Solving The Gold Inflation Paradox


It was obvious to many that the Covid monetary stimulus response would create inflation. It has. It was and is also obvious that this will spike gold. But it hasn’t.

The obvious answer is that after 7000 years of human fascination and use of gold as various kinds of asset, gold in the hearts and minds of investors is finally dead.

It isn’t. For starters, precious metal physicals have been in high demand from not only individuals but from central banks, and have been hard to buy at a good price for the average investor because retail precious metals have been hoovered up by investors doing exactly what you would expect for people worried about inflation. That shortage situation has improved but there are still sold out signs to be seen everywhere and fat premiums on the offer for stock should you want an ounce or two of gold.

Yet still the price is not going vertical.

Here is the chart:

The gold chart shows that the price is not going vertical

Credit: ADVFN

From a technical point of view you might say one man’s double top/head and shoulders (bearish) is another man’s ready to break out on a $1000 rally.

Here is a superposition of those ideas:

The bullish and the bearish possibilities for the gold chart

Credit: ADVFN

So once again, all you need to know is whether precious metals are going up or down. That is the only call you need to make. Aside from that another conclusion is gold is not going anywhere in a hurry. These outcomes, up or down, will take two to three years to unfold, an age in crypto and an era in equities.

In the 1970s gold rose a great deal and you would intuitively think gold had a strong year after year rise as those times were consistently painfully inflationary. The reality that was gold didn’t just trend up every year, it actually fell for months through 1974, 1975 and 1976:

The gold price mapped against inflation

Credit: ADVFN

In 1974 inflation was 11%, 1975 9% and 1976 6% according to U.S. records, though I think many will remember it as much higher. However, while money debased by over a quarter in those years, gold fell from $184 an ounce to $134 by 1976.

Yet four years later it had risen more than 400%.

This is of course all ‘gold bug’ talk and what attracts investors to sing its praises, but it is easy to forget, gold is not just an asset. Every year close to 5,000 tonnes is mined but it doesn’t all go into vaults. 2,000 to 2,500 tons of gold goes into jewellery in a normal year. Covid knocked that demand down by 30-40% (perhaps as much as 50%) in 2020 and demand is still around 10% down at the end of 2021. Supply and demand is what forms price and a heavy drop in demand is hard to compensate for in the short term. Without doubt this drop in demand has helped to keep gold subdued.

With the world emerging from under the dark clouds of Covid, gold demand will recover but meanwhile, with no end in sight for inflation, it will become more attractive. This will give gold a strong tailwind as the oceans of new money continue to grow still further. Demand for hard assets will continue to push prices and with the jewellery market making a comeback, gold is set to rally.

(Disclaimer: I hold gold, gold options, precious metal ETFs, precious metal stocks and numismatics.)