The surprise move to quantitative easing by the Federal Reserve yesterday caught the market unaware. The $300 billion bond purchase sent gold prices jumping $50 an ounce and must have given a few gold bears a nasty awakening.

Gold prices will surely now go higher as the market digests what the start of printing dollars means for the USA. The Bank of England started printing money a week earlier and its success in lowering yields perhaps encouraged the Fed to take this step into the abyss.

Inflation objective?

For an inflationary abyss is what opens up if these central banks have got their calculations wrong. Or is it that the central banks now think their banking systems are in such bad shape that a good dose of inflation is the only thing that will sort them out?

The Fed sent bond yields tumbling 0.5 per cent just as the Old Lady of Threadneedle Street managed to accomplish. However, the US dollar also took a three per cent tumble, following the pound in yet another competitive global devaluation.

Bond holders gained capital value as yields fell but that gain was immediately eroded by the currency fall. Is this a pattern that we are going to see repeated with more and more printing of money via quantitative easing?

There really is no such thing as a free lunch in economics. Countries with massive budget deficits should be cutting expenditure, and not borrowing more.

Buying up your own debt is no more useful than swapping one credit card for another. It is nothing close to sound finance. It is the last act of desperation when there is nothing else left to do.

Inflation and debt

You do not need to be highly qualified in economics to see where this is leading. You flood an indebted banking system with money, you get inflation and the relative value of fixed debt goes down.

But this is not a magic bullet. You get inflation back in the system, and anybody on a fixed income becomes poorer as prices rise. If you are an investor, your dollars become worth less, and eventually worthless.

That is why the gold price jumped yesterday. And it is going to go a lot higher as investors reach for a safe haven. Beware being left sat on cash when you should be owning gold and silver as a hedge against desperate actions by the central banks.

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