is gold an inflation hedge?

Is Gold an Inflation Hedge?

W W W. G O L D R AT E F O R T O D AY. O R G

http://www.goldratefortoday.org/

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1. Gold is often regarded as a perfect inflation hedge

2. Let’s discuss this issue by answering the following four

questions: 3. First, what is inflation

4. Second, what are the reasons for inflation?

5. Third, is gold an effective hedge against inflation?

GOLD AS INFLATION HEDGE

W W W. G O L D R AT E F O R TO D AY. O R G


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Definition and Measurement of Inflation

1. Inflation is an increase in prices for goods and services of an

economy over a certain period

2. In the United States inflation is mostly measured as an annual

percentage increase of the Consumer Price Index (CPI)




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1. This index is reported monthly by the US Bureau of Labour

Statistics and takes into account the price for a basket

of goods

2. If the money required purchasing these good

increases from $100 to $125 within one year, then the annual

inflation rate is 25%




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1. Of course, the CPI basket of goods does not correspond with the goods and services acquired

by each individual

2. Therefore, the ‘personal inflation rate’ is lower or higher

than the official one




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Reasons for Inflation

1. There are four major theories trying to explain inflation, all

with its advantages and downsides




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Quantity theory1. This theory was refined by Friedman and other University of Chicago economists (Chicago

School)2. It states that the price levels

are controlled by the money supply

3. Therefore, if the money available in an economy goes

up, prices for goods and services will also rise




88

Keynesian theory1. Keynes tried to explain inflation

with the theory of income determination

2. Inflation does not directly influence prices

3. It arises because consumers attempt to buy more goods and

services than that can be supplied at full employment

levels




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Cost-push theory1. This third approach assumes

that products and services are basically defined by their costs2. The price-wage spiral is responsible for this increase

3. Here employers demand higher wages, which will then lead to higher production costs and

eventually pushes again wage increase demands




1010

Structural theory1. One version of this theory proposes focuses on developing

countries2. Here, inflation is caused by the

gap between imports and exports

3. Imports happen fast than the country’s citizens are able to

pay for them4. Also, imports outcompete local

goods5. This leads to an increased pressure on the local currency

and an upward pressure on prices, which is inflation.




1111

Gold as an inflation hedge1. First, gold supply has been

quite stable over time2. In average, mined gold

increased by 1.5% over the last 100 years (including several

times during which gold output increased due to wars and a

reduction of demand for gold)3. The finite amount of gold helps

to keep the annual addition of gold at low levels




1212

1. Second, during the gold standard, when the currencies where pegged to gold and their

value was determined by the amount of gold the countries had in their vaults, national

inflation increased usually by not more than an annual two

per cent2. (However, a comparison of the

gold standard time with the post gold standard period is invalid if only the different

monetary system is considered.)




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1. Third, due to inflation, all currencies lose their value over

time2. This becomes evident when

comparing the purchasing power of $100 dollar today, with ten, 50 and hundred years ago.

3. However, gold retains its value, or even increases it.




1414

1. The value of gold has remained remarkably stable for centuries

2. In 1900 the gold price stood at $20.67 per fine ounce

3. End of December, the price was above $700 per ounce

4. And in the first quarter of 2011 gold has reached a record of

$1500




1515

1. Another illustrative example is to see what one can buy for one

ounce of gold2. During Roman times it was

possible to buy a suit of expensive clothes for one ounce

3. During the great depression the same was true. How is it now?

4. It is still possible to buy a fine, tailor-made suite for one ounce

of gold!




1616

Relative to gold, all currencies have lost their purchasing

power, whereas this precious metal has not only kept, but

even gained value




1717

1. What is the downside of gold? Of course, gold neither pays

dividends nor interests and the might be better inflation hedges (depending on the criteria taken

into account)2. Also, a look at the gold chart shows that gold does not always

increase in price3. There are some bearish periods

as well




1818

1. Gold plays with fear2. Pessimistic people buy gold3. The more pessimistic people get, the higher the value of gold

will rise

GOLD IS INFLATION HEDGE



1919

Or as Warren Buffett put it aptly

“Gold is a way of going long on fear, and it has been a pretty good

way of going long on fear from time to time. But you really have

to hope people become more afraid in a year or two years than they are now. And if they become more afraid you make money, if they become less afraid you lose money, but the gold itself doesn’t

produce anything.”




2020

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