The reason why gold enjoys a special status as an investment vehicle has been discussed ad infinitum. Most often the discussion revolves around the financial aspect of including the noble metal in a portfolio. The monetary gain is only partially responsible for the magic spell that gold casts on people worldwide. The cultural and psychological aspects form the basis for the attraction towards gold. This article explores this topic in-depth.
The History of Gold
In many ancient cultures, gold enjoyed a special status for its application in jewelry and artifacts because of its aesthetic qualities, malleability, ductility, and its ability to resist corrosion and oxidation. Egyptians, Sumerians, Minoans, Incas, Aztecs, and Romans made a vast array of jewelry from gold and regarded the yellow metal as sacred – a gift from the gods.
As its popularity rose among the population, gold assumed more and more value. This finally led to the issue of gold coins, exploiting gold’s potential as a medium of exchange and a store of value.
The real question here is this – why was gold assigned a special status in ancient cultures and considered a valuable asset when there were other metals with similar properties? The answer to this is not very much evident. Some circumstances must have elevated gold to a higher level and merely managed to catch the imagination of the people than other metals with equivalent properties such as silver.
The truth remains that the value of gold is just a cultural creation. This implies gold is valuable because we believe that it is valuable. We believe that gold will be valuable in the future as it was valuable in the past and present. And its beauty, usefulness, scarcity, and difficulty in extraction have only added to the perception that gold is indeed a highly prized commodity.
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What do economists say?
Many economists who studied this topic argue that gold does not hold any more value than other metals with similar characteristics. They consider gold a relic of the past with no monetary value, now that we have fiat currency. They contend that in a modern society paper money should be the medium of exchange and gold has no value in that regard. In their opinion, gold’s sole utility is in the jewelry sector.
However, some financial experts differ from this view. They consider gold as an asset with intrinsic value and unique features, making it a ‘must-have’ in any portfolio. According to them, the exceptional attributes of gold make it a good investment choice as any other.
Gold – The metal with dual essences
Most people believe that gold holds value because of its application in jewelry production, relevance as legal tender, and its significance as an investment vehicle. All of these reasons are valid and true but there is one more hidden explanation. It is hard to explain and difficult to nail it down but as real a reason as any other. Gold has this mysterious, enigmatic quality that can make people swoon over it.
The financial world is based on facts, data, and verifiable, logical economic theories. Despite this, the mystery has a place in it, affecting its functioning big time. Gold comes with the unparalleled quality of being both subjective and objective – subjective because of the mystery element and objective for its myriad uses in our life.
This dual characteristic seen in gold is not found anywhere else in the financial realm. Even as gold can be a tangible and quantitative asset like money, it can also be qualitative and transient like a feeling. Human nature is the x-factor that has helped gold retain its unique position and thereby maintain its value.
Gold bug: Is it real or a myth?
A gold bug is a person who is ‘bullish’ on the yellow metal; one who believes wholeheartedly in the merits of gold as an investment and is convinced that its price will continue to rise. Most of their arguments are based on the bleak future of fiat currencies.
The price of gold is directly linked to fiat currencies and hence their decline is bound to have a favorable impact on the value of the cherished metal. Gold bugs, while bullish on the prospects of gold, are bearish about the economy and the USD.
They point out that the ever-expanding budget deficit and exploding national debt are matters of serious concern and consequences. They are concerned that the government will be forced to devalue the USD directly or indirectly to bring back stability in the economy. This is bound to cause inflation to get out of hand. That implies that the USD-linked assets will lose their value. In these circumstances the only asset that can protect your investment is gold. To the avid supporters of the beloved metal, investing in it can act as a hedge against these contingencies. And, it offers an opportunity for the investor to make a tidy profit.
Experts believe that it is risky to take a one-dimensional perspective on any issue. All these premises are based on the historical performance of gold as an investment. These calculations may not hold water if there is any change in the factors controlling its behavior. For example, it’s supply, demand, and most important of all it’s perceived value. Economists recommend a balanced portfolio and not to go overboard with any one particular financial asset. The share of gold in a portfolio should not exceed 10%.
What drives the price of gold?
Now that we have sorted out the reasons for the popularity of gold as a commodity, it is easy to understand why it is so expensive.
1. Base price
Metals like gold are obtained through the process of mining. Rock formations are the primary source of gold and waterways form the secondary source. Unlike other metals, the process of gold mining is arduous and hence costly, thus setting its base price substantially high.
2. Scarcity
Gold is found in all continents in the world with varying distributions. Despite this, the known gold deposits are limited and so gold is regarded as a scarce resource. The basic law of economics of ‘less supply and more demand drive the price up’ is apt for gold.
3. Lack of competition
Silver is the other metal that comes somewhere close to gold in terms of aesthetic value, application in jewelry, and as an investment. Its main drawback is that it tarnishes – it reacts with the minute quantities of sulfur in the atmosphere and forms a gray sulfide coating. So, that leaves gold as the only one in contention for the top spot. Hence the high interest in it and the exorbitant price.
4. Intimate relation with the U.S. Dollar
Though the gold standard was abandoned decades ago, the gold rate continues to be closely linked to the U.S. Dollar. When the USD is strong, the gold rate remains steady and under control. As the USD starts slipping and inflation sets in, the gold rate moves in an upward trajectory. This makes gold an excellent hedge against the ill-effects of inflation.
5. Demand
Almost 49% of the annual gold production worldwide is utilized in the jewelry industry. Investments and central bank reserves come to a distant 30% and 15%, the technology sector accounting for the rest. Demand for gold is rising constantly in all these sectors, pushing up the price of gold.
6. Safe haven
At times of political instability, economic uncertainties, and economic events such as currency devaluation and depreciation, gold has proved its mettle as a safe investment. Gold had stood tall throughout history in turbulent conditions, while other paper assets and real estate fell by the wayside. This trait of gold makes it an invaluable asset, driving its price.
Will gold ever become worthless?
Maybe, maybe not. The history of gold to date tells us emphatically that the value of gold will keep rising and will never be zero. But history being history, it is at best an indication of the future and that is all. It may not work out the way it worked in the past.
Many argue that in the event of an apocalypse, both real and financial, gold will be useless; it won’t be able to get food on the table unless someone considers it invaluable and willing to trade it for food. Even in a non-apocalyptic, regular day scenario, many experts list reasons for not investing in gold.
Gold generates no income. It is taxed highly unless in an IRA. Gold is overhyped as an investment choice though it is doing great in the long-term now. The future of the economy is unpredictable and demand for gold may come down or supply may go up resulting in the price crash of gold. The price of gold is inflated due to its perceived value. This list goes on.
Notwithstanding the truth in these arguments, the fact remains that there is no financial asset that will score better in all these scenarios. This means it ultimately boils down to gold.
Why is gold a precious metal?
Precious metals are scarce metals with high economic value. Platinum, Gold and Silver are some of the most precious metals. In this elite group of metals, gold occupies a special position.
Gold is not as rare as other precious metals like platinum. Its uses are limited to jewelry and artifacts. Still, the yellow metal is worshiped like nothing else. It is indeed a mystery of how gold rose to the pinnacle among precious metals.
A metal that is available in relative abundance should be cheaper. However, this rule of thumb doesn’t seem to apply to gold. The main culprit in making gold a precious metal is the demand for it. Again, its unique array of properties – durability, malleability, ductility, and conductivity – helps in elevating gold above the remaining metals.
Above and beyond these attributes that set gold apart from the rest of the metals, it has conquered the heart of the people for ages. Gold is valuable because it is considered valuable by all. And, that is that. That seals the case for gold.
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How abundant or rare is gold?
The yellow metal is abundant enough for everyone to have at least a little of it but rare enough not to have as much as they want. That is the long and short of it.
Gold is a heavy atom with 79 protons and 118 neutrons. Like most chemical elements, gold was produced by the incredible heat and pressure created by supernovae, the powerful explosions of stars. The chemical forge resulting from the death of a star creates the right atmosphere for the formation of complex elements such as gold. As the occurrence of supernovae is rare, the resulting elements are also rare.
The gold that we are extracting now was formed billions of years ago. Though gold cannot be considered a rare metal, it is hard to find gold deposits on the surface of the earth and still harder to extract them.
Gold is found in rock formations and ore deposits in pure or almost pure form, being a noble metal. Gold is extracted by the underground mining process, through shafts and tunnels. Gold deposits on river beds often face erosion and found in the silt downstream. Oceans are estimated to hold vast quantities of gold deposits but the cost of extracting them would be more than its worth.
Despite this, gold is not the rarest of metals available on the surface of the earth. In fact, platinum is rarer. Still gold is more in demand and that is an enigma that continues to perplex scientists and economists worldwide.
What are the uses of gold?
The aesthetic appeal, ductility, and malleability make gold an ideal metal for making jewelry and other artifacts. Its rarity and non-corrosive and non-oxidation nature help it to be an investment tool. It is one of the most sought-after assets for wealth protection. Central banks are holders of vast quantities of gold. It plays a major role in its reserves management.
The non-reactive and non-toxic properties of gold coupled with its high conductivity make it a perfect addition to medication and application in dentistry. Gold is used in electronics and space exploration for its non-corrosive, non-oxidation, and highly conductive properties.
Almost half of the gold produced in the world every year is used in jewelry and other adornments. More than one-fourth of annual gold production goes into investments. A smaller yet significant share of gold is added by central banks to their reserves each year to bolster their currencies. The percentage of gold used in the medical field and technology is relatively small but significant.
Why is gold worth more than silver?
Gold had been valued more than silver throughout modern history. As per recent trends, gold is 73 times more expensive of the two for the same weight. This figure may witness slight fluctuations as the spot prices of both metals change. Still, the fact remains that gold commands a price way beyond silver. The reasons are numerous, some of which are easily understandable.
1. Properties
Gold is a noble metal. This means gold doesn’t corrode, oxidize, or rust. In short, it doesn’t tarnish or disintegrate even in severe conditions. Gold jewelry can be worn daily as its wear and tear is minimum. Typically, gold jewelry lasts generations. However, the same cannot be said about silver. One of its main drawbacks is that it tarnishes. It reacts with the minute quantities of sulfur present in the air, forming a sulfide compound, a blackish substance. This spoils the appearance of jewelry and artifacts made from white metal.
Gold is heavier and denser of the two. This means an ounce of gold is less in volume than an ounce of silver, making it more portable and easy to store. The warm color of gold makes it stand out in any company – a characteristic that helps in its position in the jewelry market. Again, its soft texture is ideal for engraving and molding it into different sizes and shapes. The low melting point of gold makes it easier to work with for jewelers. While the white metal also comes with some of the above-mentioned properties, the ones that it lacks make silver lose out in the race.
2. Uses
While the main use for gold is in jewelry, that for silver is in industries. Gold jewelry lasts generations and often recycled. Gold is seldom lost forever. But the white metal is used in small quantities in industries and this is rarely recycled.
3. Supply
The basic economic theory of supply states that a commodity in short supply commands a higher value. Unfortunately, gold defies this law. Silver is in much shorter supply than gold. However, the price of the former is several times that of the latter. There is another twist in this tale. The known silver deposits on the earth are several times that of gold and more of it is mined every year than gold. Despite this, when it comes to the quantity in current circulation, the former is a runaway winner.
4. Demand
There is no denying that the demand for gold is much higher than for silver. And, hence the higher price. However, the use of white metal in industries, especially the electronics industry, may increase its demand in the future. Someday its rate may equal that of gold or even exceed it. But for now, gold is the winner hands down.
5. X-factor
This is the factor that defies logic and facts. And, gold has it, while silver doesn’t. This factor may be described as the perception of value among the public. People think the former is more precious than the latter and this results in higher demand and a higher price for gold. Another point worth mentioning here is the way gold was promoted as the symbol of beauty, money, prosperity, and also commitment. As long as this image of gold is etched in the minds of people, silver is a loser even before the race begins.
Bottom line
Gold has everything going for it – its long array of useful characteristics, supply (just the right amount, neither too much nor too little), high demand, and the mystery factor aided by its public perception. Even as other precious metals find it difficult to compete with gold on popularity, other financial assets also have a hard time when they come up against gold for a share in the investment portfolio.
The fact that gold is a hedge against a slew of unfortunate circumstances in the financial market means that gold is the asset to have at good times as well as bad times.