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Since the 2020-2021 crisis period and the subsequent actions by central banks (CBs) & governments around the world to assuage the negative impacts of the economic downturn through measures such as quantitative easing (QE) (which, fundamentally, is the printing of new money to acquire assets), lowering of interest rates, and other Monetarist and Keynesian tactics, concerns regarding the return of inflation or a move towards secular inflation, which may resemble a period similar to the 1910s or 1980s, are prevalent.
But are these concerns valid? With an unprecedented increase in the money supply after the 2020-2021 crisis period, it does, on the face of it, seem like a reasonable apprehension. Strategists, analysts, and economists are mainly in two camps on this issue, those that agree with the premise and see a move towards secular inflation, and those that see a persistent deflationary environment, mid to long-term.
The 'inflationists,' primarily, state that the imprudent and reckless use of the monetary mechanism by the FED and other CBs would cause a long-term period of inflation, and may have dire consequences for asset prices and the functioning of the financial system. These fears, deductively, can be linked to the views of the Austrian school of Economics, and its prism of thinking regarding the functioning of the monetary mechanism, and the negative consequences of the misuse of this mechanism by CBs.
The 'deflationists,' on the other hand, point out the low demand for credit, stable marginal propensity to consume, and improbability of prices staying long-term due to supply chains getting back to pre-crisis levels, etc., as the fundamental reason why secular inflation, long-term, is unlikely to remain a concern. Their views, arguably, are more in line with the school of economics called Monetarism.
What is the most potent forward-looking indicator that we can examine to assess whether or not these inflation concerns are valid?
The most important indicator we should follow to keep our hand on the pulse of this issue is gold price, XAUUSD. The amount of US dollars required to purchase one troy ounce of gold.
Gold, since antiquity, has been considered the 'currency of the gods' and the ultimate store of intrinsic value. If one currency's purchasing power lowers, i.e., the value of goods or services you can acquire with that currency declines, that currency should devalue in relation to gold. Thus, we can consider gold as an 'undevaluable' currency, and if a currency devalues or is likely to devalue, either precipitously or gradually, through the actions of the issuing CB, we should see a proportionate rise in gold price in relation to that currency.
For example, if in a hypothetical country Zenna, the CB imprudently increases the monetary base, in an effort to stimulate productivity, holders of the Zennisian currency, seeing a devaluation in their currency, should be more attracted towards the assets that are a prime hedge against price increases; of course, as XAU is a top contender for such a hedge, we should see a significant upward move in the price of XAU against the Zennisian currency.
Economic agents are rational actors, and if such a move in prices and currency value is anticipated, we cannot expect logical actors to do nothing and absorb the price increases and devaluation. While smaller investors may absorb such devaluation losses, larger, more sophisticated firms and investors should be more drawn toward safe-haven assets and hedges against the devaluation of the currency. Thus, we should expect significant movement in XAU, a prime asset for such a hedge.
However, in the real world, we have not seen a significant upward move in XAUUSD, indicating that the market is not concerned about inflation presently; nonetheless, if there is a substantial rise in XAUUSD, we must consider the possibility of price increases across the board.
After the 2008 financial crisis, with the implementation of a novel tactic by the FED—quantitative easing (QE)—apprehensions, similar to the subject of this inquiry, increased. Market participants were concerned that printing money 'out of thin air' to purchase assets, in an environment with depressed productivity would result in price increases. XAUUSD's price reflected such a possibility, as it rose to a high of $1,896.50 in the summer of 2011. This figure, in 2022 dollars, equates to about $2,6525 (3% yearly depreciation of the USD: 1,896.40(1.03)^11).
But what about the post-2020-2021 distress period? The market did not noticeably entertain inflation worries after the 2020-2021 crisis, as XAUUSD reached a high of only $2,058.40 in 2020. This high, in 2011 dollars, equates to about $1,500 (the US dollar depreciated at a long-term rate of 3% p.a. as per CPI, (2,058.40/((1.03)^10)= 1532)).
Gold price increased by 190% from 2007 to the peak in 2011. However, in the 2020 crisis period window, we have seen a rally of 28% increase, approximately, in XAUUSD (in 2020), and while some analysts see a favorable environment for XAU, no mainstream analysts are predicting a price rise above $4,670 in the short-term, a 190% increase, as seen during the 2007 crisis period, therefore, seems unlikely and, thus, we must accept that the gold market, presently is not sending a signal that price increases across the board are coming and the USD is about to see a significant deterioration in its exchange or absolute value.
It is also important to note that XAUUSD, since the beginning of 2020, has seen an appreciation that is very much explicable using the official CPI and PPI increases on a monthly basis. This fact further supports the argument presented here.
A price breach above $4,670 in the short-term (3-4 years) would, nonetheless, signal the opposite and should be considered an attestation from the gold market that inflation is a significant concern.
We have not yet experienced a significant upward price movement in gold, which is considered the ultimate store of value and hedge against inflation, practically an 'undevaluable' currency. This condition communicates a lack of concern by the market regarding a significant rise in prices across the board.
The upward price movement we saw in the XAU market after the 2008 financial crisis was far more significant (190% price increase) than anything we have seen so far, and comparatively, only a price increase on par with the 2008-2011 period, i.e., more than 190% increase from the average price of December 2020 in the next few years may signal a change of opinion on this issue by the market.