In some of my recent Quora answers I have addressed a theme – why QE and 0% interest rates are unlikely to cause “runaway” inflation, even if the Fed might be willing to see inflation above 2%.
What does China buying gold in recent times indicate?
It doesn’t need to indicate anything. China has gone through various stages, like all countries, of buying USD, gold and other currencies and assets.
I remember in 2000s the Euro was gaining market share on the USD. The USD was weakening for the whole period.
Many people thought there had to be a grand reason for it. Then after 2008, many people predicted the USD would get weaker after QE and 0% interest rates.
It got stronger. Then in 2010–2011, those people got excited. The USD started to weaken against many major currencies, gold, silver and commodities all hit record highs, at least in nominal terms.
Many people were claiming that skyrocketing oil and other commodity prices was because of QE!
Then what happened for the next 8–9 years? The general trend was weakest for emerging market currencies. Gold and silver weakened. Commodities fell off a cliff, and not just oil.
The 2020 crash came around. The USD got stronger, even after 10 years of rises, especially during the worst of the March crisis, when money went into bonds and the USD.
And now that the USD is weakening, the same people who were claiming in 2010–2011 that commodities were rising due to QE are claiming that……….gold and other assets are rising due to QE!
If that is the case, then rationally they should have risen from 2011–2018. Instead, gold had its best period of recent times from 2000 until 2008 It fell in 2008–2009, and rose again until 2011. It then fell until a few years ago.
The point is, there doesn’t need to be a grand story for everything. If gold is rising in 2020, and rose in 2010, and that is because of QE and a weaker USD, then rationally speaking gold should have skyrocketed in the 2011–2018 period.
If gold is rising due to less trust in the US, then rationally US Stock Markets should have been some of the worst performers.
Instead, US Markets have beaten most other assets in the last few months, including gold.
To confirm some statistics for the decade
Gold price in 2010 = 1,200. Gold prices in 2011 = 1,900 at the peak. Gold prices today = 1973. Pays no dividends.
Silver prices in 2010 = $23. Silver prices in 2011 = $49 at the peak. Silver prices today = $28 . Pays no dividends.
Crude oil prices in 2010 = $85. Oil prices in 2011 = $131 during the peak. Oil prices today = $40.
S&P500 in 2010 = $1,100. S&P500 in 2011 = $1,350. S&P500 today = $3,525. Pays dividends as well.
Nasdaq in 2010 = 2,700. Nasdaq in 2011 = 2,800. Nasdaq today = 11,939. Pays dividends as well.
The USD against the Chinese RMB. 6.65 in 2010. 6.83 today. The peak was over 7.2.
The USD against the Euro. 0.77 in 2010. 0.84 in 2010 today. Was about 0.95 at the peak.
The USD against the British Pound.0.68 in 2010. 0.75 today. Was about 0.86 at the peak.
So what do the statistics show?
- The USD has given up some of its gains but is still trading higher than in 2010. A further decline, or increase, is no big deal
- Gold is above its 2010 price in both nominal and inflation adjusted terms but is below its 2011 real terms price. Remember, the price of gold today is trading at the same value as it did in 2011. There has been 9 years of 2%-3% inflation since then. So gold is about 20%-25% below its peak. It pays no dividends here.
- Based on number 2, if gold is rising now due to QE, it should have rationally increased in real terms since 2011, considering QE was ongoing for years after 2011.
- Gold has performed very badly compared to markets in the last 10 years.
- If more money is going into gold now due to people worrying about the US, then rationally speaking, money shouldn’t be going into US Markets which have been one of the world’s best performing assets
- China, and other countries, have regularly sold their USD, and bought gold, and vice versa in the last 10 years.
- The price of gold has been stagnant since the times of Christ. It just holds its value relative to inflation in the long-term.
- From 1802 to 2005, every dollar invested in the U.S. stock market grew to over $10m, including dividends being invested. In the same period, a dollar invested in Gold grew to about $27. It pays no dividends.
- Let’s look at more recent times. Even if we are charitable and take the period from the early 1990s until now (i say charitable as gold prices were higher in the 1980s), gold has gone from $389 in 1990 to about $1,967 – Gold Price History.So gold has done better from 1990 until today than it did period many 30 year periods. So about a 5x increase if you don’t factor in inflation. No dividends. What did markets do in the meantime? The S&P500 was at about $350 in 1990. It is $3,500 today. That is a 10 fold increase. It also pays dividends. If we factor that in, the increase is much more. The Nasdaq? Also about $350 in 1900. Today? $11,900 and pays dividends. So even during a relative decent time for gold, it doesn’t compare well. If we did 1980–2020 (40 years) rather than 1990–2020, the results would look awful for gold as they hit a peak in the mid 1980s.
- Gold is still some away from its 1980s real terms peak – Gold Prices – 100 Year Historical Chart
- Timing the gold market might be slightly easier than the stock market which is almost impossible, but it isn’t easy either. For example, even as somebody who doesn’t like gold, I thought the price would go up a bit more after 2011 for 1–2 years. It didn’t. Most people, even professionals, thought it could go higher.
The point is, gold is a lousy long-term investment and there doesn’t need to be a grand reason for a country or individual buying it.
It has its good periods where it beats markets, like in 2000–2010. It will outperform again some years, and even occasionally some decades. That doesn’t make it a sensible long-term investment.
It is also like a religion. Every time the price of gold goes up, a country or a famous individual buys gold, the gold bugs get excited.
As Buffett said, gold isn’t even an investment. It is merely a store of value, a collectable.
It pays no dividends unlike stocks, no coupon unlike bonds. So you are just hoping the person coming after you will pay more than you did. That is a speculation that may or may not pay off, but a speculation nonetheless.
This theme was also followed up in two more questions I answered.
Investing: With the Fed printing all this money, how come we haven’t had inflation yet?
Some people haven’t learned their lessons from 2008 and QE. Average inflation from 2008–2020 was lower than the previous 12 years.
Average inflation has been miles and miles lower than it was in the 1970s and 1980s, when QE and 0% interest rates weren’t a thing at all.
You have a lot of deflationary drivers, or at least low-inflation drivers, including:
1. Oil prices being lower . This might last for a few years at least.
2. Technology. This is an ongoing trend.
3. Weak demand. This could last for months or years depending on how long the recession lasts for.
4. In some cases the inability to buy some products during lockdowns. This is temporary unlike 1 and 2.
5. QE isn’t the same as conventional money printing. If the Fed literally dropped USD from the sky and people spent that money, it would be inflationary if enough was printed. QE, to quote Google, is “ is a monetary policy whereby a central bank buys government bonds or other financial assets in order to inject money into the economy to expand economic activity”, So the idea that just because the Fed buys assets, that this is akin to conventional money printing, just isn’t true. Look at 2008. Many banks which were helped by QE didn’t expand lending.
As an example, buying a Netflix subscription and some beers tonight is 10x cheaper in some cities and countries, compared to going to a fancy bar and the cinema.
So the idea that just because QE has happened, there will be large scale inflation, is for the fairies. It could happen, but it is unlikely to.
What is much more likely to happen is:
- Asset price inflation. Stocks and other assets might have a good run in the next few years just like in the 10–12 years after 2008–2009. It isn’t a certainty but it could happen
- If there is inflation, it is more likely to come from trends like localisation. As more firms come home, supply chains could come back to markets like Japan, America and Europe. Wages are higher in these places, so that could mean inflation. However, if we get back to the technology issue, this process isn’t automatically inflationary. If a Japanese or American firms closes down their 1,000-person factory in Vietnam, and crates a factory back home with just 50 staff and more robots, it isn’t necessarily inflationary.
- The only time when inflation is likely to increase is when the economy is back on fire, and the central banks decide that “full employment” is more important than keeping inflation below 2%. The Fed, and other central banks, have already said that they will tolerate inflation above 2%. However, that doesn’t mean out of control inflation! It merely means that if inflation hits 4% in 3–5 years, there won’t necessary be a rush to increase rates.
- Increasing the inflation target from 2% to say 3% might become convenient in the future to use inflation to pay back debts. Again though, this doesn’t mean that QE will cause any future inflation.
So the key point is that QE has never caused inflation in the past. So why should it again?
I spoke to a friend who thought there would be big inflation after 2008–2009. He admitted he was wrong 2–3 years ago.
Now he is predicting inflation again. When I reminded him of his previously wrong predictions, he said “well this time the QE is much bigger”.
He didn’t see the irony and contradiction in his position.
Why are asset prices inflating but consumer good prices are not?
Well that is the what happened after QE and 0% interest rates in 2008–2009.
That doesn’t imply that it will continue like that. Nobody can predict the future with uncertainty.
As I said on this answer – Investing: With the Fed printing all this money, how come we haven’t had inflation yet? – people implying that the Fed’s action will autonomically cause big inflation haven’t learned the lessons from the past.
Asset prices are different. People have always had the incentive to invest.
The reason is simple. Long-term, stock markets have always beaten cash, and so has bonds:
So even 10–20 years ago, you could hope to beat bank rates, if you understood that markets are a volatile ride.
What has changed is incentives. Previously, money in the bank paid inflation +1% or inflation +2%.
In the UK before 2008, you could get 5.5% in the bank, when inflation was running at 2%-3%!
Now you can’t beat inflation in cash, and barely beat it with bonds.
So more money is going into the markets, and some might go into real estate as well.
Moreover, QE by the central banks is designed to prop up assets, such as the markets and also corporate bonds in some cases.
So it isn’t conventional money printing. So it was always unlikely to cause consumer price inflation, in an era of technology and low demand.
What will be more interesting to see is how the Fed, the ECB and other central banks react to an economic recovery.
The early signs are that they won’t increase rates unless inflation is significantly above the 2% target, until we reach close to full employment again.
So rates might be at 0% for 5 years +. Again though, nobody knows for sure.
Look at this year. Nobody could have seen this rollercoaster coming!