Saturday, October 09, 2010

Gold is merely the thermometer of inflation?

The vitally important inflation / deflation debate continues. In my last post, I relayed one view, which is that the very rich and powerful will not permit runaway inflation, because it erodes the value of money and the rich have most of the money.

As a corrective, I give below the latest video from the National Inflation Association (NIA), a US group that has warned about credit growth and inflation for a long time. Their motivation appears to be patriotic - a return to sound money as part of what makes individual prosperity and freedom possible.

The NIA argues that the rise in the price of gold is not because of mass speculation, for although a lot of gold has been bought recently, a lot has also been sold. What may be happening now is a transfer of privately-held gold from relatively poor people who need to raise money, to investors who are looking ahead to a time when cash will rapidly depreciate. Think of all those gold-buying outlets (or inlets) you now see on your High Street. As someone said a while ago, the mania will be when those shops start selling you gold instead of buying it from you.

As many have now said, trading nations around the world are devaluing their currencies to keep pace with one another, for fear that their exports will be hit if they don't. So the soaring value of precious metals can be seen as a better indication of inflation than currency exchange rates.

You may think that if currencies are depreciating, then surely prices of goods and services in general must also increase rapidly, and we don't see this yet. But we are in a recession and the threat of unemployment is keeping down wage demands; the self-employed are willing to lower their rates, perhaps especially if paid in cash; and traders in items such as cars and computers are offering discounts to clear stock and keep paying their overheads.

However, the NIA and others say there will come a time when the system begins to crack. Governments are buying their own debt, or lending money to banks to do it for them, to maintain the appearance of normality and control; this can't go on forever. The prediction is that we will get either default or hyperinflation. So the gold bugs say buy gold, silver, maybe oil and agricultural commodities etc - anything tangible that can't be multiplied at will.

I don't think (feel) that the turning point is imminent, because of recession and the attempts by some governments (such as the UK) to retrench. But I fear that these last-ditch attempts are untimately doomed to partial or complete failure. In that case, the gold bugs will probably be vindicated.

The other thing I'd say, as I've said before, is that if the system really does come under severe strain, the price of gold may not be the most important of your concerns. If you accept the inflationists' thesis, you will be quietly making preparations to cope with emergencies of different kinds.

DISCLAIMER: Nothing here should be taken as personal advice, financial or otherwise. No liability is accepted for third-party content, whether incorporated in or linked to this blog.


Salis Grano said...

Hmm, not convinced. I am sure that gold has a way to go, but starting from here I think there are better returns to be had elsewhere. The current level of inflation is largely a UK phenomenon with specific causes. I tend to agree with your earlier view that it will be brought back within band in a year or two. -SG

myopia said...

I'm confused as to where all this QE money goes. The banks aren't lending it so what are they doing with it?

Sackerson said...

SG: What I've said before does not contradict what I say here. Gold is above trend, but for a reason. It's definitely a speculator's market, but it may be that investors are speculating not on gold but on the collapse of major currencies. There are alternatives, e.g. shares, and the history of the German 1923 hyperinflation would bear out the notion of equities as at least a partial hedge against inflation.

Myopia: as I understand it, the banks have been given money and (a) told publicly to lend more and (b) told privately to build up their reserves. Rather than risk this new, borrowed capital on more lending, they've turned round and bought government bonds, so forcing down yields/interest rates, which just happens to suit the government. The net effect is a steady stream of income to the banks from government. The banks might just as well have been given the cash outright.

myopia said...

Thanks for the explanation. Is this also why share prices are rising because its the only alternative to bonds?

Re SG, Denninger has some interesting posts

on inflation

and on gold

Sackerson said...

Yes, I think many people are getting back into the market because the yield on bonds and deposits is so low. I think they could be in for a nasty surprise with equities.