Friday, February 29, 2008

Are We Are On the Gold Standard? Yes, We Are on a De-Facto Gold Standard

Is the US on the gold standard? Officially no. Is the US going to go on a gold standard? At this point the probability is close to 0%. Should the US be on the gold standard? Because the answer to question #2 is basically 0%, why waste the breath to debate the issue. Afterall, the people that read this blog and myself do not get invited to those meetings.

But, I would argue that when economic times get tough, like now (and the 1970s), we move to a de-facto gold standard (minus all the monetary policy issues). The value of one dollar remains one dollar, but the value of gold changes. That is a gold standard. Anytime we measure the value of our currency against the value of something else, we have a “something else” standard. By the way, if you do not like gold then pick oil and now you have an oil standard. Regardless of what the Fed tells you or what the government statistics show the value of the dollar is going down (i.e. inflation is going up). The price of gold is not being pumped up, the reason the price of gold is going up in dollars is because the value of the dollar is going down.

As an aside, if you know what you are doing you can make more dollars (return on your investment) adhering to the de facto “gold standard” then you can in most other investments.

So what is the price of gold in dollars going to do in the near term? Probably go up because the value of the dollar is probably going to go down as the Fed continues to drop rates to fight a potential recession. An interesting question to ask is will the value of the dollar go up if the world slides into a recession? The reason I ask is regardless of all its perceived shortcomings the US dollar is a “safe-haven” currency when the world is in turmoil. That could mean that if the world slides into a recession the value of the dollar would go up.

Text in bold is my emphasis. From Market Watch:

With the U.S. dollar tumbling and inflation surging, gold continues to break record highs and might surpass the psychologically key $1,000 level before the end of March.

Gold prices have surged some 16% in the past two months and 22% in the past three months.

Gold is generally viewed as a safe-haven investment and a hedge against inflation. The turbulence generated by the subprime and credit crises, the increasing likelihood of a U.S. recession, persistent dollar weakness, and rising inflation make owning gold a no-brainer for many analysts. . . . .

. . . . "The talk of yet another rate cut and the dollar continuing to spiral down is all it will take," he said.

He expects $1,000-an-ounce gold in the back months within a week or so and in the spot market within two or three weeks as long as the dollar continues to slide.

"Stops are also likely heavy at that level [$1,000] since it is so psychological," Kerr said. He thinks gold will break $1,000 and then hit a wall around $1,150 to $1,200 an ounce.

In testimony to Congress, Federal Reserve Chairman Ben Bernanke sent a clear message Thursday that he intends to cut benchmark interest rates further to support the flagging economy. The Federal Reserve's next meeting is on March 18.

Gold faces some resistance around $970/$975 and short-term conditions are tipping into overbought territory, said Jon Nadler, senior analyst at Kitco Bullion Dealers.

However, "the metal could fulfill the four-digit value -- if not in the period leading up to the Fed meeting -- then after the certainty of the half point or so rate cut that is widely expected to come," Nadler said.

Burton R. Schlichter, director of trading at New World Trading, agreed that despite the overbought conditions in the gold markets, $1,000 an ounce is within range.

"I think it [gold] could be there by the end of next week," he said. "The debate whether or not gold will hit $1,000 an ounce sounds very similar to the debate we had in crude oil. It's not a matter of if but when and I think it's real soon."

Technically, if gold can trade over $900 an ounce over an extended period of time, it will trade at or above $1,050 an ounce by the end of March, Schlichter said.

"I see gold, and in fact all things commodity, to continue to move and trend to the upside," said Zachary Oxman, a senior trader at Wisdom Financial. "Funds and speculators continue to desire to be long commodities."

The two biggest drivers for gold prices are the weak dollar and inflationary pressures, Oxman said. Secondary drivers are slowing economic growth and a flight to quality.

Weakness in the U.S. dollar boosted gold's investment appeal. Gold, like many commodities, is denominated in dollars, and a lower U.S. currency makes it more affordable in other currencies.
The dollar remained under heavy selling pressure Thursday, tumbling to fresh record lows against the euro and the Swiss franc. . . .

. . . . .One primary driver for gold "has been increasing investment demand [and institutional investment demand] being confronted by static supply and falling supply from many major gold producers," such as South Africa, O'Byrne said.

South Africa, the second largest gold producer, is suffering severe electricity shortages, which have forced many miners to operate below capacity and revise downward their production forecasts.

"China is the only major gold producing country to have increased production in recent years with production falling in other major producers such as Australia, Canada and the U.S.," O'Byrne said.

"The fact that between 2000 and 2007, global mined gold fell 6.7% despite bullion prices moving from about $270 an ounce to more than $850 an ounce is very bullish," he said. . . .

. . . . . "We need to keep a lookout for possible signs of a 1980's style gold mania emerging among average investors -- the group that usually decides that when gold makes it on the front page of the newspaper, then it is a proven winner and the time has come to jump onto the bandwagon," Nadler said. "We've seen the pattern with real estate not that long ago."
(I agree with this statement. When the average investor gets into a market big it is time to get out.)

No comments:

Post a Comment