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DangerMouse

A Moment Of Realisation

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I've been lurking on this forum for over a year now, reading lots of interesting threads and news blogs about the housing market. But all this talk of gold over the past few months has got me reading a few links on the subject, and yesterday evening I had what I think they call a moment of clarity.

Bear with me as I'm not a trader and this concept of Fiat money has been completely alien to me. But yesterday reading up on gold-backed currencies and Fiat money systems and how the expansion of the money supply is in effect a tax on your savings, a picture analogy popped into my head.

Basically I read historically the value of a gold sovereign would buy you the equivalent today as it would have a 100 years ago for example a suit, even though the monetary value of the sovereign has increased greatly. My vision was of standing in a slow moving river beside a bridge. As the water passes by me, I get the illusion of moving upstream, getting further up relative from the water that has just passed me by. If I stand in the river for a few hours, I am now maybe a few miles upstream from the first particles of water that lapped around my ankles when I first stood in the river.

But when I look around me, I am still standing beside the bridge and I haven't moved.

So the analogy (as far as analogies go) is that the water is paper or fiat money, passing me by and devaluing as it heads downstream, to be replaced by more new money that has just been created (I guess in the mountains ;). The faster the rate of increase of the money supply, the faster the river flows and the faster the value of my money flows away from me. But if I had been standing on the bridge (that is my money savings were in gold) I would not have lost any inherent value.

Obviously try not to take my analogy as a serious financial model, but I then had a second thought. If that meant gold had never really changed it's inherent value (just the money supply had devalued) then what if other assets were like that too. What if House Prices had never really changed in value over the last century(based on 3.5 average salary), but property and gold were two ways of protecting your wealth, IF you owned either.

So I'm not sure what that means for investing in gold now after a bull run, but it struck me that even in a high interest bearing account, my savings are devaluing by the day as long as the money supply continues to expand??

:unsure:

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Obviously try not to take my analogy as a serious financial model, but I then had a second thought. If that meant gold had never really changed it's inherent value (just the money supply had devalued) then what if other assets were like that too.

Spot on, an ounce of gold a 100 years ago is still an ounce, it hasn't increased in size or inherent 'value', yet it is worth so much more now in paper money, that alone says more about the paper money than gold.

In terms of housing it actually all comes down to the land the house sits on, the most tangible of assets much like gold. Land price inflation for buildable land has actually increased ahead of general house price inflation, for many of the reasons explained in my signature. When you think about it, a house eventually falls apart, a house needs constant repair, maintenance and slowly decays much like a car, abiet at a slower rate, yet the land it sits upon is elemental. The house itself should only really have a utility value equivalent to the 'worth' of providing you with comfortate accomodation, and the cost of materials and labour should it ever need to be rebuilt.

Fiat money is much like water, neverending until there is an eventual flood in the form of hyperinflation, and the taps can be turned on and more poured in at will, at any time.

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So I'm not sure what that means for investing in gold now after a bull run, but it struck me that even in a high interest bearing account, my savings are devaluing by the day as long as the money supply continues to expand??

Yes, you're running to stand still yet still falling behind. The Bank of England have a measure of the growth in the money supply, called 'broad money' or M4, this is new money that has been introduced into the economy over the last year. In March this figure was running at 13.2%, you can take off around 2% for GDP growth, so that leaves you with 11.2% more money in the economy since March 2005, so even if your savings account pays 5% gross your money has lost 6.2% of its inherent worth.

Of course, you don't always see this exactly figure represented in the price of everyday goods as the price is set via the supply and demand and international trade. For example, you may well be able to buy a new car for much less than last year, yet the petrol you put into it would be more expensive than ever.

Edited by BuyingBear

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I love the analogy. If it is true that money has devalued rather than house prices increasing, then it can also be said that employees' time has devalued too, as the cost of a house has doubled relative to earnings. Sadly therein lies the problem: People's times is valued in sterling and everything else is valued in gold.

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Thanks for the replies! Please use or embellish the analogy of you think it works. I honestly felt like I'd had a kick in the stomach when the realisation struck me that maybe, just maybe, the only reason we had inflation was the printing or creation of more money by governments, effectively taxing my savings by stealth as one weblink put it.

Still I feel better today and maybe this is the first step forward in protecting myself against future inflation.

BuyingBear, thanks for the link to M4 and good point that it is the value (got to remind myself not to say price) of land that has stayed roughly constant, not the house that sits on it. I see what you're saying.

I always remember from growing up that a rule of thumb was prices approximately doubled over 10 years. With my dodgy maths, I make that a devaluation of 7.2% per year. Not an exact science but if that was the norm when I was growing up then a 13% growth in the money supply this year is really frightening!

Do you know of any good sources of info that has historic groth of the money supply and how it relates to the price of gold, land, or any other asset over the last century. I realise that may be a bit simplistic as we trade with other countries and currencies which will be expanding their money supply at different rates, but it's a good starting point. I have lots more questions bouncing round my head now but I'd like to get stuck into some historic numbers if anyone has anyone good links out there.

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Do you know of any good sources of info that has historic groth of the money supply and how it relates to the price of gold, land, or any other asset over the last century.

Well, gold was pegged and convertable at $35 an ounce up until the early 70's when the gold window was closed by Nixon, gold stands at around $700 an ounce today.

Financial Sense is a good site, M3 is the broad money aggregate in the US, and just look at its growth over the last few years, it's the same for the UK.... in those terms what's a 200% between friends? Btw, as of a couple of months ago the Federal Reserve decided to discontinue publication of M3 data :ph34r:

Edited by BuyingBear

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Thanks again BufferBear, that is a really good link.

I think it was on here reading about the Fed stop reporting M3 that really got me starting on this whole thing. Makes me kind of worried what's going to happen.

I've found some more info on UK Inflation

Apologies if this is old news to everyone on this forum but it was quick an eye opener for me.

Page 10 to page 15 has a Price Index table, showing that prices doubled from 1750 to 1800 and stayed more or less constant until 1914. Then prices really took off and a graph on page 16 looks more or less an exact match for the M3 growth in your link!

So apart from WW1, what happened in 1914 I wondered. I then found this link on the History of Currencies

On Page 10

"The pound sterling was the primary international currency until 1914. The Bank of

England, in effect, became the central bank for the world and managed the international gold

standard through interest rates, and it acted as a forerunner of the European Central Bank. The

specie-flow mechanism maintained the system of exchange rates. If a currency became

overvalued, gold would flow out of that country and into other countries, restoring the exchange

rate to its normal level."

"The gold standard worked smoothly until August 1914 when World War I forced countries

to suspend their currency conversion. Countries were then free to print money they could not

raise through taxes in order to fight World War I, but high and varying rates of inflation resulted."

Okay, I think I'm pretty convinced now. Expansion of money (M3 or M4) IS inflation. Or is it that inflation is the effect of this expansion? Either way, it looks like it's a very close correlation since 1914 !!!

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"The gold standard worked smoothly until August 1914 when World War I forced countries

to suspend their currency conversion. Countries were then free to print money they could not

raise through taxes in order to fight World War I, but high and varying rates of inflation resulted."

Okay, I think I'm pretty convinced now. Expansion of money (M3 or M4) IS inflation. Or is it that inflation is the effect of this expansion? Either way, it looks like it's a very close correlation since 1914 !!!

HI,

Exactly! Current UK monetary thinking dismisses now the direct, cause-affect relationship between broad (M4) money supply and inflation as a throw back to problems associated with monetarist, fine-tuning policy in the previous couple of decades. The ECB and now the FeD does not, the latter becoming alarmed a while back at the surges in broad money measures and commencing rapid rate rises, albeit a little too late. The ECB have stayed steady all along with the policy of keeping an eye on broad money while tartgeting the headline inflation rate on a month-to-month basis. M4 has been surging in the UK for a while now and has really gone into overdrive in the past year (election time feel good factor?). The one thing most central banks around the world agree - and so have been quick to act on rate rises in the recent past - is that, however crude the relationship between money supply and inflation, it definitely does exist in almost every historical or international comparison you wish to make, within a 1-2 year time scale. I have some sympathy for Mervin King last year when he urged against the rate reduction, it did not seem to make a lot of sense apart from throwing more speculative money into property prices but doing little to halt the malaise of industry into this year and the increases in consumer debt, bankruptcies and repocessions.

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BuyingBear, first of all an apology. I seem to have read so many posts on this site I mixed your name up with another Bear in my last post.

Prob my last post on this thread, but it's been very theraputic. :) I always had a rough idea that inflation was an inevitable fact of life and that raising interest rates somehow curbed inflation and lowering them too much increased inflation, without really understanding what was going on.

But I think the key thing I've realised here this week (and please correct me if I'm wrong) is inflation is only inevitable when a government "prints" extra money by increasing the money supply. And one reason money supply increases is when interest rates are low enough that the BofE will lend more money (net) than is being saved, producing fiat money out of thin air. When interest rates go high enough, more people are prepared to save until the net effect is money supply slows, or in extreme cases decreases. Whether that is in fact true, at least that now makes sense to my thinking. And in the case of Japan, I guess more people have been saving for a long time causing previously created fiat money to disappear in a puff of smoke - making cash in your pocket for once more valuable than it was a year before as the money supply has decreased.

Again, please pull me up if I've got some fundamental flaw in my thinking, but it seems most on here agree.

Boom & Bust, if I'm right, it's not expanding the money supply too fast that is causing inflation, but the actual act of increasing of the money supply at all? Still I am very new to this way of thinking and I'd be very interested to know if inflation has a 1 to 2 year lag on the expansion of money?? Do you have any figures on that? Thanks. If that is true then we might just be at the crest of super inflation??

My motive now is to buy some asset that is inflation proof. Buying an overpriced house right now means incurring an overbearing debt. To protect my deposit for the years ahead I'm now looking into the best way to invest in gold or silver. It may fluctuate in monetary terms but I am now convinced it will hold it's value in the long run! Of course, I need to also convince Mrs DM :rolleyes:

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Can someone clarify please

Is the Feds definition of M0 through to M6 the same as the Bank of Englands (or indeed the ECB) definition of M0 to M6, i.e are they directly comparable between Central banks.

Thanks

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  • 338 Brexit, House prices and Summer 2020

    1. 1. Including the effects Brexit, where do you think average UK house prices will be relative to now in June 2020?


      • down 5% +
      • down 2.5%
      • Even
      • up 2.5%
      • up 5%



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