| Gold and the U.S. Elections |
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You have to hand it to George Bush. The man
started his term in office just as the U.S. economy came crashing
down from the greatest bull market in world history. That
economic slowdown was accompanied by government and private
sector debt at record levels and a massive trade surplus that
is continuing to draw money out of the country.
On top of that economic mess, add in a war. Next came the
realization that it costs even more to put all the pieces
together in Iraq than it cost to blow them up.
Yet, in spite of all of the naysayers (some of whom are still
saying nay) the American economy is again growing at a respectable
pace, even if it is not booming. People who were unemployed
a short time ago are now cashing paychecks and buying all
sorts of things. That extra money will keep circulating around
in the economy and should maintain a respectable level of
activity.
How did Bush and his team work this economic miracle?
In fact, it was quite simple. They found a way to slash the
selling price of everything exported by U.S. industry while
at the same time keeping revenues to the companies unchanged.
If that sounds like something cooked up by the Enron accounting
department, you are only partly right. At least in this case,
the participants won't be going to jail.
All that was required was for the Bush team to lop 18% off
the value of the dollar. An importer in Frankfurt sees a price
18% lower in euro terms than a year ago. Yet, the U.S. factory
owner gets the same number of dollars – enough to pay
salaries, which haven’t changed, and still bank a profit.
As long as the factory worker stays away from buying French
wines or vacationing on the Algarve, he doesn't notice a big
difference … at least in the short term.
So far at least, the fuel price has been cushioned by extra
oil supplies coming from a certain Middle Eastern country
with “q” in its name.
It sounds like the perfect solution. However, there are a
couple of serious difficulties. For one thing, over time,
American consumers will begin to notice the impact of the
falling dollar. Sharply higher metal prices, for example,
will eventually work through the system. Americans will soon
realize that their standard of living has been lowered by
18%.
Consumers will certainly notice a difference if they go into
a jewellery store. Some people may be content to simply offset
the higher price of gold jewellery by dropping a couple of
karats in the quality.
Even before American consumers catch on to what has happened
to them, people in Europe are starting to lose jobs as the
European market is being flooded by cheap American goods.
That brings up the second problem with using a cheap currency
to turn around an economy. Not surprisingly, the Europeans
are now getting in on
the game and rushing to devalue the euro
as fast as the Americans devalue the dollar.
Last week’s sharp drop in the gold price came as traders
suddenly realized that the value of the euro was not going
to keep going up forever.
Canadians are cheering because the Canadian dollar is up *%
on its U.S. counterpart. One day Canadians will wake up and
realize the reality that the Canadian dollar isn’t up,
but that it has lost a great deal of value with respect to
the rest of the world.
The Chinese are right on top of the situation. Having pegged
the Yuan to the dollar, they are in the lead position in the
race to debase currencies and their goods keep flooding into
markets around the world.
The competition among governments to see who can devalue their
currency the fastest is not going to end any time soon.
As an investor, you can protect yourself from currency devaluation
by owning hard assets such as commodities or securities backed
by commodities. Virtually all of the metal prices are up,
pushing mining company shares up sharply over the past few
months.
The most reliable and the most liquid of all the hard assets
always has been, and will continue to be gold.
If you had switched out of dollars and into bullion a year
ago, and now convert back to dollars, you would have 18% more
dollars than if you had simply held your dollars. For those
who leveraged their exposure to gold by owning gold equities,
the gains were much larger.
Over the past year, the biggest driver in the rising gold
price has been the falling value of the dollar. In essence,
gold is rising in value as the measuring stick shrinks.
The gold price has actually risen more than the dollar has
shrunk. For example, it has gained 20% in euro terms over
the past 3 years. (See the graphs of the dollar gold price
and the euro gold price.)
Will the dollar keep shrinking against the euro
and other currencies? I think not a lot more. The decline
to date has been enough to kick-start the economy. People
are getting back to work, and that was the primary objective
in anticipation of elections later this year.
The cheap dollar increases the costs of imports and will lead
to inflation. For that reason, the powers that be will soon
stem the fall in the value of the currency.
Will that mean the end of the gains in the gold price?
Almost certainly not. You see, a generation of young money
managers around the world has just had a rude awakening. Many
of those people have spent their entire careers in an environment
where the U.S. dollar was considered the most secure form
of asset. Some of these people are now realizing that their
supposedly secure money market holdings have actually depreciated
by 18% over the past year.
As a result, the dollar is no longer seen by many as a safe
haven. A few of those money mangers will now be looking more
favorably on gold. There won’t be a wholesale shift
into gold. The simple reason is that there isn’t nearly
enough gold to have a meaningful impact on the world financial
markets, even if it was all readily available, which it is
not.
Every ounce of gold above ground on the face of the planet
– all the gold in vaults, every ring, gold tooth and
bracelet – is only worth about three quarters of a trillion
dollars. That’s about the same as four or five of the
companies in the Dow Jones Industrial Average … a tiny,
tiny fraction of the value of the world’s financial
assets.
The most likely scenario is that a small portion of the money
managers are putting a small percentage of their liquid holdings
into some form of gold-backed security. That gradual shift
to hard assets is generating enough additional demand for
bullion to maintain upward momentum on the gold price.
Any number of things could drive the gold price sharply higher
at any time. Yet, even if gold does nothing more than maintain
the pattern of the past three years, the gold industry will
continue to be a very exciting place for investors.
The biggest gains will come to those companies with the greatest
exposure to gold, and especially to companies that are adding
value to gold deposits. The small and mid-sized gold companies
that are enhancing deposits will continue to be the primary
focus of Resource Opportunities.
This issue includes an update on the junior explorer that
holds the largest gold deposit in North America, as well as
several other important developments among the companies that
we have been following.
Silver, platinum and some of the base metals are also generating
big gains, and this and future issues will have more coverage
of those other metals.
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