Do Gold & Deflation Mix?

An important question has been brought recently to our attention.

Does it make sense to own gold in a deflationary environment?

To adequately address this issue, we need to examine several hundred years of history and ponder some charts.

First let us consider John Exter's Inverse Liquidity Pyramid:
We can see from the Pyramid that gold is ultimately an acceptable form of payment when other assets are less desired.
To put it another way, gold is the money of last resort.
This fact shows up during periods of severe financial stress.

Let us consider the annual production of gold worldwide:
80 million ounces mined.
Total worldwide gold in circulation including central bank reserves are approximately 165,00 tonnes (5.3 Billion ounces).
This amount to about 23 grams of gold (say 3/4 of an ounce) per person globally.
So we see that the gold supply increases about 1.5 to 2 percent per year.

When we consider all fiat currencies throughout the globe (as of October 2008) using the narrow M0 money supply measure we calculate a value of $4.03 Trillion US dollars.
For more on this subject click here.

The historical rate of increase in supply of fiat currencies is much faster than the increase in the supply of gold, the ultimate form of liquidity.  The other issue with paper fiat currencies is that government orders can increase the supply exponentially within a very short time-frame.

To increase our understanding of what may be in store for the economy we can review indicators of the Kondratieff Winter season:

1. A credit crisis is present and subsequently there is a rise in REAL interest rates.
2. Banks and other Financial Institutions operate in crisis mode or go broke.
3. There are huge increases in the number of bankruptcies to the point of being unprecendented.
4. An international monetary crisis develops similar to the one that occurred in 1931-1934 resulting in the eventual loss of the status of US dollar as reserve currency.
5. Gold coins, bulllion and equities rise despite financial and economic crisis.  Other commodities may collapse during this time.
6. A pension crisis evolves as unfunded pensions liabilities result in pensioners not getting paid what they were promised.

For further study of the Kondratieff cycle I recommend the following website here:
(click under Our Principal, Presentations, & Fourth Kondratieff Winter)

Ultimately, we will find that with the widespread adoption of fiat currencies that when we try to measure the value of gold, we discover we have the wrong measuring stick.

We should be measuring the value of stocks, real estate and currencies in gold rather than the other way around.

By the massive fiat currency fraud brought about by inflation and central banking that has built up over the past 70 years or so, Western Democracies have bought themselves no end of potential trouble.
Consider the following:

From The Guardian:
Read entire article here
Even government officials have accepted that the financial crisis posed a threat to social order. In recent testimony before Congress, treasury secretary Tim Geithner admitted that top-level talks had been held on whether the US could enforce law and order in the wake of a collapse of the financial system.

We can bailout banks, corporations, and individuals until we are blue in the face, but we will ultimately need to pay the price.  There is no such thing as a free lunch despite the insinuations of John Maynard Keynes.

One point that has not be made elsewhere in the blogsphere that I am aware of is this:
In the history of the world, as far as we know.  We have never experienced Economic Winter with a fiat currency.

This is why, in my view,  we all need to own some physical gold whether we face severe deflation, or a determined government that hyperinflates by flooding the system with fiat dollars.


  1. As I've often heard said: It's about the return of my money not the return on my money that I'm worried about.


Post a Comment