Gold – What’s in a Currency?

Whether a currency is weak or strong seriously affects buying power. Being Canadian, I have traveled the US when it took $1.50-1.60 to buy one US dollar. It keeps the cost of imports expensive. It helps export businesses and it helps tourism as people from countries with strong currencies see tremendous value in their vacations.

Gold is not a currency, but it does act like a form of money, and it preserves wealth in countries experiencing currency devaluation. It can work the opposite for countries whose currency is gaining strength.

We think we have cost of living issue, have you checked out Zimbabwe? According to this May article, Zimbabwe inflation in May, the cost of living double last April/May. It is predicted to be as much as 100,000% over this year, Zimbabwe inflation up more. The official exchange rate is very different than the black market rate where when converted to US dollars teachers make $100/month at the official rate and $6/month at the black market rate, Zimbabwe teachers on strike. Clearly demanding pay in grams of gold would protect buying power. Check out the video on life in Zimbabwe, Zimbabwe living in hyper-inflation. Currently, foreign currency is king.

Zimbabwe is experiencing hyperinflation. Check out their stock market and the graph goes straight up. Check out the early warnings, as this 2001 article shows, Zimbabwe 2001 decsions and one starts to see that the burden of debt and the inability to attract foreign dollars as investors did not see that the interest rate offered would protect their investment from currency devaluation. Life has gotten very bad, indeed, Zimbawe lifestyle lost to hyper-inflation.

Canada’s weakened dollar through the 80s and 90s was due to debt. Few Canadians appreciate the debt of gratitude Canadians owe former Prime Minister Brian Mulroney and finance minister Michael Wilson. They took over a Trudeau government that had program spending exceed tax revenues by $39 billion per year, never mind the cost of debt servicing. By the time Mulroney left office program spending match revenue. Canada still had a deficit in that tax revenue still did not cover debt servicing, but the changes they made during their tenure was outstanding.

Anyone who says other has a poor understanding of calculus, which tells us that if a graph is concave down, the rate of increase is coming under control. The graph for Canada debt was concave down for the entire time this team worked together. The graph of increasing debt under Trudeau is concave up, straight up. Many older Canadians look back at the Trudeau years as the glory years, but he left a burden of unsustainable program spending and debt that many Canadians blame the Prime Minster’s that were left to deal with the problem. No kidding the times feel very good indeed when fair share of taxes are not paid and the burden of paying for yesterday's lifestyle is passed on to future generations.

To that end, Mulroney and Wilson harped on and on about our debt problem and they set the stage for Canada to control debt and eventually move to surplus budgets, $13.8 billion for 2006-2007, Canada surplus budget, Canada budget highlights.

The US has increased debt, and they have increased it to levels that I believe are worse than Canada ever faced. And US currency is devaluing because of it and US congress is asking to increase the level of debt a few times per year. You can see that US debt was under control with Clinton, but out of control with Regan, Bush and Bush, graph of US debt. Last month the US Senate Finance Committee approved increasing the limit on debt to $9.8 trillion. Canada’s debt is $587 billion. With roughly 1/10th the population it means that the US level of debt per person at the federal level is about 1.7 times as high, and unlike Canada which currently has surplus budgets, there is no evidence that US government spending is coming under control, yet another increase to US debt.

Gold has protected wealth for Americans as government has continued out of control. With lowering the Federal Reserve rate last month from 5.25% to 4.75% the US government has chosen to devalue the US currency. The US dollar lost about 6% buying power in September alone in contrast with Canadian currency.

Gold has strongly outperformed many investments for US investors because of currency devaluation, but has not been nearly the performer for Canadian investors.



Over five years gold is up 41% for Canadian investors, or about 7.1% per year annualized. For US investors gold is up 126% over 5 years, or 17.7% per year annualized. Over a shorter term, say 6 months, gold has not been a good investment for Canadians.



Gold is down 6.1% for Canadians and up 8.3% for Americans. Gold is offering some protection of wealth from currency devaluation for Americans. If I were American I would consider owning some gold bullion as part of a diversified investment strategy. The Canadian dollar has had the fundamentals to strengthen the currency through debt management for a long time and it is showing up in a stronger Canadian dollar, from about $1.60 to by a US dollar five years ago to par today.



Surely, if the US government reduces the Federal Reserve rate, the US currency will devalue more and gold will increase in price in US dollars. It may or may not increase in price in Canadian dollars. If the Canadian dollar gets stronger relative to the US dollar, it is likely gold will decline in Canadian dollars.

If Americans panic about preserving wealth from a declining currency and do it through buying gold, gold will likely skyrocket and even currencies gaining strength relative to the US dollar would see gold increase. Should this happen gold will also be a very good investment for Canadians.

Gold behaves like a master currency against all currencies, gaining when a currency declines, and losing when a currency gains. It is subject to the same market forces that lead to selling-off and under valuation and speculation leading to over valuation, which makes the contrast to currencies relative to how gold is valued in the market as a whole. But it is ultimately a master currency. Gold stocks are not bullion and have very different fundamentals that need to be looked at one at a time. A gold stock with costs in foreign currencies will see costs going up due to currency devaluation and will not necessarily see a leverage of earnings that investors expect. Some gold stocks have very strong leverage of earnings expectation built into their price, completely ignoring the explosive cost increases due to currency devaluation.

Currently gold stocks tend to sell off all of their gold, trading it for the very fiat currency their philosophy claims to abhor.

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Currency devaluation, social policy - Reflections from vacations

I just got back from a three week vacation in Costa Rica, where one US dollar gets you about 520 Costa Rican colones.

I know little of Costa Rica's economy, except that their main export is from agriculture and their main "industry" is tourism. Currently there is negotiations for a free-trade deal with the United States and every where you go graffiti shows opposition to a free-trade deal with the US. Their taxes are low with universal health care and education being the two most important items taking up the majority of the taxes.

I went to Costa Rica to explore the idea of learning Spanish, so I went for a two week introductory course and I stayed with a home stay family. The family consisted of grandparents and young adult grandchildren. What was strikingly different from Canada is this family with "retirement" age adults did not have entitlement attitudes towards pension, but continued working. They were a hard working family.

I would have to say our Canadian attitude towards entitlement and social programs leaves a foul taste in my mouth. First, not a senior currently collecting a pension paid for it. I so clearly remember my amazement as a very young adult with a job in the bank and seeing this pittance of a tax for pension and then also seeing how much seniors were getting in pension and I brought it up with my employer about how little the pension tax was compared to the pension payout and I was told that over the long term the money put in would pay for the pension and I was shown a bit of compounding, which still made no sense to me, but I simply assumed those older and wiser understood these things better.

I now know that our pension system was set up based on a pyramid scheme that would be illegal under today's law. The relative amount -- meaning correcting for wage increases -- we pay for pension today is much, much, much higher than what was paid in my youth, but it is still utterly unsustainable in terms of the pension entitlement expectations, and political leaders saying anything otherwise are either ignorant or lying. One day I will post more on the topic as I believe that I live in one of the greatest countries, but the unraveling of this pyramid scheme has the potential to destroy us, and could ultimately pit youth against age when age is defenseless. Certainly our currency and savings are at extreme risk from unsustainable debt and entitlement expectations and we are at risk of seeing it unravel as Mexico, Costa Rica and Zimbabwe have all experienced, unless we change our attitude and work together to make something sustainable and fair.

But, the Costa Rican people do not burden their children with their entitlement expectations, but instead continue to take responsibility for their economic future.

I wondered about the huge numbers for the currency in Costa Rica and I remembered traveling in Mexico in the 90s after their currency was grossly devalued and they were in the process of switching from old pesos to new pesos at a rate of 1000 old pesos is one new peso. They had periods of inflation of 30-40% per year, perhaps more. My Mexican friend in university in the 80s had talked about Mexican inflation and how her family had worked to move their money to more stable currencies as they saw the buying power of their savings rapidly decline. My last vacation in Mexico in the 1990s a Canadian dollar traded for about 3 Mexican pesos. Today it trades for 10.5 Mexican pesos so Mexico has continued to have a rate of inflation that grossly destroys the buying power of savings.

The young man at the school I attended talked about how over the previous few years if you had a US account you saw the number of colones increase pretty much daily as their currency deflated relative to the US currency. It made me wonder what had happened with government management of Costa Rica's economic resources. The young man in my homestay was highly interested and informed on political issues and he talked about the many social programs Costa Rica had at one time and their glory years of spending beyond their means and increased wealth. He mentioned the huge consequences to Costa Rica when one of their Presidents failed to yield to demands to cut social spending when their debt load to other nations was high. I do not know Costa Rica's full story, but it appears they faced a hyper-inflation due to high debt, an inflation that is not yet under control. I saw price increases of up to 25% at retail establishments in the mere 3 weeks that I was there.

There is something in place to control the currency exchange rate for the past year or so. The young man at the school said that you could no longer see your colones increase dramatically by holding a US account. What is this control? Currently in Zimbabwe there is an "official" exchange rate mandated by law. They have hyperinflation running at 4500%. At black market rates the exchange rate for 44,000 Zimbabwean dollars, the price of a loaf of bread, is about 18 cents. At the official rate mandated by law that loaf of bread costs $176.

Costa Rica is an inexpensive country for travel, but the tourist areas have become grossly expensive for the local people. The average price of meal in the tourist areas that I visited seemed about twice the price that I paid in San Jose in close proximity to the school, and other students said they visited tourist areas on the Pacific side where the price was double again to what we were paying in the Caribbean coast. A policeman`s monthly wage in Costa Rica is about $350 per month and with the prices I saw, inexpensive by Canadian standards, I can not imagine how they make ends meet. It seemed to me that the prices were anywhere from 20 to 75% less. Bottled water was about $1 as was pop. A lunch you`d spend $6-12 here was $2.50-5 in town, but as much as $7 in the Caribbean coast.

I discovered it is wise to always ask the price first because if you say what you want and then it is packaged, they will take you to the cleaners in terms of what they expect you to pay. I paid $2.65 for a coffee in a very small cup with two refills, whereas when I cautiously shopped for my coffee the next day I paid 70c for a coffee that was twice the size of the cup of the previous day.

In another example, the going price for the locals for a bag of cut mango fruit, the fruit of two very small mangoes or one large mango was 40c. I paid 60c, but my last day at the beach this other vendor, after I had confirmed the 60c price in the morning, had halved the amount in the bag and made it look the same by loading the bag with pits, which I only discovered after I returned to my friends, who had given me 60c for a bag each. He tried to charge $1.20 in the afternoon and I settled at 70c. I did not ask the price again before I just asked for it. So even asking the price earlier you still have to confirm the price again before you order. I found in many places Costa Ricans do not think twice about changing prices and the terms of what you think you`ve agreed to simply because they figure you can pay more.

Anyway, Costa Rica is a great country to visit right now, and depending on where -- ie Atlantic versus Pacific coast -- it is inexpensive by Canadian/American standards. The tours arranged for tourists are perhaps a little less expensive than a tour in Las Vegas or Disney World, but overall they are not cheap. They wanted $50-60 for a 3-4 hour jungle tour, and $70-80 for a river rafting tour, whereas you can find a room with a private bathroom for two people for as little as $35 per night close to the waterfront. Shop around and your meals will be less than $10 per day, but even going for the finest dining you would be hard pressed to exceed $25 per day.

I do wonder about how the currency is being set and about the rate of inflation as to whether Costa Rica will remain highly attractive for tourism.

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