Gold in a Deflationary Period

By: Ian Campbell | Wed, Jul 20, 2011
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I suggest you read and think about what is said in a recent article: 'How gold performs in deflation' - reading time 4 minutes - thinking time longer. On its face, the article suggests that physical gold benefits in periods of both hyper-inflation and hyper-deflation, and when reaching that conclusion implies (at least as I read the article) that the price of physical gold is likely to rise under either scenario.

From the extensive reading, thinking, and writing I have done on the subject of physical gold over the past four years, my overview conclusion is that the author of the article is right if what he is saying is that history suggests holders of physical gold are benefited in periods of both hyper-inflation and hyper-deflation, but wrong if he thinks it is certain that the price of physical gold will increase in both scenarios. From my perspective, the correct way to explain the advantage to holders of physical gold in both scenarios is to link physical gold and 'purchasing power', not physical gold and 'the price of physical gold'. To me, physical gold is nothing more or less than 'real money' which over time retains its purchasing power - that is, if an ounce of gold would buy a suit in 1870, it ought to buy a suit of that same quality in 2011. Timing differences may result in an imperfect equation, but over time that equation should, on average, come 'into balance'. Stated differently, where there is inflation I would expect the price of physical gold to trend higher - and much higher if there was hyper-inflation. Conversely, where there is deflation I would expect the price of physical gold to trend downward, and trend more significantly downward if there was hyper-deflation.

The article also references the Kondratieff Wave, something I have trouble pronouncing, and even more trouble assigning any credibility to. As I understand Kondratieff Wave theorists, they believe (depending on which of them you read or listen to) that there is a repetitive 60 or 120 year economic cycle that suggests whether at a given point in time the world is in the Spring, Summer, Fall or Winter of a cycle. Needless to say, Kondratieff Wave theorists commonly report (the referenced article is no exception) that currently the world is in the Winter phase of the Wave. Think of that concept from 10,000 feet. Think first of the 120 year cycle theory in the context of what the world was like 120 years ago and what changes that materially affected (and continue to affect) economic changes and advancement have occurred in the past 120 years. For example, and certainly not all-inclusive:

The foregoing is but a very brief synopsis of only some of the important developments that fundamentally changed how people do business, the basis of currencies, the length of time people live, their expectations, their productivity, their mobility, their knowledge base and 'time of exposure to news', and so on. In the previous 120 years (1770 - 1890) things indeed changed, but not nearly so rapidly and without nearly so much 'real change'.

All of this causes me to conclude that if you want to believe in Long-Wave economic theories that is, of course, your prerogative. They make no sense to me as something to rely on in any way or manner, much less base an investment strategy on them. I invite disagreement (with sound reasoning that takes 'fundamental change' over time into account) at



Ian Campbell

Author: Ian Campbell

Ian R. Campbell, FCA, FCBV
Business Transition Simplified

Through his website and his Business Transition & Valuation Review newsletter Ian R. Campbell shares his perspectives on business transition, business valuation and world economic and financial markets influences on those two topics. A recognized business valuation and transition authority, he founded Toronto based Campbell Valuation Partners Limited (1976). He currently is working to bring his business valuation and transition experience to both business owners and their advisors in our new economic, business and financial markets normal.

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