A gold tsunami is at our doorstep. It’s not about a bubble, trade or even a wall of fear. It might be partly some of each of those things, but that’s because it’s much, much bigger than each of those things. And I’m no gold bug – nor do I keep a cabin hideaway full of beef jerky waiting ready for the apocalypse. In fact, I just traded out of my last gold holdings because the volatility doesn’t suit me as an investor.
The gold story is about sheer numbers — mathematical balances between holders of gold. Unlike fiat currencies, there is an inherent limitation to the speculation that can occur on gold. Even the SPDR’s StreetTracks GoldShares ETF (GLD) is pegged to the physical amount of gold in existence (one unit = one-tenth of an ounce).
When Nixon removed the gold standard back in 1971, it was like taking the belt off a fat man at a pie-eating contest – the monetary waistline became elastic and had much more room to expand. More dollars could be printed and more wealth consumed with less immediate consequences since the new purely paper dollars no longer represented “promises to pay” anything at all. And since then, there has been no inherent limit at all to the number of paper dollars that could be issued as U.S. currency.
The New Gold Standard? Gold Will Help Replace the USD as Reserve Currency
In place of gold, the US dollar effectively became the surrogate “backing” for all other currencies worldwide – which means that no currency anywhere now has any real peg to it – the waistline is as elastic as it needs to be, and it looks like the fat man’s not going to stop eating until he throws up or someone stops feeding him.
Six Reasons Why The Price Of Gold Is Rising
Massive Waves of Upward Pressure on Gold
The USD/Gold Price Relationship
We all know there’s a fair bit of “fear-flocking” to gold due to the massive money supply expansion and ghastly economic fundamentals of United States Inc. But this is just a little tributary contributing to the greater flood. Since gold is priced in US dollars, every downward movement in USD is ipso facto an upward movement in the gold price for no other reason at all. This may seem obvious but it is often overlooked. On top of any other reasons gold might be rising on its own terms, any direct or indirect downward pressure on the dollar is also going to send gold higher.
Gold Now Used As Money at the Chicago Mercantile Exchange
Central Banks Are Net Buyers
Central banks sold a lot of gold back in the 80’s, but recently have become net buyers of gold. This was seen most dramatically this year when just this month India purchased 200 tonnes of gold from the IMF and it shot the price per ounce up $25 in one day and surprised the financial world in doing so, leading to speculation about subsequent purchases from other central banks. Some analysts are speculating that the trend is most prevalent amongst the emerging markets and the East in particular as suspicion about the fiat currencies of the West grows worldwide. It’s not just China hoarding gold – Sri Lanka is apparently poised to make a big purchase, too. Charles Oliver of Sprott Asset Management notes that Russia is also planning to diversify out of the USD and into more Canadian dollars.
Supracurrency Coin Proposed As New World Reserve Currency (July 12, 2009)
World Bank: Don’t Take USD Reserve Status for Granted (Sept. 27, 2009)
Sucre, New Latin American Currency To Replace USD for Trade (Oct. 19, 2009)
The Social Security and Medicare Tsunami
As if the trillion-dollar stimulus packages (including cash for clunkers and the home-buyer credits programs) released in 2008-2009 weren’t bad enough, don’t forget what an awful financial position the United States was already in before the Lehman crash. Mountains of debt sat quietly like dust swept under carpets while the rest of the house appeared neat and tidy. Analysts were already warning, back in 2001, of sour times to come ahead with the huge social security and demographic problems that will start hitting come 2012-2017. Simply put, analysts outside the U.S. don’t expect the U.S. will be able to handle any of it. There will be more massive taxes or the boat will start leaking, or both.
Other factors could be alluded to here as well – such as the next wave of foreclosures due to options-ARMs (adjustable rate mortgages) that will hit full-force in 2011 throughout the United States – and it’s a problem just as widespread as the sub-prime problem was, yet it seems to be getting barely any attention within the United States at the moment.
Don’t Pooh-Pooh the Gold Price
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For these reasons and others, gold at $2000/ounce isn’t that unlikely. Charles Oliver from Sprott Asset Management actually calls for this level to be breached within the next two years. Although that is a wide window, other analysts offer more precise but equally progressive targets, such as $1400 over the next two months by Larry Berman.
Recall that adjusted for inflation, gold’s all-time high was about $2300 back in 1980. There is clearly at least that much theoretical room for gold to climb.
I’m not saying you should or shouldn’t buy gold. But do know that it is worth paying attention to developments in gold and the story they tell about other economic trends worldwide that will affect you more or less directly. You may not think the gold price has any consequence for you, but when you understand that it is really an indicator of other factors, you can start reading between the lines to see what’s going on.
Investing in Bullion
Top Gold and Silver Dealers – Invest Directly In Bars and Coins
GoldMoney: Another Way To Buy Gold Online
Buy Gold Online Through Scotiabank’s eStore
10 Secret Places For Storing Your Gold
Investing in Gold Stocks
Top 20 List of the Largest Canadian Gold Stocks
Gold Dividends: 11 Mining Stocks That Pay Them
Is $1000/oz. A Good Time To Buy? (includes list of the common gold ETFs)
Should I Invest in Gold Bullion, Gold Stocks or Gold ETFs?
World’s Largest Gold Mining Stocks
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Gold at or above $2000/oz is definitely a good possibility. I’d bet on that versus gold taking a hit, and falling back to $500/oz within the next year.
Only thing that scares me, though, is the severity of the downside once the bubble pops… if it even exists! ; )
Yes, if even Sri Lanka’s central bank is getting in on greater gold purchasing, the likelihood of gold slumping back even down to $800 again seems really unlikely. Even if the USD rallied again due to stock market moves – the fundamentals will prevent many from jumping out of gold too soon, I believe.
If you’re in/around Vancouver – you can check out http://icanhazgoldbug.com for several places to buy/sell gold and silver bullion, including price comparisons between the varying shops.
gold is only a fiat form of tungsten
great site
There is NO rational justification for gold prices to exceed the marginal cost of production for a prolonged period of time. In the short term, gold can carry any sort of fear premium. But current prices say that the US dollar is only worth about 30 cents. Nonsense. The States should quietly empty out their reserves and buy back some of their dollars from foreign nations with overpriced gold. Then when the pendulum swings again, they can buy back the gold with overpriced dollars.
@Dave – it may not be rational in absolute terms, but neither are many investment decisions being made by certain arms of the government. But it all makes sense within respective contexts. Current indicators also say the U.S. will never be able to pay back its debt – it will only happen with greatly inflated dollars. That’s not fair to anyone else, either – so no wonder some nations would rather own gold.
I think Dave brings up an important point that I’ve been asking and haven’t (yet) found a suitable answer:
What price does gold have to reach today (in 2009/2010 U.S. Dollars) to equal the amount inflation adjusted damage to the dollar by 10 years from now? The USD will certainly experience inflation sometime, so how do we know if the cost of inflation isn’t already baked into the price of gold already?
I’d love more info on this if anyone else has seen the projections.
@Matt – this recent article by Niall Ferguson has some numbers projections about the debt, which is correlated with inflation via the increase in the money supply: http://bit.ly/6HF4mY — I don’t agree with some of Ferguson’s political framework and assumptions, but the central economic points seem valid. Not sure these numbers will help or not with your question, but could give a rough idea. Could also extrapolate based on debt-GDP levels back in 1980 when gold spiked.
Interesting, since we’ve hit back to $1200. I don’t necessarily agree with the “chicken little” thesis of gold that also usually tends to be lumped in with the “guns, ammo, and non-perishable foods” thesis. People have been saying that for decades and it has never gotten that bad, and so long as technology keeps advancing there is no reason to expect it will.
However, with that said, I do think that gold has a bright future: governments are piling on debt, and this debt is reaching the point where governments have only a few options available to them: rip off everyone else (debt haircut; currency devaluation), reduce spending (austerity measures), and increase revenue (tax hikes). The second one is the hardest one to do politically, and the third one isn’t that much easier. Therefore, I believe that the predominant way that governments will deal with this debt load is by reducing it in real terms: monetary inflation, currency devaluation.
Both lend support to a bullish trend in gold, however gold is no panacea: if you were invested from the late 1970s, you would have earned less of a return than on the stock market, even accounting for for 2000s. However, the interest rates haven’t started coming up significantly yet, so we shall see!
Ultimately, the question is not how high gold can go, its how low fiat currency can go. While the debate about whether gold is in a bubble or whether we are in a deflationary or inflation environment continues, the monetary authorities in the developed world have embarked on a well-publicized campaign of currency devaluation via low interest rates. Central banks can control interest rates or exchange rates – not both – and they are opting for record low interest rates with little concern for the debasing consequences. There should be no debate on this matter – central banks have a perfect track record in one area and that alarmingly is in currency devaluation. The US and Canadian currencies have suffered a greater than 95% loss in purchasing power since the inception of their respective central banks.
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