The Hirohito Gold Fiasco
Ludwig von Mises was the foremost advocate of the gold standard of his day. Yet, he recognized that gold only became the world’s premier monetary metal because of a botched attempt to establish a bimetallic standard, in which the government tried to fix the value of gold in terms of silver (Human Action, 3rd revised edition, p. 471).
Well, Ludwig must be having a good laugh at the recent bone-headed effort by the Bank of Japan to honor the late Emperor Hirohito by issuing a gold coin fixed in value in terms of yen.
During the 1990s, the price of gold held up pretty well, in the high 300s, but it fell precipitously late in the decade. The most obvious reason for the fall in price was the east Asian currency crisis. During that crisis, Korea and Indonesia—countries where the demand for gold is usually very strong—actually released gold back into the world market.
In Korea, government officials asked those owning gold to sell all or part of their holdings in a patriotic effort to earn hard currency in the foreign exchange markets when that nation’s money and financial markets came under speculative attack. In Indonesia, many investors found that gold proved their only asset that could be sold for hard currency when their country’s financial markets collapsed. Demand also fell in other east Asian countries, including China, Hong Kong, and Taiwan, and in southeast Asia and Japan.
In Japan, a second, strange reason contributed to the fall in price of gold. In that country, starting in 1987, special gold and silver coins were struck in commemoration of the sixtieth anniversary of the accession to the throne of Emperor Hirohito. Unlike other government-issued commemorative coins, these were special, having substantial legal-tender values. The gold coin, consisting of 20 grams of 0.999 fine gold, carried a denomination of ¥100,000. The silver coin, consisting of 20 grams of 0.999 fine silver, was denominated as ¥10,000.
Through 1990, 220 tons of the Hirohito gold coin were produced. Then, in 1991, 60 tons of a similar gold coin honoring Emperor Hakihito were produced, and, in 1993, yet another 36 tons of similar gold coin honoring Crown Prince Naruhito.
Savvy investors realized that the coin was much more valuable than its gold content, since no matter how much the price of gold might fall, the value of these coins could not fall below ¥100,000. While privately issued kruggerrands, and most government-issued nominally legal tender gold coins, typically sell for only a small percentage, say 3 percent, above the value of their gold content, the Hirohito coin sold for a very substantial 30-percent premium. Why were investors willing to pay such a large premium? In the parlance of finance, buying Hirohito coins was akin to buying gold along with a protective put.
At the peak of production of the Hirohito coin, Japan was importing nearly 300 tons of gold per year, equal to about one-tenth of world demand. With the substantial premium at which the Bank of Japan was selling its gold coins, the government appeared to be making a profit of something near 500 billion yen. Even in yen, that’s not chopped liver.
This apparent profit, however, did not result from value-creation. Neither was the Bank of Japan taking candy from babies. The Bank of Japan was simply getting value for value. The premium it was gaining reflected the value of its guarantee of the future value of the coins it was selling.
Then suddenly, with the fall of the value of gold—initially because of the east Asia currency crisis—investors began to "exercise" their protective puts by depositing the coins as legal tender in their banks. Instead of making a profit in the neighborhood of 500 billion yen, the Hirohito coin and its successors wound up saddling the Bank of Japan with tons of coins the legal-tender value of which substantially exceeded their melt value. The Bank of Japan is now faced with the choice of either keeping these coins in its inventory—recorded as "reserves" at an inflated, legal-tender value—or selling the gold as a commodity at a loss of an estimated 300 billion yen.
For investors in Korea, Indonesia, and elsewhere, their holdings of gold served them well during a time of financial crisis. Their gold served the age-old purpose of hedging against all kinds of risk (not merely the risk of inflation). By having a portion of their wealth in gold when their money and financial markets went into the tank, they still had an asset that retained most of its value.
The demand for gold in the form of jewelry, in addition to gold coins, throughout the so-called developing world in east Asia, in India, and in the Arab countries, continues to reflect concern for the integrity of their money and financial markets. When you don’t enjoy the rule of law, when you don’t have transparency, when you don't have the opportunities to hedge and to diversify, and when you don’t have a good dollop of equity in the financial mix, you have no idea when the whole financial system will come crashing down. We can debate whether we, in the United States, need concern ourselves with such risk, but investors throughout much of the world would be foolish to discount it.
For the Bank of Japan, though, its sale of gold in the form of the Hirohito coin proved foolish on a scale even larger than Orange County’s speculation in the mortgage derivative market. The Bank of Japan sold high and bought low. When investment bankers supply protective puts, they use the mathematics of finance to invest in combinations of other securities that constitute "synthetic puts." They take covered positions and hedge. They avoid naked position and speculation. But governments think they are smart enough to take naked positions.
Thus, the Bank of Japan has given new meaning to the old saying, "The emperor has no clothes."
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