The Price Of Gold If The U.S. Was Still On The Gold Standard

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Includes: DGL, DGLD, DGP, DGZ, DZZ, GEUR, GLD, GLDI, GLDW, GLL, GTU, GYEN, IAU, OUNZ, PHYS, QGLDX, SGOL, UBG, UGL, UGLD
by: Michael Fitzsimmons

Summary

The U.S. was on a bi-metal or gold standard up until the "Nixon Shock" of 1971.

What would the value of gold per ounce need to be today to backstop the amount of U.S. currency currently in circulation?

While it is a purely hypothetical exercise, the answer is meaningful and may surprise you .

As most of you know, while the U.S. monetary system is based on paper money backed by the full faith and credit of the federal government. That is, U.S currency is no longer valued in, backed by, nor officially convertible into gold.

Yet through much of American history, the United States was on a metallic standard of one variety or another. See Wikipedia's History of the U.S. Dollar. The first devaluation of the U.S. dollar was a result of the Coinage Act of 1834. This Act changed the 15:1 ratio of silver to gold to a 16:1 ratio by reducing the weight of the nation's gold coinage. The value in gold of the U.S. dollar was thus reduced by 6%.

The "Gold Standard"

Through the years many developments - including large silver discoveries in the U.S. and the Civil War - affected the bi-metal backed U.S. dollar. Yet the U.S. dollar link to both gold and silver persisted until March 14, 1900 and passage of the Gold Standard Act, which asserted that:

... the dollar consisting of twenty-five and eight-tenths grains (1.67 g) of gold nine-tenths fine, as established by section thirty-five hundred and eleven of the Revised Statutes of the United States, shall be the standard unit of value, and all forms of money issued or coined by the United States shall be maintained at a parity of value with this standard...

At that point, the United States was on a gold standard - a standard which guaranteed the dollar as convertible to 1.5 g (23.22 grains) of gold.

The "Fiat Currency"

There were many more twists-n-turns in U.S. dollar policy until the danger of a run on U.S. gold reserves was deemed too high. As a result, in 1971 President Nixon issued Executive Order 11615, which ended the direct convertibility of U.S. dollars to gold. He said,

We must protect the position of the American dollar as pillar of monetary stability around the world… I am determined that the American dollar must never again be hostage in the hands of the international speculators."

This became known as the Nixon Shock and marked the U.S. dollar's transition from the gold standard to a fiat currency.

What Price Today?

The question is: what would the price of gold need to be today had the U.S. remained on the gold standard as opposed to being backed simply by the "full faith of the U.S. government"? While this is certainly a hypothetical exercise, I believe it is important for three reasons:

  1. The U.S. dollar is currently recognized as the world's "reserve currency" of choice, and dominates payments in global trade transactions.
  2. Gold is globally priced with the U.S. dollar as the reference.
  3. The "full faith" of the U.S. government has arguably been compromised with the election of Donald Trump as President (the U.S. dollar is "too strong"; "I love debt"; the suggestion to renegotiate U.S. sovereign debt; and Trump's opposition to commonly accepted "big systems" like the Euro-zone, NATO, and trade pacts like NAFTA; and a relationship with Putin that at best is odd and at its worst quite disturbing).

To answer the question of what price gold would need to trade at in order to back-stop U.S. currency we need to know how much gold the U.S. government holds as well as how much currency it has issued.

U.S. Gold Reserves

According to the U.S. Treasury, the federal government currently holds a total of 261,498,926.23 troy ounces of gold. However, some analysts and politicians question whether or not the U.S. government truthfully reports its gold holdings considering the holdings have not been independently audited. In 2011, U.S. Representative Ron Paul introduced a bill to audit the Fed's gold holdings. Paul, who was running for President at the time and pushing for the U.S. to return to the gold standard, said:

This is one of the few legitimate functions of government: To check our ownership and be fiscally responsible and find out just what we own and whether it's really there.

The bill failed. It failed a Senate vote in early 2016 when Ron Paul's son Rand Paul once again pushed to audit the Fed's gold supply.

As a result, we'll have to take the U.S. Treasury's word for it, and use the figure of 261,498,926.23 troy ounces.

U.S. Outstanding Currency

According to the Federal Reserve, as of January 11, 2017 there was approximately $1.5 trillion in circulation - $1.46 trillion of which was in Federal Reserve notes.

What Price of Gold?

Before we determine the price of gold in order to back-stop U.S. currency, we first need to do convert troy ounces to the avoirdupois ounce. One troy ounce is defined as exactly 31.1034768 grams, or ~1.0971 ounce. Since gold is most commonly traded in ounces, we'll convert the Fed holdings from troy ounces to ounces and get 286,890,472 ounces.

With $1.5 trillion in circulation, that means each ounce of gold held by the U.S. government would need to be valued at $5228/ounce. Yet gold is currently trading at only $1229/ounce.

Of course there are many others factors to consider when investing in gold: the inflation rate, the direction of interest rates, the relative strength or weakness in the U.S. dollar index, competing alternatives, and of course the totality of U.S. debt obligations. I will let investors decide if they think gold currently represents good value and is worth investing in the Spider Gold Trust ETF (NYSEARCA:GLD) or in gold bullion like the 1 oz Gold Buffalo shown above.

The three graphics below show:

  • A 10-year chart for gold.
  • A 10-year chart of the U.S. Dollar Index.
  • A recent screen-shot of the U.S. debt clock which is rapidly closing in on $20 trillion.

Source: APMEX

Source: MarketWatch

Source: U.S. Debt Clock

Disclosure: I am/we are long GOLD BULLION.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

Additional disclosure: I am an engineer, not a CFA. The information and data presented in this article were obtained from company documents and/or sources believed to be reliable, but have not been independently verified. Therefore, the author cannot guarantee their accuracy. Please do your own research and contact a qualified investment advisor. I am not responsible for investment decisions you make.