Is Gold an

Inflation
Hedge?

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GOLD AS INFLATION HEDGE

1. Gold is often regarded as a perfect

inflation hedge

2. Let’s discuss this issue by answering the

following four questions:
3. First, what is inflation
4. Second, what are the reasons for
inflation?
5. Third, is gold an effective hedge against
inflation?
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GOLD AS INFLATION HEDGE

Definition and Measurement of Inflation

1. Inflation is an increase in prices for
goods and services of an economy over
a certain period

2. In the United States inflation is mostly

measured as an annual percentage
increase of the Consumer Price Index
(CPI)

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GOLD AS INFLATION HEDGE

1. This index is reported monthly by the

US Bureau of Labour Statistics and
takes into account the price for a basket
of goods

2. If the money required purchasing these

good increases from $100 to $125
within one year, then the annual
inflation rate is 25%

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GOLD AS INFLATION HEDGE

1. Of course, the CPI basket of goods does

not correspond with the goods and
services acquired by each individual

2. Therefore, the ‘personal inflation rate’ is

lower or higher than the official one

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GOLD AS INFLATION HEDGE

Reasons for Inflation

1. There are four major theories trying to

explain inflation, all with its advantages
and downsides

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GOLD AS INFLATION HEDGE

Quantity theory
1. This theory was refined by Friedman
and other University of Chicago
economists (Chicago School)
2. It states that the price levels are
controlled by the money supply
3. Therefore, if the money available in an
economy goes up, prices for goods and
services will also rise

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GOLD AS INFLATION HEDGE

Keynesian theory
1. Keynes tried to explain inflation with
the theory of income determination
2. Inflation does not directly influence
prices
3. It arises because consumers attempt to
buy more goods and services than that
can be supplied at full employment
levels

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GOLD AS INFLATION HEDGE

Cost-push theory
1. This third approach assumes that
products and services are basically
defined by their costs
2. The price-wage spiral is responsible for
this increase
3. Here employers demand higher wages,
which will then lead to higher
production costs and eventually pushes
again wage increase demands

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GOLD AS INFLATION HEDGE

Structural theory
1. One version of this theory proposes
focuses on developing countries
2. Here, inflation is caused by the gap
between imports and exports
3. Imports happen fast than the country’s
citizens are able to pay for them
4. Also, imports outcompete local goods
5. This leads to an increased pressure on
the local currency and an upward
pressure on prices, which is inflation.
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GOLD AS INFLATION HEDGE

Gold as an inflation hedge

1. First, gold supply has been quite stable
over time
2. In average, mined gold increased by
1.5% over the last 100 years (including
several times during which gold output
increased due to wars and a reduction of
demand for gold)
3. The finite amount of gold helps to keep
the annual addition of gold at low levels

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GOLD AS INFLATION HEDGE

1. Second, during the gold standard, when

the currencies where pegged to gold and
their value was determined by the
amount of gold the countries had in their
vaults, national inflation increased
usually by not more than an annual two
per cent
2. (However, a comparison of the gold
standard time with the post gold
standard period is invalid if only the
different monetary system is
considered.)
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GOLD AS INFLATION HEDGE

1. Third, due to inflation, all currencies

lose their value over time
2. This becomes evident when comparing
the purchasing power of $100 dollar
today, with ten, 50 and hundred years
ago.
3. However, gold retains its value, or even
increases it.

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GOLD AS INFLATION HEDGE

1. The value of gold has remained

remarkably stable for centuries
2. In 1900 the gold price stood at $20.67
per fine ounce
3. End of December, the price was above
$700 per ounce
4. And in the first quarter of 2011 gold has
reached a record of $1500

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GOLD AS INFLATION HEDGE

1. Another illustrative example is to see

what one can buy for one ounce of gold
2. During Roman times it was possible to
buy a suit of expensive clothes for one
ounce
3. During the great depression the same
was true. How is it now?
4. It is still possible to buy a fine, tailor-
made suite for one ounce of gold!

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GOLD AS INFLATION HEDGE

Relative to gold, all currencies have lost

their purchasing power, whereas this
precious metal has not only kept, but
even gained value

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GOLD AS INFLATION HEDGE

1. What is the downside of gold? Of

course, gold neither pays dividends nor
interests and the might be better
inflation hedges (depending on the
criteria taken into account)
2. Also, a look at the gold chart shows that
gold does not always increase in price
3. There are some bearish periods as well

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GOLD IS INFLATION HEDGE

1. Gold plays with fear

2. Pessimistic people buy gold
3. The more pessimistic people get, the
higher the value of gold will rise

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GOLD AS INFLATION HEDGE

Or as Warren Buffett put it aptly

“Gold is a way of going long on fear, and it

has been a pretty good way of going long on
fear from time to time. But you really have
to hope people become more afraid in a
year or two years than they are now. And if
they become more afraid you make money,
if they become less afraid you lose money,
but the gold itself doesn’t produce
anything.”
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