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Will Bitcoin Replace Gold? - Bezek's Daily Briefing

Gold (NYSEARCA:GLD) has been a dependable store of value for centuries. Gold has served as a safe haven, shelter, way to store wealth, and launder/hide money from governments throughout history.


  • The price of a Bitcoin appears ready to pass that of an ounce of gold.
  • Is this a short-term fluctuation, or a permanent shift?
  • Why gold dominated in past centuries.
  • Does Bitcoin have what it takes to replace gold?
  • Investing takeaways for both.

Bears have long argued that gold has little to no intrinsic value. Keynes is commonly cited with his barbarous relic quip. But that's not an isolated view, most modern economists view gold as an out-of-place holdover from a bygone era.

And yet, gold has defied modern financial thinkers. It has continued to retain its value and, in fact, went on a gigantic run from the turn of the century through to 2011. While gold has performed poorly since then, it continues to disappoint the gold is worthless crowd that has long predicted a return well back into three-digit per ounce territory.

Why hasn't gold lost its value in this new economic era? Simple. There's still great demand for a store of value that has no counterparty. While economists and bankers assure us that the financial system is sound, too many disconcerting events have occurred to accept that view completely.

It's reassuring to store at last some part of one's wealth in an asset that doesn't rely on the credibility of a government or central bank to maintain its value. And that's especially true in many foreign countries. Even if, by some miracle, the US tamed the business cycle and entered an era of unbroken stability and prosperity, you'd still have the rest of the world to think about.

Look at Argentina's 40% inflation rate; few were willing to hold large amounts of Pesos, and capital controls made it difficult to purchase dollars or move money out of the country. Gold is one way to secure wealth in that situation.

Or turn to India, where the government recently outlawed large-denomination paper currency bills. In a country that's had a depreciating currency anyway, and that distrusts the country's fiscal policy, suddenly discrediting the country's paper bills goes a long way toward boosting gold's appeal.

And finally, there will always be a market for alternative assets as a way of avoiding government detection. This covers a wide range of areas, such as tax evasion, money laundering, funding of illegal activities, and so on. As long as there are criminals in the world, there will be demand for ways to move money outside of the banking system.

Gold's Old Advantage: Portability

The above reasoning explains why there was persistent demand for an alternative form of money. Government-backed paper currency is unlikely to ever secure 100% market share of money supply, due to the reasons I've mentioned, among others.

However, why does gold dominate this category? It's because gold is easy to store and easy to move. You could theoretically use wheat, oil, corn, etc. as money. But these are a pain to store. Who wants rats eating your money supply, or your wealth to be stored in flammable hard to transport barrels?

Alternatively, you could use other products that are easier to store, but generally these have run into a different problem. They're simply not portable enough. It'd require around 20,000 pounds of zinc, for example, to buy a decent new car. Thus, zinc coins would be an impractical form of money.

Gold, and to a lesser extent silver (NYSEARCA:SLV), are the best forms of alternative money since they are easy to store, easy to hide/secure, and aren't too heavy to be moved with relative ease. Until now, there's been few realistic substitutes.

Bitcoins: Will They Take Gold's Place?

Bitcoins (OTCQX:GBTC) are, however, a real threat to gold. They're in the news again today, with prices up another 6%, coming close to $1,100 each now. One or two more strong days, and the price of a bitcoin would top that of an ounce of gold.

Will bitcoins continue to soar, leaving gold in the dust? In their favor, bitcoins can replicate many of the features of gold.

I'd argue portability has been gold's biggest asset. You can move a lot of wealth with a relatively small quantity of gold. And gold is easy to store, and relatively easy to hide.

Bitcoin has these same features. Now you don't even need to smuggle gold to avoid government detection. The ability to move money digitally opens a whole new avenue for criminals or people who fear government detection to be able to transfer money seamlessly.

Bitcoin has picked up wide adoption in countries such as Argentina, where capital controls made it more difficult to smuggle assets out of the country physically. And look at China now. It's widely thought that China's economy is cooling down, which will expose a creaky banking system and potentially lead to a sharp devaluation in the Yuan.

It's reported that the majority of bitcoin trading is now occurring in China and is being used as a vehicle to convert Yuan into offshore money that can then be used to buy assets such as real estate abroad. Chinese people traditionally have been huge buyers of gold, presumably to shelter their wealth from the government. However, that still left the need to store safely the gold in China or find a way to smuggle it out of the country.

Bitcoin makes that process much easier. Thus, you can say that gold's competitive advantage is gone. If the Chinese people increasingly turn to bitcoin, rather than gold, for their alternative currency needs, what will support the price of gold?

What May Protect Gold's Place

It's not all bad news for gold. While bitcoin is clearly taking some market share, it's unlikely to top gold reputationally for quite awhile.

Gold is a brand, and a very powerful one at that. People that want to be respected tend to deck themselves out in gold. Look at the US' president-elect. Over centuries, gold has established a mystique in the same way a luxury brand does. Gold is inherently viewed, across human cultures, as uniquely valuable. That may start to erode over time as the world becomes more digital, but it certainly won't disappear in just one or two generations.

Bitcoin, by contrast, is a lousy brand. A terrible brand in fact. We don't even know who founded it; its origins remain in question and arouse suspicion. Many of bitcoin's trading houses have been fraudulent, hacked, or otherwise lost users' trust.

The price of bitcoin is far more volatile than gold, making it a questionable store of value. Turnover of bitcoin is far quicker than with gold, generally people who receive bitcoin want to turn it back into a government-backed currency fairly quickly. Meanwhile, gold tends to stay in vaults for long stretches between changing hands.

Bitcoin's inherently deflationary arrangement - that supply is absolutely capped with no further growth in the future - supports bitcoin's price at least for now. Bitcoins will be exceedingly rare, whereas gold has an ever-increasing supply as miners bring more out of the ground at a rate which fluctuates based on market demand.

However, in the longer run, the scarcity of bitcoins make them a lousy form of money. They would be so valuable that few people will want to use them for transactions. It's a classic case of Gresham's Law - bitcoins have a programmed 0% inflation rate, which makes them unique and will encourage hoarding. And ultimately, that leads to a cloudy future for bitcoin, it's hard to see them supplanting gold as a store of value in the near term, and there may simply be too limited of a supply for them to stay popular as a means of moving money away from government detection in the interim.

Investing Takeaway

I think gold's role as the leading alternative store of money is safe for at least the next generation. Think of gold and bitcoin as brands. It's clear which has far more market standing. Bitcoin also has more regulatory risk, since governments have means of tracking bitcoin transactions (to some degree), and can also make it difficult to move bitcoin-generated cash back into the traditional financial system.

In the long run, it's sensible for folks to store a small portion of their wealth in gold, as a hedge against currency collapse and other unforeseen tragedies. Gold tends to match inflation over long periods, maintaining wealth, though not increasing it.

Bitcoin, on the other hand, is a more difficult beast to judge. Inherently, its value should be either $0 or some price approaching infinity. Given the extreme scarcity of bitcoins in the world (there are 7.4 billion people worldwide and only 21 million bitcoins), their value would be exceedingly high if they replace gold and became the main alternative money supply to government-issued ones.

However, there's a large risk of bitcoin going to zero, should some other digital currency supplant it, regulators manage to destroy it, some problem with the code renders it functionally useless, or who knows what. I get the appeal of putting 1-2% of your money in bitcoin, storing them, and hoping they continue to soar. But don't make it a large position, its value is not nearly as secure as gold's.

Source: seekingalpha

  • January 26, 2017 11:15 AM MSK