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Gold’s Inflation Dilemma

The age old adage that the shiny monetary metal throughout history has always been the ultimate hedge against inflationary times is now being challenged by the current era of global modern monetary theory. Central banks have abandoned their old role of defending the currency of individual nations in favor of economic “stability” which is basically defined as tolerable consumer price increases with illusionary asset valuations.

This too shall pass however.

Many individuals remember the Great Financial Crisis which should be more accurately declared the Depression of 2008-2009, where inflationary pressures spiked, then collapsed with an outright deflationary collapse.

While it took over seven months for the March 2009 QE experiment of the Federal Reserve to take hold and began reigniting inflationary prices, the theory that this was the era of the “last deflation” took hold and the belief that joint fiscal and Fed policy would always to be capable of blunting deflation without sparking inflation.

The fears of insufficient Federal Reserve stimulus and a return to credit related deflationary pressure on the global economy were still present in 2010. The fears echoed by Paul Krugman’s alarmist New York Times editorial, The Third Depression (June 27, 2010) where he stated:

And this third depression will be primarily a failure of policy. Around the world most recently at last weekend’s deeply discouraging G-20 meeting governments are obsessing about inflation when the real threat is deflation, preaching the need for belt-tightening when the real problem is inadequate spending.

Fortunately for the world, Mr. Krugman was wrong again, there was no “third depression” and government spending continued at insane rates unabated by political idealism and the threats emanating from conservative ideologues who never demonstrated an understanding on how to effectively govern and institute their policies.

Fast forward past the 2020 Pandemic and one begins to understand that indeed the theories that Krugman was promoting in 2010 were indeed instituted by President Trump and the Federal Reserve in 2020. The idea was that because the government shut down private businesses to protect the citizens from the pandemic, then stimulus would be required to avoid a deflationary depression.

Well, as President Bush would say:

Obviously both of them set the table for a stupid monetary theory which is not based on reality that the US and the world will embrace for now, then suffer for in the future.

So what does this little history lesson have to do with gold prices? Everything.

The new dilemma facing Goldbugs is not hyperinflation as of yet, but stagflation. The policies of Jay Powell and the two major political parties over the last twenty years have all but guaranteed this outcome in the past twelve years and the chart I prefer to use to highlight this is “The Great Divergence” where inflation as reported via the BLS, CPI-U versus gold prices.

If one notes this chart’s initial start date of September 1971, the end of the gold standard, gold and inflation behaved logically right up until 2017. Then the Silent Financial Crisis of 2018, which was blamed on utter nonsense by the state sponsored media, created a sense of urgency for the Federal Reserve to quietly bail out the financial system while proclaiming the economy was sound and stable.

Despite the bailout being announced on Christmas Eve after the markets closed at 6 p.m. by a junior Federal Reserve Governor, not Jay Powell himself.

This brings us to the recent consolidation in gold prices over the past year around the $2000 level. Theoretically, gold should break out substantially after this consolidation but the government and financial media have detected a trend which they are so happy to report on:

Is gold still a good hedge against inflation? Experts weigh in

Inflation will have to get a lot worse to justify gold’s current price

Is Gold An Inflation Hedge?

These articles can be found ad infinitum, even during the 2008 financial crisis. The reality of 2008 and what is about to hit the American economy this summer is that gold is a terrible hedge against inflation because the dependency on the US Dollar as the world’s reserve currency keeps the price suppressed in US Dollars.

It is this author’s belief that gold prices will see a decline, potentially below $1900 per ounce as bank liquidity and credit availability further tightens between now and June of this year. The counter to this will be an inflationary wave similar to the July 1980 surge in the CPI-U which ended Volcker’s attempts to reignite an expansion out of the stagflation of the economy for the past half decade.

Economic growth and the toleration for stagflation versus deflation plus the politicization of our financial system will supersede any realistic economic theory or concerns. The belief that the economic powers that be will not allow a crash, that their is no threat of domestic or global conflict, nor threat to the major financial institutions will allow the pressure on gold prices to intensify, despite the inflationary suffering of the lower and middle class in the United States.

That is why I believe that a Fed rate cut of 50 basis points in June and 25 bps in July, followed by a fiscal spending spree by the Romans of DC, will initiate a Modern Monetary Theory type of acceptance of at least two years of stagflation to get past the 2024 election season.

In the end, gold should eventually rebound overseas as priced in domestic currencies first, especially in Asia. If and when gold in US dollars reaches the first ledge on the mountaintop at $2200 on a closing basis, then and only then will $2500 and the reality of a potential hyperinflationary threat come into focus.

Meanwhile, for those of us who invest in precious metals for it’s true purpose, domestic and international instability, we can sit back and enjoy this grinding, nasty, muddle where the tug of war between inflation and deflation re-writes economic theory for the decades to come.

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