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Inflation Expectations could Fuel New Gold Price Rally

Monday, March 29, 2021

The 1970s are best-remembered for double-digit inflation, an erosion of savings and the seemingly unstoppable rise in gold prices that followed. Now, as the UK prepares to transition into a post-COVID-19 world, policy makers appear asleep at the wheel, seeming willing to allow inflation to overshoot.

By failing to act, policy makers could kick-start a new decade of higher inflation, which could trigger a wave of fresh interest in buying gold - a tried and tested way of preserving wealth as an inflation hedge. The Gold Bullion Company is seeing the signs of a new wave of inflation, and higher gold prices could follow in its wake.

A rising inflationary tide

In early 2020, the issue facing policy makers was deflation, not inflation. A collapse in demand due to lockdown restrictions led to a mini-financial crisis for a brief moment, and commodities and equities tumbled in value. Fast-forward a year, and now markets are expecting the opposite: a much-anticipated return of higher inflation.

This is best-seen in the bond markets - the UK Government issues debt at a range of maturities, from one month to 50 years. Massive amounts of quantitative easing by the Bank of England (BoE) mean bonds with shorter maturities have been bought up en-masse, keeping yields close to zero, to keep a lid on the cost of servicing a mounting government debt during the crisis.

The long end, where there is little bond buying by the BoE, where maturities extend past 2040 and beyond, however, is anticipating higher prices. As a result, traders are selling long-maturity bonds to ensure a higher yield to mitigate the risk. Gold could stand to benefit in an environment of rising inflation expectations, much as it did in the 1970s.

That’s because that decade saw back-to-back years of double-digit inflation, while the price of gold went parabolic. An end to the Bretton Woods system, coupled with a sliding pound and a sense of economic malaise helped propel gold prices from £14.5 per troy ounce in 1970 to £371 per ounce just a decade later.

History repeating itself

The abiding memory from the stagflation era is policy makers being slow to act, to stop inflation getting out of hand back in the 1970s. Gold rose when oil prices were hiked almost overnight not once but twice during the decade, and this pattern repeated itself in the 2000s and the 2010s. In 2015, gold was worth £700 per ounce, but more than doubled, rising to £1,500 by the summer of 2020.

There is little sign policy makers have learnt the lessons of the 1970s. In fact, the BoE seems content with allowing inflation to overshoot its two percent target for some time while still keeping interest rates at 0.1 per cent. The BoE appears to be actively encouraging higher inflation, potentially to inflate the value of our debt burden away, but an unfortunate consequence of this is eroded personal savings, unless interest rates rise to counteract price rises.

Low interest rates for longer aren’t the only monetary policy being employed to stoke inflationary fires. The BoE has been using quantitative easing to buy billions of pounds in bonds, in the name of keeping government debt servicing costs low. This might seem like a sensible approach in the midst of a crisis, but if the economy bounces back stronger than expected, it could quickly become an obvious policy mistake.

That’s because these billions of pounds could soon trickle down into the real economy. A large quantity of pounds flowing into the economy at a time of economic revival would simply accelerate a trend of higher inflation setting in, and gold could become a suitable safe haven for people to turn to. What hope do people have at protecting their wealth from inflation, if rates remain low?

Gold is currently a touch below its summer 2020 peak, but could be simply setting itself up for a buying opportunity before being back at the races later in the year. All economists expect a spike in inflation in 2021, as a response to the dip in prices seen the previous year - what goes down must go up. However, we’re seeing increasing signs that inflation will simply bounce back and remain elevated, unless policy makers take active steps to stop it.

Gold as a safe haven in the 2020s

The situation is fragile economically, and policy makers have a delicate balance to maintain - keep interest rates low while the economy remains below its 2019 peak, to avoid it slipping back into a dreaded double-dip recession. However, rising inflation could complicate this picture. Rising yields in the long end of the UK bond market point to a growing perception that inflation is coming back and here to stay in the coming years.

The BoE is caught in a trap. Keep rates low, but risk a tidal wave of higher inflation, and an exodus of savers out of risky assets into inflation hedges such as gold. If they choose to act to stop inflation in its tracks, the BoE could trigger another crisis, choking off the recovery prematurely. In this situation, gold could also benefit yet again, as the economic instability this causes would pull money out of risky trades and investments.

A spike in interest rates could pull money out of equities and back into gold, allowing this precious metal to surge to a new all-time high. Gold prices managed to double between 2015-20, and if they do so again, we could expect a price of £3,000 per ounce by 2025. The only question is, are you best-placed to gain from this potential rally?

The Gold Bullion Company has been helping people answer that exact question for a number of years, as gold has continued to exceed expectations, rising to new highs, year after year. We’re experts in this store of wealth, and look forward to helping you with any query you may have about buying gold today.

Call us on 01902 623 259 and we can help provide you with a wide array of suitable high-quality gold products at a range of prices to suit your needs.