The celebrated precious metal and former reserve standard of the world’s monetary system is valuable for several reasons, but primarily because it is scarce. So scarce, that supply-chain problems with physical gold delivery are manifesting as demand surges amid the COVID-19 financial chaos.
When markets are bleeding, investors turn to gold.
Why is gold so popular amid market turmoil? It’s the classic safe-haven asset – one that fares well when inflationary-prone fiat currencies are subject to $6-trillion stimulus packages and equity markets stray violently up and down. In some cases, gold is even known to explode during market uncertainty.
Demand for gold is currently so high that the gold futures premium relative to the spot price is the highest it’s been since 1980, during the great oil shock.
We’re beginning to see some cracks in the current gold market, though, especially its consolidation. The London Bullion Market Association, or LBMA, is the standard for gold (and silver), but smaller denominations of gold sourced from LBMA and others are becoming increasingly difficult to find.
The “denomination problems” are quite simply auditability issues taking the form of high-cost tracking and verification of settlement. And that’s where gold-backed stablecoins can make an impact, among some other appealing caveats.
A return to the gold standard
An often floated idea is to return to the gold standard that predominated across the world in the 19th century. In such a system, all government-issued (and even private) currencies were pegged to the value of gold, fostering a fixed, shared economic unit of account for world trade.
Gold was the natural result of scaling valuable resources from the numerous “origins of money”, and the gold standard is attributed with helping the world achieve one of its most distinguished periods of economic growth.
However, most countries abandoned the gold standard in the 20th century, with Nixon officially axing any relation between the United States dollar and gold in 1971. The age of devaluing fiat currencies – a paper currency model decried by the founding fathers of America – was initiated, which leads us to many of the problems currently experienced today.
The problem of returning to a gold standard is that it’s not a realistic endeavor. We have transitioned so far from the gold standard (e.g., $5 trillion daily FX markets, fractional-reserve banking, etc.) that countries moving en masse to acquire enough gold to compensate circulating currencies is impossible. Overhauling the dollar-denominated credit system is practically unfeasible and there’s simply not enough gold available to back all the inflated fiat currencies of today.
But that doesn’t mean clever modeling around the concept has been ignored. What’s evident is that during a crisis, people still flock to gold as a safe haven. So, why not initiate a more localized and digital version of gold using a blockchain?
When auditability problems today are compounded by the inability to physically settle gold contracts in New York City due to an invisible virus forcing the city on lockdown, digital gold presents an appealing mechanism for increasing the asset’s liquidity, transferability and auditability.
The benefits of blockchain-based gold also extend beyond merely crafting digital gold that is pegged to a blockchain token. Issuers of such tokens can stabilize the supply to meet demand, creating a gold-backed stablecoin. In fact, several of them already exist, and their demand is soaring.
For example, Tether, the current USD-pegged stablecoin king, offers an ERC-20 gold-backed stablecoin called XAUT, which has exploded in demand recently. Similarly, Paxos’ PAX Gold stablecoin has also experienced high demand.
Two of the exciting benefits of gold-backed stablecoins (besides removing the volatility of gold), is that they are more liquid and transferable than legacy market analogs. Additionally, gold-backed stablecoins furnish access to physical gold rather than paper gold, which is a critical consideration. Physical gold is currently trading at a notable premium to paper gold, such as a gold exchange-traded fund for mining firms.
Gold-back stablecoin users retain more control over getting in and out of a position, then quickly exchanging the token for a cryptocurrency, fiat currency or other assets. Legacy markets and institutions lack that type of immediate settlement and exchange. And in a liquidity crunch, such as what COVID-19 induced, that’s a major problem.
A prime opportunity in Africa
One of the biggest opportunities for gold-backed stablecoins is in Africa – a region of plentiful gold deposits and an emerging market that needs a stable currency system. Especially considering that a surging dollar is doing emerging markets no economic favors, gold-backed stablecoins may come to predominate among everyday transactions and investors on the African content.
For example, blockchain-based gold stablecoins are accessible on mobile devices. Africa is one of the biggest mobile phone markets in the world, and access to financial services such as banks remains one of the key problems for many people on the continent. By simply tapping into an app on their phone, Africans could leverage a stable asset that is verifiably backed by gold and immediately transferable at a low cost.
As a byproduct, Africans would not be subject to the punitive FX exchange rates at Western Union or instituted by certain governments, and they would have an avenue away from inflationary currencies, which would be particularly helpful for nations such as Zimbabwe. They could experience unprecedented access to a legitimate store of value that’s part of a global network of assets ranging from tokenized commodities to cryptocurrencies.
Those propositions are powerful even when we’re not in a major financial and economic crisis where governments are racing to devalue their currencies at a historic clip.
Every junior mining company engaged in gold exploration, including ones that I chair, has assets that are unmined but valued and shown on their balance sheet, and therefore, their share price. In order to price the deposits, they use a standard which is audited by an independent expert. The standard is either JORC or NC43-101, depending on the nationality of the miner. The gold could be valued at market price minus the cost of getting it to market (e.g., mining, transport, tax and minting).
That sounds awfully familiar to a return to a gold standard. It would also be a boon to African nations, who have repeatedly had their natural resources exploited at the expense of the wealth of their own nations.
From a broader context, one of the possible gold-backed stablecoin solutions is a double-edged solution. First, it would establish a stable, shared monetary system for Africa. Second, it solves the demand problems that are currently showing signs of rupturing the broader gold market – mostly based in London and New York, which serve many G-7 countries.
An ancillary bonus is that the blockchain-based token would leapfrog many of the current obstacles that make returning to a global gold standard prohibitively expensive for most developed countries. Gold-backed stablecoins would not just be a hedge to volatile assets during uncertainty, but a means of immediate, liquid exchange accessible on mobile phones.
That’s a 21st-century return to the gold standard, and it couldn’t come at a more opportune time.
Global economy shutdown during the lockdown may have prevented hundreds of thousands of coronavirus deaths in the developed world, but it will result in starvation and poverty-related mortality for tens of millions in emerging economies.
This could result in the collapse of already fragile currencies. This time, the U.S. and the former colonial powers’ own economies are so damaged that domestic introspection and potential insurrection will hamper them from either assisting or meddling in Africa.
In particular, the U.S. dollar has been deeply damaged by the ease with which its government can print a $2 trillion coronavirus bailout as well as the diminishing relevance of the petrodollar as a source of its global fungibility. Similar issues abound across the Western world. It is unlikely that the French economy will recover from the COVID-19 crisis anytime soon, and less likely still that its Eco coin, the mooted CFA successor currency for its former colonies, will ever be launched.
In the vacuum, a pan-African currency may kindle.