By: Christina Gayton
Is purchasing gold an investment in “God’s money” or an overvalued hunk of metal?
With recent fears of an economic recession looming in the distance, investors are looking to recession-proof their portfolios. Gold has historically been touted as an asset that booms in a recession because unlike fiat currencies such as the Dollar, Yen and the Pound, it has inherent value as a commodity currency. So when faith in fiat currencies and governments goes down, “God’s Money” value goes up. But with a rapidly changing economic landscape, these statements need to be re-evaluated and examined further. For short-term profit, is gold as good of a recession-proof investment as goldbugs tend to say it is? Additionally, in the long-term, does gold really hedge against inflation and preserve wealth? Let’s answer both these questions by going down the lists for and against gold.
In Defense of Goldbugs:
- Gold is Scarce and Keeps Up With Inflation
Many so-called Goldbugs tout gold as a long term commodity investment that preserves wealth. They argue that regardless of the inflating dollar, gold will always at least keep up with inflation in the long run because gold is a scarce and limited resource. That is, one of Gold’s best properties it that there is only so much on Earth to be mined. In the long run, the dollar, for example, cannot have scarcity because the U.S government can print as much as it pleases to satisfy any preconceived economic or political motives. Therefore, investors see gold as a stable asset to invest in, and even in years when gold doesn’t keep up with inflation, gold’s scarcity will provide a footing, making it less risky than stocks or index funds.
- Newly Mined Gold is Flatlining Relative to Human Population Growth
Although the amount of new gold being mined has historically been proportional to human population growth, this ratio has declined in recent years. At this rate of population growth, there will be a larger amount of money chasing a flatlining amount of gold, leading to increased prices.
- “God’s Money” Will Replace Fiat Currency in the Long-Run
Another theory of why gold’s price may increase in the long term is that in the case of a total fiat currency melt down, all money will pour out of “fake assets” like stocks, bonds, and paper currency into “real assets” like real estate, food, and gold. If citizens lose faith in fiat currency and the financial system collapses, gold would skyrocket.
Although a total fiat currency meltdown may seem far fetched at first, history would argue otherwise. The average life expectancy of a fiat currency is 27 years. However, outliers to this average include the UK’s fiat pound, which has lasted over 300 years. The U.S. has been running on a fiat currency for almost 50 years since President Richard Nixon took the dollar off the gold standard in 1971.
One of the reasons gold hasn’t gone up incredibly in price, despite its scarcity and increased population growth, is because money is spread across different assets such as stocks, real estate and bonds. Thus gold’s value is diluted now with respect to previous history, when society had gold as its only currency. Goldbugs who believe in a future financial meltdown see society returning to the gold standard and flooding the gold market with demand.
It is also important to note that society could realistically go back to a currency that is 40% gold-backed. Such a system could provide a significant amount of stability and faith in fiat currency. Alternatively, gold could simply increase in price per ounce, and society could revert to either a paper currency 100% gold-backed, or to bullions and bars which can be divided into small pieces for easy, physical exchange.
- Always a Commodity
For those that don’t believe in financial doomsday, gold may still be a sufficient investment. Regardless of whether there’s a collapse, people will still desire gold for decorations such as jewelry, furnishings and dental crowns. Gold has been used and valued since Ancient Rome as a beautiful decor, and with its implementation in modern technological devices, it will likely be used for centuries to come. For example, Gold is used nowadays for pigmentation in glassmaking and in aerospace technology, where its durability and dependability as a conductor are highly valued.
- Short-Selling Profitable Investment
Other investors in gold simply buy the asset when prices are low ( usually during an economic expansion), and then sell the gold once it peaks during a recession. Quick, short-selling of gold, much like that of stocks or bonds, is far less common.
The Case Against the (Not So) Precious Metal:
- Not an Inflation Hedge
Investors may want to consider investing in assets with higher returns because in some years, gold keeps up with inflation, while in others, not so much. As shown in the graph above, gold’s value has fluctuated largely across time. From 1980 to 2001, gold lost 80% of its inflation-adjusted value. Over time, gold has zig zagged in purchasing power. In the 1970s, an ounce of gold could buy a pair of dress shoes. In the 1980’s, an ounce of gold could buy a high-end suit, dress shoes, and belt. In 2001, it could only buy a cheap suit, shoes, and belt. Gold is not a magical commodity that protects against all inflation. Like other assets, it has ups and downs. Rather, gold could be better described as a crisis hedge that outperforms other assets during absolute meltdowns, rather than the steady inflation hedge it is often touted as.
- Gold is Not a Necessity in Financial Doomsday
Secondly, during a financial doomsday, it’s quite possible that gold wouldn’t be a hedge against fiat currencies, as people won’t be investing in gold when they can barely afford rent and other necessities. Thus, it is arguable that commodity assets that are necessities, such as affordable housing, food, water, and energy, are a far better investments than gold, even in the case of a fiat currency meltdown.
- Can’t Go Back to the Gold Standard
Another argument against gold as “God’s money” in the long term is that there’s no longer enough gold to support the expansive, global economy. Gold bullions would need to be divided into ounces for proper exchanges and it is doubtful enough would exist.
Additionally, even if we could go back to the gold standard, it doesn’t mean we should. Although gold would prevent price inflation, it wouldn’t be able to hedge against price deflation. Deflation isn’t a frequent problem in the modern day because the government can always print more money. However, if the quantity of money were limited, and the economy were rapidly expanding, there would be little price stability, which is arguably important for a well-functioning economy.
What’s more, deficits from newly printed money can be economically stimulating when used properly. A malleable money supply allows the government to shift the supply based on where the economy is headed; the only issue is when the government misjudges where the direction of the economy is going and what monetary policy can serve it best.
- May Not Always be a Demanded Commodity- or a Commodity at All
As alternatives for gold are created that look like gold and are as sturdy as gold, the former commodity currency won’t be as demanded for jewelry or furnishings. Other cheap natural and engineered metals and products exist as alternatives. Additionally, investors against gold may warn that just because an asset is an “okay” investment that will always have “some” value as a commodity, doesn’t mean there aren’t better places to invest money.
What’s more, gold may not even be a commodity. Other commodities like food and water have the important principle of limited usage- once food and water are consumed, they disappear. Gold, on the other hand, is mined and can be reused. This property creates an increased, sustained supply of gold, thus lowering its long term value. Through this argument, gold is a store of value, not a commodity; essentially, it will retain its purchasing power value overtime, but it is not an inherently useful product.
- Not that Profitable for Short-Selling
For investors who buy gold in the short term to sell off during recessions, gold may return far less than other assets could have yielded if bought during a trough and sold during a peak, such as stocks. Gold hasn’t gone up or down that much, aside from a handful of spikes over the past fifty years. Arguably, investors are better off trading stocks.
So Yes or No to Buying Gold?
In the long term, several of these cases rest on whether you think there will be a loss of faith in the U.S. dollar and other fiat currencies. For investing in gold in the short term, it may be a well-performing asset during recessions, but stocks may be a better portfolio lead during expansions. Either way, a well-diversified portfolio is the key, and it’s up to the investor to decide if gold will be a part of her portfolio strategy or not. For myself, I’ll be investing a small amount in gold, but no more than the generally recommended 5-10% of net worth.
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King, H. The Many Uses of Gold. Retrieved from https://geology.com/minerals/gold/uses-of-gold.shtml
McMahon, T. (2018, April 25) Gold and Inflation. Retrieved from https://inflationdata.com/Inflation/Inflation_Rate/Gold_Inflation.asp
O’Brien, M. (2012, Aug 26) Why the Gold Standard is the World’s Worst Economic Idea, in 2 Charts. Retrieved from https://www.theatlantic.com/business/archive/2012/08/why-the-gold-standard-is-the-worlds-worst-economic-idea-in-2-charts/261552/
Sieron, A. (2018, June 19) Once Again, Gold Is Not A Commodity. Retrieved from https://seekingalpha.com/article/4182550-gold-commodity