History, QE and financial turmoil point to continuing gold strength
While it has encountered some resistance close to its 50 day moving average, the price of gold is likely to continue to rise as the global financial system continues to experience problems
Posted: Tuesday , 15 Feb 2011
The nation was nearing bankruptcy and outlays outpaced income. This was because of financial obligations stemming from its involvement in a protracted war. The newly appointed finance minister realized that the country's tax system, which was perceived as quite regressive subjected the lower classes to a heavy burden, while numerous exemptions existed for the nobility and clergy. He argued that the country could not be taxed higher, that tax exemptions for the nobility and clergy must be reduced. He was subsequently fired.
Almost thirteen years later, the nation underwent an epic transformation as aristocratic and religious privileges evaporated under a sustained assault from liberal political groups and the masses on the streets. Old ideas about hierarchy and tradition succumbed to new principles of citizenship and inalienable rights. Does this sound familiar? No, it is not Egypt or Tunisia, but it is France during 1789-1799. It was the French Revolution (excerpts from Wikipedia). And, like the French Revolution, we live in times of tumultuous change. And, amid all this global turmoil, gold will be one asset that will remain firm.
Through centuries of war and peace, feast and famine, gold has always been a consistent store of value and a trusted medium of exchange. And, the parallels between the French Revolution and now are merely meant to show that over the years, humanity hasn't changed much and will repeat the mistakes of the past. So, what has this got to do with gold? Well, I believe, that as in my example, we will see more global unrest and financial turmoil in the future because humanity has not evolved much over a few centuries and thus will repeat the same mistakes of the past.
Once again, I am going to include what Peter Munk, chairman of the world's largest gold producer Barrick Gold, said in a recent interview at Davos. He said, "If you are a utopian, if you believe the problems of currency, the problems of terrorism, the problems of unrest around the world will all be resolved by the end of the year, then gold would have a difficult path. If you believe like I do that we bought ourselves a temporary peace from the panic of last year and the year before, [and] that the fundamentality of the problems are long term still issues, then your attitude will be a bit more positive toward gold."
The existing global financial system depends on the widespread use of fiat currencies issued by insolvent governments. And, in a fiat currency system, governments can merrily print as much money as they like. But, the consequence of such policies will inevitably be the erosion of wealth. As the Federal Reserve continues to debase the value of the dollar the prices of commodities are going to rise. While the latest rise in the price of wheat has been blamed on bad weather, the real reason is the value of the dollar. Wheat is up 13% since the start of December. However, like many other commodities the price of wheat has been climbing for several months, and when there were no problems with the weather. The prices of corn, soybean, rice, sugar are also up. And, this is not due to bad weather. It is mostly due to money printing or "quantitative easing" as it is now commonly called by central banks going on all around the world. This monetary expansion is building up tremendous inflationary pressures that have been showing up in the area most sensitive to monetary debasement, namely, commodity prices. These higher prices are going to cause more currency turmoil and more widespread unrest, especially among the poorer nations of the world.
At the moment, approximately $14 trillion US dollars are held by the rest of world. The value of these dollar assets looks extremely precarious, and as much as they would like to, the holders of this debt are unable to dump their holdings in case they cause a panic in the financial markets. China, now the biggest holder of this debt after the US has the most to lose. So in an attempt to lessen their exposure to this debt China is moving into other assets, gold being one of them. It is therefore no surprise that it has become the largest producer of gold in the world as it accumulates as much as it can of this precious metal.
Recently, China Investment Corp. Vice Chairman Gao Xiqing said that central banks' quantitative easing policies are hurting the value of money. "You know money is gradually becoming not worth the paper it's printed on," Gao said at an event sponsored by HSBC Holdings Plc at the World Economic Forum in Davos. Recent gains in commodity and food prices reflect the "long-term view" of investors that prices will accelerate, he said.
The Fed and the European Central Bank have kept their benchmark interest rates at record lows to spur their economic recoveries, triggering concern in emerging markets that the resulting flood of capital will undermine currencies such as the dollar and spark inflation.
"We've started collecting Zimbabwe notes," Gao said, referring to an economy whose currency was scrapped in 2009 after inflation reached ridiculous levels. He noted investors are also discussing whether central banks will pursue more rounds of quantitative easing.
Through difficult times and times of plenty, gold endures. And, in today's economic times as politicians lead us to a period of financial destruction, and as the purchasing power of the major currencies continue to decline, the purchasing power of gold will remain remarkably stable. This is why so many investors see gold as the "ultimate asset." Make sure you have some gold in your investment portfolio.
Even as gold prices rebound from their recent lows, they are encountering some resistance close to the 50 day MA which is now $1372 an ounce. While I believe that the prices will maintain an upward bias, the price needs to remain above $1380 an ounce in order to be sure that we have seen the bottom of the recent correction.
About the author
David Levenstein began trading silver through the LME in 1980, over the years he has dealt with gold, silver, platinum and palladium. He has traded and invested in bullion, bullion coins, mining shares, exchange traded funds, as well as futures for his personal account as well as for clients.
Information contained herein has been obtained from sources believed to be reliable, but there is no guarantee as to completeness or accuracy. Any opinions expressed herein are statements of our judgment as of this date and are subject to change without notice.