Is Gold the next Bubble?

My previous post was based around the work of Burnside et al (2011), who modeled a housing market under the assumption that a bubble is a rise in prices not justified by a change in the underlying fundamentals. In the case of the housing market, it may be reasonable to assume that no one can tell when the underlying fundamentals of its value have changed. But in other markets, these underlying fundamentals can be very obvious: take, for example, the market for gold. The following graph shows the price of gold in USD since 1999:

Source: Moneyweek.com

By Burnside's definition, this looks like a clear bubble. The underlying usefulness of gold has presumably not changed in the past ten years, yet its price has increased by over 500%. Much of the demand for gold comes from investors rather than consumers: buyers do not want gold for its own usefulness, but because they expect to be able to sell it to someone else later for a higher price. This seems like a textbook example of a speculative bubble.

So is this the case?  Tim Harford suggests that if there is a gold bubble, it has been inflating for much longer than the past ten years. Indeed, its value has outstripped its usefulness for over 4,000 years. Its value is derived solely from the near-universal belief in its value. Unlike truly valuable commodities, such as food or electricity, if everyone in the world decided that gold was worthless, it would become worthless. 

It might, however, be more accurate to view gold as an illustration of an exception to Burnside et al's definition of a bubble. The price of a good might temporarily outstrip its true use-value as a result of excessive optimism on the part of investors, in which case its price can be expected to collapse at a later date. However, if the belief in the value of something is widespread and persistent enough, that commodity may become a widely accepted medium of exchange: a money commodity. If this is the case, the price of the commodity might remain above its 'true' value for milennia without crashing.

References

Burnside, Craig, Martin Eichenbaum and Sergio Rebelo, 'Understanding Booms and Busts in Housing Markets', National Bureau of Economic Research, Working paper no. 16734 (2011).

Harford, Tim, 'The Bundesbank Takes Back its Doughnuts' (2013), retrieved from: http://timharford.com/2013/01/the-bundesbank-takes-back-its-doughnuts/