Gold- Irrational and Rational Exuberance

I will admit, I was concerned, technically speaking, that the price gold was in bubble of sorts in the recent past. Just look at the chart.



The ascension since 2000 dredges up ingrained memories of recent bubbles-  the internet bubble, the stock market bubble two or three times over, the housing bubble, etc. So gold must be a bubble, right?

Actually no, gold is most certainty not in a bubble, as the following illustrations show. The price of gold will generally rise and fall with inflation, coincidentally or otherwise. Market pundits can talk all they want about a low CPI reading implying little to no inflation, however, this misses the point. Rising or falling prices are a symptom and not actual inflation. Inflation is a monetary phenomenon defined as a general or outsized increase in the supply of money.

One of the broadest definitions of money is True Money Supply (TMS) or Austrian Money Supply. This definition of money was proposed by Murray Rothbard and measures money that is readily and immediately available for exchange in the economy. A more broad definition can be found here at the Mises Institute site. (Note- I do not use True Money Supply in my gold stock timing models due to a monthly calculation along with a significant lag in data.) The following chart shows TMS since the later 1950's



The rise in TMS is by definition showing an acceleration in inflation in recent years. The following chart shows how TMS has tracked against gold over the same time period.



The relationship is OK with OK defined as 87.5% correlation. However, the long-term chart is obfuscating two distinct trends. First, the following chart shows the same relationship since 2000 through the present.



This relationship is tight or correlation of 97%. Gold prices marched higher with the rise in money supply.  I am hard pressed to a see a bubble in gold prices despite the $1,600 per ounce rise over the 20 year, most recent time period. Compare this to the period between the late 1950's through 2000.



Now this is a bubble. The extraordinary rise in the price of gold in the 1970's occurred as Nixon closed the gold window, stopping the convertibility of dollars into gold on the international exchanges. Essentially making the dollar a fully fiat currency. Gold prices prices rose rapidly in response. Money supply growth, in contrast, accelerated in the same time period, but not nearly as mush as the rise in gold prices. Money supply took almost 20 years to catch up to the price of gold. Only after the supply of  money proverbially caught up in the early 2000's did the price of gold begin to rise anew.

It is my thesis that gold prices were in a bubble in the 1970's and spent much of the 1980's and 1990's floundering as the money supply caught up. Since 2000, however, gold prices have risen in tandem with an acceleration in supply of money. The $1,600 per rise in gold prices since 2000 rationally responds to an acceleration in the supply of money. Those pundits claiming that gold is a bubble are just plain wrong.