[This blog post is an excerpt from a recent TSI commentary]

Moore’s Law, which is based on a comment by Intel co-founder Gordon Moore in the 1960s, states that the number of transistors on a chip doubles every two years. In effect, it states that the computer industry’s efficiency doubles every two years. Moore’s Law worked well in the semiconductor/computer industry for a few decades, but that was due to a set of circumstances that existed in that particular industry over a certain time rather than the general applicability of the ‘law’. The ‘law’ no longer works in the computer industry and can’t be applied in a useful way to technology in general. Wright’s Law, on the other hand, is more useful when it comes to explaining and predicting the effects of technology-driven improvements in efficiency. Wright’s Law pre-dates Moore’s Law by about 30 years (it was postulated by Theodore Wright in 1936) and states that for every cumulative doubling of units produced, costs will fall by a constant percentage.

The reason that Wright’s Law works better than Moore’s Law (Wright’s Law can be applied to all industries and has even been more accurate than Moore’s Law in the computer industry) is that it focuses on cost as a function of units produced rather than time. The beauty of Wright’s Law is that once an industry has been around for long enough to determine the relationship between the increase in units produced and the reduction in unit cost, accurate predictions can be made regarding what’s likely to happen over years and even decades into the future. The limitation is that a certain amount of history is required to establish the percentage reduction in cost that accompanies a certain increase in the production rate.

It should be possible to apply Wright’s Law to any growing industry. Of particular relevance to this discussion it should apply in the Electric Vehicle (EV) industry over the next several years, whereas it should no longer apply in the Internal Combustion Engine (ICE) vehicle industry. It probably won’t apply to ICE vehicle manufacturing in the future because the production rate of such vehicles appears to have peaked on a long-term basis. As evidence we cite the following chart of light vehicle sales in the US since the mid-1970s. This chart shows that the 9-month moving average of annualised light vehicle sales in the US peaked in 2005 and is lower today than it was in the mid-1980s.

Chart Source: advisorperspectives.com

Total light vehicle sales have peaked in many parts of the world, but EV sales are experiencing exponential growth. This implies that vehicle components that are specific to EVs, most notably batteries and electric motors, are going to get cheaper and cheaper. This will not only improve the economics of EVs in absolute terms, it will improve the economics of EVs relative to ICE vehicles.

Taking into account the life-of-vehicle cost, that is, the cost to buy plus the on-going costs to run and maintain, EVs already are competitive with ICE vehicles without the requirement for government subsidies, but within the next three years the economic benefits of choosing an EV over an ICE vehicle will become irresistible to most new car buyers in developed countries. This will happen with or without government incentives to buy EVs. It will happen because of Wright’s Law.

An implication is that current car and truck manufacturers that can’t figure out how to make EVs that consumers want to buy will disappear. Another implication will be a large increase in demand for the commodities that go into vehicle components that are specific to EVs. The commodities that spring to mind are the rare earth metals Neodymium and Praseodymium (NdPr), which are used in electric motors, and lithium, nickel and manganese, which are used in EV batteries.

Keep in mind, though, that the size of the EV market is limited by an overall light vehicle market that probably will be smaller in 15 years than it is today, because the combination of self-driving and ride-sharing will bring the age of personal car ownership to an end.

Wright’s Law naturally results in huge benefits for the average person, but central bankers think that they have to fight it. Even though prices naturally fall over time due to economic progress, central bankers believe that prices should rise, not fall. Therefore, they deliberately try to counteract the efficiency improvements that people in the marketplace are constantly trying to create. They do so by pumping new money into the economy or by encouraging commercial banks to lend new money into existence.

In general, the fast-growing industries that are focused on technological advancement are still able to reduce prices in the face of the central bank’s price-distorting efforts. This leads to the price rises being concentrated in industries where, due to government regulations or the nature of the industry, there is less scope for technology to drive prices downward. For example, Amazon.com was able to drive prices downward in the face of the Fed’s “inflationary” efforts, but most of its brick-and-mortar competitors were not. Other examples are the education and healthcare industries, where regulations and direct government ownership get in the way.

It’s hard to overstate the stupidity of a central bank strategy that is designed to make the economy less efficient. Currently we have the absurd situation in which the faster the rate of technological progress, the more that central banks do to create “inflation” and thus offset the benefits of this progress. They aren’t doing this because they are malicious, they are doing it because they are trapped within an ideological framework that prevents them from understanding the way the world works.

I discussed the relationship between gold and inflation expectations a couple of times in blog posts last year (HERE and HERE). Contrary to popular opinion, gold tends to perform relatively poorly when inflation expectations are rising and relatively well when inflation expectations are falling.

The relationship is illustrated by the chart displayed below. The chart shows that over the past seven years there has been a strong positive correlation between RINF, an ETF designed to move in the same direction as the expected CPI, and the commodity/gold ratio (the S&P Spot Commodity Index divided by the US$ gold price). In other words, the chart shows that a broad basket of commodities outperformed gold during periods when inflation expectations were rising and underperformed gold during periods when inflation expectations were falling.

This year, inflation expectations crashed during February-March in reaction to the draconian economic lockdowns imposed by governments and then recovered after central banks and governments tried to mitigate the lockdown-related devastation by showering the populace with money. This resulted in a crash in the commodity/gold ratio early in the year followed by a rebound in commodity prices relative to gold beginning in April.

The above chart shows that the rebound in the commodity/gold ratio from its April-2020 low was much weaker than the rebound in inflation expectations. This happened because there are forces in addition to inflation expectations that act on the commodity/gold ratio and some of these forces have continued to favour gold over commodities. Of particular relevance, the rise in inflation expectations has been less about optimism that another monetary-inflation-fuelled boom is being set in motion than about concerns that a) the official currency is being systematically destroyed and b) the private sector’s ability to produce has been curtailed on a semi-permanent basis.

Inflation expectations probably will continue to trend upward over the coming 12 months and this should lead to additional strength in industrial commodities relative to gold, but less strength than implied by the relationship depicted above. It probably will happen this way because more and more economic activity will be associated with government spending, which does nothing for long-term progress.

Eventually the relationship depicted above will be turned on its head due to plummeting confidence in both the government and the central bank, that is, at some point rising inflation expectations will start being associated with an increase in the perceived value of gold relative to commodities and pretty much everything else.