Forcing its way back as alternative currency

With only a few exceptions, analysts seem to agree that the price of gold for the foreseeable future is heading upwards with guesses varying form just over $2 000 to the once to as high as $5 000/oz plus. Importantly the upward trend is driven not by speculative behaviour, but by a flight to safety in the protracted uncertainty that has laid siege to the global financial system.

The strength of this move towards gold is illustrated by reports that the world’s gold vaults are running out of space. According to a recent Bloomberg-report the demand for vault space rose fivefold in the last year.

According to the same report, Jean-Francois Pages, CEO of Swiss Precious Metals, said that the “European debt crisis and its impact on the solvency of European financial players are driving European customers to find refuge in tangible values like physical gold and other precious metals”.

It is important to note that the position of gold in the market is increasingly becoming separated from the behaviour of other commodities as the prospect of a so-called double-dip recession looms ever larger. A commodity like copper, for example, has started to suffer from the cancellation of orders as the global economy  slows  down.

The price of gold has, however kept on rising on the back of investor demand. Investors in exchange-traded products backed by gold have bought  2,198 tons of bullion since 2003. These investors combined now represent the fifth largest stockpile of gold behind only four sovereign holders, with the United States’ 8,133,5 tons the largest.

But, it is not only private investors, hedge funds and sovereign funds that have been buying gold in response to economic issues and the failure of international political leadership to come to grips with uncertainties. Central banks have become net buyers of bullion as gold in the process seems to be forcing its way back in playing the role of an alternative, or what Eric Sprott of Sprott asset Management calls the ultimate, currency.

Some reports indicate that Europeans had already started to withdraw funds from banks. Investors, fearing the impact of a Greek default, with a resultant knock-on effect on other countries like Italy, Portugal and Spain, could have on French and other bank might already have started a run on banks in Europe.

According to Sprott in and interview with Mining Weekly the problem of the European debt “is now too big to handle.”

The response of the political and financial leadership of developed countries, including the United States, to the combined problem of high debt levels and slacking economic activity, just seems to be strengthening the case for gold.

Markets are telling these leaders that they don’t believe that simply creating more debt via responses like Quantitative Easing (QE) will make the grade. “If governments keep printing more money, the price (of gold) can go anywhere. It could go to $10 000/oz, it could go to $20 000/oz,” Sprott said.

This is a view largely shared by Peter Grandich who, according to the Mining Weekly report in his newsletter, wrote that countries like the US printing money was also a major contributing factor to the  belief that the gold price would go higher.

In the last 12 months the price of gold has already gone up by about 40%. Besides its growing status as a safe haven and offering investors an alternative to currencies under growing pressure, the fundamentals of supply and demand have also been strong.

At the same time the view of gold as not just a commodity, but basically a currency, is increasingly gaining traction.

Gold moves independently in the market and is free from political manipulation where individual governments can decide to pump more or less of it into circulation. This position also makes gold highly bubble-resistant. It is also important to note that the move towards gold at present is mostly for safe-haven purposes and cannot be ascribed to the speculative behaviour that has made currencies so vulnerable since they were de-coupled from the gold in 1971.

Celebrated economist and New York University Stern School of Business professor Nouriel Roubini last week told the Discovery Invest Leadership Summit in Johannesburg that he believes there is a two-thirds probability of recession in some European and US economies in coming months.

If his outlook is correct, he said, “… it is going to be a world in which banks are not safe and governments are not even safe … gold might become a hedge, not against inflation, but against the risk of another financial crisis.”

Last week we reported that “there are mounting signs that the global financial system as it developed in the post-gold standard world and the free market binge that accompanied the reigns of Margret Thatcher in Britain and Ronald Reagan  in the US has become unsustainable.

“It would seem that the only thing that remains unclear at this point is whether there will be a relatively orderly managed transition or if a new dispensation will emerge from a messy collapse of the present system.”

During periods of transition there always is vested interest at play. A unique network of these vested interests has also developed  during the post-gold standard era, from rating agencies and massive hedge funds to economic clout and influence for central banks and political leaders.

All of these will play a role in the shaping of a new financial dispensation that is still largely unsure, but all indications are that the realities of the marketplace are busy cutting out an important role for gold.