Higher Gold Price Not Correlated To Money Supply Growth

To say that “a higher gold price is not correlated to money supply growth” is fundamentally correct. However, the expectation for a much higher gold price resulting from huge money creation by the Federal Reserve is shared universally by investors, analysts, and others.

In fact, it is considered almost scriptural canon that a huge increase in the money supply will lead inevitably to a huge increase in the gold price. Historical examples of France in the late 18th century, Germany (Weimar Republic) in the 1920s, and Zimbabwe or Venezuela more recently, are often cited as proof of the relationship between money supply growth and its effect on gold prices.

That is not the case, though. Below is a chart (source) which shows the ratio of gold prices to the monetary base dating back to 1918…

Since the gold price peaked in 1980, the ratio has declined starkly. The low point (.28) was reached in December 2015. All of this decline occurred within the context of quantifiably larger growth in the supply of money and credit.

More telling is that all of this decline occurred while the price of gold increased from $850 to $2000 per ounce; whereas the decline in the ratio between 1934 and 1970 occurred while the gold price remained fixed at $35 per ounce.

So, we have an ongoing increase in the gold price, yet the ratio of the gold price to the monetary base continues to decline. Seems like it should be the other way around. Or, maybe it is not the money supply growth which determines the gold price. Maybe the gold price is reflective of something other than the supply of money.

In fact, it is. The higher price of gold is correlated to the loss in purchasing power of the US dollar.

Equally important is that the loss in purchasing power of the US dollar is NOT quantifiably predictable. In other words, a doubling of the money supply over any specific period of time, does not necessarily mean that the US dollar will lose half of its purchasing power.

The expansion of the supply of money (and credit) IS inflation. The effects of that inflation, such as loss in purchasing power of the US dollar, are volatile and unpredictable.

(Read more about the US dollar and the gold price in my article Gold And US Dollar Hegemony.)

Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN’T, AND WHO’S RESPONSIBLE FOR IT  and  ALL HAIL THE FED!