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Global Crisis Blog

Will Gold Continue to Glitter?

By Shlomo Maital

Those readers who have raised children, or are still raising them, know that when children appear flushed, listless, tired, with runny noses, and we suspect they are ill – out comes the thermometer, to check for fever.

 The global economy is no different.  When global markets are unstable, uncertain, nervous, over-sensitive to risk – out comes the thermometer.  And the thermometer?  The price of gold.  The price of gold is a measure of the degree of nervousness, or panic, in global markets. Investors buy gold when they lose faith in all types of paper assets, not just one or two.

 Normally investors shift funds from market to market, seeking advantage and arbitrage.  But what do you do when all markets seem risky?  This appears to be the case at the moment.   As G20 finance ministers conclude their meeting, and decide to “avoid competitive devaluations of currencies”, leaving implementation to the toothless IMF,  their Prime Ministers and Presidents are about to gather in Korea, on an isolated man-made island built in the middle of the Han River, in Seoul, at a cost of $85 m.  The setting is a perfect metaphor for the total isolation and detachment of the G20 leaders.  People everywhere are worried about jobs.  They need a global consensus about how to get the global economy back on track again.  What they will get out of the visionless leaders sipping espresso and white wine in Korea is… nothing.   The G20 meetings have been so pointless, the leaders have now decided to meet only once a year rather than twice.  They might as well not bother to meet at all. It makes one nostalgic for the incredible Bretton Woods gathering, July 2-20, 1944, an 18-day period in which 40 global experts reinvented the global economy and monetary system.

    Meanwhile, the gold-price ‘thermometer’ indicates the world is running a fever.  In January 2002 gold was about $300 an ounce.  It doubled to nearly $600 an ounce by Jan. 2006.  The onset of the global crisis sent gold to over $1,000 an ounce, before the price slipped back to $700, as it appeared the worst of the crisis was over.   Since 2009, as investors conclude the crisis is far from over, but is simply changing its form and shape, gold has again soared, to today’s $1380.    As a result, Goldman Sachs has now raised its 12-month forecast for gold prices to $1,650/ounce.   The reason: the Fed’s policy of “quantitative easing”, which is a euphemism for dumping enormous quantities of high-powered money into the system, money which in large part is finding its way to capital markets in China and other parts of Asia.

    The price of gold reveals another key fact.  The falling yields on 10-year US Treasury bonds signal the market anticipates continued deflation. But the soaring price of gold indicates the market anticipates inflation.  Apparently, there are two groups at odds in the capital markets: the Deflation Devils and the Inflation Instigators.    Who is right?  They cannot both be!    

    Perhaps they are serially right.  Perhaps, initially, there will be continued deflation – and then, inflation, as the massive amounts of dollars dumped into the market drive the dollar down, make imports expensive and recreate the inflationary cycle America and the world experienced in the late 1970’s. 

    Stay tuned. 


Blog entries written by Prof. Shlomo Maital

Shlomo Maital
October 2010
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