MarketWatch First Take

Aug. 12, 2010, 5:04 p.m. EDT

By MarketWatch

NEW YORK (MarketWatch) -- With deflation looking to be on the way, it's interesting to see gold rallying 1.5%, just as global stocks and some commodities such as crude oil sink on the realization that U.S. growth, and likely global growth as well, really is slowing.

Gold is known as a hedge against inflation, but, given the context, it sounds like Thursday's action reflected its broader classic safe-haven play -- just another symptom of the dominant risk-on, risk-off trading theme of the past two years.

Gold rallied nearly 80% since the early days of the financial crisis in late 2008 through June of this year, when it reached a record-high settlement of $1,258.30 an ounce.

As it rallied, it drew on a whole spectrum of factors.

At times, that stemmed from gold's safe-haven status as other asset classes tumbled. But it should be remembered that gold plunged along with everything else in the wake of Lehman Brothers' collapse in September 2008.

As stocks and other markets began to rally in March 2009, gold's gains came while the dollar slumped. The U.S. currency was the main safe-haven play during the financial crisis, and as it fell back gold rose along with other dollar-denominated commodities, and stocks, the latter having also rallied 70% from March through the end of the year.

But as the European crisis roiled markets earlier this year, gold seems to have taken on a greater role as a hedge against volatile currencies, rallying along with the dollar from late April through June as the euro slumped and stocks tumbled.

As stocks recovered through earnings season in July, the dollar again gave back its safe-haven gains and gold slumped along with the greenback, moving down 8% from its June record through the end of July.

Which brings us back to those increasing signs of a slowing U.S. economy and expectations that the Federal Reserve will unleash a fresh round of massive quantitative-easing measures that should, in theory, pressure the dollar.

That's been a big theme for gold bugs: As central banks the world over print money, uncertainty over currencies rise, as does demand for gold's safe haven.

Gold's gain Thursday did also come on the heels of Goldman Sachs's saying the precious metal could rise to its target record of $1,300 an ounce within six months, thanks to low interest rates and the likelihood of further easing from the Fed.

The premise here, however, is based on a different scenario: that a Fed intervention, perhaps in concert with other central banks, would be convincing enough that the economic outlook turns rosy again, lifting stocks and inflation expectations, while long-term bonds and the dollar fall.

That's a very long shot.

Most serious economists believe the real risk facing the U.S. and other Western economies is deflation, not inflation. Unless the Fed, joined by the government, really steps up to the plate to stimulate the economy, no matter which way you cut it, deflation can't be too good for gold either, especially not compared with bonds.

Perhaps gold's best bet going forward is yet another leg of the financial and economic crisis.

Slowing growth and deflationary pressures exacerbate deficits and other debt burdens, as was visible in Ireland Thursday, and will likely again be evident among other countries and financial institutions in coming months.

It will be a mere, if classic, safe-haven bet, but no doubt gold bugs of all stripes will continue to present it in many other ways.

-- Nick Godt