Gold, Silver? Betting on Deflation May Be a Huge Mistake

They can keystroke dollars into existence till the power goes out for good

By Clint Siegner, Director at Money Metals Exchange:

Precious metals investors heading into 2016 worry the dollar will continue marching ahead, right over the top of gold and silver prices. The Fed is telegraphing additional rate hikes throughout the year, and commodity prices – led by crude oil – are falling. There have been tremors in the biggest beneficiary markets of all when it comes to the Fed’s QE largesse – U.S. equities and real estate. And the possibility of a recession is growing, both in the U.S. and around the world.

There are plenty of reasons we might see even lower official inflation numbers and a stronger dollar in 2016. But don’t think for a second that consumer prices or living costs will fall. They haven’t, they aren’t, and they never will in a sustained way – thanks to the Fed’s creation in 1913. This is where the deflationists have it wrong.

The impact of further disinflationary forces or even a deflationary episode on precious metals prices is a bit harder to predict.

The bear case for precious metals is rather simple. Should metals trade like commodities, they are likely to follow other raw materials lower. If we get a liquidity crunch akin to the 2008 financial crisis, just about everything will be sold as investors raise cash to meet margin calls or flee to the dollar as a perceived safe-haven.

There is also the possibility that metals prices will simply be managed lower. Growing numbers of investors realize that Wall Street is not a bulwark of free markets. Major banks have admitted to rigging markets against their own customers, and the Federal Reserve aggressively intervenes in markets in its quest to centrally plan the world economy. Why wouldn’t the Fed also be active in trading precious metals? Those dismissing the notion that metals prices are manipulated are naive.

Today’s Situation Is Different Than 2008

The bear case assumes history, in particular the experience surrounding 2008, will repeat. Or that there is still plenty of ability for anyone seeking to force metals prices lower in the futures market to actually do so. Or both.

Maybe. But relying on those assumptions could be a tragic mistake.

For starters, the U.S. dollar is already near record highs. Meanwhile, commodities and precious metals have been beaten down mercilessly. This set-up is the complete opposite of what faced investors leading up to the summer of 2008. And even though stocks and commodities got hammered in 2008, gold posted modest gains for the year as a safe haven from the threat of a collapsing economy.

Lower gold and silver prices have already produced an imbalance between bullion supply and demand. Supply deficits in 2016 are likely to make the developing problem with inventory at the COMEX and other exchanges even bigger. Registered stocks of gold all but vanished recently as bargain hunters, particularly in Asia, have been happy to buy and take delivery. Silver inventories aren’t in much better shape.

More deliverable bars must come from existing stocks, but holders won’t be anxious to sell. Those with “eligible” COMEX bars have certainly been slow to convert them to “registered” of late. By all indications, miners will be unable to provide the needed supply.

With prices below the cost of production, mine output is set to drop significantly this year.

If the metals markets look forward, as markets are supposed to do, they will anticipate the Fed’s response to a strengthening dollar and economic malaise. In 2008, investors knew little about the lengths to which the Fed would be willing to go. Today they DO know. The Fed will overwhelm deflation by creating new inflation.

Markets are completely dependent on Fed stimulus, and people simply expect officials to roll out an even bigger initiative whenever the need arises. Anything to prevent the cleansing effect of corrective forces from restoring heath to the economy. In a recent interview, market expert Jim Rickards predicted the Fed will abandon rate increases and actually commence lowering before the year’s end.

Metals investors should take heart in the fact that gold and silver prices have shown some resilience in the face of disinflationary forces recently. Both metals outperformed oil and most other commodities last year. Yes, prices declined roughly 11% for both metals. But crude oil fell 36% and copper lost 22%. The precious metals gained purchasing power against many other things.

Bottom line: Don’t bet on a meaningful deflation. Fed officials will not allow it. And they can keystroke dollars into existence until the power goes out for good. By Clint Siegner, Director at Money Metals Exchange

On January 1st, Londoners, being pushed step by step into a cashless society, woke up to a rather perplexing reality. Read… The Risks of the War on Cash

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  40 comments for “Gold, Silver? Betting on Deflation May Be a Huge Mistake

  1. John Doyle says:

    The Fed can only keystroke dollars into existence to buy stuff. If “Stuff” is in short supply, and a lot of stuff is in short supply it will push prices up.
    Banks also can only create their money if they have customers wanting to borrow. They will be in short supply as well in fact already are, which is why money is going into share buy backs – what else to do?

    The government will be forced to deficit spend to create work. That might conceivably get us out of deflation, But personally I don’t think we will ever get out of deflation. Our whole civilization is not into wealth creation any more, It’s into spending. Spending on entertainment pursuits. That will become more expensive as the resources get more and more depleted.
    Are we just chasing our tails now?

    • Nicko says:

      Look up and think big, in 20 years we’ll be asteroid mining and building lunar colonies.

      • d'Cynic says:

        That sounds splendid; I have a list of many people I would like to send to the moon.

    • Nathanael says:

      If they keystroke dollars into existence *and give them to the general population* the dollars get spent and the economy recovers.

      They seem disinclined to do this though. So, deflation.

      • John Doyle says:

        O,yes the myth of a shortage of dollars is exactly what the banksters and their patsies in Congress [and all over the world] Because they tout a shortage of dollars they can pretend to starve government spending on welfare, health, education etc.
        It’s of no interest to them that consumers are thus short of dollars and can’t spend into the economy. They cream profits from asset inflation, which is almost a parallel economy, one not concerned with real goods and services.
        People are not allowed to know the Fed can never run out of dollars.
        But the Fed has to spend in order that dollars are injected into the economy. It’s not free money. It’s money to pay debts, like the military, welfare health etc.
        Our problem is that our civilization is a mature one. It’s now in deflation/maintenance mode and very little new infrastructure is necessary. The baby boomers who drove consumerism are retiring @ 10,000 a day and spending patterns are different and reduced.
        All we spend today is on entertainment facilities or upgrades to equipment. An iPhone is just an upgrade on a handset. The vested interests want us to consume and consume and consume , but it’s mostly rubbish. And it depletes our resources, our natural capital.
        This is why we will crash.

  2. Peeps need to stop making inflation arguments. They sound silly after awhile.

    Deflation is occurring because there is less energy available which adversely affects customers’ ability to borrow. Less energy = less borrowing.

    More borrowing by firms leaves customers — the same ones who cannot borrow — further underwater. This is why there is an ‘oil glut’; the energy business cannot sell what it drills … The bankers cannot find customers willing or able to borrow enough to repay the firms’ loans!

    There is a gold glut just like the oil glut (really shortages for both resources). Remember, the customer is always right, he’s saying – by way of his actions – deflation.

    • Wolf Richter says:

      Steve, in my lifetime, there have been a total of 3 (three) quarters of deflation in the consumer price index (ca. 2008/9). For the rest it has been unadulterated inflation, and for some years a lot of inflation. If you wait for deflation to take over, you misunderstand the Fed, and you’ll be waiting a long, long time.

      Energy prices are pulling down inflation in consumer prices, but it’s still inflation, not deflation.

      • Okay, it’s on … like Donkey Kong!

        I bet deflation. What’s your bet?

        If there is inflation by the end of 2016 (we can discuss specific measures, later) I’m buying. Otherwise …


        • Wolf Richter says:

          OK, Steve. Let’s do it this way: loser buys the winner a glass of beer/wine to be enjoyed face-to-face, at some bar, as part of a good conversation, not in solitary. So surely, someday we’ll be in the same state/city. We’ll meet and loser pays the drink. I’d love that – even if I have to pay :-)

          My bet is that headline CPI will be positive (inflation) on a year-over-year basis for the next year. If pushed, I could extend the period on principle, but visibility is getting very murky this far down the road. I accept the possibility that CPI might dip into the negative one month or another (as it does occasionally), but overall will remain positive.

          We can use this:

          What do yo think?

          BTW, I would love to have a little deflation (0%-2% per year for a few years) to make up for all the inflation I’ve gotten whacked with in my life. But that’s wishful thinking on my part.

        • Okay, that’s fair. Let’s use the PPI instead of consumer prices:

          Retailers tend to keep their prices high through hell and high water … low producer prices improve their margins.

          Underwater retailers don’t usually have a soft landing, they suddenly blow up/over. It can take longer than a year for the failures to occur, look @ Sears, perched at the edge of oblivion since 2004.

          Let me know any time you coming to the DC area.


        • Wolf Richter says:

          PPI is a different ball game. Inflation is measured at the final sales level, hence CPI. PPI is only one aspect of inflation up the pipeline. And it mostly ignores services and housing costs (the majority of what consumers spend their money on).

          But I’ll let you know when I’m in the DC area. We can meet at some bar, lament how fast the prices of our liquids have risen, and have a great conversation. I’d be happy to buy one way or the other.

        • Nathanael says:

          Wolf, you *really* need to study economic history from before the 20th century.

          You would NOT enjoy deflation, unless you are much richer than I think you are and don’t need income from work. Deflation == very high unemployment, and falling wages. That’s basically how it works. Your clients would stop hiring you and your business would collapse.

        • Wolf Richter says:

          You’re totally wrong. Look at Japan. VERY low unemployment. Stable real wages until Abenomics introduced inflation. The Japanese consumer was in great shape until Abenomics came along. And business did fine. No huge layoffs. No major collapses.

          We’re not talking about 20% deflation a year. We’re talking about slight deflation alternating with slight inflation (I made that clear). So a couple of years of slight deflation following many decades of inflation. That would be great for American consumers whose real wages have been decimated by INFLATION. It would allow them to catch up. Nominal wages are “sticky.” They don’t drop just because consumer prices edge down 1% or 2% during a year that follows a year of inflation.

          And wages in the US have not kept up with inflation. So workers and consumers have been the losers! That’s the big problem in the US economy.

          Nathanael, you really need to study who propagates the notion that some inflation is good – those are the winners of inflation: central banks, large corporations (it allows them to raise prices and therefore sales and profits even if the real business is stagnating), over-indebted governments, big debtors (allow for inflation to take care of the debt).

          You need to find out who the losers of inflation are: workers, consumers, creditors such as bondholders and savers, retirees on fixed incomes (that are not indexed to inflation), etc.

          Both inflation and deflation have winners and loses. Ask yourself: who are they?

          Alternating slight deflation and inflation makes for true price stability.

      • AsYouLikeIt says:

        “They can keystroke dollars into existence till the power goes out for good.”

        Or…until they can’t. The last time PM’s took off, everyone, including the Fed, was attributing it (inflation) to rates being held down too long. As well as Volker’s concern that labor’s inflationary expectations being written into pay raise indexing clauses which are pro-cyclical. The real culprit was cartel driven oil pricing which fed cost increases into everything throughout the economy. OPEC, because of political tensions in the ME, plus being awash in dollars decided that the American dollar wasn’t worth that much and had the economic wherewithal to force that reality, a decline in the value of the dollar.

        It’s interesting that economic changes occur when the general public has completely forgotten the effects of previous cycle highs or lows. No one has experienced a real depression since the Great Depression, the boomers parents when they were children. We’ve only had disinflations since. The small amount experienced ’08-’09 was only a short liquidity squeeze, likely portending the future. Asset pumping has only occurred in the FIRE sectors, with the majority of the middle class squeezed out of such activity. Now, with huge amounts of relatively liquid assets in quite few hands, the herd can be stampeded quite easily. But no one knows which direction they’ll take.

        And this without even mentioning the effects of M&A’s on oligopolistic market pricing.

        • Nathanael says:

          Bingo. It’s been so long that nearly everyone in in power has completely forgotten the lessons of the Great Depression — and EVERYONE in power has forgotten the lessons of the Long Depression.

          This makes it very likely that we’ll repeat those mistakes. The Long Depression in particular has *very specific economic parallels* to the current period.

      • James McFadden says:

        I’m a bit surprised you think deflation is unlikely – especially considering the doom and gloom, bearish analysis on your web site. You might want to read Jack Rasmus’ Epic Recession. He makes a good case that we are coming up on another 1930’s depression moment (due to massive corporate debt) — assuming current Fed-Congress policies don’t change dramatically (Fed bankers do have rather limited imaginations). The deflation will primarily be asset deflation (reversing asset inflation). I suspect it will not impact commodity prices that have seen little inflation over the last decades – at least not as much. But I suspect it will be accompanied by massive unemployment as corporations collapse under their debt. Government spending will be too little too late. That doesn’t mean the Fed, with a Congressional nod, couldn’t pull money out of a hat with another massive QE program – which I imagine would have to be bigger than the last one (say $10 trillion this time?). CBs would probably need to perform another bank bailout. ($40-$80 trillion this time, to cover the $800 trillion derivatives market?). However, I thought Dodd-Frank eliminated that possibility – so maybe they are thinking a bail-in (imagine the pitchforks and torches in the street if banks confiscated people’s savings). At some point won’t the Fed and global CBs just own everything if they keep bailing out the economy? (Would that be socialism or feudalism?) Or perhaps the new plan would be “helicopter money” – distribute it to everyone – rather than just to the banks (current policy). But frankly, I doubt that will happen with the current Congress owned by Wall Street (austerity and government debt fear-mongering will rule). To me it seems that the current conservative central-banker/congressperson is just too limited in their thinking (what can you expect from people who don’t believe in climate chaos or evolution – and still believe in magic – like market magic – or economic models built on a house of cards). Michael Hudson seems to be making the same case – we are on a collision course with debt and no one is driving the bus. Everyone onboard is drunk on the previous QE – except perhaps Goldman and a few other inside traders who will trigger the collapse to maximize their profits. All the while economists continue to play with models that are flawed to the core (Read Steve Keen’s Debunking Economics). The result seems inevitable – the unraveling of the debt – which means deflation.

        • Wolf Richter says:

          James, I’m not doom and gloom. I’ve grown very bearish about stocks and bonds and some other assets over the last two years. But I don’t think the sky is going to fall on top of my graying hair.

          I believe in consumer price deflation when I see it.

          In my entire life, I’ve seen it only a few months in the US. I see no signs of consumer price deflation at this point (though some individual prices are down but others are up).

          With the exception of a brief period during the Financial Crisis, all recessions in my life (and there were quite a few) were marked by INFLATION!

          I expect a recession at some time in the future, NOT a depression.

          However, I would LIKE to see some mild consumer price deflation to make up for some of the years of inflation. I think a mild (1-2%) prolonged dose of deflation would be good for workers and consumers (though not for corporate earnings and debtors). But the Fed would NEVER let that happen!

        • Nathanael says:

          Ah, Wolf, so you expect a recession but you don’t expect a depression.

          That’s your mistake. This is waaaaay more like a depression than it is like a post-WWII recession. It’s a lot like the Great Depression but it’s even more like the Long Depression.

      • Nathanael says:

        Wolf, the current period resembles the 1878 Long Depression. We HAD deflation during that depression. We had deflation during the 1930s Great Depression. We can and will have deflation again.

        Deflation in the 20th century was prevented by a combination of money-printing (fiscal policy) and low interest rates (monetary policy). Interest rates can’t go any lower and the government refuses, for some reason, to use fiscal policy.

        If we elect a government which is willing to use fiscal policy, we will not have deflation. If we elect another tightwad government, we will have deflation. It’s just that simple. Keynes explained it all long ago.

      • Ray Winters says:

        Except the world has never watch a 200 trillion dollar debt edifice collapse. We are not watching a bank go under, we are watching the carelessly constructed debt behemoth die and this time deflation will be the destroyer of nations.

    • Jungle Jim says:

      Let me disagree with one of your remarks. You said that there is a glut of gold. As far as I can tell, that is incorrect. There is a glut of receipts for gold, but not of the physical metal.

      There was a period of time when the various gold ETFs were loaning or leasing their metal out to make extra money. They have receipts for that gold, but not much metal. Whether they could get the metal back is an open question.

      About a year ago, the Bundesbank was stunned to discover that to recover 300 metric tons of gold that the US Government was holding for them would require a seven year wait. The excuse given was that the gold would have to be re-refined. Why ? The Bundesbank’s gold was supposed to be in serial numbered 400 ounce “good delivery bars”. There should be no need whatsoever for re-refining.

      So, I wouldn’t be too sure that there is an actual glut of gold.

      • d says:

        Thing with those US Serial # (allegedly) good delivery bars, some of them go back to the post 45 period.

        Germany repatriated some when they were first allowed to just after the war, and had them re-refined, them it took decades to make the US supply the shortfall. As those US Serial # (allegedly) good delivery bars, had an inordinately high contamination rate, such that it was possible to scrape iron from the sides of the pot after re-refining the bars and the iron recovered equaled the re-refined gold shortfall.

        There is talk of Titanium centered Serial # bars some of which are the work of forgers .

        There is an issue with old and possibly some of he not so old, US Serial # , (allegedly) good delivery bars.

        There is also the politics of the EUR V the S as global reserve currency.

        The you get the gold bug, there isnt enough, its worth more, the US dosent have it, Etc Etc fairy stories as well.

    • Petunia says:

      I like that you related gold to oil because that is related to my thinking as well. I think gold is totally overrated as a store of wealth in modern life. I was glad I owned some fancy jewelry because it paid for things we really needed when things got bad, but I never needed it, and I don’t miss it.

      I would now rather have the cash or items with real utility. You can’t beat oil for utility. If oil is not holding its value, when it has real utility, what is gold really worth? To me not much.

      • Spencer says:

        Gold and silver have been driven out off the minds of the population as a store of wealth. They have forgotten what real money is. Not the fiat driven paper of the central banks. Check it out…chocolate…yes sir!

        • Nathanael says:

          Chocolate is a REAL store of wealth. True value. You know the Aztecs used cocoa beans as money?

          I’m keeping a strategic chocolate reserve. If global warming screws up chocolate production, I’ll have a commodity of rising value.

          Because you can’t eat gold, but you can eat chocolate.

          Other good choices are vanilla and coffee. :-)

    • Ptb says:

      demand is waning and the usd is rising against almost everything that’s being traded. I’d call that deflation. There are exceptions of prices rising where there’s strong demand and govt intervention but not much.
      For real inflation in our system we need a lot of borrowing to happen at the consumer level.

      • Nathanael says:

        Borrowing at the consumer level won’t happen; everyone’s already in debt up to their ears.

        For real inflation in our system we need people to be PAID MORE for WORK. We need WAGE inflation.

        • Wolf Richter says:

          The Fed won’t allow wage inflation. That’s when it raises interest rates. It wants consumer price inflation and asset price inflation instead.

        • John Doyle says:

          Amazing they can get away with that. One of the two prime mandates for the Fed is to have full employment. None of this NAIRU nonsense.

          Anyway for me we are definitely deflating. It’s not the opposite of inflation. It’s a stage on the same continuum. When growth is so anaemic as the 1-2% inflation, it is really deflating. There is a new word for it but I’ve forgotten it. China is deflating simply because 6% inflation is way down off the former 10% level. And we are feeling the consequences of it all too well.
          Worse, I don’t think we will ever be free of it now unless we find another source of almost free energy. Oil today has only 1/8th of the return it used to be able to give us 50 years ago.

  3. Chicken says:

    My auto insurance policy increased by 9% this cycle, I call that inflation.

  4. Sgt Milstar says:

    The Democrats are in trouble. War is brewing. The only way to save them is to drop unicorns with cash. I expect to see stimulus package prepared this time for the masses to include illegal immigrants. Of course it will be taxable, but thats another story.

    • Petunia says:

      Illegals, in Florida, have had a stimulus package for decades. The financial crisis never ended it. They get free health care, subsidized housing, food stamps, and a host of other charity that I would never qualify for. The only thing the govt can do now is extend it to the rest of us.

  5. Ptb says:

    Fog a mirror and you can get $200k in student loan debt. So no deflation in higher Ed costs. Car loans are about the same. Govt subsidized medical care as well. Make easy money available to certain sector and you’ve got a good chance of raising prices. Or have a monopoly and raise prices. But I would be careful to characterize these as inflation.

    • Nathanael says:

      Two of those (medicine and education) don’t follow normal economic rules and are basically cartels. So I agree — I would not characterize those as inflation. That’s monopolistic wealth extraction by an elite.

  6. OutLookingIn says:

    America is thinking inside of the box.

    The strong dollar has made all currencies outside the box worth much less than one year ago. As a consequence, gold and silver over this past year have gained in value outside of the box.

    The upshot of the strong dollar is ever increasing economic pain in the EM and closer to home. Canada is now in recession, as is Brazil (almost in a depression) along with Mexico and many others.

    We have deflation (housing) in assets. Price inflation of food, health care, education and rent. Those who are forced to sell assets into this economic environment are being taken to the cleaners.

    Currency failures along with sovereign defaults are now the outcome that are on the global horizon. Hand in hand with hyperinflation.

  7. MC says:

    It really depends on how one defines “deflation”.

    For us regular people, deflation is something akin to high society parties: we know they exist, but we cannot take any part in them. If we show up at the door, security will throw us out.
    For big companies such as Walmart, Amazon or Apple deflation not only exists, but they benefit from it by not passing it on to customers, thus increasing their profits.
    The first of the year brought with the usual flurry of price increases: train tickets have become more expensive, food has become more expensive, cars have become more expensive, spare parts have become more expensive (unless you buy counterfeit ones from China… that’s a growing industry nobody speaks about), utilities have become more expensive. You name it.

    Gold is a bit strange. It lost out, big time, against the once-hated US dollar, but has gained against most other currencies. If you live and work in Brazilian real or Japanese yen, gold was actually a decent investment in 2015.
    Given the dollar-yuan peg, Chinese buyers have been the only ones to truly benefit from it, and only if they buy in large enough quantities to bypass the aforementioned retail fleecing.
    Now: if supply and demand applied to gold, prices should be at very least stable. Increased production from Russia, the US, Australia, Chile and, much more critically, China has not been enough to offset the massive drop in South African production since the early 70’s.
    But gold has not behaved according to the mechanism of supply and demand since gold-based ETF’s became common.
    Rumors of gold price rigging turned into full scale investigations in London, Zurich and Dubai: apparently authorities either believe in crazy conspiracy theories or there’s something more solid and far more sinister to it.
    The implications are truly enormous: if gold prices have been rigged for almost two decades by a relatively small cartel (as the Swiss gold probe is hinting at) no other commodity is safe from suspicion. This isn’t old fashioned speculation: speculation is a relatively short-lived affair, as people taking part into it want to cash in as soon as possible and make a clean escape. This is price rigging on global scale.

    The question remains: why gold? I suspect the reason is the psychological appeal of the yellow metal. Rhodium and rare earths such neodymium have reached at times valuations similar or higher than gold on a weight basis. But they are industrial metals: as such a sudden drop in demand or the discovery of cheaper substitute may wreak havoc on prices.
    Gold, apart from some very specific applications, serves as nothing more than a store of wealth. It has been that way since the days of the Pharaohs in Ancient Egypt. The long and heavy gold chains Tudor gentlemen wore around their necks served as much as a status symbol as a store of wealth. As such gold runs no serious risk of being fully displaced, even in our modern age, no matter how much scorn is heaped upon it.

  8. Spencer says:

    …”The precious metals gained purchasing power against many other things.”…

    Ah, yes indeed,

    1OZ gold USD- $1077.25, 1OZ gold Canadian dollar $1503.89

  9. ERG says:

    Gold and silver prices have been deliberately suppressed for some time now by the dumping of futures contracts. There has been no true price discovery in any market since 2008/09.

  10. AsYouLikeIt says:

    The only people I know that think deflation is good are those that believe they won’t suffer the effects of it.

Comments are closed.