― Jude Wanniski, former Reagan advisor, April 1982
So does the price of gold rise or fall in a deflation?
Hint: It's a trick question, already tripping up plenty of would-be advisors. Because gold must fall during deflation, since it rose during the '70s inflation. Right?
"Gold prices, in real inflation-adjusted terms, unsurprisingly tended to increase during inflationary times," nods one commentator, writing in London but posted at the Business Times in Singapore. "Its purchasing power tended to sag during depressions and deflation."
The source for this claim? Besides syllogism ("The '70s gave us inflation and a gold bull market; ergo, the opposite must be bad for gold...") it was apparently Roy Jastram's The Golden Constant, that dusty study of gold's enduring stability across the very, very long run by the end of which we will all be deader than Austrian disco hits.
First published by Wiley in 1977, The Golden Constant has just been updated by Jill Leyland, former chief economist at the World Gold Council, for Edward Elgar Publishing. I've not seen the re-issue yet (not at £72 a pop! Some $120). But unless Jill's scrapped Jastram's research entirely and written a wholly new monograph, the conclusions should in fact be precisely the opposite.
Gold, like silver, gained in purchasing power during deflation but lost out to inflation. The only things to rise during commodity-price inflations were commodity prices and social unrest.
Three centuries of data are hard to ignore, but it seems they can be misread ― not least when skim-reading for a quick book review. (If you care for the big picture, Jastram's charts are available free at the Golden Sextant.) Those three centuries of data can also prove a real bore to analysts without a library pass, as Jastram apparently makes for "a very dense read" says a recent Seeking Alpha post. And all those numbers can also mislead the unwary if the key point's neglected:
Gold, like silver, rose in value during deflations when it was still used as money. It lost out to inflation back when that role applied, too. But since the end of WWII, we've not suffered the first and only endured the second...and gold has risen sharply in purchasing power as the supply of what we've come to call "money" has swelled by an order of magnitude or twenty.
Meantime ― and not coincidentally ― gold ceased being money beyond offering a store of value (and free from default risk, as well). Little wonder that inflation really took off after the limits to money-supply growth set by the post-war Bretton Woods deal were cut by the Nixon White House at the start of the '70s.
And we all know where that little trick got us...
"What the press and policymakers are calling 'disinflation' is simply deflation, the deterioration of the monetary standard characterized by falling prices," wrote Jude Wanniski, former Wall Street Journal editor and advisor to Ronald Reagan, in 1982 ― slap bang in the middle of what he'd come to call the "Volcker Deflation" in honor of the tall, cigar-wielding inflation-fighting Fed chairman.
Volcker took US rates to double-digits and left them there, wringing inflation out of the system and squashing the gold price ― then (as now) a key marker for the stable value (or not) of money.
"There is a confusion because commodity prices [in 1982] are falling even as the cost of living continues to rise. [But] the price of gold, the 'commodity money par excellence' is the surest proxy for all prices, goods and bonds...[and] the recession that threatens to become depression could also swiftly turn into a major bull market if the Fed arrests the gold-price decline at $300, signaling an end to continued deflation and the monetarist policies that have guided the open-market desk."
Fast forward the best part of three decades, and here we are again, trying to heat-treat the mutant spawn of a new "monetarist experiment" that's also broken out of the lab and started to munch bystanders on the corner of Wall Street and Main.
Wanniski's point back then was that, to prevent the end of the world, the gold price should be forced higher, making dollar devaluation explicit and pumping cash into the economy that could then be lent and spent to unwind that "deterioration of the monetary standard characterized by falling prices." And only an idiot would pick a fight with Wanniski's terms of reference.
So please ― if you'll glance at that chart of gold both sinking and rising as deflation failed to hit during the '80s. Then hold my jacket a second...
Gold is no longer money, not as a means of exchange. Anyone who tells you it should be forgets that the Pound, Dollar, Yen and Euro have yet to expire. Whereas gold has signally failed in that role, not being used to make payment anywhere in the world today. The gold-money survival rate is zero, and so are the chances of a near-term return to any kind of gold-backed currency. (What do you think politicians and central-bank chiefs read for fun if not Brad DeLong and Barry Eichengreen?)
Absent the money-supply limits which the gold standard imposed on the world, people rightly guess that double-digit inflation would prove rocket-fuel for the bull market in gold. Yet the purchasing power of gold nearly doubled during the Great Depression, and it's risen four-fold during this decade's low consumer-price inflation as well.
Why? Because both those periods of low price-inflation saw the money-issuing authorities devalue the currency, first with explicit reference to gold but now without daring to name it. Roosevelt in the mid-30s slashed the dollar's gold content by 40%; the Greenspan/Bernanke Fed devalued the Dollar again to sidestep a DotCom Depression, keeping real interest rates at less than zero, between 2002-2005.
The maestro's apprentice applied the same trick in the back-half of 2008, but so far to no avail. And now even the European Central Bank is pumping out money ― a near half-trillion euros today alone ― in a bid to revive bank lending, swamp the currency markets, and pull Germany out of its first flirt with deflation since the 1930s.
Just such a devaluation � and again, absent any stated reference to gold ― was attempted by the Bank of Japan a little less than a decade ago.
Indeed, Japan is the only developed nation since the end of the Gold Standard to have suffered an extended deflation in prices. So far, at least. Germany and Switzerland look set to try for a re-wind, and unless the dollar can outpace the euro's descent, we might yet see truly sub-zero inflation in the United States, too.
But whatever that should mean for gold prices, all other things being equal, just doesn't matter. Because the gold price will not get a chance. All other things are not equal, and the policy solution ― rank devaluation ― can only make gold more appealing to investors and savers, whether the "monetarist experiment" of TARP, quantitative easing or a half-trillion euros proves successful or not.
Japan's slump into deflation coincided with the Bank of Japan's "zero interest rate policy" (ZIRP) at the start of this decade. It also saw the gold price worldwide hit rock-bottom and turn higher, a move that analysts (including us) have typically linked to US monetary moves and stocks investment cash looking for safety as the Dotcom Bubble exploded.
But zero-rate money from the world's second-largest economy shouldn't be ignored. And today, zero-rate money is all the developed world has to offer ― a trick that might not beat deflation, but might just spur a whole new rush into gold.
I hope you all were paying attention to Adrian today. I know it's Monday an all, but he made very important points about gold, money and deflation. There will be a quiz later.
Maybe it's because it's Monday and I haven't slept all night…but I'm feeling a little snippy today. I don't normally interrupt letters to the editor with my snarky comments ― I usually wait till the end ― but not today…
Hello Gary,
Responses to some of the letters published on June 24th �
"It's no secret that the voter base for the Democrat Party is largely on food stamps,"
I'm surprised that you'd print something by a reader who thus labels himself as ignorant and self-satisfied to the point of ugliness.
Yes, you're right. He should have mentioned that at least half the Democrat Party is composed of people who pat themselves on the back for handing out the food stamps.
"A bit presumptuous to declare that the biosphere will gladly sustain another few billion bipeds, isn't it?"
These were your smug comments meant to belittle the suggestion by a reader that we would be wise to slow down our plundering of the world's life-sustaining qualities and assets. You can do better than this.
No I can't.
I think the market is a naturally limiting force that constantly reminds people that there is no such thing as a free lunch; governments are humanity's collective exercise in pretending that there are no consequences to bad decisions. Market forces ― i.e. cold hard reality ― are bound to do some culling when they assert themselves.
"I am not two years old and I don't need mommy and daddy and nosy people telling me how to run my life."
If this reader had matured past adolescence, he wouldn't feel the need to profess that he's at least a little grown up.
"Once they regulate tobacco, where does it stop? Next might be alcohol (shades of Prohibition). Then they might decide to limit the amount of horsepower on autos, then chocolates, sugar content, plastic, etc. . . . Our founders had no intention of the federal government taking over so much of our freedoms."
Our founding fathers had no idea that there might someday be automobiles manufactured to please little boys in grown up bodies. Alcohol is limited as to age of user, cigarettes have been limited as to age of user for some time. We would be far better off without so much plastic, most all of which will end up lasting forever in landfills. Let this reader have his chocolate, but he sounds like he could probably use help in limiting his sugar.
Sounds like you'd like to remove any age of majority and just plain tell people what to do. There's a word for that.
"If we require folks to wear a motorcycle helmet, not smoke, don't drink to what 'I' would define as excess, and so on throughout all of our personal liberties, whither goest 'freedom'? . . . If we want a free society we must be prepared to pay for stupid decisions, harmful to themselves, made by our fellow citizens. It's called part of the OVERHEAD COSTS of running a truly free country."
How about requiring motorcycle helmets for young riders? How about for those who are "young" only in mental capacity, like your writer? If the liberty to risk harm to oneself is so important to this reader, he should just make sure that he's not stealing from the rest of us on his way into oblivion. He might want to consider what he could be costing his wife and his kids . . . or would that asking too much, too?
It's interesting to watch these people prove that there's not necessarily any connection between having money to invest stocks market and being especially bright.
I really think you're just bothered by people telling you to leave them alone. But don't worry; from what I can tell you are firmly in the majority.
Now I usually run letters in their entirety, but here is one of the few times I will edit down to the part that insults me.
Mr. Denning's argument that he doesn't have to experience total free enterprise to KNOW that it works is illogical drivel and on par with religious belief, also a most common anti-intellectual faith in the States. Does he feel safer in Melbourne or New York? Would he rather his bank account was with government-controlled Dutch Rabobank, the only AAA rated bank in the world or with Citibank in N.Y.? Would he rather have an accident in Melbourne with ambulance, hospital and drugs subsidized or back in N.Y.? His anti-social attitudes do him little credit.
I worry. I really do.
Mr. Denning did not write that; I did. Your argument loses a little steam when you clearly have trouble keeping track of who's saying what. So let me make it very clear that it was GARY GIBSON who wrote that illogical drivel and GARY GIBSON who is now flippantly responding.
Religious fervor, huh? Do you understand that you're reading a newsletter founded on the tenets of liberty and rebellion against the state (and booze!)?
I'd also like to note that the parts of New York ― or any large city ― where one would feel in immediate mortal peril are the same parts where the government has "helped" the most. Wander around a public housing project in Brooklyn or Harlem late at night to see what I mean. Being a race other than the majority of the inhabitants will make the experiment more exciting.
And while you see nothing but roses springing up where politicians squat, this Shooter sees something very different…
Dear Gary: A beautiful example of the amazing success of an unfettered free market is the Hong Kong market from 1946 to 1999. With no resources, only poor Chinese, and millions of poor immigrants, the lack of government interference produced one of the world's great economies, and lifted everyone, rich and poor alike. Whereas, in Sweden, where the pro Big-Government Socialists took over in 1972, the economy has gone in the tank, and the citizens in Sweden now live on an equal to a poor white or black in Mississippi. Shining examples that should make all those BigGov types who say, "show me", shut up.
Whoa. That is a bit harsh.
Gary,
I am sick and tired of hearing all these wise statist solutions to our problems. Don't any of these people know anything about history? In the 1930s, in Germany and Italy where they let Hitler and Mussolini in power that was the original plan―with a little arm-twisting. These guys were going to run things right to the benefit of all―limiting "some" freedoms. Well, we all know what happened. Too many people had their own idea of what freedoms they should have...so what happened? They squashed all freedom and did away with anyone who disagreed with them. Same thing with Lenin back in the 20s. He was all but a god to the Russians until they started wanting a little more freedom then the government thought they should have. The result? Bang! They did away with anyone who disagreed with them or they wound up in a gulag (same result). THERE IS NO SUCH THING AS LIMITED DEMOCRACY. Either you have it or not. I say to these people read and know your history. Read Thomas Jefferson. Invariably, the people who take charge in a so-called limited democracy turn out to be thugs. And make no mistake about it, the same thing could happen here.
Meh. I personally don't trust democracies. Mob rule if you ask me. I do like republics, though. Too bad we never seem to be able to keep them.
"Democracy in a nutshell is the many imposing their will upon the few", Ranch Correspondent Linda Brady Traynham reminds us. "Politics is the few imposing its will upon the many. No one is sure what a Republic is any more. Sheer bliss would be starting our own Galt's Gulch."
Adrian Ash joins us again tomorrow and his missive will be followed by notes and reports from all over. Join us then. And don't forget to send me indignant email!
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