The resurrection of a classic study of gold’s relationship with prices – the Golden Constant – originally scribed by Roy Jastram comes at a pertinent juncture not only in monetary history but potentially at a significant time of the year where seasonally gold prices are due to rise in nominal terms. The book had been out of print for many years with copies so hard to come by that they were themselves as valuable as an ounce of gold.
The Golden Constant: The English and American Experience 1560-2007 by Roy W. Jastram
The latest Robinhood Investors Conference is in the books, and some hedge funds made an appearance at the conference. In a panel on hedge funds moderated by Maverick Capital's Lee Ainslie, Ricky Sandler of Eminence Capital, Gaurav Kapadia of XN and Glen Kacher of Light Street discussed their own hedge funds and various aspects of Read More
Golden Constant: A look at gold prices
With the gold price reaching new records in 2008, the new edition, on Roy Jastram’s seminal work, considered by some to be the finest empirical analysis of the gold price, is certainly timely (and not coincidental).
Published in 1977, the author’s painstaking work on historical statistics enabled fluctuations since 1560 in the value of gold and its purchasing power to be studied. It established, for the first time, how gold’s purchasing power had been maintained over the centuries. This edition by Jill Leyland, former economic advisor to the World Gold Council reprints Jastram’s entire original text but adds two more chapters to bring the book up to date shedding new light on gold’s relevance today.
Jastram wrote: “I do not presume to take on the role of an economic historian or a monetary economist as well” (he was until he passed away Professor of Economics at the University of California, Berkeley), He undertook the methodology of a statistician to make a quantitative analysis of this economic period of history. By determining the statistical relationship between a unified series of the price of gold and that of a unified series representing the level of wholesale commodity prices he could measure the purchasing power of gold. He defined this as “operational wealth”.
Here at Hinde Capital we run a gold fund whose singular purpose is to offer investors the opportunity to seek preservation of capital against the erosion of the purchasing power of money. Investing in the precious metals sector not only satisfies this criteria but also offers the secondary objective of capital appreciation. We think not in absolute terms but in real terms, or as Jastram puts it – in ‘operational wealth’ terms.
The Golden Constant is a very important work on the price stabilizer role of gold throughout modern times (from 1560 to 1976 and now 2007) as a store of value and as a way to keep prices stable. The book helps to answer a question which many investors ask us at Hinde Capital: how does gold protect me and perform in periods of deflation? Most then go on to answer the question in the same breath. “Surely it goes down”, they say. By inference the assumption here is that in inflationary periods gold will rise in price. Certainly it’s fair to say that this is the rule of thumb assumed by most. It is by observing Jastram’s work we can perhaps disavow investors of this belief.
A very concise assimilation of his work examining the relationship of England’s & USA’s commodity prices and gold certainly reveals some startling facts:
In isolation these numbers do not have much worth for investors. For instance from 1933 to 1976 gold in nominal terms (exclusive of inflation) rose over 1400% but in real terms as we can see fell 25%. Its operational wealth fell 25%, in Jastram parlance. One can see that in this case gold was still a good hedge against inflation, but there were other goods that kept abreast more closely with inflation. Now to what these are is not important; suffice to say they were not assets that investors could purchase in any quantity, even if accessible at all. Gold (and silver) were the only viable assets primarily because of the high value to weight ratio. Gold may not keep entirely abreast of “inflation” at any one moment in time but it is the least volatile and stable ‘tracker’ for investors –
Jastram concluded that
- Gold is a poor hedge against major inflations
- Gold appreciates in “operational wealth” in major deflations
- Gold is an ineffective hedge against annual commodity price increases
- Gold does however maintain its purchasing power over long periods of time
Retrieval Phenomenon Debunked
Intriguingly gold does not tend to move towards commodity prices but rather commodity prices return to the price of gold. He referred to this as the Retrieval Phenomenon. Remember gold was given a value based on a fixed weight throughout these ages and his work concluded at a time when prices, certainly in the Western world, had had their most egregious price fluctuations in history. The formal abandonment of the last vestiges of a gold standard (a gold-exchange standard in reality) in 1971 under the Smithsonian agreement has since seen a chaotic period of monetary history. The revised edition of Jastram’s book addresses some of this reality in its conclusion on the relationship of gold and inflation and deflation.
Most individuals associate gold as a protector against inflation based on what we call the “recency bias”. Often we are hopelessly myopic in our understanding of past and present events. This assumption is primarily based on the reality that from 1950-1976 gold chased US goods prices higher. Gold had been price fixed previously at $35 ounce so the collapse of the London Gold Pool in 1968 led to the “catching up” of gold to other commodities. So the last forty years of fiat based monetary system stand out against the relative constant of the last four centuries. Now that the financial system is untethered to gold, we would concur that the propensity for gold to experience market fluctuations relative to commodities and other assets will see gold chase the price of commodities, rather than as acting as an anchor. This was the conclusion Leyland came to.
We would also contend that gold just like in the 1970s will continue to forge ahead of developed nation equity indices and a geometrically weighted basket of commodities such as the Continuous Commodity Index (the old Commodity Research Bureau Index) on a nominal as well as real basis. As an aside it should be noted that the inflation or deflations that Jastram covered were markedly benign relative to anything experienced in the 20th century. Before we can really assess the operational wealth of gold during ‘flations we must have an appreciation of their meaning. 03
See full document on “A Gold Constant?” in PDF format here via Hinde Capital