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December
20
2023

Americans Understand Inflation
James Rickards

Everyday Americans understand inflation perfectly. But the egghead economists and policymakers who govern their lives don’t.

That may be because inflation is one of the biggest concerns of those who live in the real world, and it may lead to a political earthquake next November in the presidential and congressional elections.

Here’s the reality and here’s the political narrative: Reality is that prices have been going up at the fastest rate in 40 years and they are still going up.

Inflation (on an annualized basis) was 9.1% in June 2022, 4.9% in April 2023, 3.7% in September 2023 and 3.1% in November 2023 (the most recent data available).

It’s true that the rate of inflation is coming down, but prices are still going up. They’re going up at a slower rate but they’re still going up.

Not only that, but past price increases are locked in so new price increases are applied to a higher base. This is killing American consumers.

The average price of a pound of ground beef in the U.S. was $5.11 in September 2023. In October 2023 the price of a pound of ground beef was $5.23. That’s a 2.3% increase on a month-over-month basis, which annualizes to over 25%.

That’s the kind of inflation that real Americans confront every day.

The economists prefer measures of inflation that exclude energy and food prices, what they call “core” inflation. Some eggheads use measures that exclude food, energy and housing costs. They call that “super-core” inflation.

Those measures are academic constructs and bear no relationship to the real world. Try living without gas in your car, food on the table or a place to live.

The ignorance of politicians gets worse when we see Joe Biden come out and say, “Prices are going down,” and retailers should lower their prices and avoid “price gouging.”

Biden is purposely confusing lower rates of inflation (which are still price increases) with lower prices (which are not happening).

It is possible to use propaganda to lie to the American people; it can work in the short run. But inflation is not one of those areas where propaganda works. The American people know what things cost, they know prices are going up, and no amount of White House lies can change that.

My preliminary analysis indicates the day of reckoning will come at that ballot box next November. That’s when the construct of lies about inflation will come tumbling down.

We’ll see.

In many ways, this dynamic can’t be separated from the price of gold. What’s in store for gold? Why hasn’t gold exploded yet? Read on.

Why Hasn’t Gold Exploded?

The world has changed radically in recent years. We’ve had the worst pandemic since 1918, and the third worst in world history. We’ve had a global supply chain breakdown. Inflation has been the worst since the early 1980s, despite the fact that it’s come down since peaking last June.

Aside from the war in Gaza, Europe is experiencing its worst war since the end of World War II.

The kinetic war in Ukraine has been accompanied by a financial and economic war between the U.S., the U.K., the EU and Russia that involves extreme financial sanctions, including seizing the central bank reserves of the world’s 11th-largest economy.

That financial war and accompanying sanctions disrupted supply chains on top of the disruptions that were already present. They still persist.

And the world’s second-largest economy, China, locked down 50 million people in Shanghai and Beijing for months in a hopeless and misguided effort to suppress COVID. (China has finally seemed to learn that the virus goes where it wants.)

Meanwhile, tensions in the Taiwan Strait are high, with a lot of talk about a potential Chinese invasion or blockade of Taiwan. Now attacks on shipping in the Red Sea are driving up insurance rates and diverting oil tankers away from their normal routes, adding weeks to their transit times. That has serious implications for the global economy as oil prices potentially surge. The list goes on.

If gold is the ultimate safe haven for investors and the world has been dangerously unsafe, then the price of gold must have been skyrocketing, right?

That’s not the case. Today gold is about $2,052 per ounce. Gold has experienced a surge lately, but that’s still lower than the $2,069 all-time high of Aug. 6, 2020.

The bottom line is gold is lower today than it was three years ago. There have been some spills and thrills along the way including two peaks over $2,000 and several smashes down into the $1,680 range, but always followed by a reversion to a persistent central tendency that hasn’t moved much at all.

So we’re back to the original question. With inflation, shortages and war all around, why is gold not surging past $3,000 per ounce and making its way to $4,000, $5,000 and beyond?

Supply/demand conditions favor higher gold prices. Global production of gold has remained fairly constant for the past seven years. Over the same seven-year period, during a period when global output was flat, central banks increased their official holdings by over 6%.

China has added over 1,400 metric tonnes in the past 13 years (that’s the official number; unofficially they probably own far more). Russia has acquired over 1,500 metric tonnes over that same period.

Other large buyers have included Poland, Turkey, Iran, Kazakhstan, Japan, Vietnam and Mexico. Central banks in the Visegrad Group (Czech Republic, Hungary, Poland and Slovakia) have also bought gold.

What’s curious is that individual investors in the U.S. still seem indifferent to gold as a monetary asset. In theory, central banks are the most knowledgeable about the real condition of the global monetary system. If central banks are buying all the gold they can with hard currency (dollars or euros), it’s not clear what retail investors are waiting for.

Of course, central bank holdings are only about 17.5% of total aboveground gold and there is far more demand from bullion investors and for jewelry (a form of wearable wealth). Still, central banks are arguably the most knowledgeable market participants, and their steady increases in gold holdings is meaningful.

Interest rates also play a supporting role. Many of the directional moves in gold prices over the past three years have been tied to interest rate moves. The correlation is not perfect, but it is strong.

The rally in gold prices in late 2020 was tied to a fall in interest rates (yield-to-maturity) on the 10-year U.S. Treasury note from 1.930% on Dec. 19, 2019, to 0.508% on July 31, 2020.

Similarly, the fall in gold prices after February 2021 was tied to an increase in interest rates on the 10-year Treasury note from 1.039% on Jan. 2, 2021, to 3.130% on May 2, 2022. Rates are 3.92% as of today.

But I believe that interest rates on the 10-year Treasury note will fall again and will continue to fall as global growth weakens. We’re already seeing that. Over the past two months, yields have fallen from 4.92% to 3.92%. In bondland, that’s a major move.

That’s good news for gold investors. Short-term rates had been going up because of Fed policy, but now the Fed has signaled markets that it’s done raising rates. That’s a tailwind for gold.

While market supply/demand conditions are favorable for gold, and the overall interest rate environment is also favorable for gold, neither has seemed to have the power needed to push gold sustainably past $2,000.

What’s the problem?

The real headwind for gold and the main reason gold has struggled to gain traction for the past three years has been the strong dollar.

After all, the dollar price of gold is really just the inverse of the strength of the dollar. A weaker dollar means a higher dollar price for gold. A stronger dollar means a lower dollar price for gold.

It may seem paradoxical to imagine a strong dollar in the midst of all the inflation we’ve been seeing. But that’s the case.

What’s extraordinary over the past three years isn’t that gold hasn’t soared; it’s that gold has held its own in the face of a persistently strong dollar. So that leads to the next question:

What’s been behind the strong dollar and what could cause the dollar to suddenly weaken and send gold prices into the stratosphere?

The strong dollar has been driven by a demand for dollar-denominated collateral, mostly U.S. Treasury bills, needed as collateral to support leverage on bank balance sheets and in hedge fund derivatives positions.

That high-quality collateral has been in short supply. As banks scramble for scarce collateral, they need dollars to pay for the Treasury bills. That fuels dollar demand.

The scramble for collateral also speaks to fears of a sequel to the banking crisis in the wake of this year’s earlier failures. We’re not there yet, but we could be getting close. The crisis is by no means over.

As weak growth likely turns into a global recession, a new financial panic will be on the horizon. At that point, the dollar itself may cease to be a safe haven, especially given the aggressive use of sanctions by the U.S. and the desire of major economies including the BRICS nations to avoid the U.S. dollar system if possible.

When this panic hits and the dollar is deemed no longer reliable, the world will turn to gold. That’s not an immediate likelihood. This is a process that’ll unfold over years. But the trend is going in that direction.

Investors should consider today’s gold prices a gift to acquire gold at bargain prices before markets, and the mainstream media, wake up.

Even at $2,052, gold is so cheap right now, it’s practically a steal.

James G. Rickards is the editor of Strategic Intelligence. He is an American lawyer, economist, and investment banker with 35 years of experience working in capital markets on Wall Street. He was the principal negotiator of the rescue of Long-Term Capital Management L.P. (LTCM) by the U.S Federal Reserve in 1998. His clients include institutional investors and government directorates. His work is regularly featured in the Financial Times, Evening Standard, New York Times, The Telegraph, and Washington Post, and he is frequently a guest on BBC, RTE Irish National Radio, CNN, NPR, CSPAN, CNBC, Bloomberg, Fox, and The Wall Street Journal. He has contributed as an advisor on capital markets to the U.S. intelligence community, and at the Office of the Secretary of Defense in the Pentagon. Rickards is the author of The New Case for Gold (April 2016), and three New York Times best sellers, The Death of Money (2014), Currency Wars (2011), The Road to Ruin (2016) from Penguin Random House.

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