Inflation's Not Driving Gold's Bullish Run

By Eric Roseman

Gold is rising because the post-Breton Woods exchange rate system doesn’t work.

More than ever, governments are loading up on debt as a result of bailing-out their respective banking systems. And there’s a price to pay for this profligate spending. Gold sniffs trouble.

Gold has traditionally been viewed as the best inflation hedge since the creation of fiat coins under the Roman Empire. When deficits became too large – namely to fund foreign conquests – the Romans simply chipped-off parts of the coin…de facto inflation.

Now inflation leads to the debasement of our purchasing power and ultimately reduces our long-term standard of living. No other monetary phenomenon has plagued central bankers more than inflation – except for deflation – the worst of two evils…

And deflation – not inflation – has gripped the world economy since the asset “bubble” pricked in July 2008. Stocks, bonds, commodities, real estate and even fine art and the most expensive French red wine vintages have all declined sharply over the last 20 months. Despite a massive recovery since March for most of these risk assets, investors are still sitting on double-digit losses since January 2008.

If gold prices are tied to inflation then why has spot gold risen a cumulative 300% this decade compared to just 25% for U.S. CPI? Something doesn’t give. True, gold should exceed inflation but that rate of excess performance belies a different story behind this rally.

Comments

[chap08:]

"If gold prices are tied to inflation then why has spot gold risen a cumulative 300% this decade compared to just 25% for U.S. CPI?"

Well obviously gold prices are not "tied" to inflation. But underneath all the noise, this is ultimately about inflation. Because:

1. If you look long, long term, gold returns are approx equal to inflation. You say gold should exceed inflation. I don't think so, that's not what history shows and not what logic suggests (think about gold exceeding inflation over 1000 years - what the reasons for that would be and what that implies). But over any short period, sentiment will drive gold just like any other investment. That's why we had low gold returns in the 80s and 90s when inflation fears were subsiding. It's also why we have had strong returns this decade as inflation fears have risen.

2. The debasement of a currency IS inflation. They are the same thing.

Sep 17 03:23 PM

[Liberty for...:]

"If gold prices are tied to inflation then why has spot gold risen a cumulative 300% this decade compared to just 25% for U.S. CPI?"

Pretty easy exlplanation: Inflation is actually 7 % higher each year than the reported CPI figure. Check shadowstats.com for more specific information on CPI and its methodology.

Sep 17 03:29 PM

[Liberty for...:]

Given a 10 year period, and a 275% difference between the CPI and the appreciation of gold, CPI would have had to have been 14.13% for gold to track it exactly. That's not too far off from reality given the current gold price measure not only past and current inflation but expected future inflation.


On Sep 17 03:29 PM Liberty for All wrote:

> "If gold prices are tied to inflation then why has spot gold risen
> a cumulative 300% this decade compared to just 25% for U.S. CPI?"
>
>
> Pretty easy exlplanation: Inflation is actually 7 % higher each year
> than the reported CPI figure. Check shadowstats.com for more specific
> information on CPI and its methodology.

Sep 17 03:38 PM

[Hans Gruber:]

So, to be clear you agree that gold prices track inflation rates long term? So gold truly is just a store of value throughout time and that is why you should hold it?


On Sep 17 03:29 PM Liberty for All wrote:

> "If gold prices are tied to inflation then why has spot gold risen
> a cumulative 300% this decade compared to just 25% for U.S. CPI?"
>
>
> Pretty easy exlplanation: Inflation is actually 7 % higher each
> year than the reported CPI figure. Check shadowstats.com for more
> specific information on CPI and its methodology.

Sep 17 05:55 PM

[przem23:]

gosh, there are so many posters confusing the issue,.. gold rises in ANTICIPATION to inflation,.. once inflation begins to rise, base metals and agriculture will be the place to be,.. until that time arrives, gold will outperform for now

Sep 17 08:40 PM

[Ad Orientem:]

Inflation is not rising prices. Inflation is printing money. Rising prices (the CPI etc.) is a symptom of inflation which can be suppressed by various factors often for years. Gold is rising because we have inflation. The rise in prices is being kept in check for now by high unemployment and widespread deleveraging. But this will not last forever.

Sep 17 10:17 PM

[Mad Hedge F...:]

ag Brace yourself for the impending gold shortage. Gold shortage? Yup. With the launch of the eighth gold ETF this yesterday, the ETFS Gold Trust (SGOL), total ETF holdings of the barbaric relic reached 54 million ounces worth $55 billion, more than total world production in 2008. Last year, South Africa suffered its steepest decline in gold production since 1901, falling 14%, to a mere 232 tons. It now ranks only third in global production of the yellow metal, after China and the US. Severe electricity rationing, a shortage of skilled workers, and more stringent mine safety regulations have been blamed. Choked off credit has frozen the development of new capital intensive deep mines, as it has for everybody else. Rising production costs have driven the global breakeven cost of new gold production up to $500 an ounce. In the meantime, the financial crisis has driven flight to safety demand for gold bars and coins to all time highs. Last year, the US Treasury ran out of one ounce $50 American Gold Eagle coins, now worth about $980. Competitive devaluations by almost every central bank, except Japan, mean that currencies are not performing as the hedge that many had hoped. It all has the makings of a serious gold shortage for the future. Could last year’s downturn be a blip in the eight year bull market? Now that we are solidly over $1,000, kissing $1,025 last night, the match could hit the fuel dump at any time.

Sep 17 11:33 PM

[rick12345:]

The USA has been accumulating debt upon debt for the past 30 years without a hope in hell of ever paying it back. This has the effect of devaluaing the USD long term, and is the sole reason why gold prices will remain high in the future. As for deflation, don't make me laugh; Just wait and see what effect a weak dollar will have on the inflation rate in terms of import prices and wages growth.

Sep 18 08:07 AM

[The Recusant:]

When I was a kid $5 would get you a gallon of milk and a bag of groceries. Now you might get the milk and a cheap loaf of bread. Inflation has been subtle over the decades, eating away at our prosperity like rust. This gradual inflation was acceptable because it coincided with pay increases and easy money. But in the last year the fear of losing one's earnings overnight has become pronounced and has prompted the public to seek a safe haven. Deflation or inflation, the PMs are the only place to preserve capital safely.

Sep 18 12:51 PM

[rick12345:]

The only thing that will fall in the short term is the gold price. A huge bubble has been forming in the gold market over the last six months as investors sought sanctuary in gold. Now that the bull run in equity markets is finally beginning to gain momentum, I would expect a huge shift out of gold and into stocks; profit taking will affect the price next week, driving it below $1000. From there it will rapidly fall to around $800 to $850 an ounce. I don't think you will see $1000 gold again until some time next year.

Sep 18 09:58 PM

[Plan B Econ...:]

Have you looked at the US dollar? Gold has traded up recently as the USD falls.

It's a different story for gold if you price it in Yen...

www.planbeconomics.com.../

Sep 20 02:00 PM

[rick12345:]

Gold is struggling to maintain $1000. If the market closes lower today, then the gold price may follow suit. A devalued USD has already been factored into the price, so from here on it's all economics.

Sep 21 08:13 AM

[Andrew Butter:]

The best driver for gold prices I found so far is the price of oil, inflation (as recorded by USA which may not be an accurate measure), is a lousy driver historically.

I agree with you gold is a bubble, driven by speculators betting the economic mismanagement of the past will continue.

Of course the speculators might be right.

But either gold is far to expensive (the oil model says $750) or long-term Treasuries are much too cheap, could be somewhere in the middle in which case Treasury yields will drift up and gold will drift down.

My view (1) long oil (2) neutral gold (3) short Treasuries.

Oct 28 03:50 AM