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The Gold Inflation Paradox

I have been a firm believer in gold for some time now, and I’ve been going on about the likelihood of strong inflation for months here on Forbes. Gold and inflation are so interlinked in my mind that it is a no-brainer to be loaded up with gold assets going into what seems likely to be an extended period of inflation, one that I see will at least debase money in the U.S. and Europe by 50% over a period of 3-5 years. The upside on inflation is way higher than that but I believe that inflation will be whatever is needed to realign nominal GDP and deficits. If you inflate as a country, GDP grows and tax dollars grow but the trailing debt shrinks as a ratio to GDP.

The agreed sweet spot is 85% government debt to GDP as this is the area where growth is not crippled by public sector debt. To get an economy there after a traumatic bout of wild spending, normally caused by war, but in this case plague, a country inflates away the debts of the past and uses inflation as a flat tax on the future.

This is not revolutionary analysis, it’s just the tale of post war inflation since time immemorial. You might of course go on a multiyear austerity drive—yeah right, that is simply not going to happen.

So inflation is what we have and what we are going to get more of and of course it is gold that will rise amongst other hard assets because when the value of money goes down the nominal price of hard assets go up.

This is about as basic as investing gets. Buy gold! (and I have.) But gold is not obliging. It is not going to the moon.

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How can it be! Gold hasn’t done badly over the last 20 years of course, but this inflation is a new thing so it should be dragging gold upwards. Instead gold is practically languishing.

Some explain it away by saying bitcoin is the new gold and therefore gold is obsolete. That’s believable, but actually the rich who need an inflation hedge are old and the old don’t tend to be tech savvy and certainly not likely to be keen to navigate the abstruse crypto landscape of wallets, decentralized exchanges and the tangle of tech that is bitcoin and crypto.

Bitcoin might be an alternative in some arenas to gold and gold might be an awkward asset to buy and hold, but there is no lost lust for the yellow metal.

It is perplexing. I am of course harking back to my young days in the 1970s when inflation took off and consequently gold exploded. This is what I am programmed to expect.

What is different now? The answer is nothing and it might be that “nothing” that explains why gold seems to be out of touch with inflation.

Here is a chart that may be the key:

Gold outperforms inflation x2, which is what we are looking for, but the interesting thing is while inflation is better reliably trending, grinding up each year, 1974 and 1975 are years in which gold actually falls while inflation rallies.

This was a surprise to me. It also clearly demonstrates that gold can be relied upon in the long term to protect against inflation but not week to week.

You might say gold doesn’t track inflation but instead like other commodities lies dormant then explodes.

This is what I think we are seeing. There is a lot of sizzle out there in markets. It might be natural gas one week, nickel the next, bitcoin, then the S&P 500 going wild. This is what the participants chase. Assets take their turn for a vertical move and this is where we are with gold.

Nothing is going to happen because no one cares about gold, until suddenly everyone will. Then it will do a vertical. When it happens it will happen fast.

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