$2,100 'Sounds Right' for an Ounce of Gold

February 14, 2011

[Our correspondent and occasional guest essayist Erich Simon has been talking up gold for as long as he can remember. Recently, however, after working some comparison numbers based on grocery bills we would have paid 40 years ago, he discovered that gold's powerful rise was somewhat anemic before Helicopter Ben opened the money jets. He further notes that our apparent overestimation of gold's strength is no accident - that even the most astute bullion investors have been fooled by our cunning masters. For the full story, read his essay below. RA]

The dollar is down about 98% since it became global tender. Back in 1971, era of Nixon Shock, the price of an ounce of gold was $35 -- in line with its 1945 conscription. Right after Nixon closed the gold window, the price popped to $42. All things being equal (and assuming gold doesn't get used up), at what price must gold be valued to compensate for a 98% loss from -- call it inflation, debt or whatever you like. I think the math goes like this: One dollar is now 2% of its former self. If you divide the 1971 "fair market" price of $42 by .02, you arrive at $2,100. The price of gold (POG) is in fact now around $1,365.

The $2,100 level is probably more accurate than the $2,500 prediction I made years ago, when I was appalled at the large number of billionaires being hatched from the shells of millionaires. But the higher estimate can stand nonetheless, since we could easily see, from current levels, the equivalent of the 1980 spike to $850. The catalyst might be the postponed bank-runs that are baked into the cake. Mass denial would end in a flash as Americans rushed to exchange paper savings for necessities and other things with real value. Meanwhile, prices are continuing to rise.

This unbending reality guarantees an Argentina-style bust rather than a drawn-out Japanese-style suffocation. The collapse will be all the more climactic thanks to our history of negative savings. Also, there's the prospect of outright repudiation of the greenback by the international community, even as the Fed's trumpeting of Terrorism would seek to bring about a single world-currency.

Gold vs. Groceries

If the POG hits $2,100 it will be more or less aligned with its historical purchasing power relative to any basket of common goods. One way to gauge the global economic deterioration since 1971 inside the crosshairs of today's Global Pawn Shop Economy (i.e., deflation) and the backdrop of overpopulation and resource scarcity (i.e., inflation) is to measure gold's purchasing power against a basket of necessities. Such as food. A representative bag of groceries in 1970-71 (California prices) might include a pound each of pork chops (59 cents), potatoes (9 cents), apples (15 cents), onions (9 cents)... a bunch of celery (38 cents), a dozen large AA eggs (59 cents), a quart of milk (33 cents) and a can of Campbell's tomato soup (10 cents). The total for the 1971 bag is $2.32. Today, that same bag costs (in Pennsylvania prices): pork chops ($3.95), potatoes (98 cents), apples ($1.16), onions ($1.06), celery ($1.68), large A eggs ($1.86), a quart of milk ($1.02) and a can of Campbell's tomato soup ($1.00). The total is around $12.71.

In this off-the-shelf comparison, food prices are 5.5 times higher than in 1971. That corresponds to a gold price of about $230 ($42 multiplied by 5.5). There's a lot of distance between $230 and $2,100. Certainly there is some slack in these numbers, and while we'd like to qualify the calculation, saying "all other things being equal," equal they are not. In 1974, when the official price of gold was $42.22, the New York market price was $159.74. And even though food prices are, like gasoline, appearing to leap, we are still enjoying much lower prices of both on a global comparison.

A Diabolical Plan

There are many variables to consider when identifying an exact target for the POG, starting with a production cost averaging around $325 these days and factoring in the "food price of gold" after taking up 25% to 30% of the price "slack." But when one compares the gold price with the money supply boon from 1995-2001, along with all things paper, the men at the Fed have proven clever and even ingenious in a diabolical way. All ships rise in the money tide, but they kept gold right where it should have been, all things being equal since 1971.

Most people lack the acumen, or deviant mindset, to understand how gold and the credit markets could be so heavily manipulated that the price of gold in 2001, at a long-term nominal low of $251, could arguably be closer to a long-term high in real terms. Up until 2001 the Fed sat on the POG to keep it in line with its historical purchasing power against basic necessities, and to help foster the illusion of dollar solvency. Then, to effect a managed inflation and to hide the evidence that our prosperity was hollow, the Fed allowed the dollar to lag, and gold to rise.

Worthless Savings

The POG at $2,100 would accurately show just how much monopoly money has been injected into the system. Prices of necessities, like food, are destined to accelerate higher, and that is already happening in the wheat market. Whether gold can achieve $2,100 remains to be seen because the crossover of deflation can knock the legs out at any time. This was all cunningly arranged to facility theft without protest. A lifetime of paper savings wrung from the sweat of our brows was rendered worthless as we all looked on; moreover, the same hands that emptied the social coffer are now taking the bankrupted masses by the collar into the coming chain of events.

The role of gold has been a distraction, and it is only now playing catch-up with other asset classes, some whose day has come and gone, by rising in nominal terms even as it continues to fall in real terms. In fact, if there is anyone propping the gold price it is the government, since to do otherwise would be case-closed on the indictment of our continuing Depression.

Working for Free

Even the infrastructure workers who are still holding onto jobs do not understand that they are working for free and living on borrowed time while they await Adam Smith's invisible…fist. And the Gold Bugs are similarly getting spun in circles, enthralled and hypnotized by wondrous paper gains, myself included. But an ounce of gold is setting up to buy no more than it did in 1971 -- and then even less, to reflect the true face of macro valuations.

Limitless amounts of currency were printed after 1995 while suppressing the nominal price of gold and then managing it upwards to a level it may or may not achieve. Gold was finally "allowed" to start moving upward in 2001 while its intrinsic value, along with the value of many frivolous tangibles in prodigious oversupply, such as McMansions, is falling. Today the contamination of America's food supply -- of the world's so-to-speak bread basket -- along with the terminal decay of our infrastructure and the depletion of Third World suppliers' resources, are polar opposites to the conditions that obtained in 1971. Yes, an ounce of gold is setting up to buy far less than what it did back then.

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Throughout history the ruling class has always sought to own gold and silver because they represent purity and longevity.