Why Gold Has Reached 11 New Highs In Just 14 Trading Sessions
Major central banks in the world have found a new way to inject money into banks with “toxic” balance sheets, even taking advantage of distrust in currency markets.
The gold price reached last week a new high of 1317.3 per ounce, reaching the eleventh time high in just 14 trading sessions. The accelerated growth signal was given by the Federal Reserve (Fed) – The U.S. central bank – which suggested that it is ready to inject new funds to support the economy. Also, the price of silver climbed to a maximum in the past 30 years, to 22 dollars per ounce, while platinum and palladium rose to the highest levels of the last four or five months.
A recent study prepared by Erste Bank reviews the main reasons for which investors are currently buying gold, the bank’s analysts arguing that “while confidence in paper money (meaning with a notional, conventional value) falls, gold reinforces its stability as it did throughout the centuries. ” Also, national banks have made their most important purchases in the last 20 years.
An additional factor supporting the gold price increase, would be, according to Erste, the fact that gold and precious metals are the only category of assets that retain value both in inflationary and deflationary conditions.
Currently, only large increases in interest rates could weaken the gold price and have a long-term effect, Erste analysts say, adding that in contrast to the situation in 1980, such a prospect is unlikely. In the late 1970s, the period of high inflation in the U.S. could only be addressed through massive increases in interest rates, a decision taken by then-Fed Chairman Paul Volcker. Nominal interest rates stood at 20%, while real rates were of 8%.
“Analysts believe that gold will continue on an upward trend in the long run, as it protects investors from inflation, given that global central banks could resort to quantitative measures to relax the financial markets in order to support the economies, ” statement made by the main news agencies.
As far as we know, major central banks have liquidized financial and banking systems due to lower interest rates. Given that the Fed’s key rate reached almost zero, while the European Central Bank managed to maintain its key rate at 1%, these seem to still be needing cash. Problem is, it would be impossible for them to lower the rates. So, what would be a solution? Resorting to quantitative measures of relaxation, meaning borrowing gold off the market, including it in the international reserves and issuing paper money in return. Furthermore, the money resulting from this “leasing” are lent to commercial banks, which are no longer constrained to execute guarantees for nonperforming loans, thus the price of assets is stagnating or is reduced to a lesser extent than it would under normal circumstances. Overall, sustaining the asset price coincides with the interests of politicians, thus the natural conclusion would be, that the independence of Central Banks is highly put to the test in this period.
“The gold speculative bubble” is created at the top
The problem is that when gold will be returned or excess money will be taken out of the market (or, if this cannot happen, because there are liquidity problems, when interest rates go up or currency depreciates, in order for the issued money to be covered) a reverse movement will occur.
As things look now, on a short-term the probability of interest rates to be increased is reduced, as Erste analysts noted, but the same cannot be said over the next six months or a year. The period of time can be subject to speculation, because no one knows how fast deficits are growing. If speed is high, higher interest rates will occur soon.
And what people really must understand is that central banks instead of stimulating savings and investment on account of interests, have responded to political requests by “manufacturing” money to replace the money from investors in order to sustain the price of assets. But, when the United States, an area with a very good economic environment, will see that this measure is not sufficient, they will try to increase interest rates to attract investors and the price of gold will plummet.. All the while the dollar will appreciate significantly against the euro to 1.05 to 1.08 dollars per euro, thus proving that the prophets of the euro downfall were not wrong.
Poland, a country that does not always follow rules… to its advantage
And yet there is one country, Poland, which did not accept the “classic” measures of larger and more powerful economies, of preserving the assets price and entering large deficit gaps and record levels of sovereign debt instead of following investments. And this enabled Poland to be the only EU country which recorded growth last year.
The government led by Donald Tusk chose not to fund its budget deficit through loans from international financial organizations, like Romania, Greece, and a lot of other countries in the EU which financed their deficit with the help of IMF money, and instead, Poland came up with an ingenious solution. It made use of privatization. Tusk went into the hands of the market economy. He explained that “privatization is important not only because it will bring income of 6-7 billion euros in 2010, but also because the state should have the smallest possible presence in the economy.”
Factors supporting the gold price increase
- A rapid expansion of production capacity is unlikely. Increased production, energy costs and wages are some of the factors that helped offset higher prices of gold. In addition, reservations can be easily exploited are largely exhausted, which means that the metal must be extracted from greater depths, making it more expensive production.
- The fact that institutional investors, sovereign funds and oil-producing countries are still under-weight the raw materials especially gold and indicates a growing investor demand.
- The credit crisis has not ended yet. U.S. macroeconomic data outline an ambivalent picture of the U.S. economy and commercial real estate market is facing increasing problems. There was much talk about a return to recession.
Gold – the barometer of poverty
In the 80s the U.S. dollar had a purchasing power significantly higher than today. According to official calculations of the Fed’s inflation, historically inflation-adjusted peak price of gold was at $ 2,300 per ounce. In other words, the gold price should rise to this level to achieve real value equivalent ounces of gold in 1980. While in the late ’70s, the gold price stood at $ 850 per ounce, the average annual family income reached U.S. $ 17,000. Today, an annual income of $ 17,000 puts such a family in poverty. Indebtedness has risen to dramatic proportions in the meantime. Thus, total household debt increased from U.S. $ 10 billion in 1987 to nearly 30 billion today.
Since the founding of the Fed in 1913, the dollar has lost more than 95% of its purchasing power while gold has multiplied it 50 times. The decline in U.S. dollar purchasing power has increased especially after the abolition of the gold standard. The dollar has lost 80% from 1971 onwards. To buy the same basket of goods for which, in 1980, was paid the equivalent of one ounce of gold, meaning $ 850 today would have spent $ 2,300.
Donald Tusk, Polish Prime Minister:
“We do not want to tell anyone what to do, but we want to use their example to show that saving is the normal way, not living on credit. Also, European civilization would be built on fundamental values of liberty, private property and competition, limiting the role of the state, and on European integration. This is the way to meet the ambitions of Poland and Europe – is the only way. Any other way – such as more state in the economy or protectionism – is, in my opinion, false. As government, we are determined not to follow these routes. We are able to reduce our deficit and debt, to adopt major reforms that not all governments in the world today can make them “11