were: (1) inflation and economic uncertainty, and (2) world wide political instability. Important to the gold and silver price cycle of 1972-1975 was the tightness of their respective supply and demand situations. During the 1969-1972 period there was a continual drawdown in investors' gold stocks (see figure 10). Likewise, during 1971-1974, silver stocks were also being depleted (see figure 11). During this cycle, silver prices rose relatively more than gold's. The record prices of gold and silver during 1972-1975 had differing impacts on their respective industrial demand. Industrial use of gold in 1974 dropped over 40 percent from 1972 levels. Industrial use of silver in 1974 dropped only 20 percent from 1972 levels. The supply and demand situations for gold and silver were different at the commencement of the most recent price cycle. Since 1972 the total supply of gold has outpaced the total use, thus increasing investors' stocks. In 1975 and 1976, investors' stocks of silver increased marginally, but since that time total use has outpaced total supply. During this last price cycle silvers' supply and demand balance was significantly tighter than that for gold. The prices of precious metals tend to be a barometer of economic and political stability. Figures 12 and 13 show the relationship between inflation, major events, and the highs and lows for gold and silver prices, respectively. The increase in the prices of gold and silver generally come before upturns in the inflationary cycle. Investors demand more gold and silver (real assets) in anticipation of the eroding purchasing power of money. Consequently the high prices of gold and silver are experienced around times of high inflationary pressure. The rate of inflation itself is an economic variable which government actions influence. Deficit spending is financed through taxes. Increase in the monetary base (government printing more money) is a politically less sensitive form of taxation at the disposal of the government. Historically, large deficits have been accompanied by higher rates of monetary growth. This, in turn, has preceded the rise in the inflation rate. (See figure 14.) The deficit during 1971 and 1972 led to an increasing rate of growth in the money supply around the same period. Less than two years later, the rate of inflation was the highest in twenty years. Similarly, the large deficits of 1975 through 1978 coincided with an increased money supply. As has been the case historically, a higher price level (inflation) was the result. During the first quarter of 1980, inflation was in excess of 18 percent on an annual basis. Economic theory states that if the money supply increases more than production, general price levels will increase at a faster rate. (Increased government spending, however, should not be confused with increased productivity). Conclusion So long as people buy precious metals as a store of value in response to inflation and economic and political uncertainty, the highly volatile price cycles of gold and silver will continue. Silver will vary in a wider percentage band due to the influence of its significant, inelastic industrial demand. Only the stabilizing of inflation and other economic and political uncertainties and the substitution of other materials to satisfy industrial demand will change these current economic realities.13/ [Figures 10-14 follow.] 13/ See Statement of Hon. Paul A. Volcker to the Senate Committee on Agriculture, Nutrition and Forestry, May 1, 1980 (last paragraph). See also Report of the Commodity Futures Trading Commission on Recent Developments in the Silver Putures Markets to the Senate Committee on Agriculture, Nutrition and Forestry (Comm. Print, pages 32-46). |