Could deflation reduce the price of gold?

Last year, Robert McHugh predicted that the Dow would drop to 9,000, at least in terms of the price of gold. By January 22 this year, that had happened.

But people like Karl Denninger have been saying for a long time that the outcome of the credit crunch will be deflationary, and Mr Denninger is more emphatic than ever about that now. And that's not just the view of a private investor who backs his judgment with his own hard-earned money: the Bank for International Settlements (htp: Michael Panzner) also thinks deflation a serious possibility.

I recently did a little primitive chartism and thought it possible that the Dow might revert to what looks like a longer-term trend line that includes the 9,000 mark.

Turning to the price of gold, it has certainly soared over the past few years, but there's been debate about manipulation. Frank Veneroso thinks central banks have been releasing stocks of gold to keep the price down, yet at the same time it is suspected that speculators have been boosting the price, possibly using leveraging (borrowing extra cash to increase the returns).

So another way for McHugh's prediction to come true (again), would be for both the Dow and the gold price to come down together. The ratio implicit in his prediction (13.51) could imply that the Dow hits 9,000 and gold drops to about $666 per ounce, or about 30% off where it is now.

Not impossible, if leveraged speculators have to disinvest to repay their borrowings in a hurry; and it would still only be a reversion to where gold was two years ago (and even then, nearly double what it had been three years before that).