Gold & Commodities

Gold is a hedge against inflation. So why has it done so well since 2001 despite the fact that inflation has remained relatively low around the world? The spot price of gold rose from a low of $255 on April 2, 2001 to a record high of $1,895 on September 5, 2011. Adjusted for inflation, it recently came close to the record high of $867 during January 1980. The world CPI inflation rate has fluctuated around 4% since 2001. The inflation rates among advanced and emerging economies have remained around 2% and 6%, respectively.

More broadly, gold is a hedge against reckless fiscal and monetary policies. One of the many consequences of such policies can be higher inflation. However, such policies can also lead to financial crises and deflation. Reckless government policies can also lead to social unrest and instability. This certainly helps to explain why the price of gold has increased seven-fold since 2001. Government policies have been increasingly reckless around the world over the past few years.

Of course, government policies remain reckless. Eventually, they might cause hyperinflation. The dramatic appreciation in the price of gold may be limiting its upside from here since it has already discounted a great deal of that recklessness.

Since peaking at a record $1,895 on September 5, 2011, it is down to $1,591 this morning. Monetary and fiscal policies remain reckless in Europe, the US, China, and Japan. So what gives? Gold also trades like a foreign currency. The trade-weighted dollar has been strengthening this year. The euro has been getting weaker recently.

Gold is also a commodity. It is highly correlated with both the price of oil and the CRB raw industrials spot price index and. The price of a barrel of Brent oil has tumbled this year from a high of $126 on March 9 to $113 this morning. The CRB index tumbled during the second half of last year, but has been relatively stable so far this year.

Today's Morning Briefing: Neverland (1) Peter Pan and socialism. (2) What do the Greeks want? (3) Angela Merkel as Wendy. (4) From full to half Monti. (5) Late payments. (6) Wishing to grow without growing up. (7) Gold is a hedge, a commodity, and a currency. (More for subscribers.)