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Gold is not a great inflation hedge

| Posted by: Paul Donovan | Tags: Paul Donovan Weekly

  • One of the pervasive myths of modern economics is that gold is a good inflation hedge. There is a mistaken belief that the gold supply is fixed (unlike the supply of paper currency) which makes gold a safe store of value.
  • This is just not true. The supply of gold is not fixed and its price is volatile. If the gold price increases the supply of "scrap" gold increases. People are remarkably unsentimental about melting down their family jewellery when there is money to be made. The Roman emperor Constantine caused massive inflation by increasing the supply of gold in this way. In modern times over a third of gold supplied to the market is recycled rather than dug out of the ground.
  • Gold has failed as an inflation hedge throughout history. A UK investor holding gold in 1851 had 30% less spending power five years later. A US investor holding gold in 1996 had less spending power for a decade afterwards; spending power was restored over 20 years, but that is hardly a great hedge.
  • Inflation is coming. There are better ways to hedge that risk with certainty than putting one's faith solely in a volatile asset like gold.