Decoupling of Gold from its Fundamentals


By Marino G. Pieterse

Mar 4 2010 9:38AM


In August 2009, I expected the boom market for gold to be halted at a $ 1,000 level due to an earlier than expected recovery of the worldwide economy.

While I was right on growing economic optimism during the second half of the year, the bullish sentiment for gold strengthened reaching a new record high of $ 1,226 at December 3, 2009. During the same period the dollar weakened against the euro from $1.47 to a high of $ 1.51.

At first sight, this seems to confirm the still predominant public opinion on a correlation between the course of gold and the dollar, but not being justified if one looks for a correlation over a longer period of time. Since the financial crisis, fuelled by the collapse of Lehmann Brothers on September 15, 2008, resulted in a credibility crisis. In 2009, being recently followed by the Euro Zone crisis, the dollar has strengthened to a current level of $ 1.35, which compares to its value against the euro at year-end level 2004, more than 5 years ago!

The crisis resistance of the dollar



compared to




gold price


Year-end 2007





March 17, 2008




earlier high

June 30, 2008





September 15, 2008





October 24, 2008





December 16, 2008 *





Year-end 2008





February 27, 2009





June 30, 2009





May 13, 2009 **





December 3, 2009




new high

Year-end 2009





February 20, 2010










*    Fed funds rate lowered 0.75%-1.00% to 0.00-0.25% (ECB 2.50%)

**  ECB rate lowered 0.25% to 1.00%









source: Goldletter International




The credibility crisis lead to an unprecedented collapse of the worldwide stock markets and commodity markets in the second half of 2008. Worldwide stock markets lost 42% of their value, equal to a loss of $ 25,000 billion, followed by a further decline of $ 6,500 billion in the first two months of 2009 to a total loss of $ 31,500 billion. This huge destruction of real economic related capital was followed by a historically unprecedented recovery recuperating approximately half of the losses throughout the further course of 2009.

This dramatic positive change in market sentiment saved Western capitalism, helped by China’s strong economic recovery. Gold initially distincted itself in a positive way by showing a positive performance of 3.4% in 2008 compared with industrial related commodities led by oil and copper shedding 56% and 57% of their value, respectively.

However, related to the strong recovery of metal prices from March 2009 as a result of the improving outlook of the world economy, the gold price in 2009 at an increase of 28%, compared with oil (+85%) and copper (+153%), lagged behind significantly. Also other precious metals, silver (+57%), platinum (+62%) and palladium (+120%), showed a stellar market performance.

Due to the shift of economic growth and wealth from the Western world to Asia, the structure and functioning of global financial markets have changed dramatically, particularly since China entered the World Trade Organization by the end of 2001.

Since having lost its official monetary status in 1971 due to its substantial share in the monetary reserves of the western world, gold has still played an important monetary but passive role as a monetary instrument.

However, with the Asian world, led by China, building up huge monetary reserves, which did not include gold, its monetary function has further deteriorated.

To secure its sustainability of its economic growth China’s priority is to diversify its huge monetary reserves into industrial commodities as an economic instrument, rather than in gold as a monetary instrument.

This is clearly demonstrated by the fact that since June of last year the Chinese have pegged the yuan to the dollar rather than to become less dependent on the dollar as expressed in the media. This has to be a political rather than an economic statement to acquire more influence with the IMF that is controlled by the Western world.

Overview metal / oil prices(in US$)






June 30













(in %)









































































Brent oil  














historic high: $ 147.00 (July 7, 2008)






             low : $   39.23 (December 5, 2008)












Uranium (U3O8) spot price







April 6, 2009 (Low)







Long-term contract price














source: Goldletter International






Referring to earlier financial market turbulences in October 1987 and 1997-1998, history teaches that the financial markets are always exaggerating both in good and bad times.

Market sentiment is determined by expectations which have to be proven right at a later stage rather than by actual developments that have to cope with expectations. In other words, the first signs of a worldwide recovery resulting in growing optimism from the first quarter of 2009, still have to prove that the recovery is sustainable and recently upgraded economic growth figures for 2010, particularly in the Western world, can be met.

At this time it looks like there occurs a certain status quo in the market looking forward to more evidence on the economic recovery to be sustainable.  However, the sentiment has become affected by the current EU crisis and the viability of the euro at stake.

This crisis has revealed how deeply national identity, rather than a European identity, remains the reality on the Continent.

Noteworthy is the volatile trading pattern of metal prices, including gold and other precious metals, during the period of the financial crisis and particularly the dollar in the second half of 2008, having acted stronger than gold did by showing a recovery against the euro of 12% (€/$ 1.58 ? 1.40)

Speculative elements reign gold market

Gold’s strongest price increase occurred in the second half of 2009 in a period of growing economic optimism, followed by a correction of 10% in December on doubts on the sustainability of an economic recovery.

This strong volatility translates in the gold price having been driven by growing speculative demand on the Comex, rather than by fundamental reasons related to primary demand and supply on which there is a lot of misconception on statistics provided by GFMS and the World Gold Council.

Based on recently published data in World Gold Council’s “Gold Demand Trends”, the volume of total identifiable gold demand during 2009 was down 11% on 2008 levels at 3,386 tonnes. Nevertheless, the US$ gold price in 2009 at an average of $ 972.35/oz was up 12% on $ 871.96 in 2008, fuelled by a strong increase of 38% on the level of the fourth quarter of 2008 to an average $ 1,099.63 in the fourth quarter of 2009.

Identifiable investment, consisting of net retail investment and ETFs & similar products in 2009 was up 7% or 88 tonnes to 1,271 tonnes, with net retail investment declining 21% or 186 tonnes to 676 tonnes, but ETFs, increasing 85% or 271 tonnes to 595 tonnes.

On the other hand, Jewellery consumption fell 20% or 440 tonnes to 1,747 tonnes and Industrial & dental declined 15% or 66 tonnes to 368 tonnes.

While total primary demand in 2009 fell 11% or 420 tonnes, this decline was compensated for by Inferred investment, the residual from combining all other data including institutional investment other than ETFs & similar, stock movements and other elements, as well as any residual error.
Inferred investment was 504 tonnes positive compared with 293 tonnes negative in 2008.

Inferred investment, not to be considered a fundamental element in demand and supply, but a speculative side in investor flows, shows a very volatile pattern with large positive demand in some years and outflows in others, fuelled by the increased prominence of hedge funds and other non-traditional institutions.

World Gold Supply and Demand (in tonnes)













Mine production




Official sector sales




Recycled gold




Total supply
























Industrial & Dental




Total Fabrication








Net producer de-hedging








Net retail investment




ETFs & similar products




Inferred Investments




Total investment








Total demand








Gold price (London PM, US$/oz








source: GFMS




The strong speculative element in the gold market has been demonstrated by the build-up of long positions in the futures market, resulting in gold’s strong price increase in the fourth quarter of 2009, but followed by a significant correction since December 2009.

China is economically committed to support the dollar

The question is whether a stronger dollar will spell the end for the commodity rally, including for gold. With the world’s economies led by China getting back on their feet, this could mean that demand is likely to trump the impact of currency moves and particularly that of the US dollar. Commodities are priced in US dollars, so a weaker dollar typically drives commodity prices higher as it takes more weaker dollars to buy the same amount of commodities.

It is noteworthy to see that in the last few years, not just gold but the overall complex of industrial metal prices have shown an inverse correlation to the dollar, which even is significant higher than gold’s.

This underpins my view that gold has become part of total metal complexes having a monetary function being fuelled by economic fundamentals, rather than a separate monetary function after being officially demonetised in 1971.

Looking at the predominant role China is playing in global sovereign debt, and the US Treasury market lying at the heart of the global financial system and allowing the American government to finance its trillion-dollar budget deficits, China is fully committed  to economic priorities to safeguard its $ 2,400 million monetary reserves, of which two-third is denominated in dollars.

In this respect, it is premature to conclude that, based on recent data that its holdings fell by $ 34.2 billion to $ 755.4 billion in December and compared with a peak of $ 801.5 billion in May 2009, China is rebalancing its holdings in treasury bonds.

Apart from being prone to big monthly savings and subject to co-called transactional bias, the data is clouded as the true holdings of Asian central banks such as the People’s Bank of China, are obscured by their use of custodians in big financial centres offshore. Dealers believe China may have made significant purchases in the past year through Hong Kong and London.

Treasury holdings by Hong Kong rose to $ 152.9 billion in December, up from $ 77.2 billion in December 2008. Meanwhile, UK holdings of treasuries have also surged, reaching $ 302.5 billion in December, from $ 230 billion in October.

If Chinese demand for Treasuries disappeared and it started selling, US interest rates would rise. This could throttle a US economic recovery, damage Chinese exports and also reduce the value of China’s vast holdings of Treasuries. Moreover, China’s currency link with the US dollar entails there is a limit to how far they can diversify their foreign reserves. So long as its currency is pegged to the US dollar, China will need to recycle their trade surplus dollars back into US assets.

Gold and dollar forecast 2010

While investment demand in 2009 had been well supported by low to negative real interest rates and the dollar having become a carry trade currency, in conjunction with strong speculative Comex demand, I expect that the odds will not be in favour of gold in the first half of 2010. A correction to the $ 1,000 level would not surprise me.

In contrast to the view of GFMS, I don’t see the threat of a “double dip” recession, which could have a positive effect for the gold price, since emerging countries, led by China, have demonstrated to be able to cure imbalances leading to an accelerated shift of economic growth and wealth from the Western world to Asia.

I also don’t see a serious threat of inflation to occur. Even if ultra-loose fiscal and monetary policies are to be maintained for the first half of this year, further signs of a recovery of the worldwide economy will lead to an increase of interest rates increasing. It should also be born in mind that losses on the worldwide equity markets, representing the value of the real economy, despite a 50% recovery since March 2009, still show a negative balance of US$ 16,000 billion compared with year-end 2007. This is four times as much as the total amount of rescue and stimulus packages and is a destruction of economy related value which has a strongly deflated impact.

Furthermore, I expect a longer-term limited sustainable economic real growth below 2% in the Western world facing huge debt problems. In contrast, average growth in emerging countries can be estimated at 5%, led by China with an estimated annual growth at 9%. China will show a higher efficiency rate than the US and Europe and will benefit from having its currency the yuan or Renminbi pegged to the dollar, thereby protecting the dollar to weaken.

The dollar, will also benefit from the widely expected tightening of fiscal and monetary policies in the second half of 2010 and the United States lowering the gap in short-term interest rates compared with the European Union (currently 0.00-0.25% and 1.00% respectively).

While the structural weakness of the dollar against the euro has already come to an end as is demonstrated by the dollar currently being stronger than at year-end 2007 (euro/dollar ratio $ 1.42 and $ 1.47, respectively), at the time the first signs of the financial crisis became unfolded, the odds are in favour that the dollar will further strengthen in 2010 due to some of the members of the European Monetary Union facing tough economic problems facing soaring budget deficits. This doesn’t apply to smaller countries like Greece, Ireland and Portugal only, but also to the monetary credibility of Spain to be followed by Italy to become at stake.

Far-reaching cost-cutting plans are at the heart of Greece’s efforts to curb a deficit of 12.7% of gross domestic product, more than four times the permitted ceiling for countries using the euro.

That has prompted alarm in the financial markets and has created arguably the biggest challenge for the euro since its inception on January 1, 2001.

With no last-resort financial backing by the EU for Greece to be expected, and other countries with high government debts coming under strain, this might prelude the end of the Euro Zone paying the penalty for too different cultures of its members failing to create a political and economical community which can equal the federal constitution of the United States.

Good news for gold should come from further rising investment demand from emerging countries led by China and recovery of jewellery demand, particularly in India.

The big question however is at what price level gold will find a new balance in primary demand and supply, particularly if speculative long positions in gold will be unwinded and the proceeds to be used for higher yielding investment alternatives.

In summary, I expect the gold price at least temporarily to continue its recent downtrend. On the other hand, at prices above $ 1,000 per ounce, the gold equity sector is offering attractive investment opportunities. Production margins are at record levels, while particularly gold projects that were not economically viable at gold prices at around $ 600 just three years ago, offer high leverage potential.

IMF has curtailed monetary function of gold

The International Monetary Fund (IMF) was conceived in July 1994 when representatives of 45 countries meeting in the town of Bretton Woods, New Hampshire, in the north-eastern United States, agreed on a framework for international economic cooperation, to be established after the Second World War.

They believed that such a framework was necessary to avoid a repetition of the disastrous economic policies that had contributed to the Great Depression.

The IMF came into formal existence in December 1945, when its first 29 member countries signed its Articles of Agreement. It began operations on March 1, 1947. Later that year, France became the first country to borrow from the IMF.

The countries that joined the IMF between 1945 and 1971 agreed to keep their exchange rates (the value of their currencies in terms of the US dollar and, in the case of the United States, the value of the dollar in terms of gold), pegged at rates that could be adjusted only to correct a “fundamental disequilibrium” in the balance of payments, and only with the IMF’s agreement.

This par value system – also known as the Bretton Woods system – prevailed until 1971, when the US government suspended the convertibility of the dollar (and dollar reserves held by other governments) into gold.

An attempt to revive the fixed exchange rate failed, and by March 1973 the major currencies began to float against each other.

Since the collapse of the Bretton Woods system, IMF members have been free to choose any form of exchange arrangement they wish (except pegging their currency to gold); allowing the currency to float freely, pegging it to another currency or a basket of currencies, adopting the currency of another country, participating in a currency block, or forming part of a monetary union.

The transition to float exchange rates was relatively smooth, and it was certainly timely: flexible exchange rates made it easier for economies to adjust to the oil crisis when the price suddenly started going up in October 1973. Floating rates have facilitated adjustments to external shocks ever since.

From the mid 1970s, the IMF sought to respond to the balance of payments, difficulties confronting many of the world’s poorest countries by providing concessional financing through what was known as the Trust Fund.

In March 1986, the IMF created a new concessional loan program called the Structural Adjustment Facility, which was succeeded by the Enhanced Structural Adjustment Facility in December 1987.

The fall of the Berlin wall in 1989 and the dissolution of the Soviet Union in 1991, enabled the IMF to become a (nearly) universal institution. In three years, membership increased from 152 countries to 172, the most rapid increase since the influx of African members in the 1960s.

The IMF played a central role in helping the countries in the former Soviet Union block transition from central planning to market-down economies. This kind of economic transformation had never before been attempted and sometimes the process was less than smooth.

However, by the end of the decade, most economies in transition had successfully graduated the market economy status after several years of intensive reforms, with many joining the European Union in 2004.

In 1997, a wave of financial crisis swept over East Asia, from Thailand to Indonesia to Korea and beyond. Almost every affected country asked the IMF for both financial assistance and for help in reforming economic policies. Conflicts arose on how best to cope with the crisis, and the IMF came under criticism that was more intense and widespread than at ay other time in its history.

From their experience, the IMF drew several lessons that would allow its response to future events. First, it realised that it would have to pay much more attention to weakness in countries’ banking sectors and to the effects of those weaknesses on macroeconomic stability.

In 1999, the IMF – together with the World Bank – launched the Financial Sector Assessment Program and began conducting national assessments on a voluntary basis.

Second, the IMF realised that the institutional prerequisites for successful liberalization of international capital flows were more daunting than it had previously thought. Along with the economics profession generally, the IMF dampened its enthusiasm for capital account liberalization.

Third, the severity of the contraction in economic activity that accompanied the Asian crisis necessitated a re-valuation of how fiscal policy should be adjusted when a crisis was precipitated by a sudden stop in financial inflows.

During the 1990s, the IMF worked closely with the World Bank to alleviate the debt burdens of poor countries. The Initiative for Heavily Indebted Poor Countries was launched in 1996, with the aim of ensuring that no poor country faces a debt burden it cannot manage.

In 2005, to help accelerate progress towards the United Nations Millennium Development Goals, the HIPC Initiative was supplemented by the Multilateral Debt Relief Initiative.

For most of the first decade of the 21st century, international capital flows fuelled a global expansion that enabled many countries to repay money that they had borrowed from the IMF and other official creditors and o accumulate foreign exchange reserves.

However, the global economic crisis that began with the collapse of mortgage lends in the United States in 2007, and spread around the world, was preceded by large imbalances in global capital flows.

Global capital flows fluctuated between 2 and 6% of world GDP during 1980-95, but since then they have risen to 15% of GDP. In 2006, they totalled $ 7.2 trillion – more than a tripling since 1995. The most rapid increase has been experienced by advanced economies, but emerging markets and developing countries have also become more financially integrated.

The 2007-2008 global crisis uncovered fragility in the advanced financial markets that soon led to the world global downturn since the Great Depression. Suddenly, the IMF inundated with requests for stand-by arrangements and other forms of financial and policy support.

The international community recognised that the IMF’s financial resources were as important as ever and were likely to be stretched thin before the crisis was over. With broad support from creditor countries, the Fed’s lending capacity was tripled to around $ 750 billion.

To use these funds effectively, the IMF overhauled its lending policies, including by creating a flexible credit line for countries with strong economic fundamentals and a track record of successful policy implementation.

Other regions, including ones tailored to help low-income countries, enabled the IMF to disburse very large sums quickly, based on the needs of borrowing countries and not lightly constrained by quotas, as in the past.

As part of this response, the IMF has already more than doubled its financial assistance to low-income countries, with new IMF concessional lending commitments to low-income countries through mid-July 2009 reaching $ 2.9 billion compared $ 1.5 billion for the whole of 2008.

As the global economy continued to struggle in the first half of 2009, and with both trade and capital flows plummeting, the IMF is still foreseeing monetary problems for many countries,. The Fund is therefore seeking to add to its resources, and has already negotiated borrowing agreements with a number of countries.

The Fund has already made good progress toward its target of $ 250 billion in bilateral government loans as part of moves to triple the IMF’s lendable resources to $ 750 billion.

Since 2008, the IMF has committed more than $ 160 billion in lending to a number of countries affected by the crisis.

The global economic crisis is threatening to undermine recent economic gains and to create a humanitarian crisis in the world’s poorest countries. In response the IMF has stepped up lending to low-income countries to combat the impact of the global recession with a new framework for loans to the world’s poorest nations.

In addition, more than $ 18 billion of a planned $ 250 billion allocation of IMF Special Drawing Rights (SDR’s) will go to low-income countries. These countries can benefit by either counting the SDR’s as extra assets in their reserves, or selling their SDR’s for hard currency to meet balance of payments needs.


Gold played a central role in the monetary system until the collapse of the Bretton Woods system of fixed exchange rates in 1973. Since then, the role of gold has been gradually reduced. However, it is still an important asset in the reserve holdings of a number of western countries, and the IMF remains one of the largest official holders of gold in the world.

Consistent with the new income model for the Fund agreed in April 2008, on September 18, 2009 the IMF Executive Board approved gold sales strictly limited to 403.3 metric tons (12.97 million ounces), representing one-eight of the Fund’s total holdings of gold.

On September 18, 2009, the Executive Board approved the sale of these 403.3 metric tons which should not add to the announced volume of sales from official sources, but should be distributed to official one or more official holders without changing total official holdings.

This decision is a key step in implementing the new income model agreed in April 2008 to help put the IMF finances on a solid long-term footing.

In August 2009, the European Central Bank and other central banks, announced the renewal of their agreement (Central Bank Gold Agreement) on gold sales, which are not to exceed 400 metric tons annually and 2,000 metric tons over the five years starting on September 29, 2009.

The announcement notes that sales of 403 tons of gold by the IMF can be accommodated within these ceilings. This ensures that gold sales by the Fund would not add to the announced volume of sales from official sources.

On November 2, 2009, the IMF announced the sale of 200 metric tons to the Reserve Bank of India. The total sales proceeds are equivalent to US$ 6.7 billion or SDR 4.2 billion, and according to the Fund’s Articles of Agreement being conducted at prices based on market prices.

On November 16, 2009, the IMF announced the sale of 2 metric tons of gold to the Bank of Mauritius, the nation’s central bank. The sale was conducted on the basis of market prices prevailing on November 11, 2009 with proceeds equivalent to US$ 71.7 million (SDR 44.7 million).

On November 25, 2009, the IMF announced the sale of 10 metric tons of gold to the central Bank of Sri Lanka. The sale was conducted on the basis of market prices prevailing on November 23, 2009, with proceeds equivalent to US$ 375 million (SDR 234 million).

The 403.3 tons gold sales program is an important step towards achieving the objectives of the IMF to put the Fund’s finances on a sound long-term footing and enable it to step up much-needed concessional lending to the poorest countries.

These objectives emphasize the prevailing economic function of IMF’s gold holdings rather than a pure monetary function, similar to objectives to the Central Bank gold holdings.

While the dollar has lost 35% of its value against the euro in the period 2002-2004 (€/$ 0.88 ?1.36) due to high expectations on Europe outpacing US economic growth, it has strengthened its status as the world’s reserve currency of choice during the period of the financial crisis (June 2008 – March 2009).

The world’s over-reliance on the dollar as posing danger to the global economy claimed by China as Russia based on the strength of the dollar should be considered as a political rather than an economic statement.  China is benefitting from its national currency the yuan being pegged to the dollar, thereby improving its competitiveness compared with the Euro Zone, Japan and natural gas-rich Russia, the latter benefitting from increasing commodity prices against a lower dollar.

In 2009, foreign holdings of US Treasury rose 15.6% to $ 2.38 trillion.

While an orderly transition from a dollar based globalised economy might be desirable, no single currency can replace the dollar, particularly since the European Union facing a crisis and the Chinese yuan not being a free convertible currency for the next ten years.

Although figures from the IMF show that the share of foreign exchange reserves held in dollars by central banks has declined to 61.6% from 71.6% in the first quarter of 2002 when the currency hit its peak, the euro represents just 25% of central bank reserves, but not backed up by the political, military and diplomatic clout that investors look for in a reserve currency.

With no other single currency threatening the dollar as the global currency of choice, there are only two other options. One is the Special Drawing Right (SDR), the international reserve asset created by the IMF which currently represents approximately 10% of the world’s total monetary reserves.

However, the SDR is not a currency in its own right. Instead, it is a potential claim on the currencies of IMF members.

Gold has lost its function as a monetary instrument and a swap against the dollar since globalization was speeded by China entering the World Trade organization by the end of 2001. While European central banks under the Washington Agreement were selling a part of their gold holdings for economic reasons, Asian central banks were no buyer for the same reasons.

In this respect, it is noteworthy that also the IMF is selling 403.3 tonnes of gold, with the proceeds to be used to give financial support to undeveloped countries, but succeeded to sell 212 tonnes off the market only, of which 200 tonnes to India.

In October 2009, when the sale was announced, it was broadly expected that China would purchase all of the offered IMF gold, representing a market value of approximately $ 12 billion.

However, China failed to materialize any concrete interest and the IMF to sell 191.3 tonnes in the open market now. This has to be considered as a bad signal for the gold market and underpins my view that gold has no monetary function in China.

European Union

The European Union (EU) is an economic and political union of 27 member states located primarily in Europe. Committed to regional integration, the EU was established by the Treaty of Maastricht on 1 November 1993 upon the foundations of the European Committee.

With over 500 million citizens, the EU combined generates an estimated 30% (US$ 18.4 trillion in 2008) of the nominal gross world product, representing the world’s biggest economy.

As an international organization the EU operates through a hybrid system of supranationalism and intergovernmentalism. In certain areas, discussions are made through negotiations between Member States, while in others, independent supranational institutions are responsible without a requirement for unanimity between member states.

The EU has developed a limited role in foreign policy, having representation at the World Trade organization, G8, G20 major economies and the United Nations.

European Monetary Union (EMU)

The creation of a European single currency became an official objective of the EU in 1969. However, it was only with the advent of the Maastricht Treaty in 1993 that members were legally bound to start the monetary union no later than January 1, 2009. On this date the euro was duly launched by 11 of the then 15 members of the EU.

It remained an accounting currency until January 1, 2002 when euro notes and coins were issued and national currencies began to phase out in the Euro Zone, which by then consisted of 12 member states.

The Euro Zone has since grown to 16 countries, the most recent being Slovakia which joined on January 1, 2009.

All other EU member states, except Denmark and the United Kingdom, are legally bound to join the euro when the convergence criteria are met, however only a few countries have set target dates for accession.

Sweden has circumvented the requirements to joint the euro by not meeting the membership criteria.

The four convergence criteria of the European Community Treaty are: price stability, government finances, exchange rates and long-term interest rates.

  • Price stability: the high degree of price stability will be apparent from a rate of inflation which is close to that of, at most, the three best-performing member States in terms of price stability.

    In practice, the inflation rate of a given member State must not exceed by more than 1 ½% that of the three best-performing Member States in terms of price stability during the year preceding the examination of the situation in that Member State.

  • Government finances: The sustainability of the governmental financial position will be apparent from having achieved a government budgetary position without a deficit that is excessive on the basis of the following two criteria:

? The annual government deficit: the ratio of the annual government deficit to gross domestic product (GDP) must not exceed 3% at the end of the preceding financial year. If this is not the case the ratio must have declined substantially and continuously and reach a level close to 3% or, alternatively, must remain close to 3% while representing only and exceptional and temporary excess;

? Government debt: the ratio of gross government debt to GDP must not exceed 60% at the end of the preceding financial year. If this is not the case, the ratio must have sufficiently diminished and must be approaching 60% at a satisfactory pace.

  • Exchange rates: The Treaty stipulates the observance of the normal fluctuation margins provided by the exchange-rate mechanism of the European Monetary System for at least 2 years, without devaluating against the currency of any other member State. The Member State must have participated in the exchange-rate mechanism of the European monetary system without any break during the two years preceding the examination of the situation and without severe tensions. 
    In addition, it must not have devaluated its currency on its own initiative during the same period.

  • Long-term interest rates: The Treaty stipulates the durability of convergence achieved by the Member State being reflected in the long-term interest-rate levels. In practice, the nominal long-term interest rate must not exceed by more than 2% that of, at most, the three best performing Member States in terms of price stability. The period taken into consideration is the year preceding the examination of the situation in the Member State concerned.

Sovereign debt as percentage of GDP

With the ratio of gross government debt to GDP having increased strongly last year to approximately 80% for the Euro Zone compared with convergence criteria of 60% and some countries, led by Greece (125%), but also Italy (119%), drastic cutbacks in spending are required, which might be at the expense of economic growth and will lead to social unrest.

Greece socialist government has presented plans to the European Commission that aim to reduce the budget deficit to the convergence agreement of 3% of GDP by 2012 from 12.7% in 2009, which doesn’t appear to stand a chance from the very short and all Euro Zone members failing to match the 3% target as a result of the financial crisis.

The question can be asked whether European central banks have to sell part of their gold reserves to improve the current dramatic debt situation to avoid a new period of recession.

Sovereign debt as percentage of gross national product

















































































Marino G. Pieterse,
Goldletter International
February 2010


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