Gold continues to suffer under a cloud of bearish expectations. Its price has been trending lower for some 20 months now - and, at recent lows, it is off some 30 percent from the September 2011 all-time high of $1924.
A growing number of investors, analysts, and journalists are already writing obituaries for the decade-long bull market and foresee only a grim future for the yellow metal. These naysayers, most prominently economist Nouriel Roubini who gained some renown for predicting the financial-market debacle of 2008, point to a number factors to support their bearish predictions.
They say inflation will remain subdued, the U.S. dollar will continue to appreciate, interest rates will rise, Europe will pull through without sovereign defaults, and the central banks of some deeply indebted countries with substantial gold reserves (like Italy or Spain) may sell some of their official gold reserves. Moreover, they say gold has been over-hyped and don’t see why investors would want to own an asset that earns no income.
It seems to me that the bears have a fairly provincial view and a limited understanding of gold’s increasingly bullish long-term fundamentals. By “provincial” I mean they are ignoring more than half the world - the half that loves gold and will accumulate more. They seem to think not much is important to the future of gold outside the United States and Europe.
Instead, the gold bears are ignoring much of what goes on beyond Wall Street and America’s shores. What happened to China, India, the Middle East, Turkey and other gold-hungry countries? Have these countries ceased to matter in the gold-price calculus?
Quite the opposite: In the next few years, if not longer, households, institutional investors, and central banks in these countries will continue to acquire huge quantities of gold - and most of these acquisitions are for the long term.
Buyers are not speculating for short-term gains but accumulating for long-term security. In other words, much of this gold changing hands today won’t come back to the world market even at much higher prices levels. This will contribute to a growing shortage of available physical gold - guaranteeing steep price increases for the yellow metal in years ahead.
Indeed, looking out beyond the next year or two, demand for gold in these gold-friendly countries will be enough to move the metal’s price higher even if economic and investment conditions in the United States and Europe remain inhospitable for gold.
What’s more, the gold bears are dismissing the certain consequences of unprecedented global monetary creation. With the central banks of virtually every major economy inflating money supply with abandon, gold’s detractors are forgetting the iron-clad law of supply and demand . . . and the eventual certain devaluation of most, if not all, the world’s currencies - measured in terms of their purchasing power for actual goods and services.
The gold bears are also overly optimistic about U.S. economic prospects and the implications for U.S. monetary policy. Those who adhere to a rosy economic scenario are expecting a shift in monetary policy later this year in which the Fed begins dialing back on the monthly dose of monetary stimulus. This increasingly prevalent viewpoint has, in recent months, weighed heavily on the gold price and, indeed, the day-to-day variations in market expectations of future monetary policy explains much of the short-term gold-price variation so far this year.
In contrast, a faltering U.S. economy accompanied by persistently soft employment-market conditions and the declining pace of consumer-price inflation - could trigger a surprisingly robust recovery in the price of gold, - especially if monetary policy shifts into an even more accommodative mode.
The Fed is targeting a decline in the unemployment rate to 6.5 percent and a rise in the inflation rate to at least two percent. As long as these targets remain illusive, the Fed is likely to continue its program of Treasury and mortgage debt purchases, known as quantitative easing, at $85 billion per month - and if the economy falters, as I think it might, financial markets may be surprised to see an even more stimulative monetary policy, surely a recipe for higher gold prices.
As noted above, financial markets have been increasingly anticipating an early reduction in the pace of quantitative easing, a “tapering” or scaling back in the pace of monthly bond purchases. As a growing number of gold traders and investors begin to doubt the rosy economic scenario - possibly due to a spate of disappointing economic news - gold could rally enough to reverse the gold market’s recent downward price momentum and reestablish the long-term bullish uptrend.
Federal Reserve Chairman Bernanke has repeatedly warned us not to expect any reduction in monetary stimulus until the labor market shows meaningful signs of improvement - and this seems unlikely anytime soon. Indeed, employment-market conditions are worse than the headline unemployment rate suggests - wages are stagnating, the workweek is shrinking, the number of part-timer workers seeking full-time employment is growing, and a rising number of discouraged workers are dropping out of the work force. This is a recipe calling for more stimulus, not less.
What about inflation and the dollar? Investors and observers of the gold scene have been misled by the very low reported rate of consumer price inflation and by the apparent strength of the U.S. dollar in world currency markets. I don’t know anyone who really believes that inflation is near zero. It may be low, but not that low . . . and, eventually, all that new money the Fed is creating month after month will come home to roost.
Gold prices have been restrained by the “appearance” of a strong U.S. dollar. But, in reality, the currencies of all of the old industrial-world countries are devaluing together as each country attempts to increase international competitiveness and boost exports. These currencies - including the euro, the pound, the Swiss franc, the yen, the Australian dollar and others - are all losing value in terms of their true purchasing power - only the dollar’s decline may be a bit slower than most others. This “beggar-thy-neighbor” competition is reminiscent of the Great Depression . . . and must surely be supportive of gold.
Stay tuned to this space - and my more frequent twitter posts @NicholsOnGold - for on-going gold-market analysis and commentary.
