is gold in another bubble?

gold prices compared to other commoditiesAbove is a chart of US Dollar pricing of gold compared to other commodities. Note that gold has been in an obvious bubble relative to other commodities since 2009.

Gold prices are just in another wave in an immense financial bubble of extreme (naive) optimism. That bubble rests on actual energy, such as gasoline or unrefined oil (or even chemicals like sucrose and glucose). The rise in consumption of energy is apparently peaking, with oil production peaking in 2006. Note that consumption cannot exceed the supply available to consume!

Secondarily to the simple facts of sucrose and gasoline and so on, there are financial markets for pricing different things in terms of a “currency measure” of the relative value of various things. Currencies are important socially, but not in the way that gasoline or glucose is important biochemically.

The recent wave of buying in gold is not based on a new technological innovation relating to gold (like the innovations relating to uranium for nuclear combustion or to silicon for semiconductors in the 20th century). The rally in gold is just more reactive expectations of “hyperinflation” as in the 1970s. Hyperinflation did arise in the USSR, collapsing it, but not in the US (or Japan, etc). The fact that gold has risen far more than silver or platinum or other commodities since 2009 shows that it is a speculative frenzy- unless there is some other explanation for the balloon in demand….

By the way, the recent rally of gold has still not approached inflation-adjusted prices of gold in 1980. In other words, in terms of most other economic goods like uranium or silicon or oil or gasoline, gold is not at a long-term high. The recent long-term high for the purchasing power of gold was in 1980. Here is a chart of gold priced in another fiat currency, Yen:

long-term gold prices in yen

As access to cheap oil increased across the 20th century, public expectations formed that fuel would continue to be cheaper and cheaper indefinitely. However, that ended in 1999 (see directly below).

Inflation-adjusted gasoline price

As fuel prices soared, airline stocks began to collapse in 1999 (shown below). Tech stocks followed in 2000, with many other sectors actually coming down prior to tech stocks, but then not falling as far. In 2005, the US housing sector HGX peaked and plummeted, followed eventually by real estate prices and the financial stock sector in 2007. All of those references are to US stock markets, but similar data can be compiled for other regions.

oil 1999-2008

All of those bubbles were “popped” by the 1200% rise of oil prices from 1999 to 2008, with gasoline prices exceeding $10 per gallon in parts of Europe at the time. High costs of fuel stalled the economic engines of the west (and Japan in 1989), starting with the airlines in 1999.

oil, xlf and xal

When open market interest rates for lending to the US Treasury fell below 1% a few years ago, many people would call that clear evidence of deflation. Japan has had clear deflation for two decades now, and Europe for nearly one decade.

japan nikkei stock index

When the government of Greece cannot pay it’s debt, that is more deflation of credit markets, as in discounting of “accounts receivable” from Greece. Same for AIG or GM or UAL.

American International Group

American International Group (Photo credit: Wikipedia)

Just because the people lending money to Greece are so skeptical that they are demanding a “risk premium” of 15% interest on principal, that does not mean that the Euro is inflating. In Germany, government bond interest rates are only a few percent, but the debts are payable in the same currency. It’s not currency inflation in Greece. It’s just a government deficit leading to charging a risk premium to a debtor considered to be less creditworthy.

Anyway, we are in a credit contraction which is the same thing as a deflation. Those are two words for the same thing. It’s a little bit like saying that snow is a type of precipitation. Snow does not cause precipitation. Snow is precipitation.

The deflation started about 21 years ago in Japan. Deflation showed up in currency exchange rates for the Euro around 2002. Deflation has been in the US less dramatically so far than in Japan or Europe, but with real estate lending and prices dropping, that marks one of the first major and obvious signals of the first stages of a credit deflation.

There is no such thing as currency deflation. It is just credit markets that can deflate. If people think credit is worth almost the same as cash and will “always” be available, then they will “discount” the value of cash. When people “correct” the psychological discounting of the value of cash, that is the deflating of credit inflation.

English: Various Euro bills.
English: Various Euro bills. (Photo credit: Wikipedia)

It has been going on with the Yen since 1989, the Euro since 2002, and the US Dollar since about 2007. “It” is a decrease in borrowing and lending, a deflating or contracting of credit markets, an undiscounting in the purchasing power of cash. It is not coming. It is here.

Like stocks and real estate before it, silver and gold prices have soared in a speculative bubble that anticipates a soviet-style hyperinflation in the US. There is no evidence of hyperinflation in the US. Even when interest rate yields for US treasury bonds reached in to double digits in the late 1970s, that was not hyperinflation like with the Ruble or the Deutschmark. Primary interest rates in the US are near historic lows, as they are in Japan and Europe.

Could soviet hyperinflation come to the EU or US? Possibly. That just has not happened yet.

Right now, the euphoric sentiment that pushed up the tech bubble and then the “safe haven” bubble in real estate has simply shifted to an even less important market, precious metals, which people are also pouring in to as if it is a safe haven. Metals are fine in times of hyperinflation, but as the credit deflation of peak oil spreads, metals may plummet in price in a sudden “undiscounting” of cash, such as a “run” on banks.

published on July 17, 2011 (but images/charts were added later)

the dominoil effect

English: The top portion of the American Inter...

English: The top portion of the American International Group headquarters building in New York City at dusk; see a similar image of the building sunlit. (Photo credit: Wikipedia)

Related articles
first use of the phrase "the dominoil effect" in my 2004 publication "the real U.S. deficit: OIL!"

The first use of the phrase “the dominoil effect” in my 2004 publication “the real U.S. deficit: OIL!”


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