As the G-20 gathers in South Korea on Nov. 10, fears of a currency war are looming. The battle lines are being drawn between those countries that export and those that import. Big exporters want to boost their sales -- a reason to make their currencies (and hence their products) cheaper. But debt-laden importers would prefer that China, among others, allow its currency to appreciate so that Chinese consumers could buy more of those goods. Japan has already cut the value of its currency; the dollar has also fallen 10 percent this year. So perilous is the diplomatic terrain that U.S. President Barack Obama sent a letter to G-20 leaders before they arrived in Seoul, prevailing on them to act with calm.
Amid the tensions and a fragile global economic recovery, it might be tempting to hear a certain monetary siren song: gold. On Monday, World Bank President Robert Zoellick proposed instituting a modified gold standard using a basket of big-five currencies -- the dollar, euro, yen, pound, and renminbi -- claiming it would help control inflation, deflation, and currency movement. The plan had something for everyone: a reality check for currencies that are undervalued, and a moderator for those too strong.
In times of economic uncertainty, gold has been the global currency of choice. It has no country and no central bank, so its price is entirely market driven. But don't be fooled: Whether it's a long-term investment, a quick-fix to stabilize global currencies, or a tool to keep central banks in check, gold is pyrite. And using a gold standard -- even a modified one -- would be a fool's errand.
Today, gold is in a bubble. The price stands at an all-time (non-inflation adjusted) high of about $1,400 per ounce. This is remarkable given that inflation remains well under 2 percent and the cost of mining the stuff has remained $450 to $550 per ounce. In other words, as soon as it is out of the ground, you can turn around and sell it for three times what it cost you to dig it up. Since 2000, this has been the story: Gold prices have known only one direction -- up. Despite economic ups and downs, it has produced an annualized return of 17 percent. Many speculators, hedgers, and contrarians have made a killing. New gold exchange traded funds (ETFs) have brought even more -- and more diverse -- investors on board. Those who bought gold in 2002 doubled their money by 2006 and repeated this financial alchemy by 2008. Investors that caught the gold bug as late as 2009 are up over 50 percent. This year alone, gold is up over 25 percent. A decade ago, it would have been heresy for institutional investors to invest in gold. Today, a 2 to 5 percent allocation of one's portfolio is increasingly viewed as prudent.