THE TRUTH ABOUT OUR MONEY – Hubert Moolman

24 November 2008

Highlights 

The Rand “lost 86.8% of its value against the pound in the last 47 years

The Rand “has lost 92.91% of its value in dollar terms since 1971″

The Rand “has thus lost 99.77% of its value against gold since 1967. That is almost all of its value”

“We are thus paying real value in taxation that is based on non-real profits”

Should a family make a long journey, they would need things like water, food, transport, information, accommodation etc. to make the journey successful. What is important is to have or obtain these things when they need them, in the right quantities and in the required condition.

 They will either take the actual things with them if possible or they will acquire the actual things later during the trip when they need them. Therefore, where they take actual things with them, they are storing the actual things and where they will acquire the actual things later during the trip, they are in fact storing an ability to obtain the actual things. To illustrate this let’s use the examples of water and accommodation.

 Water

They may decide to take enough water with them on the trip. To make this possible they therefore store water in cooling water containers. Should the family need water during the trip (assuming no other water is obtainable) and find that the stored water is in good condition and that the quantity is as was first stored, they can then use it as required. The store of water would thus have been effective. On the contrary, if there is no water left or significant water loss both due to leakage, or the quality of the water is not adequately preserved, the store of water would have been ineffective. The family could then possibly die due to lack of water or the condition of that water, their journey could be seriously delayed, or they could develop serious illnesses due to lack or quality of the water and so on.

 Accommodation

They may decide to stay at hotels during their journey; therefore they store something of value which hotel owners would accept in exchange for a room at the hotel. I call this something of value an ability to obtain the hotel accommodation.  Let’s say that hotel owners like flour and accept only quantities of flour in exchange for hotel accommodation, thus the family store flour with them during the journey for future exchange to obtain accommodation. Like in the case of the water, the effectiveness of the store of flour would determine whether the family would be able to obtain the needed hotel accommodation. If they are unable to obtain hotel accommodation they would be exposed to additional risks that could be detrimental to them successfully completing their journey.

  One can then conclude that for their journey to be successful it is imperative that their store of required things (let’s call it goods and services) or store of an ability to get the required goods and services is effective.

 Our family: South Africa

If the people of South Africa were this family and the store of goods and services (or ability to obtain goods and services) represents our money, it becomes clear that for us to be successful economically in our journey of life as a nation it is imperative that our money as a real store of value is effective.

 Let us look at the performance of our nation’s main store of value, the South African rand.

 We all know that the buying power of our rand has been deteriorating over the years and is still deteriorating. Generally the inflation rate indicates to what extent this is happening. Whether it accurately indicates the extent of this loss of buying power is another question though. Hopefully we can look at this in the future.

 For now let us look at the rand’s performance as a store of value against the performance of other popular or most used forms of money as a store of value. This comparison would give us a good idea of the extent of the loss or gain of purchasing power of the rand.

 Rand in British pound terms – The British pound used to be the world’s so called reserve currency during the 18th and 19th century, meaning that governments used it as a store of value for their international reserves.  Today a significant portion of the world’s currency reserves are still held in British pound. It is thus useful to compare the performance of our store of value to the performance of the pound.

  The rand was introduced in 1961 and at that time 1 rand was equal to 50% of a pound. Today more than 47 years later 1 rand equals about 6,6% of a pound. That means that today it represents 13.2 % of its initial value (1961 value) in pound terms or put another way it has lost 86.8% of its value against the pound in the last 47 years. Not a very convincing performance by the rand against the pound.

 Rand in US dollar terms – The US dollar is currently the world’s reserve currency. Therefore it is used by most governments and central banks of the world as a store of value for their international reserves. It is probably the most popular store of value today, therefore comparison to its performance will be very useful.

  In 1971 one rand was equal to 139% of a Dollar. Today 1 rand equals about 9.86% of a dollar. Therefore It now represents about 7.09% of its dollar value in 1971, so it has lost 92.91% of its value in dollar terms since 1971. Again, the performance of the rand is not convincing.

 Rand in Gold terms (Krugerrand) – Gold has been used as a store of value for thousands of years. Today almost all central banks keep a part of their reserves in gold. When the US dollar became the world’s reserve currency it was actually 100% backed by gold, meaning that it was convertible into gold. People used to say that the US dollar is as good as gold. Gold is arguably man’s most successful store of value as well as most popular when we take at least more than a couple of thousand years to judge. So let us see how the rand does against a store of value with such a pedigree.

 In 1967 a 1 ounce Krugerrand cost R 27, today it will cost you about R 8200 (note, that a 1 ounce Krugerrand  cost about the spot price of gold plus a small premium).  Therefore a Rand is worth 0.33% (1/8200 divide by 1/27) of the value it was in gold terms in 1967 and it has thus lost 99.77% of its value against gold since 1967. That is almost all of its value.

 Conclusion on the rand’s performance as a store of wealth

 As a store of value/wealth the rand has been unsuccessful. It has lost almost all of its value against the world’s most successful currency, gold and a significant portion as measured against the British pound and the US dollar.

 Some clever economists or banker may tell me that if you had stored your wealth in rand say since 1961 (assuming in a bank) you would have been compensated for this loss of value by the interest that is higher than that offered by British or American banks and much higher than gold which apparently pays no interest. I would then reply that this does not work for me. The ability of my store of value to do its job should not be dependent on decisions or actions by others such as the reserve bank.

 The store of value that I use should do its job inherently. In my journey example where water is the value, I would rather use a store of water that enables me to access my water in sufficient quantity at the time I require it, without outside influence or intervention. Using the Rand is like having a store of water that leaks a significant amount of water most of the time and along the way someone else (Reserve bank or others) decides the quantity of water it will top me up with. The risk here is that the “top ups” might be too late or insufficient (which it probably is)etc. I might die, develop a serious condition and never successfully complete my journey. The increased uncertainty that this flawed store of value brings, makes financial planning and survival a nightmare.

 Sometime at the beginning and during the current world credit /financial crisis I read that Mr Trevor Manuel, our Finance minister and others say that we as South Africans are not saving enough. I completely agree; however, Mr Manuel you and the powers that be are not giving us an effective store of value. You are giving us a “leaking water bottle”.  How can we possibly be expected to store our wealth using such a flawed store of value?

 What makes this even worse is that in many cases we measure the performance of our investments in this very flawed store of value thereby recording gains in our investment whereas if we were to measure it in a stable and effective store of value, like gold, we would actually be reporting a loss. We are thus paying real value in taxation that is based on non-real profits. That is certainly a quick and effective road to bankruptcy.

 Reasons why the rand fails as a store of value

Let us look at the underlying reasons why the rand has not been a successful store of value. To understand the reasons we first need to know what properties good money should have to be effective as a store of value, a medium of exchange as well as a unit of account.

Money should be:

  1. Divisible- should be divisible in smaller units
  2. Portable – able to carry it around therefore a high value should be able to be contained in a small space and weight
  3. Homogenous – one unit should be the same as any another unit
  4. Durable – should not be able to be easily destroyed or eroded
  5. Valuable – should have intrinsic value, normally because it is desirable. Should not be able to be created or discovered without reasonable effort. Thus it has to be a commodity itself.

The reason the rand does not comply with good money is because it is a paper currency. It is a fiat currency. A fiat currency is created by government decree (it is money because the government says so). The Rand is not alone; virtually all the world’s currencies are paper and fiat currency. The major flaw with paper /fiat currency is that it does not comply with point 5 above which is that it is not valuable in itself; its intrinsic value is zero.

 The issuer can create it in unlimited quantities without reasonable effort, and this is what mainly deflates its buying power (it is easy to increase the quantity of money faster than the quantity of the goods and services that it is buying). So just like the flawed store of water, a fiat currency’s ability to do its job is dependent on decisions, actions and integrity of the central banks and others. In fact the use of paper/fiat currency gives the issuers power to redistribute wealth the way they desire. Eventually the people who print the money will print it in such quantities that it will hyper deflate its buying power. By Government decree it is given a so called value and by government decree it eventually finds its real value of zero.

 “Paper money eventually returns to its intrinsic value – zero.” (Voltaire, 1694-1778)

If you find this information useful, please forward it to friends or family. If you would like to subscribe to my news letter please send me an email. My news letter is free and I send it out whenever I have something to “say”.  I do accept donations though; email me for how.

May God bless you.

Hubert Moolman CA(SA)

email: hubert@hgmandassociates.co.za

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One Response to THE TRUTH ABOUT OUR MONEY – Hubert Moolman

  1. Good stuff, one of the best blogs on this subject matter.

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