How Inflations and Gold
Works
Many of the publication describing
inflation are not useful or are just to abstract to follow. So I
describe inflation, hopefully, in a friendly, less abstract and
confusing way.
Farmer selling roasted chickens is in
need of fresh bread and a Baker selling fresh bread is in need of a
roasted chicken decide to sell each other their best products.
After the transaction of a roasted
chicken for a loaf of fresh bread, they both decide to get together
next week for another transaction.
Again they meet the following week to
buy their products, however, as they exchange their products the
farmer is not satisfied, the fresh loafs of bread is now half molded.
The farmer is in need of bread and notices that the other half of the
loafs of bread are perfectly fine and eatable. The farmer decides he
can take two half molded loafs of bread on the assumption that he can
still exchange the roasted chicken for a whole loaf of bread.
On the fourth week, the two merchants meet for another transaction, and again the loafs of bread are
further moldy. Moreover, the loafs of bread is now three quarters
moldy. The farmer again renegotiates the terms and requires 4 of
these loafs of bread to satisfy his need for a complete loaf of
bread.
If you notice a common theme here is
that the required loafs of bread increase over time. This is the
essence of a product debasing or a product losing its purchasing power. The baker has to
continue to increase the amount of loafs for the farmer to continue
to get his value for the roasted chicken. When money supply increases
and allowed to float in the economy, the value of the dollar debases;
the same way the loafs of bread have debased. Just the same way as the
more loafs of bread are required to buy the chicken, when the dollar
debases, more dollars are need to buy the consumer item.
You might say that the dollar bill does
not get moldy, but it does debase. The more the money supply is
increased the more the dollar debases. It’s the same principle that
governs most items in a financial transaction, the scarcer the item
the more value it has — think rare collectable items, gold and
other precious metals.
There is a misnomer when describing
what the price of an item and the value of that item is. When I
describing the value of the chicken compared to the bread loaf, the value
of the chicken remained but the value of the bread depreciates and the
price of the chicken increased in comparison to loafs of bread. -- Price and value is not the same
thing.
However, when we bring gold in this
scheme, its value remain constant. Gold has always been a good barometer in measuring inflation. Gold is a precious metal
that cannot be created or printed; it can only be recovered through
expensive mining. Displacing millions of tons of earth
produces a relative small amount of gold, enough to repay operating
cost and profit. The increasing in gold supply every year is on par
with the increase in world population.