In Greek mythology, Troy was the city where the Trojan War was raged. The war lasted for ten years so the Greek devised a trick and convinced the Trojans to accept a wooden horse as a gift. Unknown to the Trojans, it was filled with Greek warriors who later emerged to capture the city.

Weight in gold

Originally, a grain was the weight of a grain seed from the middle ear of barley, an over time came to represent a unit of mass. The troy system of mass derived its name from the city of Troyes in France, an important trading city in the middle ages. And a troy ounce is 480 grains, but more importantly, there are only twelve (12) ounces in a pound rather than the sixteen (16) in the more common avoirdupois system.

Predictor or laggard

Recent rise in the price of gold is thought to be a predictor of future inflation. As depicted in the chart below, there is no correlation between the price of gold and inflation.

Goldfinger

In the run-up to the First World War central banks consolidated their positions as the prime holders of gold. The banks seemed to have regarded their gold reserve (usually in coins) as cover for their domestic note issue liabilities. Anyone could walk into a bank and exchange a bank note for gold coin at a fixed price.

During the war, on the advice of John Maynard Keynes convertibility was not suspended but the circulation of bank notes was quietly increased and made legal tender for unlimited amounts. Simultaneously, sovereigns (gold coins) were withdrawn from circulation when they came into the bank.

Store Value

Following the war, the US dollar replaced Sterling as the world’s most powerful currency and henceforth the price of gold was fixed in US dollars.  On September 12, 1919 the first fix was at US$20.67 per troy ounce, and although the London gold was still quoted in sterling it fluctuated vis-à-vis the dollar.

As shown in the above, over the last 20 years the price of gold has not kept pace with inflation in the United States. To do so, gold prices need to breach US$845, even then, it would still be below its January 1980 peak of US$873.

In the very long term the price of gold is a poor store of value, the price in 1919 at 2004 dollars was US$224.67, yielding just over 100% real return in 85 years.

Gift Horse

Unlike the Trojan Horse, the golden horse from Troy should be “looked in the mouth”.