Currently, in 2024, the value of the dollar is in the process of being devalued for the third time in modern history due to shifting dynamics in the global payment scheme for crude oil (a.k.a: the global monetary system). This process of devaluation will have the main effects of increasing the price of gold in all currencies, allowing interest rates to rise for the benefit of savers, and if done wisely, increasing the value of US industrial equities. This devaluation will signal the transition into the next iteration of capitalism, which could be closer the ideal of free-markets. The current iteration of capitalism is still far away from the ideal. Imperialism and mercantilism gave way to capitalism, and now the current monetary system no longer functions to serve the needs of the US. Since the current monetary system does not allow for the necessary adjustment the US needs to make, we experience political turmoil until consensus forms among the major world powers as to what new form into which the current monetary system will morph.
This current monetary system started to form around WWI, and has been formally in place since the end of WWII when the US entered the role of global hegemon and enforced political order through formal agreements on international trade (a.k.a: the Bretton Woods era). This Bretton Woods era gave rise to the modern era of cooperative trade that we have come to know in today’s economy, but this era was not free from negative shocks. Indeed, as already mentioned, the devaluation we are living through now is the third shock to the current monetary system.
The two previous dollar devaluations were in 1933- when FDR adjusted the gold content of the dollar and confiscated gold from US citizens, and in 1971- when Nixon ended gold convertibility of the dollar offered to foreign dollar holders. Whereas the previous two devaluations took gold out of the global monetary system, this third devaluation has a high probability of re-introducing gold into the global monetary system. However, gold will be introduced not as a unit of fixed exchange as it was the 1933 devaluation (i.e. $33 per gold ounce in 1933 vs. $25 before 1933) nor as redeemable for unwanted dollars as before the 1971 devaluation (i.e. no gold for your US dollars after 1971). This third devaluation of the dollar will likely formally introduce two new features of gold in the monetary system: 1) a floating (rather than fixed) unit of exchange and 2) a global reserve asset used to settle trade imbalances between trading partners privately rather than through a central bank or treasury. These two features of gold in the developing monetary system are probable because this solution would allow for political shifts without war between the US and “frienemies” like China (our friend in producing our stuff, our enemy when their ambitions bump up against ours). Americans are unlikely to consent to more forever wars, especially with the country that makes all our stuff. Assuming the US leaders choose pragmatism and profit over violence in achieving our goals, what will these two new features of gold look like as it is re-introduced into the developing monetary system?
The first feature of gold in the new monetary system is a concept most will be familiar with- a floating price of gold. A quick internet search shows you the fluctuation in the price of gold over time. This is the same as crude oil, gasoline, and other commodities for industrial use. This is a feature of price we are all familiar with. This floating exchange rate (or floating price) was not so before 1933. An ounce of gold was fixed around $25, and the US banking system could not print excessive amounts of currency without gold being taken away from the banking system. While limiting the excess of bankers to print money is a noble feature of a fixed exchange rate, it is also deeply flawed. The fixed exchange rate both gave bankers too much power to decide to whom and how much credit to extend to industrialists for production and gave too little power to extend credit in times of need. To illustrate how the fixed exchange rate worked in this manner, here is a simple example of trade under a fixed gold exchange rate: when Europe bought our goods, their merchants would exchange their currency with their banks for dollars in order to be able to pay our industrialists for their goods in dollars. To obtain our dollars, their banks would ask our banks for dollars in exchange for their gold at the fixed rate. The European banks sent over gold on a ship and received dollars at the fixed exchange rate of about $25 per ounce. Then the European banks could meet the requests of European merchants for dollars they would then pay to our industrialists. Now the US bankers had more gold, the industrialists had more currency to pay employees or buy more materials. However, the fractional reserve system now put more gold wealth in the vaults of the urban bankers in New York. The agrarian rural banks who played a vital role in providing credit for food production in the rural economy were left out of this exchange performed in the urban economy. New York banks could now make more loans against their increased gold holdings, and they decided who would be extended this new credit. This same feature of being limited in the amount of credit they could extend based on their gold, prevented the urban banks from extending credit to rural banks as the urban banks had extended all their credit to urban concerns in need of credit at the same time rural banks were in desperate need of credit after WWI. The rural banks seized up and were not extended credit, and this was one of the circumstances that contributed to the Great Depression in the early 1930’s. The lesson to be learned is that the fixed exchange rates lead to limited credit which can lead to a depression, and depressions will lead to global war. So fixed exchange rates are deeply flawed. Once gold is re-introduced into the monetary system, it will be at a floating price to avoid another depression and world war.
The second feature of gold as it is re-introduced into the monetary system is a global reserve asset as opposed to a global reserve currency. Most Americans have an adequate understanding of the dollar’s role as a global currency. However, many (especially in the investing profession) conflate the role of a reserve currency and reserve asset. That is because right now the dollar functions in both roles. In the former monetary system of the gold standard, as previously illustrated in the simple example of global trade, gold functioned as a reserve currency: it was the gold that bought the currency to pay the foreign industrialist for their goods. In the modern monetary system, the dollar is the currency all countries use to purchase goods from foreign countries, even if both are not the USA (Euro area transactions are the outlier- countries inside EU pay each other in Euro). Since the rest of the world uses our currency in their transactions, the USA must supply them the currency to do so. This is why we are able to run continuous deficits- the world demands our currency. When we run a deficit with the rest of the world, the rest of the world by definition must run a surplus with us. This means they sell more to us than we buy from them. This surplus of our trade partners is an amount of dollars. These dollars serve as those countries’ savings. So they must invest their savings in something, and the financial asset they can easily own is a US Treasury- our national debt. Again, this debt is required in order for our currency to be used by the world. The world will go on accepting this arrangement as long as it serves their goals. When it no longer does, we get the shocks to the system that result in a devaluation of the dollar. Now the world no longer wants to save their surplus in our debt. In other words, the rest of the world is demanding a different reserve asset, not a different reserve currency (if it’s still unclear which is which, just remember that a currency is for spending and an asset is for saving). Gold will fill this role of an asset in which to save surpluses. It will not be used for transactions to purchase another countries production. The dollar will likely still be the currency used for transactions because of its ubiquity and also because of the fact, no matter how hard the political elite try to screw it up, there remains no better option for a global reserve currency.
So now that the two new features of gold in the developing monetary system are understood, the question is “why is this third devaluation bringing gold back in rather than pushing it further out again?” The reason for this third devaluation being different than the previous two is that this third devaluation coincides with the third oil crisis of the modern monetary system. In the previous two oil crises, the petrodollar system was able to be maintained by the shear force of will of the US political elite. Ignoring the strong evidence of a lack of long term wisdom and the undeniable immorality of Kissinger and the NeoCons, whose decisions resulted in large scale human suffering and death, the acumen of Kissinger in the first oil crisis and the NeoCons in the second oil crisis are examples of the sheer talent required to operate in statecraft at the highest levels of recorded civilization that gives the US its lauded reputation around the world. The ability of the Kissinger and the NeoCons in their respective times can not be overstated. These were a different breed of political elite than we have now. As Karl Rove said, they were creating their own realities, and by the time analysts like us were able to understand the realities they created, they created entirely new realities. Only the Roman Empire and the Vatican during early Christendom are perhaps the only comparable power structures to the US in the first two oil crises.
Henry Kissinger ensured petrodollar recycling was successful in the 1st oil crisis, and George H. W. Bush, and George W. Bush ensured petrodollar recycling would continue and supply would flow ultimately to the most important oil importer of the era, China, during the prolonged 2nd oil crisis during the 1st and 2nd Gulf Wars in 1990 and 2003. However, this third oil crisis is not like the last two because it coincides with the third dollar devaluation of this monetary system- a mirror statement to the reason why the third devaluation is different! Because we are experiencing the third shock in both the monetary system and the oil payment system, it is likely that these third shocks will be resolved with a different solution than removing gold from the monetary system.
The current ongoing process of the third devaluation became evident in the Obama administration, and will likely end in an event similar to the FDR and Nixon events. Obama didn’t start the process, but he did contribute to the process picking up momentum. The process began to start from a dead stop around the time of W. Bush’s and the NeoCons’ invasion of Iraq after 9/11. The invasion of Iraq brought an end to the 2nd oil crisis by ensuring cheap oil supply would feed the contract manufacturer to the developed world: China. Similar to a long freight train with a heavy load starting from a dead stop, it takes time to build up to full speed. Likewise, deceleration back to a full stop happens long, long after the breaks are applied. So this freight train of monetary change started after the 2nd Gulf War, and got up to full speed around 2008/2009. From 2008/2009 to now has been the prolonged 3rd oil crisis warned about by BIS head, Jelle Zijlstra, in 1980 when he said “the 2nd Oil Crisis could be worked through, slowly, but the int’l financial system could not survive a 3rd Oil Crisis – the inflation would make it impossible to recycle the petrodollars to the oil importing countries with any hope of repayment, trade would crumble and the system would be brought to its knees.” The breaks to this freight train of a monetary system were applied during the covid phenomenon in 2020 when global demand for oil was eliminated, and the price of WTI Crude went negative. But just like a freight train at full speed, it is impossible for the monetary system to make an emergency stop. We are now in the slow down phase of the monetary system. The complete stop ends with an event like the FDR or Nixon actions.
It is crucial to understand that the US does not act alone in implementing the monetary system, but Europe is a player as well. It is the interaction among USA, Europe, and the rest of the world (that supplies the production the West consumes) in varying degrees of cooperation and competition for resources that cause the big changes in the monetary system.
Because gold will have to brought back into the monetary system after being out for so long, its price will have to adjust much higher to account for all the currency that has been created since gold was removed in two stages in 1933 and 1971. Since the dollar value of global trade is exponentially larger than it was in either of those stages, the dollar value of gold will have to be adjusted higher- perhaps exponentially higher as well. Gold could reach prices of $20,000 per ounce, or 10x higher to serve as an asset that can soak up the surplus dollars of our trade partners. This exponential increase is the result of gold being re-introduced at a floating rate and as a reserve asset. If gold were repriced 10x higher, the same weight of gold on the Fed’s balance sheet now would be a percentage of total assets similar to when gold was in the monetary system (gold was 20% to 40% of total Fed assets measured in dollars and is currently 5%). So there is a historical precedent to rely on for an exponentially higher gold price. There are also clues that give weight to the idea that gold is in the process of being reintroduced into the monetary system: China has allowed Shanghai to set up the Shanghai Gold Exchange, which allows for the private settlement of trade surpluses outside the central bank system. Right now, in 2024, the Arabs are selling their oil to China’s state owned oil companies, are being paid in Chinese yuan, and buying Chinese technology goods, and using the remaining yuan to purchase a small amount of physical gold on the Shanghai Gold Exchange. All of this is done outside the system of central banks as it was under the previously illustrated simple example of trade between two countries. Another clue that gold is already in the process of being reintroduced into the monetary system is that JP Morgan just recently became a custodian of the GLD ETF. This would allow JP Morgan to have custody to the physical gold that backs the ETF. The authorized participants that actually own the gold and put physical gold into the ETF will likely be victims in the next FDR/Nixon devaluation event. The authorized participants that own the gold in GLD will likely be paid out in cash plus a certain percent above the closing gold price on the eve of the devaluation event. The authorized participants will then pay out owners of the GLD in cash value and the ETF will be no more. The custodian, in this case JP Morgan, will now own the gold legally because renumeration was provided to the ETF owners and authorized participants that owned the gold. It’s a truism of modern history that JP Morgan always wins. After this event, USA would then have the ability to settle trade imbalances through a private gold exchange. Keep in mind we wouldn’t just exchange all our gold to China for junk to fill the shelves of big box stores, but we would exchange some. There are other trade and investment flows that would bring our imbalances closer to even: a dollar devaluation would allow the US to export more, indeed this process is underway: the US lifted the crude oil export band, became a major global exporter of oil, and is now re-shoring production of semiconductors and other modern economy goods to the North American continent. Canadian Pacific railway merged with Kansas City Southern railway and now owns a unified railway from Mexico, through the US, all the way into the Canadian interior. The infrastructure is now in place to move production throughout North American for global export. The Europeans are in the process of choosing sides of the new monetary system after the devaluation occurs. The Euro is a failed construct, and Germany has already seen the writing on the wall and sided with the US in order to secure energy and outsource their industrial production. They allowed the US to sabotage the cheap flow of Russian natural gas that powered their industry, which was the major industrial heart of Europe. The German corporations will need to make up that production somewhere else, and they have decided to outsource it the the new North American production machine.
In conclusion, the ongoing process of dollar devaluation will likely bring gold back into the monetary system because of the unique circumstances involving the oil payment regime change. As a result gold will have to have a significantly higher price in all currencies and be used to store savings in at the state level. This devaluation offers tremendous opportunity to owners of physical gold, owners of specific US equities, and owners of very short term US Treasury Bills which will pay higher rates necessary to incentivize overproduction and cheaper prices for goods. On the other side of the token, this devaluation presents tremendous risk to owners of longer term debt of any issuer and renters of stock that purchase broad baskets of general equities.
