Copyright 2013 by John T. Reed
Gold bugs claim gold is a great inflation hedge.
I explain why in my book How to Protect Your Life Savings from Hyperinflation & Depression, 2nd edition and more briefly at my disadvantages of gold as an inflation hedge article.
When I listen to gold bugs extol the virtues of gold as an inflation hedge, I think,
These morons are giving a better description of the U.S. nickel than they are of gold, yet they contemptuously dismiss my discussion of the nickel.
Which weighs more: a pound of feathers or a pound of gold?
They both weigh the same you say? Very good. Look how great a leap you just took away from thinking a $1,000 worth of gold is worth more than a $1,000 worth of U.S. nickel coins. And at how little time it took me to do it.
When it comes to inflation hedge, gold has one virtue. It is a commodity.
To hear gold bugs tell it, when it comes to hedging against inflation, gold is the only commodity.
No, actually, silver is also a commodity. So are
Actually, there are a lot more than that. Those are just ones traded at commodity exchanges.
Are traded commodity metals good hedges against inflation? Generally, yes, because they are hard assets and hard assets generally retain their purchasing power during inflation, even hyperinflation.
Is any commodity better than any other for hedging against inflation? No. The issue is whether it is a hard asset or not. Commodities are hard assets. Real estate is a hard asset. Vehicles are hard assets. Soap is a hard asset. A#10 can of Mormon dry pack rice with a 25-year shelf life is a commodity.
Are all commodities fundamentally the same in every respect? Nope. There are issues of durability, weight density, value density, pertinent laws, risk of theft, liquidity, and so on.
Does gold have any virtue? Yes: value density. You can fit $1 million of it into a safe deposit box. A million worth of silver, in contrast, would require a vault because it is worth less per cubic inch. With less valuable commodities, called base metals if they are metal, a million dollars worth takes up far more space than even silver.
Now consider the nickel coin, which famed investor Kyle Bass recently bought 20 million of at a cost of $1,000,000. What is it made of? Coinflation.com says mostly copper but almost half nickel. Each of those metals is a traded commodity.
Would you believe that some days the value of nickel or copper rises by a greater percentage than the value of gold?
Oh, you would not believe that!? You must be a gold bug.
Actually, the relative value of something on a given day has nothing to do with how much it might appreciate compared to the originally more valuable item. High-priced homes do not always appreciate more than lower priced homes. Gold does not always appreciate more than copper—or even-horror of horrors—zinc.
If you buy $10,000 worth of lead and your gold bug buddy buys $10,000 worth of gold the same day, you could make more money than him on marketwide appreciation over the next month. Really!
I just looked at http://www.indexmundi.com/commodities/ on 2/18/13. For the last month, lead was up 2.4% and gold was down .77%.
But this can’t be true! Everyone knows gold is worth more than lead!
True, on a per-ounce basis, but irrelevant. You do not make money because of the high value per ounce of something. You make money from it going up in value. Doesn’t matter where it started, only how much it goes up as a percentage of where it started.
How much does a U.S. nickel coin cost?
You can get them for five cents.
How much does a one troy ounce gold coin cost?
It varies according to the price of gold that minute, the shipping costs from the seller to you, cost to insure and store, and the fee or commission the intermediary demands.
Is there a variation over time in the price of a nickel?
No, it always costs five cents.
Is there a shipping cost or fee/commission to buy nickels?
No. Kyle Bass bought 20 million of them for 20 million x 5¢ each = $1,000,000 from his bank. The local regional Federal Reserve Bank had them delivered on pallets to Bass’s Dallas vault warehouse. There was zero shipping charge and zero fees or commissions.
What is the melt value of $1,000,000 worth of U.S. nickel coins today?
$1,052,222.28. according to coinflation.com.
“My God!” you say, “that’s more than they cost!”
Hey, for a gold bug you’re rather smart.
So Kyle Bass made $52,222.28 profit instantly just from buying them?
That is how much the melt value would exceed the face value/cost if he bought them today, and if he could sell them for melt value. It is against the law at present to melt or export U.S. nickels or pre-1983 U.S. pennies.
Obviously you cannot sell them for more than five cents each as long as the U.S. Mint is still producing them or banks are still selling them for five cents. But just as obviously, the U.S. Mint is not going to continue selling nickels for less than the metal in them costs, plus the cost of manufacturing and shipping them.
Will Bass ever be able to sell them for melt value?
Well, he obviously thinks so, doesn’t he? Or else why would he have bought them? And he is probably right. They will probably stop issuing nickels, or at least reduce the cost of the metal used to make them. At some point after that they will repeal the law against melting or exporting them because it will no longer serve any purpose.
We went through this with silver pre-1965 dimes, quarters, and half dollars. It was illegal to melt them when they were still being made and cost more than their face value, but once they stopped making them, the U.S. government has no reason to care whether you melt them or not.
A reader did find verification on the Net at http://www.gpo.gov/fdsys/pkg/FR-2006-12-20/html/06-9777.htm. Here is the pertinent part:
"The authority granted to the Secretary by the Coinage Act of 1965 has been invoked on two prior occasions; in both instances the regulations were implemented as interim rules that were later made permanent until rescinded. In 1967, during the transition from silver to cupro-nickel clad coinage, then-Secretary Fowler authorized regulations that prohibited the exportation, melting, or treatment of all U.S. coins containing silver. 32 FR 7496 (May 20, 1967). In 1974, to stem the unprecedented increase in demand for one-cent coins attributable to speculation that the metal content of the coin would soon exceed its face value, then-Secretary Shultz invoked this authority, approving regulations that limited the exportation, melting, or treatment of one-cent coins. 39 FR 13881 (April 18, 1974). These prior regulations were rescinded in 1969 and 1978, respectively, when the prohibitions were no longer necessary to protect the Nation's coinage. 34 FR 7704 (May 15, 1969); 43 FR 24691 (June 7, 1978)."
And here is the Federal Regulation under which the Secretary of the Treasury gets to put you in jail:
Sometimes we get deflation. Houses in the late 2000s. Gold since October 2012.
Do nickels deflate?
Not below five cents.
What do you mean?
If you give a bank 20 million nickels they will give you back a million dollars in paper currency or half dollars or dimes, whatever you wanted. Never less. Guaranteed.
If you give a gold dealer gold that you paid $1,000,000 for six months ago are you guaranteed to get back at least $1,000,000?
Hell, no! Indeed, if you bought that million on October 8, 2012, the gold dealer would only give you around $860,000.
Why? Deflation. During dollar deflation, the value of hard assets falls against the dollar.
Doesn’t the value of copper and nickel also fall?
Yes, but not the value of the nickel coin. It cannot fall below five cents because that amount is written on it and guaranteed by the U.S. government.
Fiat money is good in deflation. Hard assets are good in inflation. When the melt value of the metal in the nickel falls below five cents, the nickel coin turns into fiat money, which is a good thing in deflation. When the melt value of the nickel coin rises above five cents, the probability that the Mint will stop issuing it rises. When that happens, the law against melting or exporting goes away and nickel coin owners can sell the coins for their melt value.
With nickel coins, inflation, you win; deflation, the government loses and you are protected from loss.
Gold is inflation you win and deflation you lose. It has zero protection with regard to price declines. Why put up with that disadvantage of gold when you can buy U.S. nickels and avoid it while still getting the inflation hedge benefit of the commodity metal inside the coin?
Why don’t you read that lest sentence again if you still think owning gold is better than owning nickels. This is not rocket surgery as my son Mike like to say.
I just finished reading the 2011 book Currency Wars by James Rickards. On page 253, he says the U.S. government might go on a flexible gold standard and fix the value of the new dollar issued to replace the hyperinflated old dollar at $10,000 an ounce.
I pause to let the gold bugs celebrate.
Then he says,
A windfall profits tax of 90% would be imposed on all private gains from the upward revaluation of gold.
Ouch! It would be politically required. During monetary crises, those smart enough to buy an asset that goes up during hyperinflation are accused of “hoarding” and attacked with confiscation and extreme high tax rates. The 1933 Executive Order 6102 that FDR issued ordering all American residents to turn in all bullion gold by May 1, 1933 to the nearest Federal Reserve Bank forbade “the Hoarding of Gold Coin, Gold Bullion, and Gold Certificates within the continental United States.”
Will they impose a windfall profits tax on the nickel coin? Generally only gold and silver have been used as money with a fixed rate established by law between the dollar and the precious metal. The windfall profits tax is triggered by the government establishing a fixed rate for the exchange of dollars and the metal that is above the market rate at the time of the fixing.
Since neither copper nor nickel has ever been tied to a currency at a fixed rate, there seems to be no likelihood of a windfall profits tax on Kyle Bass or any other “hoarder” of nickel coins. Basically, to the extent that Americans or others start “hoarding” nickel coins, they will either stop minting them (likely) or lower the value of the metal they use (so difficult at this point that it may be impossible). Trying to tax gains on pennies or nickels would bu a much more cumbersome solution than just stoppitg the minting of them which would end the problem of “hoarding” them from the goernment’s perspetive. They do not want to lose money every time they mint a coin.
A German-immigrant investment expert I know said his mom “hoarded” Nazi coins in Germany during World War II. She expected that the Nazi paper money would become worthless after the war, which it did, but that because they had real metal in them, the coins would still be valuable regardless of their having been minted by the Third Reich. And that proved to be exactly correct.
Nickel coins are the new gold in the sense that gold was a pretty good hedge against inflation before they started passing all the laws like the capital gains tax rate of 28% on precious metal gains, the Executive Order 6102 confiscation, invalidation of all gold clauses, court cases that say gold clauses in contracts violate state usury laws, and so on. Neither nickel nor copper has ever been the subject of any such laws or court decisions as far as I know.
Remember, $1,000 worth of nickel coins are worth the same as $1,000 worth of gold. But the coins are protected from deflation; the gold is not. And in inflation, both nickel coins and gold are commodities that should go up in dollar price. Nickel coins may go up more after-tax because of the lack of a 28% capital gains tax rate and the other unfavorable laws that apply only to precious metals.
American Indians call gold “the yellow metal that makes the white man crazy.” True. Gold bugs cannot even comprehend this simple explanation about the comparative advantages of the object of their slobbering love affair and the lowly, mundane, pedestrian, U.S. nickel.
On 5/10/13 I was in a jewelry store and mentioned this article to the jeweler. He said, “Come here” and led me to a back room where he pointed at a stack of brown boxes with blue ink writing on them. They looked familiar because I had seen almost identical boxes, only about half the size—for good reason. The small boxes are $50 worth of nickels. The jeweler’s back room was full of $100 boxes of nickels. These are the boxes the nickels come in when you get them from your bank. (Inside the boxes are rolls of nickels in shrink-wrap clear plastic.)
Jewelers understand the truth in this article. Now if only I could convince the white man.
John T. Reed