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deficits, debt, oil, and alternatives

  • Sat, Sep 06, 2014 - 07:50pm



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    deficits, debt, oil, and alternatives

So we can follow Jim, who says that manipulation explains every drop in gold (the famous goldbug letter-writer get-out-of-jail-free strategy), or we can contemplate a model that seems to have predicted the major trends in the price of gold to date without having to "go there" into a world where continuous trend manipulation is the easy answer to every wrong prediction.

This model says, the market price of gold is not driven by some simplistic calculation of current total money supply.  Its about alternative places to park your money.  Its also about rate of change in government debt (Steve Keen talks about this as well).  And its also linked to the commodity complex – gold does track oil at least to some degree.

Interesting factoid: rate of change of the US government deficit has been dropping like a rock for the past few years.  That has coincided with the fall in the price of gold.  Check out the rate-of-change chart.  It roughly sketches out the basic trends in gold over the years.  Up into 1980, then down into 2000, then up again into 2008 and then really high into 2011, and then down again.

This also happens to make sense.  Big government deficits cause inflation.  Small deficits cause less inflation.   When traders notice the trend over time, is it surprising that the gold price tends to follow along?

As for global instability, my guess is that is at least somewhat reflected by oil prices.  At least in the past, every time there was "trouble" the price of oil would spike.  And if it didn't spike, there really wasn't any trouble.  🙂

However I do think your point is well taken.  There may come a time when physical gold becomes a hedge against your government behaving badly (bail-ins, 10% wealth taxes, etc), which will likely not be captured by the model.  Likewise, the model only focuses on US debt, while the entire world is really in play here; China and Europe are important debt-creators too.  The model has its limits.

However, the basic concept I do find interesting – gold tracks a combination of changes in government debt, along with the price of oil, while losing favor when the S&P 500 does well.  That's the takeaway here.  And it probably works well enough because the US remains the big (economic) dog, at least for now.

As Mr Cheese suggests, do we imagine deficits will shrink or grow larger going forward?  And what about the S&P 500?  And whither the price of oil once the shale miracle fades a bit?

A deflationary accident and deficits widen, S&P 500 drops, but so does oil.  Gold probably drops initially, and then rises again once the deficit expands.  That sounds like 2009, doesn't it?

If we have a persistent geopolitical problem, oil spikes, S&P 500 drops, deficits eventually widen.  That sounds like its good for gold.

This model is designed to work over "years" rather than months or days.  The goal is to give a "fair price for gold"  – you can see if its overvalued or undervalued vs the fair price.  It also allows you to use it as a predictive tool.  "If I think S&P 500 drops to 1000, and the deficit doubles, and lets say oil goes up by 20%, what will gold be?"  Model can give you a number.

Well I think its interesting anyway.