Friday, January 13, 2012

A Thought Experiment On The Value Of Gold

My "Trail Guide" FOFOA wrote a new piece just Wednesday.  In it he describes how hard it is to convince those we know to buy some gold.  Even when many of those know that our system has gone horribly off the rails.  He is not trying to convince others, he is mostly just reporting as well as charting what he feels will be the end-game, at least regarding gold.

In the comments section below his article, there was a remarkable comment by one of his readers "Hill C", I lightly edit the quotation:

"Do you believe that China would exchange its current $2 trillion reserves for all of America's gold currently valued at $419 billion?  The answer is almost universally "Yes or probably"."

In other words, lots of people that "Hill C" knows believe that China would happily trade its $2 trillion dollar horde for $419 billion in gold, taking a US$ LOSS of over $1.5 TRILLION to take the gold.

Furthering Hill C's idea, do you think that the US government would allow China to do that?  To let the Chinese take our $419 billion in gold in exchange for settling the $2 trillion in debt?  The answer is: NO WAY.


The below graph is a tool that I am now going to be using to monitor stress in the physical gold markets. That is, how available gold (that would be the metal, not gold futures or other types of "paper gold") really is at the market price.

Buying REAL GOLD always costs more that the quoted "spot" price (found at or or even right here at my blog).  This higher price exists because there is a "premium" (spot plus a "premium", the premium covers other costs like transport, opportunity cost of capital, etc.) over the spot ("paper") price of gold.

The graph below shows the price of gold (Y Axis) vs. the premium over the price of gold (X Axis) in order to be able to buy a 1 oz Gold Eagle (coin), America's most popular retail way to buy gold.  The graph's data points are from Dec 30, 2011 - Jan 13, 2012, so it is very short term.  The original data comes from the eBay/ joint venture widget.

Click on the image for a better view.

To help interpret the graph, please look at the five points above "0.10".  That 0.10 means that on each of those times I took the data that a Gold Eagle had a 10% percent price premium (on eBay) vs. the quoted price of gold in the markets.  Note that the premium has varied quite a bit in just a bit over two weeks, from 7% to 19%.  Please also note that there is NO time information, the linear trend you can see shows that as the recent price of gold has been lower, the premium tends to be higher.

FOFOA believes that what is going to happen sooner or later is that the "paper gold" price will not reflect the real value of gold (because of the approximately 100 times the paper claims on each physical ounce, that is LOTS of derivatives claiming the same ounce).  "Paper gold" will eventually become worth less (worthless), and for a short time there will be NO GOLD available because owners of gold will NOT sell...  Until the price of gold goes much higher...

The graph (and the Widget, found at, at their home page at the bottom), will help me follow how scarce physical gold is vs. the paper price.  This is the ONLY way I know of at present to follow this dynamic.


Let's go back to the Thought Experiment above (would China exchange its $2 trillion of Treasury debt for just $419 billion worth of gold).  That kind of implies that gold is/should be worth over $7600 / oz right now (($2 trillion / $419 billion) * $1600).

Let's think some more.  If the USA were to pay off our debt by exchanging gold for it, the price of gold would have to be $75,000 per ounce...

1 comment:

  1. It's an interesting thought, however despite the US' deep seated economic and societal problems it still has many things of value other than gold.

    Recall China is currently the biggest gold producer so there maybe other things China would ask for instead of taking such a large paper loss.

    I would think they would also want ownership of other US assets, such as land, equities, technology, designs/patents, state owned assets etc.


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