How was it that the hard-money inflationists went wrong in the 1980s? Here we are in the sixth year of the "Reagan Eighties," and there's still no sign of the double-digit inflation, let alone runaway inflation, that the inflationist camp predicted. Nor have there been 3 percent interest rates or a deflationary collapse.
Has Reagan pulled it off, as economist Art Laffer has suggested? Practically all we hear nowadays is good economic news. Interest rates are down, inflation is low, the stock market is roaring, and no recession is in sight. We have witnessed a gradual shift from the "shortage" inflationary economy of the seventies to the "surplus" disinflationary economy of the eighties. And gold, the bellwether of bad news, is selling for under $400 an ounce in a year that many gold bugs were predicting it would reach $2,000!
Certainly, this wasn't the vision seen by the hard-money doomsayers, such as Howard Ruff (How to Prosper During the Coming Bad Years), Doug Casey (Crisis Investing), and Jerome Smith (The Coming Currency Collapse). Smith, for example, warned in late 1979, "The accelerating double-digit inflation rate of the 1970's (now around 15 percent) will lead to triple-digit inflation and destruction of the dollar in the 1980's." Doug Casey argued that "a hyperinflation is almost inevitable." And Howard Ruff suggested that after the 1981–82 recession, "you will see a runaway inflationary spiral.…Sooner or later, the American currency will collapse."
But something happened as the gold bugs headed for the hills. Ronald Reagan was elected president with a mandate to control runaway inflation. And Paul Volcker, chairman of the Federal Reserve, announced, "We are going to end inflation and keep the markets guessing." The hard-money camp wasn't listening, but a financial paradigm of disinflationary psychology was about to begin.
Admittedly, the Reagan Revolution was only a marginal shift in government policy, but it was enough to have a dramatic effect on the financial markets. And because it was only a marginal change, it caught many hard-money investment advisors off guard.
What caused the disinflationary environment of the 1980s, and why will it continue? There are plenty of reasons: The severe 1981–82 recession put major industries in a precarious financial condition from which they are still trying to recover; therefore the Fed's liberal money policy has not been sufficient to create a heated inflationary recovery. The banking industry was deregulated, and the resulting high interest rates discouraged consumption and increased savings, which in the long run creates economic growth. Oil price controls were lifted in 1981, eventually destroying the oil cartel monopoly. High interest rates in the United States created a strong dollar and encouraged a flood of cheap foreign imports. Marginal tax rates were reduced from 70 to 50 percent and longterm capital gains rates to 20 percent or less, which stimulated capital formation and economic growth (despite the increase in taxes for the average American). Finally, the worldwide psychological impact of Reagan's conservative image replaced the appearance of fiscal weakness and lack of leadership under Carter.
Not everyone in the investment business failed to see this new paradigm of the 1980s. For instance, Harry Browne was one of the first financial analysts to abandon gold, silver, and Swiss francs in his speculative portfolio in the early 1980s. In his book, Inflation-Proofing Your Investments, he and coauthor Terry Coxon suggested that "inflation's demise is inevitable." Browne's change of heart is even more remarkable considering that he was the first hard-money investment writer to popularize investing in precious metals and foreign currencies in the early 1970s with his books How to Profit from the Coming Devaluation and You Can Profit from a Monetary Crisis.
But what about the future? We're now in the sixth year of the Reagan Eighties. Is the disinflationary trend about to end? Will interest rates go even lower? Has consumer price inflation bottomed out? Is the bull market nearly over in blue-chip stocks, bonds, and utilities? My opinion is that the trend will continue for perhaps a few more years. Trends always last longer than people expect them to. I think you can expect the stock market to make further gains, even if inflation flares up a bit. I also recommend bonds, but only tax-free municipal bonds: the tax advantage makes them worth the risk.
Nevertheless, there are signs that the "inflationary hedges" are starting to come alive. Hard currencies, such as the Swiss franc, have made significant moves against the dollar, and a rise in the Swiss franc has been a precursor to rising gold prices. (However, I would not recommend silver because of its lackluster performance.) I would not be an aggressive buyer of gold at this time. Wait for a rise in price inflation for that to happen.
My views are best summarized by fellow financial writer Bert Dohmen-Ramirez, who stated recently, "Inflation will not be the problem of the 1980s. Therefore, commodities and precious metals prices will continue to lag behind other markets. This does not necessarily mean gold will plunge to $100, but it does mean that the opportunities in other investment areas, specifically the financial assets of stocks and bonds, will outperform the inflation hedges."
Mark Skousen, a nationally known investment writer, is adjunct professor of finance and economics at Rollins College in Florida.
This article originally appeared in print under the headline "Investments: Has Reagan Pulled It Off?".