Inflation: Time-Lag to Gold Price Is 14 Months

Tuesday, November 29, 2005

With gold briefly surpassing the $500/oz mark investors and consumers are told a scary lesson. Run for cover as inflation is about to go up over the next year and after that. Gold is a very reliable indicator for future inflation, a study from McClellan Financial Publications concludes.
According to their calculations inflation lags the development of the gold price to the tune of 14 months and the two are strongly correlated.
So even if gold is to correct its recent stellar rise that has propelled it again into the #1 rank of all investments since 1973 expect inflation to pick up in 2006 and 2007.

Gold as Indicator for future inflation

GRAPH: Gold's price pattern has been shifted forward 14 months on the chart to show how its leading indication reveals what lied ahead in terms of inflation. Chart courtesy of McClellan Financial Publications.
Gold and inflation have only diverged in the event of external disturbances, like wars, which drove inflation higher for short-lived periods.
Including such exogenous factors the correlation coefficient of gold and inflation still comes in at a very high 0.69 on a scale from -1 to +1.
This means one can be quite confident in the relation between the universally accepted currency of the last 6000 years and the beast of modern fiat-money times, inflation.
Author Sherman McClellan goes so far as to claim that gold would have to be pushed down to $340/oz if headline inflation, now running at an annual rate of 4.7%, shall come down to 2% again. "That is going to take a lot more than a Fed Funds rate of 4% is going to do," McClellan writes. In other words, forget it.
Gold also acts as a safe haven when real interest rates are close to or below zero.

Gold and real interest rates

GRAPH: The gold price always took off when real interest rates were close to or below zero, as is the case now. Chart courtesy of McClellan Financial Publications.
Summing it all up the outlook for gold is rosier than ever. McClellan says that the Fed would have to move far faster on the Fed Funds rate, an event that is not very likely.
Download the full report (pdf) here.


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