Gold’s reputation as an inflation hedge is vastly overdone, study says

Gold has soared in popularity in recent years as a hedge against inflation and weak currencies. Unfortunately for the gold bugs, a new study shows it is neither. In fact, the only time period for which gold has served as an adequate inflation hedge was the last 2,000 years. Any holding of less than that did not hedge inflation, say investment executive Claude B. Erb and Duke University finance professor Campbell R. Harvey.

Their paper, “The Golden Dilemma,” which is still being revised, found that gold ownership poses an even greater financial risk than inflation. They also discounted five additional arguments for holding gold. For instance, they found that gold does not provide a good hedge against currency fluctuations. Instead, holding another country’s currency to hedge against changes in one’s own currency is a much better hedge, they said. Another argument, that gold is a de facto world currency standard, does not hold water, they said: it is not any country’s official standard and has not been officially convertible into any country’s currency since the year 2000.

Most of the arguments for gold boil down to it being an inflation hedge. Erb and Harvey looked at inflation rate variations and gold price fluctuations over all 10-year periods since 1975. They found that returns on gold varied from a loss of 6 percent per year to a gain of 20 percent per year, while inflation ran at a low of 2.3 percent to a high of 7.3 percent per year. The finding “suggests that gold is not a very effective long-term inflation hedge when the long-term is defined as 10 years.”

In the long, long term, it may be a good inflation hedge: research done on the pay rate in gold for Roman soldiers under Emperor Augustus showed that the pay was almost exactly the same as the gold equivalent of the same pay for U.S. Army soldiers today. The only short-term inflationary scenario in which gold might be a good hedge would be hyper-inflation, they concluded. In that case, many types of hard goods would be able to be cashed in for more money once a currency stabilizes, they added.