Gold pays no interest. It’s just a lump of yellow metal. If the bank is paying you 7% interest on your cash, chances are you’d rather have your money in the bank. It makes sense in this case, thanks to compound interest—in 10 years you’d have doubled your money. Hold gold for 10 years and you still have the same lump of yellow metal.
Now consider this… Imagine the bank was paying zero percent interest… then which is more attractive, paper dollars or gold? In this case, a rational investor would choose gold.
Buy gold: limited supply
Gold is beautiful, rare, and easy to exchange, no matter where you are in the world. Paper money, on the other hand, is just paper. Governments can print as much of it as they like.
Governments can print money to pay off their debts. But they can’t create gold. The supply of paper money can be infinite. But the supply of gold is extremely limited (they say that the entire gold production in the history of the world could fit on the basketball court at Madison Square Garden). And it’s difficult to extract. Bill Gates could buy all the gold mined in the world in a year from his checkbook.
As a rule, money flows where it’s treated best. If interest rates are high, then gold performs poorly relative to money. If interest rates are low, money flows toward gold.When interest rates are zero, gold becomes a no-brainer.
Buy gold: real interest rates
“But wait,” you say. “Interest rates soared in the 70s… how did gold manage to run from $100 to $800 during that time?” Yes, interest rates soared in the 70s… but let’s look at the “real deal” you get for your money. Let’s consider the effects of inflation…
The “nominal” interest rates you might see advertised at your bank or in the newspaper don’t give the full picture. Here’s why: if the prices of the items you buy on a regular basis, like food, gas and accommodations, are rising at 5% and – at the same time – the bank is paying you 5% interest on your savings, the bank is not compensating you for holding your wealth in cash instead of gold.
In this case, economists would say your “real” interest rate—the interest rate AFTER inflation—is actually zero. Back in 1979, short-term interest rates were 8%, but inflation was 13%, so “real” interest rates were negative 5% a year.
Is it any wonder the people rushed into gold and away from paper money?
By 1981, Fed Chairman Paul Volker had driven short-term interest rates to 15% and inflation to 6%, so the real interest rate was almost 10%.
By 1982, gold was back below $400.
Buy gold: why you should shift your money from cash
Today, we see nominal interest rates advertised at around 5%. At the same time, inflation is around 5%… and Federal Reserve chairman Ben Bernanke says he’s almost done raising interest rates… Real interest rates are close to negative… and the smart money is shifting from cash and into gold.
You should own some gold, even if it is purely to lower some of the risk in your investment portfolio, as gold and stocks often move in opposite directions. If you’re not there right now, it’s time make the move.
Good investing,
By Steve Sjuggerud of The Daily Wealth. For more from Steve and others, go to www.dailywealth.com/