Regarding Ambrose Evans-Pritchard and His Copper-Backed Currency Stupidity

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The 50 year chart for copper

This is a post I owe to reader PN. On Thursday he wrote in with comments and a question or two about this post that took the lamentable Ambrose Evans-Pritchard to task for his recent silliness about copper.

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I have a question regarding your post on the article by Evans-Pritchard: how does copper not being an asset class mean that it can't be included as part of a currency?

I read the definition of an asset class, and I understand that copper is not one, but I'm not understanding how you're applying that to the article. I also disagreed with the article, but my reasoning was that it would be too expensive to store the amount of copper required to back a currency. His article is also self-contradicting; why would you back a currency with an industrial metal that they have such a demand for? But theoretically, there is no difference between gold or copper backing a currency (although practically speaking, gold is better due to value) and both are not asset classes. Is that correct?

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I replied that I'd answer his question over the weekend, so here we are.

First, let's look at the bit that PN gets. An "asset class" is a vague term and causes some confusion due to the various ways it's used, but it's normally understood in the financial/investment etc world as equity, debt or property. Note at this time that "debt" includes things such as bonds and currencies (as banknotes are basically zero coupon bonds). Equities are stocks, for example. The best example of property is real estate.

In fact a house is a good example to study. It's tough to store (for non carbon-based life forms tuning in, we call them 'cities'). It's made up of things like bricks and cement (both ground up rock) wood, copper etc etc ad infinitum. So what's the sudden magical transformation that makes housing into an asset class?

What the things loosely covered by the term "asset class" have in common, is that they are not the means to an end but an end themselves. They're the conclusion, not the story. They're journey's end, a piece of the pie, whatever other way you want to say it. You buy shares because you want a small slice of company X because you think it's going up. You buy sovereign debt because you trust government X to pay you back with interest etc (as an aside, yes when you buy a sovereign bond you are in a very abstract way buying a piece of a country). You pay more for house X than house Y for reasons of size, location, neighbourhood etc but they're all "an end", not a means to an end. Humans like roofs.

Copper is not an asset class, it's a commodity, a means to an end. It's one of those things made by us then given a value as a good (or perhaps service) as it passes from one person to another, but it's not an end in itself. It's made by people who dig it out the ground, refine it and make a profit (hopefully) by selling it on. It's made by the buyers into pipes and wire and then sold (hopefully at a profit) to the housebuilder or car company or electricity generation plant to build other things which are then sold (hopefully at a profit) to the end user. Sure you can buy it and sell it on an electronic or even physical market just like you can with currencies. When you do you're speculating that it rises in value compared to the underlying currency of the purchase just like you do with a forex pair play. But try paying for lunch with a couple of kilos of the stuff. And try explaining to me the 2002 to 2008 bump in copper compared to its underlying price in the chart above. We know that China has been importing oodles of the stuff and it's become popular (i.e. expensive) because of that. But what happens when all those power stations are built? Chile goes bankrupt?

Now let's go a bit deeper. Milk is also a commodity, so let's imagine an Ambrose Evans-Pritchard parallel universe with a milk-backed world currency. Yeah you got it, cows become more sacred than in India! But then what would happen eventually is that cows become so abundant and so common that they begin to lose their "worth". Some dude says "this is silly..we can't use all this milk" and quite literally starts throwing money down the drain as the opportunity cost of storage outweighs its advantage (we call it inflation). Another dude says "yeah, cow's milk sucks, but my country is goat's milk only.....we're special" until we return to inflation via world overpopulation of goats....these two ideas and a thousand variations on the madness ensue.

So with that milk silliness in mind let's return to copper and the case for backing currencies with this commodity. If this specific commodity becomes the backing for a hard currency (e.g. Dollar or Euro, not the Paraguayan Guaraní or Thai Baht) what would happen to copper the commodity? Well first it would become a very, VERY popular metal. Secondly it would make Chile and Peru the centre of the financial world (and we can't have that I'm afraid :-) . Thirdly people would start doing whatever they could to mine and refine it...all those crappy low grading deposits around the world (example Duluth) would become centres of wealth and excellence. But eventually, as with all common things there will be so much copper hanging around that it loses all sense to imagine it as having any worth (according to my casio there are 10,000,000,000,000 metric tonnes of copper in the earth's crust. If we assume that just 1% or so is close enough to the surface to get at that's still ten billion metric tonnes. Store that).

So all that above outlines why copper can't be an asset class. Now to answer PN's question "how does copper not being an asset class mean that it can't be included as part of a currency?" it's a step and a jump away.

I'm sure you've heard of the term fiat currency as it's used disparagingly by every goldbug that ever walked. However "fiat" in fact means "trust" in latin (or even more simply "let be") and that's really what currencies are all about. You trust that bit of paper as much as the next person because it's backed up by "the word" of the particular government of bank that issued it. For a practical example of this, look at the writing on the British Pound (GBP); "I promise to pay the bearer on demand...." says the Bank of England.

Currencies work on trust. Period. And in fact the system of using trust in currencies to lubricate world commerce has been one of the greatest successes of post-renaissance man. Just look around you as currencies lubricate and speed up commerce and do it very well. But currencies don't work on whoever can store the most amount of things first (and yes, I'm well aware of gold and all its ramifications so don't write in, please). If you stop trusting a country's currency (therefore the country itself) its currency becomes worthless....check out Zimbabwe. If you trust a country to keep its word about things then its currency is valued as an asset above all others (i.e. the US dollar, and I accept no subjective arguments about this; we're talking about perceived value here, not your personal opinion. For a practical example of this, go around South America with any other currency than US dollars in your pocket and see how you're ripped off by the moneychangers).

Currencies do not work by hoarding commodities to back up their value. AEPs ridiculous theory would mean that instead of letting copper flow through the business and industrial worlds and creating wealth (from raw mineral to copper tubing in your car) it would be stopped in a big storage area and jealously guarded. It would put the world's economy into reverse as people stripped houses and electricity distribution systems. That's just a couple of examples off the top of my head, but the whole thing is tulipmania revisited. Backing the system of commerce lubrication (a currency) with the things that are transferred from one hand to another (copper) is contradictory and freezes things, it doesn't lubricate them. Or put simply, Chile becomes rich by NOT exporting copper? It's asinine. All that is a long-winded way of pointing out just how silly AEP's article is, I'm afraid. Ambrose Evans-Pritchard's proposal is an economic theory from someone either too arrogant to educate himself about basic principles before opening his mouth or too stupid to understand. I suspect both.

A final word on gold needs to be said. Yes it's mined and refined like copper, but it's also an asset class in itself. This is because it's also, basically the end of the chain rather than a means to the end, much like building wealth via currencies. If you like, hoarding gold doesn't freeze up the economy because even though it may be traded like a commodity, gold isn't a commodity. Gold is money (I've always liked Paul van Eeden's phrase "it is the very essence of money" even though I disagree with PvE's view on many things). Or if you like, its combination of rarity and desirability in the human eye makes it a good way of concentrating wealth. Gold has always been rare and always will be rare. I'm reminded of a well-known story about aluminium and how the US Congress proposed covering the Capitoleum with Alu when it was built. This because at that time AL the element had only just been discovered and was thought to be rare. We now know differently, but its rarity at the time made it highly desirable to the point where it nearly adorned that famous dome.

So there is a case (not one I agree with, but it's debatable) for a return to the gold standard, but the aspect of hoarding outlined above (aka human greed) is the very same thing that killed the previous gold standard and it would likely happen again. But at least a gold standard is theoretically possible. Copper? Forget it. It's not an asset class, beat that into your head. And stop reading Ambrose Evans-Pritchard because the man is clearly a dumbass.