Bugs on the loose

Gold: It sounds like a gold bug’s dream. But looking back to the last inflation-adjusted peak price in 1980, it’s far from impossible that the gold price could soon go above $5,000 an ounce.

The potential level of a new peak can be estimated in several ways. Based on consumer price inflation, the $875 per ounce high seen in 1980 is equivalent to around $2,400 today, almost twice the current gold price. But there’s a case for taking account of economic expansion as well as price inflation. The world’s economic output has increased about six-fold since 1980. Scale up the peak 30 years ago by that multiple, and the gold price could top out at around $5,300.

Gold can also be regarded as an alternative to money. Broad global money supply, known as M3, is now in dollar terms about 10 times what it was in 1980. The total gold supply has also increased to some 170,000 tonnes from 110,000 tonnes over the same period as more of the metal has been mined. Scaling up by money supply and deflating by the gold supply, the 1980 peak price would be equivalent to about $5,700 an ounce today.

Looking at money supply another way, today’s potential gold price would be a bit lower than that. A narrower measure of global money, M1, is currently estimated at about $17 trillion. If the 170,000 tonnes of gold mined through history were to substitute for this, the gold would be worth around $3,100 per ounce. But that wouldn’t account for the tendency of the thinly-traded gold market to overshoot sometimes to the upside, as for instance in 1980, and sometimes to the downside.

Of course, there is a considerable chance that gold and other commodity prices will peak at a lower level. But if a four-fold increase over a couple of years from today’s gold price to more than $5,000 an ounce seems impossibly extreme, that was the trajectory in 1978-1980. If governments continue to print money, whether for economic stimulus or to stave off defaults by themselves or others, fear of widespread currency debasement and the consequent inflation could create the conditions for just such a spike.