In the wake of the 2008 crisis, investors believed that QE would push currencies like the US dollar down, driving hard assets like gold up. This theory helped lift gold to new heights. But the theory is being challenged…at least for now.
Over four years later, we observe that the price of gold has gone up not because the US dollar actually went down but because of expectations that the US dollar would eventually go down.
Despite years of aggressive expansionary monetary policy in the US and across the developed world, significant inflation has not occurred.
This has investors questioning their original theory. Gold's decline over the past few weeks would seem to support this.
So why hasn't significant inflation arrived?
Investor and analyst Linus Ang offers an explanation:
There are several reasons why inflation has not materialized. First of all, the global economy is still in a deleveraging cycle and is too weak to support inflation. More money chasing the same amount of goods should drive prices up in theory, but when the demand for goods is low, then additional money pumped into the economy will not be used to chase anything. Sure there might be short term inflation from speculative money piling into commodities for example, but longer term this can't be supported if the underlying demand for those commodities isn't there.
Another reason many people forget is that currency values are measured relative to each other. This means that if everybody else around the world is printing money at a similar rate, then from a pure money supply standpoint the dollar can't really decline in value! On top of that, what's happening right now is that other countries are actually outpacing the US in terms of money creation, while on the other hand the Fed is already giving possible signals that QE could end sooner than expected. So if anything, expectations are likely to be shifting more towards the dollar going higher rather than lower.
As Ang points out, just because inflation hasn't hit yet does not mean that it won't. Long term, this massive bulge of new money supply seems likely to drive up prices, which would pave the way for further, sharp rises in the price of gold.
Under the current deleveraging climate, however, inflation does not seem to be an imminent threat.
For the time being then, barring any large scale shocks like the collapse of the euro, gold may be destined for a relatively low ceiling.