The current value of all of the gold in the entire world currently stands at $8 trillion. $2 trillion of that amount is held by investors. Since the rate at which gold is mined is relatively steady, the price of gold is not directly affected by the supply. This is an important consideration when considering the problem of gold vs inflation.
It is true that gold prices have been rising. Warren Buffet compares this price change to a bubble similar to the famous Dutch Tulip, Dotcom, or Housing bubbles of the past. Investors have been motivated to buy it as the price for gold has risen. The fear that we are entering a period of hyperinflation has spurred more and more investors to consider moving gold into their portfolios.
For the past several years, the returns on gold have averaged 15.4% annually. This fact has driven investor purchases concerned about gold vs inflation. However, as demand for gold has increased, the production has not soared. This evidence suggests that gold is not a hedge against investment but that something else is going on.
The more likely version of events is that the price of gold has risen as more investors have entered the marketplace. Those investors include increasing numbers of wealthy citizens from the western world able to purchase from the gold market. Additionally, as China has risen as a financial and manufacturing superstar, it has been purchasing large amounts of gold. These massive purchases have pushed the price of gold upwards.
The ratio of the price of gold to the Consumer Price Index (CPI) should be steady if gold did work as a hedge against inflation. However, the data indicated that the price of gold is volatile when compared to the CPI. In fact, a review of gold’s historical prices show that it is much more volatile than inflation.
There are some hidden risks when purchasing gold as a hedge against inflation. Since gold is a physical commodity, it can be altered through the addition of less-costly metals. The real value of the gold that is being held for you as an investment may plummet should this be uncovered.
An additional risk involved with the purchase of gold involves the financial status of the brokers who are safe guarding your gold. Should the brokers take a hit and fail, all of your gold assets may be lost over night.
It is reasonable to hold some gold in your portfolio, but the dangers must be understood. Since 2000, the price of gold has risen steadily. This price increase appears to be a local fluctuation and at some point the price will fall fast, no matter what is happening in terms of inflation. Should the price fall during an uptick in the inflationary cycle, gold could be a bad investment.
It does seem likely that we will experience some inflation in the short term. However, when considering the question of gold vs inflation, gold does not appear to be an effective hedge against inflation in this economy.
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