Gold, again

Question: If very high inflation is in our future due to the Great Bailout, would your same advice re gold in a IRA still hold? Ned, Melbourne FL

Answer: Gold will do well if the massive government bailout does lead to a high and rising increase in the overall price level or inflation rate. Gold is a traditional hedge against the debasing of the currency, and gold did spectacularly well during the Great Inflation of the 1970s. The price of gold soared in recent years along with skyrocketing prices for food and energy.

When investors get truly nervous about the U.S. economy many seek refuge in gold. Considering how scared so many people are today even after the Treasury announced the semi-nationalization of 9 major U.S. banks it's no surprise that gold is trading at $842 an ounce. That's down from a peak of more than $900 an ounce, but still high.

By the way, gold's previous peak was $850 in 1980. Adjusted for inflation, gold would have to reach over $2224 an ounce to best that price.

That said, I don't think we're going to have another Great Depression because the actions being taken by the monetary and fiscal authorities will succeed at restoring trust in the credit markets. I do believe the recession in the U.S. will be long and severe. I am more worried about the prospect of deflation or a decline in the overall price level than I am over inflation. Asset prices are sharply lower. The banking system is damaged. The competition for markets and profits will heat up in the global economy with growth slowing worldwide. Taken altogether, it seems like a recipe for falling prices. Even the International Monetary Fund has also weighed in on the topic, arguing that deflation is a real risk in a decelerating global economy.

But you could be right. Forecasting is a hazardous business. I still consider putting money into commodities a speculation and not an investment, especially in a retirement savings account. It's a gamble that you'll be able to sell the metal at a higher price in the future.

The traditional European idea of keeping a small percentage of an overall portfolio in gold as a hedge against political and economic crisis doesn't bother me. But I still prefer investing my "insurance money" in Treasury Inflation Protected Securities or TIPS. It's a default free security. You'll earn a rate of interest. You'll preserve the value of your capital with the inflation adjustment (based on changes in the CPI.) TIPS are also designed to act as a hedge against deflation, too. (While some commentators believe the Consumer Price Index is manipulated by the government I've never found the argument particularly convincing.)

The bottom line: I'm not a speculator with my retirement money. I prefer investing in my IRA. If you want to bet on the future price of gold I'd recommend doing it outside a retirement account.

About the author

Chris Farrell is the economics editor of Marketplace Money.

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