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To illustrate the difficulty of measuring performance in terms of the
US dollar, today we are presenting three inflation-adjusted (IA) gold charts.
Our method of inflation adjustment was outlined in the December-2010 article
posted HERE.
First, we present the long-term monthly chart that we normally use to show
gold's 'real' performance. This chart puts historical prices into current (in
this case, December-2012) dollar terms, which means that prices from past
times are adjusted upward to reflect the estimated decline in the dollar's
purchasing power from the past time to the present. For example, we calculate
that the January-1980 gold price of $722 is the equivalent of around $3100 in
current dollar terms. This means that by our calculations it takes more than
four dollars today to buy what one dollar would have bought in January-1980,
or, to put it another way, the US$ has lost more than 75% of its purchasing
power since January of 1980.
Note that our chart uses monthly closing prices for gold. For example, the
1980 high of around $3100/oz shown on the chart is
the current-dollar equivalent of $722, the monthly close in January of that
year. Had we used intra-day prices then our chart would show a 1980 high of
around $3600, since $3600 is roughly the current-dollar equivalent of the
January-1980 intra-day high of $850.
 
Next, here's the long-term monthly gold chart in terms of January-1980
dollars. In January-1980 dollars, today's gold price is around $400/oz.
Last, here's the long-term monthly gold chart in terms of 1959 dollars. In
terms of a 1959 dollar, today's gold price would be around $250/oz. That the
gold price in current dollar terms is about $1650/oz
means that it now takes about $6.60 to buy what $1 would have bought in 1959.
The above charts look identical. The only difference is the scale on the
Y-axis. This illustrates the problem of measuring performance in terms of a
'yardstick' that is constantly changing (shrinking).
A related point worth explaining is that if there hadn't been any
depreciation of the US$ from 1959 through to today, that is, if the dollar
had the same purchasing power today as it had in 1959, then the gold price
would not now be $250/oz (our calculation of the
current gold price in 1959 dollar terms). It would probably still be around
$35/oz. The increase from the $35/oz price of 1959
to today's price in 1959 dollar terms of $250/oz
constitutes a large real gain. This real gain stems mainly from the long-term
economy-weakening costs of currency depreciation.
As we've argued many times in the past, if all that happened due to monetary
inflation was a reduction in the purchasing power of the currency then
monetary inflation wouldn't be a big deal. Who cares if all prices rise
uniformly across the economy? Everyone will have to spend more money, but
they will also have more money to spend.
The problem isn't so much that prices rise in response to monetary inflation.
The problem is that due to the way money makes its way into the economy,
prices rise non-uniformly and interest rates are distorted. This causes some
people, businesses and economic sectors to benefit at the expense of others.
It also leads to investment booms. Each large-scale investment boom, in turn,
leads to a vast wastage of resources and eventually an economy-wide bust. In
short, monetary inflation causes the boom-bust cycle.
As the economy oscillates between boom and bust, a long-term effect is that
capital gets allocated less efficiently and the rate of economic progress
slows. In addition, the more aggressive the efforts of the central planners
to alleviate the pain caused by the bursting of an inflation-fueled boom by
creating even more inflation, the greater the economic oscillations and the
slower the long-term rate of real economic progress are apt to become. There
is no doubt that the central monetary planners became far more aggressive in
their efforts to manipulate the economy after the monetary system was 'cut
loose' from its golden anchor in 1971, the result being booms and busts of greater
magnitude and a pronounced slowdown in the rate of real economic progress.
The long-term decline in the rate of economic progress stemming from the more
aggressive and more regular use of the monetary inflation policy-tool has had
important side effects. One of these side effects is an increasing propensity
to save in terms of something with money-like attributes that can't be
debased by the policy-makers. That's why gold is in a very long-term upward
trend in REAL terms. It's also why analysts who try to calculate a fair value
for gold by only considering changes in the supply of money and the supply of
gold tend to be too pessimistic about gold's prospects.
This article
was excerpted from a commentary
originally posted at www.speculative-investor.com on
3rd February 2013.
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