Gold Prices and the Real World

The relationships – both real and imagines – between Gold Prices and events...

YOU MIGHT have thought, last Thursday,  that the 'resolution' to the Eurozone debt crisis would have caused gold to tumble, the Euro to soar, and the Dollar to fall – perhaps with the Dollar Gold Price steady. So why are Gold Prices behaving as they are? asks Julian Phillips of GoldForecaster.

There are so many imagined relationships between gold and other factors and as each one proves incorrect, another takes its place. Is this because the media needs to keep our attention? In part yes, but the credibility that's given to these stories comes from the markets' desire for hope, often unrealistic desperate hope. Gold and silver, in their role as counters to currencies, are harbingers of uncertainty, fear and (to the banking system) a threat to the credibility of paper currencies.

What was thought of as a successful solution to the Eurozone crisis, as the bright fog cleared, was seen as it is –a lifeboat to the Euro and not a repair of the ship. Markets are wise enough to see this, so global buying came in as the deal was announced complete without details. 

The bottom line is that the structural strains of having weak economies joined at the hip to strong economies under one currency cannot work until there is fiscal union and a centralization that overrides national governments, such as is the case in the US It is no coincidence that this is what would have happened had the strong nations of the Eurozone conquered the weak ones in war. Europe has been battling with that problem for well over 2,000 years, so don't expect dramatic success on that front.

A single currency for different economies simply allows capital to flow from the weak to the strong and place untenable strains on the weak. The facilitation of this through loans far in excess of their capacity to repay them made the formula palatable, until now. While there has been a write-off of 50% of Greek's loans, they're burdened with a repayment schedule that continues to leave them in a weakened position. The same can be said of the other debt-distressed nations of the Eurozone (Portugal, Ireland, Italy and Spain).

Until these major issues are rectified from the ground up, doubts about the credibility of the Euro will persist and investors will remain cautious. So as a measure of value it remains suspect. This is positive for the Euro, gold price…

The President of the Bundesbank, Herr Weber, recently gave his reason for holding gold in Germany's reserves. He said that "gold was a useful counter to the swings of the Dollar." What did this mean? The Dollar is the world's sole reserve currency –one on which the bulk of global trade is transacted. It's the bedrock of the world's currencies. If it fell, it would take other currencies with it. They are the branches sprouting out of that trunk. If the concept of confidence in the US Dollar were destroyed, no other currency would stand. The only money out there carrying any global credibility would be gold and silver. 

With a far better structure to cope with the strains currently being seen in Europe, one would assume that the Dollar will be free of such strains, particularly because the Fed can print money at will and spread it across the world. That was the case until a few years ago. Then the perpetual US Trade deficit stretched it credibility too far. The nations that took in these Dollars ploughed their surpluses back to the US and bought U.S Treasuries to the extent that they now own 50% of that market. 

In essence therefore the US has borrowed back the money they exported. This is why it's so easy to keep interest rates so low. Foreign Dollar holders are looking to preserve value and hardly care about the income they receive. This has stopped the Interest rate markets in the US from functioning as they were designed to –to act as a control over the US economy via interest rate levels.

Now add to that, the raging over indebtedness of the US government, a situation that would never be permitted by the markets for private investors. In the belief that the government would rectify this budget deficit, markets have remained benign to the behavior of policy-makers. But lo and behold, government cannot govern this matter, which is why we went through a protracted game of brinkmanship as partisan politics stymied the resolution of the problem. With the game apparently ending in the super-committee being tasked with cutbacks, the Dollar was treated with respect again. But once more, we find partisan politics intervening. The super-committee (a misnomer for sure) is moving to brinkmanship again over party politics, threatening the credibility of the US and its Dollar.

Bear in mind, the party leadership has passed authority to this committee to finalize matters. Once again the credibility of the Dollar is on the line. Unlike Europe, with its fragmented system, it's not individual States that are the problem but the nation's governmental system that threatens the Dollar. In the last week, it's the Euro that has risen and not the Dollar that has fallen, but it looks that way. To see the Dollar fall, see it fall against a group of currencies, not just one.

The fear is that if the Dollar falls, then all other currencies will fall with it. The net effect looks like a stable exchange rate market, because what's there to measure it against? Only precious metals come to mind. Their market is so small, value-wise, that it's ignored by global financial markets. A glance at history shows us that this treatment of gold, silver can only last for as long as it takes one or more nations to break ranks and turn to gold as the real money again. Central banks of the emerging nations have already made that move, quietly and with ever so small steps, by buying gold for their reserves as it becomes available to them.