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An employee places gold bars in the Kazakhstan National Bank vault in Almaty, Kazakhstan, September 30, 2016. An odd phenomenon has unfolded in recent weeks amid the COVID-19 pandemic: Both gold and stocks have surged higher.

Mariya Gordeyeva/Reuters

An odd phenomenon has unfolded in recent weeks: Both gold and stocks have surged higher.

Prices for bullion hit a seven-year high on Tuesday, while major stock indexes continued their dramatic rally from their steep losses of last month.

This combination suggests at least one group of investors will be disappointed. Gold investors, in particular, may want to check their assumptions.

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Buying precious metals is essentially a bet on economic pessimism. It’s a wager that the normal order of things will be disrupted and paper currency will lose its buying power while people flock to the supposed security of hard assets.

In contrast, a decision to load up on shares exudes economic optimism. It’s based on increasing confidence that things will turn out fine, both for companies and for the broader economy.

So why have both gold and stocks, the yin and yang of the investing world, been going up together? Most likely, the dual rally reflects the cascade of economic support measures being unleashed by governments and central banks.

If you’re a shareholder, the outpouring of economic aid offers trillions of dollars of reasons to think the stock market is not going to stay down for long and may instead stage a healthy rebound once lockdowns are in the past.

But if you’re a typical gold aficionado, the gigantic size of the stimulus fuels concern about currency debasement down the road. After all, the epic amounts being deployed by governments and central banks have to go somewhere. All that spending will inevitably result in a jump in inflation that will gut the value of paper currencies – or so gold bugs assert.

Bullion is “the ultimate hedge,” according to John Ing, president of investment dealer Maison Placements Canada and a long time gold advocate. Requiring government and central banks to bail out “everything and everybody” will eventually result in “rising inflation, possibly hyperinflation,” he wrote in a note on Monday.

Maybe so. But there are a few problems with the gold lobby’s more lurid theories.

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One is that gold bugs argued the same line of reasoning during and after the financial crisis, and were dead wrong.

Inflation did not surge after governments ran up massive deficits to fight the downturn in 2008 and 2009. It stayed docile even when central banks took monetary policy in unsettling new directions with negative interest rates and quantitative easing programs.

Instead of rampaging out of control, inflation remained stubbornly below expectations across the developed world over the past decade. You can debate why, but history is clear: There is no simple relationship between inflation and deficit spending, or between inflation and aggressive monetary policy.

At the moment, most economists see little risk that inflation will come roaring back any time soon.

A report on Tuesday from the International Monetary Fund warned the current economic contraction will be the worst since the 1930s. Soaring unemployment and falling incomes will tend to pull down prices, not push them up. According to the IMF’s projections, inflation should tumble close to zero in advanced economies this year and remain low in 2021.

So long as the outlook for inflation remains so restrained, the case for gold has to rest on a couple of less sturdy foundations.

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One is the short-term disruptions to supply caused by the virus-related lockdowns of mines and refiners. However, those disruptions are likely to ease over the next few months.

A more durable support is the effect of ultralow interest rates on investors. Low rates make bonds less attractive and so increase the relative attractiveness of an asset such as gold, which doesn’t offer payouts of any kind.

In a world where no asset offers much in the way of guaranteed payout, investors may become more willing to hold gold as a hedge, especially if the U.S. dollar shows signs of weakening and share prices disappoint.

Citigroup analysts believe the metal could rise to US$2,000 an ounce over the next couple of years, from its current level around US$1,750.

Their view is far from universal, however. Royal Bank of Canada analysts see the metal averaging US$1,700 an ounce in 2021, while the team at Capital Economics projects prices around US$1,600 an ounce.

Investors should be wary. Gold is enjoying a rally, but the pervasive lack of inflation pressure at the moment undermines the primary reason for holding it. Until that changes, caution is in order.

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