At first glance, it appears that the war against inflation has been won. We have an astronomically high stock market, low unemployment and an economy running at near capacity plus falling commodity and energy prices. No wonder consumer confidence and spending are at record levels!
But closer analysis reveals a different picture. Don't mistake a short-term win with final victory. If inflation is so dead, why are education and health care costs still increasing at budget busting rates? Why are real estate values increasing at 6%+ a year?
All this new found wealth chasing goods and services in a maxed-out economy translates eventually into higher prices... INFLATION. So the pot is on the stove, the lid is on, and it will soon begin to boil. Unfortunately though, the situation shows every sign of evolving into an inflationary-recession.
So, is it time to abandon your traditional inflation hedges... precious metals? Absolutely not! True, analysts are pushing the "more sophisticated" hedge choices available today in various financial markets.
They argue that precious metals are no longer effective inflation hedges anymore, since, once inflation resumes, all the money will supposedly start pouring into these other hedges.
As John Pugsley pointed out in his excellent newsletter, this is not a senseless argument. True, futures and options do guard against inflation. When inflation soars, so do interest rates, and you can hedge these with options and futures contracts. Inflation puts the hurt initially on stocks, but you can hedge against this with index futures. And when the Dollar's purchasing power drops, you use other currencies to hedge.
But this argument overlooks one fundamental reality. The plain truth is that there just are not enough precious metals in existence to serve as a practical source of hedges against inflation.
Consider this. If you took all the gold ever mined and stacked it up on a football field, it would barely be five feet high. At current prices, its total value wouldn't even be a trillion dollars, closer to $600 billion.
Add to this fact one more thing: that the vast bulk of that gold will never ever come onto the market. It will stay in central bank vaults for the next few billion years. Consider also that virtually all the new gold being mined is currently used up in fabrication.
What all this means is that just a few billion dollars of new deman would send the price of gold into orbit. The same situation exists with silver. Only about $3 billion in silver is produced a year. There is so little of it that the Hunt brothers were nearly able to corner the world market back in '79. Add the value of all the silver to that of all the gold, and it's still under $1 trillion.
Now contrast this with the market value of debt instruments. America's share alone, perhaps a fifth of the world's total, is $14 trillion. These are the monetary instruments that are going to suck wind when inflation resumes. (Assume a 3.5% inflation rate, these IOU's would drop in purchasing power each year an amount nearly equal to the value of all the world's gold.)
The question is what happens when inflation accelerates in earnest and all those people with $14 trillion in paper start scrambling for a place at the gold window? The run-up will be faster than a backtracking politician. That mountain of paper will disappear like a pile of feathers in a hurricane. Only those who move in advance -- or already have precious metals in their portfolio -- will be able to defend their purchasing power. Aren't you glad you're one of them?
Glen O. Kirsh is Executive Vice President with Asset Strategies International, Inc. of Rockville, Maryland, a firm specializing in precious metals, foreign exchange and overseas asset protection. They are also one of the principal developers of the
Perth Mint Certificate Program.
Copyright © 1998
The Investor's Library has reprinted this copyrighted article with the permission of the copyright owner, Asset Strategies International Inc.