Investors of precious metals and many other types of assets are understandably weary of the constant fluctuations of today’s economy. Many people worry about the problems associated with the stock market and fret whenever they see their assets decrease in value.
These investors are often worried about such shocks and turn to physical gold, silver, and other precious metals as a possible answer to hedge against asset volatility and inflation.
What is Inflation?
Simply put, inflation is a rise in the prices of nearly everything and the devaluing of currency. This concept is a natural economic phenomenon that occurs. In a perfect world, these price increases trigger a subsequent rise in work wages, which can help cover the rise in costs and keep people’s standard of living high.
However, as we all know, we don’t live in a perfect world and higher living costs often have a negative effect on a person’s purchasing power when wages do not keep up. Thanks to inflation, a person may not be able to buy the goods and services they once could.
In addition, inflation, or the similar but more damaging process of hyperinflation, can harm the profitability of bank accounts and bonds.
In order to combat the large quantities of dollars being pumped into the economy and the decreasing value of money, central banks often confront inflation by increasing interest rates. While increased interest rates may seem to boost savings, inflation continues to harm bond funds and savings accounts over a long period of time.
For example, let’s say that $1,000 in a savings account can buy a group of goods worth $800. If, in ten years, inflation drives the price of those same goods up to $1,500, and the savings account only pays 2% interest, a person will still be at a loss of $300 even with a sizable interest rate.
Both asset classes, as well as a wage that does not rise at the same rate of inflation, will be severely harmed by the process of inflation or hyperinflation.
Inflation and Gold - A Countercyclical Relationship
Unlike paper currency and stocks, physical precious metals like gold and silver are resistant to inflation because they derive their value differently than paper currency.
The value of the dollar is dependent upon the actions of the federal reserve, central banks, global factors, and the general health of the economy. Central banks print more currency when they believe the economy needs extra money in order to stimulate loans and growth. Circulating more paper currency means a considerable increase in the supply of dollars in the economy. Without a subsequent rise in demand that allows for people to demand more dollars in a more successful economy, the value of each individual dollar gradually decreases over time.
In contrast, gold has value because of its scarcity and many modern uses. Gold can be made into jewelry, commemorative coins, bars, etc. Gold is also intrinsically valuable because the metal is highly conductive, making it instrumental to countless industrial and electronic applications. The symbolic value of gold is another major reason for its wealth and continued success.
Since gold has been used as money and a sign of wealth for thousands of years, there is no reason to believe that its desirability will decrease anytime soon.
During times of economic instability or recession when the value of the dollar plummets, investors flock to stable, solid investments like physical gold and silver as a way to store their wealth. As a result, this demand boosts precious metal prices and helps give investors a hedge against inflation and the devaluing of the dollar.
This countercyclical relationship between inflation and gold is precisely why so many investors prefer to diversify their portfolio with precious metals.
Gold, Silver, and the Future
Stable supply in the form of limited mining operations, as well as stable demand in the form of continued demand for decoration and coins, means that the price of gold will remain stable in the foreseeable future.
The value of silver generally fluctuates more than gold due to the many industrial applications that tie the white metal to the fortunes of numerous industries. Platinum and palladium, other rare metals that are often invested in as a hedge against inflation, are similarly prone to fluctuation.
Inflation can cut into a portfolio just as much as any other form of risk. The declining value of the dollar can put pressure on stocks, as well as savings accounts and bond holdings. Gold, silver, and other precious metals can be a safe way of avoiding these pitfalls and keeping a wise investor immune from the forces of hyperinflation and inflation. When diversification is the goal for an investor, gold can always be a segment of their portfolio.
If you are considering buying precious metals, browse our gold bullion and silver bullion options, as well as our precious metal IRAs to protect your retirement savings.