With the disappearance of the gold standard, currencies are no longer backed by the precious metal but are just fiat money, that is, a means of exchange, with no objective value of their own. Given that people’s trust in them is quintessential, their ‘value’ might go up and down with the economic or political events, being therefore difficult to determine the value of assets internationally by their means, a fact that gold could ensure as a standard. Moreover, with the ongoing financial crisis affecting most of the world, the relative value of currencies, which may be manipulated by governments or what they owe, has become once again apparent.
After the collapse of the housing bubble in the US and the related credit crisis, banks had lost so huge that most of them got bankrupt, and governments had to bail them out, increasing their debt, and accordingly their budget deficits. By their central banks printing more money, they also determined an increase in inflation, thus weakening their currencies.
U.S., for instance, has raised its legal debt ceiling in just two years by almost 2 trillion dollars, and the Federal Reserve has printed 1 trillion dollars (just the debt instruments required by bailing out the whole Wall Street cost that much!). But this is not limited to the US. This year national governments issued around $4.5 trillion in debt, which means triple the average for developed economies in the previous five years. For example, the sovereign debt of the United Kingdom, if adding the five largest banks there, is more than 500% of its GDP, (in the U.S. is just 200%). This just shows the dimensions of the crisis, if some of the best economies in the world collapsed (even Switzerland hasn’t escaped: the debt of its private banks is seven times its GDP).
Besides, with their financial system deteriorating to such an extent, foreign investors will sell their bonds (the debt they bought from them), exerting more pressure on interest rates, whose increasing will lead to a further devaluation of their currency. The U.S. dollar, for instance, hit record lows during the last 6 months: 20% by comparison with the Canadian dollar, 15% with the Australian dollar and 7% with the Euro.
Unlike it, gold hit 28-years highs, so the gesture of central banks to buy gold massively is quite understandable. Gold bullion is a better investment for preserving one’s wealth than some unstable, always fluctuating currencies, so affected by inflation. For example, since 1913 when the Federal Reserve was born, the dollar’s purchasing power has decreased by 95%! Gold, on the other hand, has pretty much preserved its buying power over the last century. So why not to invest in gold, whose demand is on the rise like its price, not only as a result of failing currencies but also of the basic trading rule, that is, the relation between demand and supply? It’s a win-win situation: you can never lose!