Best of the Week
Most Popular
1. The Trump Stock Market Trap May Be Triggered - Barry_M_Ferguson
2.Why are Central Banks Buying Gold and Dumping Dollars? - Richard_Mills
3.US China War - Thucydides Trap and gold - Richard_Mills
4.Gold Price Trend Forcast to End September 2019 - Nadeem_Walayat
5.Money Saving Kids Gardening Growing Giant Sunflowers Summer Fun - Anika_Walayat
6.US Dollar Breakdown Begins, Gold Price to Bolt Higher - Jim_Willie_CB
7.INTEL (INTC) Stock Investing to Profit From AI Machine Learning Boom - Nadeem_Walayat
8.Will Google AI Kill Us? Man vs Machine Intelligence - N_Walayat
9.US Prepares for Currency War with China - Richard_Mills
10.Gold Price Epochal Breakout Will Not Be Negated by a Correction - Clive Maund
Last 7 days
Gold & Silver Stand Strong amid Stock Volatility & Falling Rates - 16th Aug 19
Gold Mining Stocks Q2’19 Fundamentals - 16th Aug 19
Silver, Transports, and Dow Jones Index At Targets – What Direct Next? - 16th Aug 19
When the US Bond Market Bubble Blows Up! - 16th Aug 19
Dark days are closing in on Apple - 16th Aug 19
Precious Metals Gone Wild! Reaching Initial Targets – Now What’s Next - 16th Aug 19
US Government Is Beholden To The Fed; And Vice-Versa - 15th Aug 19
GBP vs USD Forex Pair Swings Into Focus Amid Brexit Chaos - 15th Aug 19
US Negative Interest Rates Go Mainstream - With Some Glaring Omissions - 15th Aug 19
GOLD BULL RUN TREND ANALYSIS - 15th Aug 19
US Stock Market Could Fall 12% to 25% - 15th Aug 19
A Level Exam Results School Live Reaction Shock 2019! - 15th Aug 19
It's Time to Get Serious about Silver - 15th Aug 19
The EagleFX Beginners Guide – Financial Markets - 15th Aug 19
Central Banks Move To Keep The Global Markets Party Rolling – Part III - 14th Aug 19
You Have to Buy Bonds Even When Interest Rates Are Low - 14th Aug 19
Gold Near Term Risk is Increasing - 14th Aug 19
Installment Loans vs Personal Bank Loans - 14th Aug 19
ROCHE - RHHBY Life Extension Pharma Stocks Investing - 14th Aug 19
Gold Bulls Must Love the Hong Kong Protests - 14th Aug 19
Gold, Markets and Invasive Species - 14th Aug 19
Cannabis Stocks With Millennial Appeal - 14th Aug 19
August 19 (Crazy Ivan) Stock Market Event Only A Few Days Away - 13th Aug 19
This is the real move in gold and silver… it’s going to be multiyear - 13th Aug 19
Global Central Banks Kick Can Down The Road Again - 13th Aug 19
US Dollar Finally the Achillles Heel - 13th Aug 19
Financial Success Formula Failure - 13th Aug 19
How to Test Your Car Alternator with a Multimeter - 13th Aug 19
London Under Attack! Victoria Embankment Gardens Statues and Monuments - 13th Aug 19
More Stock Market Weakness Ahead - 12th Aug 19
Global Central Banks Move To Keep The Party Rolling Onward - 12th Aug 19
All Eyes On Copper - 12th Aug 19
History of Yield Curve Inversions and Gold - 12th Aug 19
Precious Metals Soar on Falling Yields, Currency Turmoil - 12th Aug 19
Why GraphQL? The Benefits Explained - 12th Aug 19
Is the Stock Market Making a V-shaped Recovery? - 11th Aug 19
Precious Metals and Stocks VIX Are About To Pull A “Crazy Ivan” - 11th Aug 19
Social Media Civil War - 11th Aug 19
Gold and the Bond Yield Continuum - 11th Aug 19
Traders: Which Markets Should You Trade? - 11th Aug 19
US Corporate Debt Is at Risk of a Flash Crash - 10th Aug 19
EURODOLLAR futures above 2016 highs: FED to cut over 100 bps quickly - 10th Aug 19
Market’s flight-to-safety: Should You Buy Stocks Now? - 10th Aug 19
The Cold, Hard Math Tells Netflix Stock Could Crash 70% - 10th Aug 19
Our Custom Index Charts Suggest Stock Markets Are In For A Wild Ride - 9th Aug 19
Bitcoin Price Triggers Ahead - 9th Aug 19
Walmart Is Coming for Amazon - 9th Aug 19

Market Oracle FREE Newsletter

Top AI Stocks Investing to Profit from the Machine Intelligence Mega-trend

Fed Inflation Is Losing Its Intended Effect

Economics / Inflation Mar 28, 2019 - 05:24 PM GMT

By: Kelsey_Williams

Economics

The chart below shows the ratio of the gold price to the monetary base for the past one hundred years. The monetary base used in the chart is calculated by the St. Louis Federal Reserve and the following definition is from their website:

“The Adjusted Monetary Base is the sum of currency (including coin) in circulation outside Federal Reserve Banks and the U.S. Treasury, plus deposits held by depository institutions at Federal Reserve Banks. These data are adjusted for the effects of changes in statutory reserve requirements on the quantity of base money held by depositories.” (source)


                                           Gold to Monetary Base Ratio  (source)

The adjusted monetary base roughly matches the size of the Federal Reserve balance sheet. The chart below depicts the monthly percentage growth of the actual Federal Reserve balance sheet (U.S. Treasuries and Agency mortgage-backed securities) compared to the price of gold for the past fifteen years.

                                          Fed Balance Sheet vs Gold Price  (source)

When the Fed purchases debt securities (Treasuries, mortgage-backed securities, etc) in the open market, it credits the account of the seller (one of the Fed’s primary dealers) of the securities with an amount of money equal to the dollar amount of the debt securities purchased.

This new money created by the Fed, in exchange for the debt securities purchased, enters the system and  increases the monetary base.  The rise in the monetary base is reflected by the corresponding rise in the size of the Fed’s balance sheet.

The procedure is similar to that used by the Fed to monetize the original issuance of bonds, notes, and bills by the U.S. Treasury. From my article “How Government Causes Inflation“:

“The U.S. Treasury, in conjunction with the Federal Reserve, continually expands the supply of money and credit by issuing Treasury Bonds, Notes, and Bills.

The Federal Reserve receives the newly certified Treasury securities and then issues a credit to the U.S. Treasury reflecting the corresponding dollar amount.

The U.S. Treasury proceeds to spend the new funds which it has received from the Federal Reserve…”  

In both scenarios, the action by the Federal Reserve is exactly how inflation is created. The money used for the purchase of the securities in both scenarios was created by the Federal Reserve out of nothing.

The definition of inflation is simple and clear: INFLATION IS THE DEBASEMENT OF MONEY BY GOVERNMENT.

In the first chart, we see that the ratio of gold’s price to the monetary base is in a long-term decline that has lasted for over one hundred years. This seems somewhat contradictory when compared to what we know about gold.

Gold’s higher price over time is a reflection of the ongoing decline of the U.S. dollar. The decline (loss of purchasing power) in the value of the U.S. dollar is the result of the inflation created by the government and the Federal Reserve.

The increase in the monetary base is an indicator of the extent to which the government and the Fed have debased the money supply. The continual expansion of the supply of money and credit leads to the loss in purchasing power of the dollar.

Some gold analysts and investors believe that increases in the monetary base lead to similarly proportionate increases in gold’s price. But that is not what is happening.

Gold’s price for the past one hundred years does not correlate with the increase in the monetary base. The price of gold reflects the actual loss in purchasing power of the U.S. dollar.

A century ago, the price of gold was $20.67 per ounce. Today’s current price is sixty-four times greater at close to $1320.00 per ounce. This represents a decline in the U.S. dollar’s value of more than ninety-eight percent (98.5) over the past one hundred years.

It takes more than sixty times as many dollars today to buy what one could buy one hundred years ago. Another way to say the same thing is that today’s dollar is worth only one and one-half cents compared to 1919.

So why does not the U.S. dollar’s decline more closely align with the infinitely larger increase in the monetary base? After all, the thought of all that money sloshing around should take prices for gold much higher and the dollar much lower.

This is the logic that helped fuel the move in gold’s price between 2000-11. But even at gold’s all-time high of close to $1900.00 per ounce in August 2011, the ratio of gold’s price to the monetary base stood at just a bit more than 1.00, which is only twenty percent as high as its peak of close to 5.00 in 1980.

As shown on the second chart (Fed’s balance sheet versus gold prices), gold’s price surge after the Fed announced and began their QE efforts in 2008, seemed to confirm the expectations of investors that exponentially higher gold prices would follow. They did not.

One of the reasons for the apparent disconnect between gold’s price and the monetary base is due to the assumption that the price of gold will respond in mathematical proportion to the increases in the monetary base. It has not done so since gold’s high in 1980.

One of the reasons is that the assumption itself is not valid. Gold’s price represents the dollar’s actual change in value, not changes in the monetary base, or money supply.

It is true that continual increases in the monetary base can lead to an eventual loss of purchasing power of the dollar. But that loss is the sum of what has already transpired, and is also affected by people’s perception of the actual damage that has been done, as well as what might happen in the future. Sentiment and confidence – or lack of it – are factors, too.

The major part of money creation by the Federal Reserve is credit-based. In addition, the ongoing results of our fractional-reserve banking system complicate and confound anyone who thinks there is a practical way to predict the effects of the inflation that has been created.

The inflation (expansion of the supply of money and credit) produced by the Federal Reserve is deliberate and intentional. And ongoing.  The effects of that inflation are volatile and unpredictable.

But there is another thing these charts might be telling us.

Regardless of whether or not the Fed knows what they are doing, there is one thing in particular that explains why increases in the monetary base don’t result in corresponding increases in gold’s price.

Inflation created by the Fed is losing its intended effect. It’s resulting effects on the economy are similar to those of drug addiction. Over time, each subsequent fix yields less and less of the desired results.

With all of the intended impact that was expected as a result of quantitive easing, our country’s economy barely dodged a bullet – temporarily.

With all of the trillions of dollars of credit that were created ‘magically’ by the Fed in response to the events of 2007-08, why did things not get better more quickly and more obviously? And why did things not improve as much economically, rather than just from the spillover effects of higher prices for financial assets?

If we didn’t experience anything close to the runaway inflation that some expected and predicted ten years ago, why should we expect it now?

Further, why should we expect better results this time from a Federal Reserve that has pretty much lost control of a sinking ship?

By Kelsey Williams

http://www.kelseywilliamsgold.com

Kelsey Williams is a retired financial professional living in Southern Utah.  His website, Kelsey’s Gold Facts, contains self-authored articles written for the purpose of educating others about Gold within an historical context.

© 2019 Copyright Kelsey Williams - All Rights Reserved Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.


© 2005-2019 http://www.MarketOracle.co.uk - The Market Oracle is a FREE Daily Financial Markets Analysis & Forecasting online publication.


Post Comment

Only logged in users are allowed to post comments. Register/ Log in

6 Critical Money Making Rules