Gold - Inflation correlation

[CA PP]

In Deep Risk, W. Berstein states: "Here s the surprising thing about gold: it protects poorly against inflation" and then goes on with various studies as references.

I have to admit I paused for a while when I read that chapter...  Anyone here had a similar reaction?

[Pointedstick]

He is correct. Gold reacts strongly to high inflation, but not very strongly to the low to moderate levels of inflation we've seen for the past 20 years.

What does does do in this situation is react to when the interest rate is negative in real terms:

[Kshartle]

He is correct. Gold reacts strongly to high inflation, but not very strongly to the low to moderate levels of inflation we've seen for the past 20 years.

What does does do in this situation is react to when the interest rate is negative in real terms:

The question is why is the real interest rate negative? It's because money creation is occurring at a faster pace/higher percentage than interest rates. It's a function of money creation and high bond prices. Now who do we know who creates money and pushes up bond prices?

Virtually the entire rise in the dollar price of gold is due to more dollars. They just don't happen at the same time. I think the prices rises ahead of the great expansion in anticipation of it. Once the prices for everything else go up the suckers pile into gold and cause a blowoff top.

I don't think any close to that has happened yet. Those prices are way off. Time will tell.

[Pointedstick]

The question is why is the real interest rate negative? It's because money creation is occurring at a faster pace/higher percentage than interest rates. It's a function of money creation and high bond prices. Now who do we know who creates money and pushes up bond prices?

And the answer is, "I'm in the PP, who cares what the reason is?"

You may be right. You may be wrong. But since I have 25% in gold, if you're right, I'll profit from it. And if you're wrong, I'll also profit from it. I like having my money disconnected from my own predictive power.

Also, as investors, if gold rises when the government makes more dollars, shouldn't we be cheering them on? If the reduction and eventual elimination of the deficit at the end of the 20th century is what caused gold to fall to $300/oz, shouldn't we prefer big deficits forever!?

Maybe members of congress are all big gold holders.

[frommi]

Again good chart, i like pictures . The little problem currently is that from 1970-1980 the US debt was around 25% of GDP and now is over 70%. The FED can rise the short term interest rate, but they will kill the US budget that way, because the goverment can`t afford high interest payments.

[mortalpawn]

I would also add that the Fed has committed to keep short term interest rates near zero at least through 2015, so that will keep real short term interest rates in negative territory which could be good for gold.  Also as others have pointed out they can't raise these rates rapidly without having a severe effect on the US treasury's debt payments.

On the other hand they do appear to be losing control of long term interest rates, and also risk popping the latest asset bubble if (as expected) they start tapering their QE infinity purchases this week.  This could lead to an asset sell off (deflation) in all assets which could be bad for gold, at least in the short term.  However, in past deflation events we've seen the PP assets recover within the year from deflation events.

The fact that all of the central banks are printing money at an unprecedented rate (by some estimates accounting for up to 25% of world GDP) puts us firmly in uncharted territory.  So what will happen?  Status quo? Asset deflation? Bubble pop? Massive inflation?  Nobody knows.  History tells us that this kind of printing eventually leads to inflation either in asset prices as well as the consumer economy, but also that it could take many years to manifest, and would likely come on suddenly.

That's why I like the PP - it is a good plan for maintaining asset value if things go south quickly, but also maintains growth if things stay largely the same.

[Pointedstick]

Again good chart, i like pictures . The little problem currently is that from 1970-1980 the US debt was around 25% of GDP and now is over 70%. The FED can rise the short term interest rate, but they will kill the US budget that way, because the goverment can`t afford high interest payments.

The constraint is inflation, not the government's ability to pay. They control the currency; of course they can pay! The question is what the dollars they pay are worth.

[frommi]

The constraint is inflation, not the government's ability to pay. They control the currency; of course they can pay! The question is what the dollars they pay are worth.

How? They will kill the economy with higher taxes. Don`t you think they will accept a reasonable level of inflation (<4-5%?) to get rid of the debt that way? You can`t really tell me that you think the FED is independend. (on paper perhaps, but in reality they are not)

[Pointedstick]

The constraint is inflation, not the government's ability to pay. They control the currency; of course they can pay! The question is what the dollars they pay are worth.

How? They will kill the economy with higher taxes. Don`t you think they will accept a reasonable level of inflation (<4-5%?) to get rid of the debt that way? You can`t really tell me that you think the FED is independend. (on paper perhaps, but in reality they are not)

Wait, we're talking about higher taxes now? I'm saying they're just going to borrow even more money to pay off their obligations. Raising taxes is too toxic. Nobody in this country cares enough about reducing the deficit or debt that they're willing to pay higher taxes. Nobody.

Of course the Fed isn't really independent. They're joined at the hip to the Treasury. If interest rates rise significantly (which the Fed is going to try to stop) then the government will meet the increases costs of borrowing by simply borrowing more, and the buyers will be the exact same people buying now: the primary dealers, foreign central banks, the Fed, and, to a lesser extent, people like us. The result will eventually be some amount of higher inflation, not an email from the Treasury saying, "welp, looks like we can't afford the interest payments. Time to close up shop."

[frommi]

Wait, we're talking about higher taxes now? I'm saying they're just going to borrow even more money to pay off their obligations. Raising taxes is too toxic. Nobody in this country cares enough about reducing the deficit or debt that they're willing to pay higher taxes. Nobody.

Ok, i am dumb. I really didn`t thought about that obvious action. 

[MediumTex]

It's very strange, but the media, politicians and almost everyone else seems to not really understand that government spending and tax collections have very little to do with one another.

It doesn't help when you have dimwits like Art Laffer out there talking about the "Laffer Curve" depicting the ideal tax rates to maximize tax collections without realizing that the whole discussions about maximizing tax collections is sort of irrelevant to a currency issuer.

They just collect what they collect and borrow the rest.  The ratio between the two really doesn't matter that much.

[dragoncar]

It's very strange, but the media, politicians and almost everyone else seems to not really understand that government spending and tax collections have very little to do with one another.

It doesn't help when you have dimwits like Art Laffer out there talking about the "Laffer Curve" depicting the ideal tax rates to maximize tax collections without realizing that the whole discussions about maximizing tax collections is sort of irrelevant to a currency issuer.

They just collect what they collect and borrow the rest.  The ratio between the two really doesn't matter that much.

But it's still important on the state level right? 

[Pointedstick]

It's very strange, but the media, politicians and almost everyone else seems to not really understand that government spending and tax collections have very little to do with one another.

It doesn't help when you have dimwits like Art Laffer out there talking about the "Laffer Curve" depicting the ideal tax rates to maximize tax collections without realizing that the whole discussions about maximizing tax collections is sort of irrelevant to a currency issuer.

They just collect what they collect and borrow the rest.  The ratio between the two really doesn't matter that much.

But it's still important on the state level right?

Yes. Although states tend to do the same thing but unlike the federal government, they eventually have to pay the piper.