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As presented by Nick Barisheff, January
6, 2011 at the Empire Club 17th Annual Investment Outlook Luncheon
Good afternoon. It is a pleasure to
return to the Empire Club to discuss the outlook for gold and precious metals
in 2011. I know this may appear to some to be an enviable job—getting
to speak about the one asset class that seems to continually out-perform all
others year after year—but it is a double edged sword.
I’ve struggled to find an
appropriate simile. The best I can come up with is that speaking about gold
is like one of those good news bad news jokes, you know the ones—your
doctor phoned with some good news and some bad news. The good news is they
will be naming a new incurable disease after you.
The good news is that gold is rising in
value; the bad news is—well nearly everything else about the economy.
This year we travelled to the Middle
East, the Far East and South and Central America to discuss gold. The
different mindsets about gold we encountered there surprised all of us. Most
people in these countries see gold as the protector of wealth. In the West,
we view gold as a commodity for speculation.
Western economists treat the act of
buying gold as an admission of defeat and their attempts at disparaging
gold’s steady rise became even more tenuous than ever this past year.
Some of these disparaging opinions include:
- “Financial
tightening will cause commodity prices to fall.”
- “Gold
is in a bubble.”
- “The
gold stocks haven’t confirmed the gold bull.”
- Perhaps
most desperate of all—“The
economy is on the road to recovery.”
Despite these protests, gold had
another remarkable year. It was up 25 percent in 2010, which marked its tenth
straight annual gain.
Although we are speaking about gold
today, I would be remiss in ignoring silver’s performance. Silver is up
78 percent in 2010 as it is, like gold, beginning to assume its role as a
monetary metal. Platinum was also up 17 percent.
When we look at a ten year chart of the
US and Canadian dollars, the Euro, the British Pound and the Yuan, we see
that these five major currencies have lost between 70 to 80 percent of their
purchasing power against gold over this 10 year period. In truth, gold is not
rising, currencies are falling in value and gold can therefore rise as far as
currencies can fall.
Three Short to
Mid-Term Trends
I’d like to pick up where we
left off last year with a review of three dominant medium term trends that
put upward pressure on the price of gold in 2010 and will likely continue
to in 2011. Then I’d like to look briefly at three longer term,
irreversible trends that will put downward pressure on currencies resulting
in upward pressure on gold for decades.
First, the three dominant mid-term
trends we discussed last year.
These are:
- Central
bank buying
- Movement
away from the US dollar
- China
Central Bank Buying
In 2009, for the first time in 20
years, monetary gold, or central bank and investment buying, outpaced gold
buying for industrial or jewellery purposes. In 2010 China, Iran, Russia
and India’s central banks were all significant buyers as they moved
cash reserves to gold.
In Q3 of 2010, Russian central bank
gold holdings rose seven percent to 756 tonnes. In 2010, the Russian
Central Bank bought two thirds of its own gold production.
In December we learned that China had
imported 209.7 metric tonnes of gold in the first 10 months of the year.
This was a 500 percent increase over the same period of 2009 and on top of
their world leading domestic gold production.
By the third quarter, India’s
gold imports, both commercial and private, for the year were 624 tonnes,
putting them 100 tonnes above the previous year’s total of 595
tonnes. Fourth quarter purchases could put India’s annual total
over 750 tonnes.
China and Russia need to acquire gold
to bring their gold reserve ratio to outstanding currency closer to Western
central banks. Russia needs to acquire at least 1000 tonnes and China at
least 3000 tonnes to remain on parity with the US. Chinese officials have
stated publicly that China would like to acquire at least 6000
tonnes. Unofficially
they have stated targets as high as 10,000 tonnes.
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Movement Away from
US Dollar
Last year we quoted a November 2009
story written by veteran journalist Robert Fisk claiming Russia and China
along with France, were working on an agreement to trade oil with Arab
states using currencies other than the US dollar. As expected, central
bankers fervently denied these rumours. The US dollar has since 1973 been
the only currency that oil could be traded in. This is the only reason the
US has been able to amass nearly $14 trillion in debt. Loss of the
petrodollar’s hegemony would have a devastating effect on the US as
this is essentially the only reason foreign countries in the past needed to
hold US dollars.
On November 24, 2010, China and
Russia officially ``quit the dollar`` and agreed to use each other’s
currencies for bilateral trade—including oil. Official trading on
Moscow’s MICEX Index began December 15th, 2010.
In 2009, Robert B. Zoellick, made his
well-publicized comment that, the US would be "... mistaken to take for granted the dollar's
place as the world's predominant reserve currency.” And
that, “... looking
forward, there will increasingly be other options to the dollar."
In 2010 he continued hinting at a new reserve currency made up of five
currencies with gold as the “reference point.” He also called
for a new Bretton Woods agreement this year. Mr. Zoellick is no
lunatic goldbug. He’s the President of the World Bank.
China
Last month, I was a speaker and
panellist at the China Gold and Precious Metals Summit in Shanghai. I can
confirm that Chinese buying, both official and public, is a major trend
that is not only well in place, but may be the single most important
influence on the price of gold in 2011. As I said, the Chinese see gold
quite differently from the way we see it. If we are to understand
gold’s price direction in 2011 and beyond I believe it is essential
to understand the “mindset” the Chinese have built around gold.
Economic Mindsets
and Gold
Although the forming of economic
mindsets is a complex topic, I’d like to simplify how major financial
mindsets are created in one sentence. What our government, our banks and
financial media tell us about money is what most of us will accept as our
financial mindset or financial reality. If anyone doubts the power of
government economic policy to shape mass economic reality, just look at how
we have changed our attitudes towards debt, saving and economic value over
the past 40 years. Our current debt based mindset began to form the day the
US dollar, the worlds reserve currency, was removed from its final
international peg with gold in 1971.
Different Attitudes
about Gold
Although the West shares many common
economic principles with the East, as the capitalist banking systems are
similar, there is one area where there is a clear distinction—this is
how Easterners view the role of gold as money.
Western governments fear gold. It
restricts their ability to create currency. In the West, governments borrow
and encourage their constituents to follow their example. Banks encourage
us to borrow for everything from vacations to widescreen televisions made
in China. They tell us we are “stimulating” the economy through
consumption. Generally speaking, the investing public in the West sees gold
as a wealth gaining asset to be traded like stocks and bonds. This is why
Westerners are constantly fretting about the price of gold in currency
terms.
The Chinese government, on the other
hand, respects gold. This is evident by the laws they have passed to
facilitate mining and private gold ownership. China currently leads the
world in gold production.
The government encourages the public
to put five percent of their savings—yes they encourage
savings—into gold. This is significant because the Chinese can save
up to 40 percent of their annual salary. In the West, most middle class
families are lucky to break even. The Chinese see gold as a wealth
preserving asset that will weather all seasons. This is the difference that
I believe anyone who wishes to fully understand gold’s rising price
must comprehend. Inhabitants of older countries, who have lived through the
destruction of an inflation fuelled currency crisis, do not need to be
reminded that gold is the most effective hedge against inflation and a
currency crisis.
Former CEO of Newmont Mining, Pierre
Lassonde also feels that it will be buying by the Chinese public that will
eventually propel gold prices into the stratosphere.
Three Irreversible
Trends
Clearly, the three medium term trends
we noted last year are still firmly in place. Now I’d like to look at
three longer irreversible trends that I believe will affect the price of
gold and currencies for decades. These
are:
- The aging
population
- Outsourcing
- Peak oil
The Aging Population
The aging population is a combination
of a population that is living longer and the “pig in the
python” effect of a huge tidal wave of “baby boomers”
born between 1946 and 1963 who are just starting to enter retirement age.
As people age, they spend less and downsize. GDP and tax revenues are
reduced and a much smaller workforce follows the baby boomers so this is a triple
whammy. This problem is universal. In China, it is further exacerbated by
their one child per couple policy. Governments will have no choice but to
create more currency and further debase it.
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Outsourcing
Outsourcing has almost entirely
destroyed the manufacturing sectors of many first world countries like the
US and Canada and much of Europe. The Chinese worker who built your IPhone
made $287 a month; this was after a well-publicized raise. The West simply
can no longer compete with these labour costs. The United States was the
world’s largest manufacturer after WWII and has driven the
world’s economy ever since. However, the US consumer can no longer
buy things as they lose their jobs. As factories move off shore the high
unemployment becomes systemic. Without jobs, the GDP and the tax revenues
of the US fall. The mountain of federal, state and municipal debt will
become even harder to service and the government will be forced to go even
deeper in debt and to further debase its currency.
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Peak Oil
Peak oil is the point at which the
maximum rate of global petroleum extraction is reached, after which the
rate of production enters terminal decline. This has already happened in
the US, Alaska and the North Sea. In the next few years Mexico will become
an importer of oil and the US will lose its third largest supplier. Our
fragile, highly indebted economy relies on this land based cheap oil to
continue and it cannot withstand the shock of transitioning to more
expensive alternatives. In September of 2010 a
German military think tank reported
that the German government is taking the threat of peak oil seriously and
preparing accordingly. Numerous studies around the world have concluded
that we are very close to peak oil production, which will be accelerated due
to gulf drilling bans.
This will lead to higher price
inflation for most goods. This will be another blow to the fragile US
economy, which currently pays less for oil and gas than any of the first
world countries. When added to the effects of the waning strength of the
petrodollar the results will be devastating.
May I remind you that if China, which
currently has one tenth the number of cars per capita as Americans, was to
reach par with the US, we would need, by one estimate, seven more Saudi
Arabia’s to meet their needs.
These three mega trends will continue
to lower the GDP, lower the tax revenue, create higher trade deficits,
create higher unemployment, resulting in the need for further currency
creation. This will cause inflation to rise as currencies depreciate in
value and create higher universal debt. All of this means the gold price
will continue to rise.
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Competition for the
World’s Gold
Finally, as a direct result of
world-wide debt and currency debasement, more people will be competing for
the world’s available gold. We discussed peak oil, but gold is also
reaching a peak as fewer and fewer new deposits are being found. Smaller,
lower grade deposits with none of the “economy of scale”
benefits of larger deposits are being put into production out of desperation.
Mine supply has been in a decline since 2000.
As safe haven demand accelerates,
there will be a transition from the $200 trillion of financial assets to
about the $3 trillion of above ground gold bullion. Of the $3 trillion of
above ground gold bullion about half is owned by central banks and half is
privately held. The privately held gold is largely held by the
world’s richest families and is not for sale at any price. The
central banks are now net buyers. If the world’s pension funds and
hedge funds moved only five percent of their assets into gold, which these
days seems quite conservative, gold would trade above $5,000.
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So in conclusion, I will say that
without any new financial crisis, both mid-term and long term trends are in
place to ensure gold and silver will continue rising through 2011 and well
beyond. For those of you who are looking for a prediction...last year at
the Empire Club, I forecasted that the price of gold to be between $1300
and $1500 at the end of 2010. We ended up right in the middle at $1405. For
2011, I recently forecasted it may climb to $1,700 to $2000 per ounce based
on the last five years performance and the factors I have presented today.
I encourage you to follow the example
of those who know how devastating a currency crisis can be and buy gold to
protect wealth and not treat it as speculation. I’d like to close
with a quotation that seems to put all of this into perspective. It comes
from Norm Franz’s appropriately titled book, Money and Wealth in the
New Millennium. He said, "Gold
is the money of kings; silver is the money of gentlemen; barter is the money
of peasants; but debt is the money of slaves."
Thank you.
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Nick Barisheff
Bullion Management Group
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