Economic Outlooks


Gold: Long-Term Hedge or Bubble About to Burst?

Andrew Tanzer: Love It

The surge in gold prices to about $1,400 an ounce makes perfect sense. Confidence is waning in paper money, such as the dollar, and for good reason. Our monetary and fiscal policies are remarkably lax, debasing our currency as a store of value and raising the specter of inflation down the road. The Federal Reserve Board continues to pump money into the economy, and we will run huge budget deficits as far as the eye can see, dramatically expanding our financial liabilities. Martin Murenbeeld, an economist at Canada's DundeeWealth Economics, shows that over the past decade, gold prices have moved almost in lock step with the expansion of global liquidity (U.S. money supply plus overseas foreign reserves). Both have multiplied fivefold.

Our government, like those in Europe and Japan, has made entitlement-benefit promises to voters that it cannot possibly keep. Politicians will fall back on the quick fix of printing money -- an easier solution than calling for steep spending cuts and tax increases. Failure to adopt tough, economically sound policies bodes well for gold prices.

Let's not forget the growing demand for gold abroad. Citizens of China and India are using their rapidly growing incomes to buy gold jewelry and to invest in the metal. Central banks in many emerging nations have become big buyers of gold to diversify their foreign-exchange reserves.

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Gold provides a hedge against inflation, currency weakness and financial turmoil. Gold doesn't move in sync with stocks or bonds, so it's a good diversifier. Everyone should consider owning some.

Andrew Tanzer is a senior associate editor of the magazine. He has 5% of his investments in gold.

Bob Frick: Leave It

You'd think that after experiencing two investing manias in ten years, we'd recognize the symptoms. To recap: A mania begins when an asset runs up in price, attracting buyers. That begets more price increases and attracts still more buyers. And on and on. After a point, none of the buying can be called rational.

During the Internet mania of the late 1990s, stocks surpassed what companies could possibly earn to support their share prices. With the recent real estate mania, home prices rose far beyond what the demand for housing and inflated credit markets could sustain.

The latest mania is gold. Bulls say gold will become the world's de facto currency as the dollar disintegrates and the U.S. and other developed nations print money to pay off their massive debts. Such moves are bound to spur inflation, a great friend of gold. The reality: Gold isn't suited to acting as the world's currency because it's not a great store of value and is tremendously volatile. Gold's price can fall even in inflationary times -- and, in any case, inflation isn't even a speck on the horizon. Unlike other assets, gold doesn't pay dividends. And unlike other commodities, gold has few industrial uses. Some safe haven.

But gold is a great hedge against political and economic upheaval. Yes, there's a lot to be fearful about in today's crisis-prone world economy, but there are better assets to invest in than gold -- especially when its price is in bubble territory. And when the developed economies get their acts together, that loud whooshing sound you'll hear will be the fear being let out of gold prices.

Bob Frick is a senior editor of the magazine. He has a krugerrand in his sock drawer.

Which editor do you agree with? Sound off on gold in the comment box below.

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