent to 15 OzT Silver.

We need to find out how much we made on our deal with Ahmed, we tally up the costs, taxes and expenses and everything comes out to 12 ounces of Silver. Since we have a conversion ratio of 10 ounces of Silver to one of Gold, we find that we made three tens of an ounce of Gold or equal to 3 ounces of Silver. Not a bad 20% profit. We like selling camels.

Using the ounce of Gold as a reference, we can now plan and account to see how much potential business we can do and from there project our future profits.

The fundamental thing to note here is that we have taken something physical and drawn from it another concept, and that is the concept of a unit-of-account.

Storage-of-Value

The next concept is that of the storage-of-value. Once you had Gold, you could take it with you and trade with it. But if you did not need to use the Gold you could store it. Storing the Gold had the effect of making it more valuable, because there was less to trade with and could not be used effectively as a medium-of-exchange. Since no one can make Gold out of nothing, Gold retained its value, making it an excellent storage-of-value.

http://www.flippernation.com/

episode one: the first flip

http://www.youtube.com/watch?v=GHMfI_RRriQ