Surging inflation: gold is still the best bet

When does a blip become a trend?

The cost of living in this country has just hit a 17-month high. Consumer price index (CPI) inflation is up 3.7% in the year to April – clearly well above the Bank of England’s 2% target.

Even worse, the old-style retail prices index (RPI), which includes housing costs, jumped up 5.3% year-on-year. And the ‘RPIX’, which is RPI less mortgage interest payments, was up 5.4%. Before we switched to CPI, the BoE used to target this measure, with a goal of 2.5%. So regardless of how you look at it, the inflation picture isn’t pretty.

The man in charge of keeping our inflation rate under control is Bank of England governor Mervyn King. But he’s been banging on for ages that we shouldn’t worry, and that the CPI spike is only “temporary”.

And in the letter he’s just had to write to the new occupant of No.11 Downing Street, to explain why CPI is so far away from its target, there’s more of the same. It’s all down to higher-than-expected oil and petrol prices, VAT going back up and the pound plunging, which makes our imports more costly.

Looking to the future, says King, all the spare capacity in the economy – unused resources that could be cranked into action if demand picks up – will bring CPI down again. So there are no interest-rate rises on the agenda.

But hang on. The letter is stuffed full with more fudge than a Cornish creamery.

“The pace and the extent of the prospective fall in inflation are highly uncertain”, it says. Inflation should fall back to target within a year only if there are no “further price level surprises”. Indeed, “there’s a risk inflation may be raised by further commodity price increases or other price level surprises”.

In other words, King is admitting he doesn’t really have a clue where petrol prices and the pound are heading next. Or VAT for that matter, which looks like being hiked to raise more money for the government.

Prices have already risen much higher than Mr King was forecasting. If people start to get back into an inflationary mindset, cost of living increases could really get out of hand. What’s more – as we’ve pointed out before – inflation is the friend of the debtor, who can repay his loans out of devalued cash. And there’s no bigger borrower in Britain than the government. So a bit more inflation would, arguably, be quite handy for it.

Trouble is, if you’re seeing your savings whittled away, it’s much less fun. So how do you guard against a further CPI spurt? Ten-year gilts, yielding just over 3.7%, are now paying a zero return in real (i.e. inflation-adjusted) terms, so that’s no good.

Index-linked gilts are supposed to provide inflation protection. But they’re complex and can be messy, as Tim Bennett has explained.

But there’s still one way. Although the sterling price of gold – the classic inflation hedge – has soared, as Dominic Frisby explained today, it could still have a lot more long-term mileage. Yes, unlike a bank account it can certainly go down as well as up. But if you’re looking to invest your money, rather than saving it up for a deposit on a house, or an emergency fund (in which case you just have to find the best savings account you can and put up with it), then buying gold still looks a good bet to us.