$27,000 Gold

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by Jim Rickards, Daily Reckoning:

I’ve previously said that gold could reach $15,000 by 2026. Today, I’m updating that forecast.

My latest forecast is that gold may actually exceed $27,000.

I don’t say that to get attention or to shock people. It’s not a guess; it’s the result of rigorous analysis.

Of course, there’s no guarantee it’ll happen. But this forecast is based on the best available tools and models that have proved accurate in many other contexts.

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Here’s how I reached that price level forecast…

This analysis begins with a simple question: What’s the implied non-deflationary price of gold under a new gold standard?

No central banker in the world wants a gold standard. Why would they? Right now, they control the machinery of global currencies (also called fiat money).

They have no interest in a form of money they can’t control. It took about 60 years from 1914–1974 to drive gold out of the monetary system. No central banker wants to let it back in.

Still, what if they have no choice? What if confidence in command currencies collapses due to some combination of excessive money creation, competition from Bitcoin, extreme levels of dollar debt, a new financial crisis, war or natural disaster?

In that case, central bankers may return to gold not because they want to, but because they must in order to restore order to the global monetary system.

What’s the Proper Gold Price?

That scenario begs the question: What is the new dollar price of gold in a system in which dollars are freely exchangeable for gold at a fixed price?

If the dollar price is too high, investors will sell gold for dollars and spend freely. Central banks will have to increase the money supply to maintain equilibrium. That’s an inflationary result.

If the dollar price is too low, investors will line up to redeem dollars for gold and then hoard the gold. Central banks will have to reduce the money supply to maintain equilibrium. That reduces velocity and is deflationary.

Something like the latter case happened in the U.K. in 1925 when it returned to a gold standard at an unrealistically low price. The result was that the U.K. entered the Great Depression several years ahead of other developed economies.

Something like the former case happened in the U.S. in 1933, when FDR devalued the dollar against gold. Citizens weren’t allowed to own gold, so there was no mass redemption of gold. But other commodity prices rose sharply.

That was the point of the devaluation. Resulting inflation helped lift the U.S. out of deflation and gave the economy a boost from 1933–1936 in the midst of the Great Depression. (The Fed caused another severe recession in 1937–1938 with their customary incompetence.)

The policy goal obviously is to get the price “just right” by maintaining the proper equilibrium between gold and dollars. The U.S. is in an ideal position to do this by selling gold from U.S. Treasury reserves, about 8,100 metric tonnes (261.5 million troy ounces), or buying gold in the open market using freshly printed Fed money.

The goal would be to maintain the dollar price of gold in a narrow range around the fixed price.

What price is just right? This question is easy to answer, subject to a few assumptions.

$27,533 Gold

U.S. M1 money supply is $17.9 trillion. (I use M1, which is a good proxy for everyday money).

What is M1? This is the supply that is the most liquid and money that is the easiest to turn into cash.

It contains actual cash (bills and coins), bank reserves (what’s actually kept in the vaults) and demand deposits (money in your checking account that can be turned into cash easily).

One needs to make an assumption about the percentage of gold backing for the money supply needed to maintain confidence. I assume 40% coverage with gold. (This was the legal requirement for the Fed from 1913–1946. Later it was 25%, then zero today).

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