March 28, 2020 – Investors, big and small, often ask:
“Why is Gold falling when FED is printing money?”
As a response to the Corona Virus outbreak and the associated economic calamity, the FED announced unlimited QE. Then for the average investor, the question is “Should we be buying Gold now?”
To help answer this question, we have a chart, right from the courtesy of St. Louis Fed:
The right axis is the price of Gold, yellow line.
Hint: GLD is an ETF to bet on Gold
As seen in the above graph, Gold price is not necessarily corralated with the FED money supply.
Gold saw its top price back in 2011. While FED was printing trillions of dollars during 2011 to 2015, Gold price was falling.
But how can that be?
The answer is simple: Our money supply is not what the FED prints. Money is what we borrow. That is why it is called Debt Based Monetary System. Banks create money out of thin air when we borrow. [pdf, Bank of England]
Gold price faces the same deflationary pressures as other commodities when the credit based money supply deflates. The short summary of the problem we face is this:
Entire world cannot borrow in lockstep, inflate the money supply as debt, promise to pay it back with interest, and then hope that all will be fine when the pay back time arrives.
When deflation hits, it is going to be a race to find US dollars. Before the 2008 crash, FED printed 800 billion dollars in history. Starting with the 2008 crash, FED expanded its balance sheet to more than 4 trillion dollars. Yet the US dollar kept going up.
Here is the US dollar index over the years as we witnessed the greatest FED base money supply expansion in history.
Hint: UUP is an ETF to bet on US dollar
The borrowers, aka the world, did not promise to pay back Gold with interest. They promised to pay US dollars. They have no obligation to find Gold, or Oil, or Stocks, or Houses. In a deflationary crash, borrowers will have to sell everything, including Gold, to find US dollars to honor debt obligations.
This is why at times of deflation, the money gets sucked out of the economy and credit dries up. It becomes hard to earn money. This translates into unemployment, defaults, stock market declines, housing market declines. Here is an article that talks about how to prepare for deflationary crash.
Velocity of Money is declining. This is deflationary.
Velocity of money measures how many times a dollar changes hands in the economy. When the velocity is higher, even if the money supply is low, it can feel like we have money and it becomes easy to earn. But when the velocity of money declines, even if the FED prints unlimited amounts, it feels like there is no money because nobody is spending.
Below FED chart shows velocity of money has been declining for long time which is deflationary. The Corona Virus can be expected to bring this down further.
TLDR; It is not yet clear we have reached a secular bull market for Gold. Back in 2015 it was predicted Gold was tracing an a-b-c counter trend rally in Elliott Wave terms which is close to completion. Last time FED printed 4 trillion, USD rallied, Gold declined from highs.
Below chart shows Gold already had it’s run. To get to the recent peak, it went through a peak bullish sentiment. Such bullish sentiment typically occurs at a top because everybody who can buy has already bought. Once we run out of buyers, it starts a decline. Will Gold fall from here? We will see.
If you want to learn more about eye opening insights that are myth busters, sign up here to get the free Deflation e-Book from Elliot Wave International.
2022 Update on Gold and US Dollar
In November 2022, we have high inflation, 7-8% or more if you don’t believe the government. However, Gold is down. US dollar index is up as the FED keeps raising FED rate to combat inflation. Don’t be surprised if Gold goes up soon while the inflation comes down!