[OPE-L:1332] Re: Gold & credit money

Duncan K Foley (dkf2@columbia.edu)
Wed, 6 Mar 1996 05:47:57 -0800

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On Wed, 6 Mar 1996 mktitoh@e.u-tokyo.ac.jp wrote:

> On Duncan's comments [1323] as follows with my thanks;
> Will you please explain what you intended to express by the effect of
> 'lowering the reservation price for gold', and answer my further 4
> questions below, Duncan?
> 'On Makoto's question of how changes in the production cost of gold lead
> to changes in the gold price of commodities:
> I think it is worth considering the role of speculation in this process.
> Gold is a durable good, and speculators can and do form hoards of it on
> the basis of their expectations as to the future course of gold prices of
> commodities. An unexpected decline in production costs of gold would lead
> speculators to lower their reservation price for gold, and thus
> effectively to raise the gold price of stocks of other commodities. This
> mechanism doesn't involve the mechanical reasoning of the Quantity of
> Money Theory of Prices at all.'(Duncan).

A speculator forms an opinion about the price at which she is willing to
hold stocks of a durable asset (like gold), which I call her "reservation
price". If speculators as a group hold this opinion firmly, their
tendency to buy and sell the asset at this price regulates the market price.

> 1. How should we think of the weight of role of speculation in the whole
> economy, or in relation with hoards? Hoards in Marx must have an objective
> ground in the turn-over of capital as Costas emphasizes, and can not
> totally be idenitified with speculative assets. Though the role of
> speculation became much increased in the contemporary world since 1973, and
> must change in the different phases of business cycles, I suspect if it
> could be sufficiently big enough to expalin the shift of general prices
> under the gold standard system.

I think speculation is always the immediate mechanism for the
establishment of prices of durable commodities. Even stocks of
circulating capital can be thought of as being held on speculation: why
don't manufacturers always lower the price of their output enough to get
rid of their inventories, for example, except that they are speculating
that they can sell them at a higher price if they wait? Speculative
markets were very important in the 19th century, and Engels and Marx
understood that.

If speculators believe that technology is stationary, then their
reservation price for reproducible commodities will have to be close to
the price of production of those commodities, since the possibility of
production puts a ceiling on the price. Thus the speculative forces tend
to enforce prices of production in this case.

In reality, of course, technology is not stationary, and speculators have
to form an opinion about an unknown and uncertain future. They may be
wide of the mark, and often are, but their opinions still enforce current
durable goods prices. Think of the case of oil, as well as of gold. The
oil price must reflect the worries of the owners of oil reserves about
the discovery of new reserves, the development of better drilling
techniques, and the gradual lowering of costs of solar energy alternatives.

> 2. So long as the gold producers can maintain at least for a while the old
> purchasing power of gold with a higher rate of profit with improved method
> of production, does Duncan not explain the shift of 'reservation price'
> from what he assumes to be an end result, without explaining the logical
> process of changes?

Well, I don't think the "gold producers" have ever been well-enough
organized to maintain profit margins in the face of technological change
(as opposed, for example, to diamond producers at certain periods, or
OPEC in the 1970s). If you look at the movement of gold prices of
commodities (which is the inverse of the price of gold) in the 19th
century, you see the strong smoothing effect of speculation in the face
of dramatic changes in gold production and the discovery of new lodes, etc.)

> 3. Can the speulators know the reduced costs of production for gold and
> exactly predict the course of changes in prices? The methods of
> production of many other commodities must also change in the course of
> time. How perfect information and expectation for the future should we
> assume to be in the market agents as for production processes of different
> industires? In such a case as discovery of new fertile gold mines, the new
> may come and spread more rapidly.

Speculators never predict anything "exactly", but one of the effects of
commodity production is to force people to express their best opinion in
their actual decisions to buy and sell and hold durable goods, and in the
process to form the market price.

> 4. What happens when the speculators decide to reduce the level of hoards
> of gold? If an incresed quantity of money is assumed to be thrown into
> circulation as an increased effective demand so as to raise the price
> level, is this process not similar to the Quantity Theory causation?

It's not clear what "deciding to reduce the level of hoards" means in a
speculative context. If speculators firmly hold an opinion about the
price of a durable asset they will resist price declines below this level
by buying effectively any amount of it, and resist price increases above
this level by selling. The typical effect of a change in opinion is to
change the level of prices rather than the stocks held.

Yours in OPE-L solidarity,

> Thank you Jerry to let me notice of Duncan and Costas' comments on my note.
> With best wishes,
> Makoto