The Gold Forecast, Running of the Bulls (Part 6)

Tuesday April 03, 2012 12:48

My last commentary on March 23, 2012, presented technical evidence suggesting a termination of the current correction in gold. Three different technical indicators all suggested the same conclusion: a high probability that the current correction was coming to an end. It was the combination of technical indicators with similar conclusions that strengthened the reliability of that forecast.

The chart below is a daily Japanese average chart of spot gold. First, the circled candle was the hammer we identified in the last commentary as a key reversal single candle pattern. Second, the low of this hammer matched a precise 61% retracement and occurred at the end of the current Elliott wave count. Any of these indicators alone could shed sound technical information yielding reliable market insight. However, it is the combination of these indicators that, like the multiple threads in a rope, strengthens the call. Each indicator offers unique insight that contains one piece of a much larger puzzle. The combination of indicators reveals a much more detailed and multi-dimensional technical market analysis. By identifying the confluent agreement of these indicators the puzzle pieces become part of the whole, strengthening the likelihood of success.

However, technical analysis has one insurmountable shortcoming: we base our conclusions on past events. As market technicians we are sometimes blindsided by historical data as our analysis is formulated from what has already transpired. We forecast future events based upon the observation of the past. The net result is that many technical indicators are lagging indicators.

Market technicians stand at the back of the financial bus looking out the rear window. Unable to see where the bus is headed, we create our models from information we gain by viewing where we have been. Unlike the bus driver, we can only speculate where we might be headed. The bus driver, however, will choose when to turn, and as a market technician there will be a time lag before we are aware of this change in course.

The information identified in my last commentary was simply a distillation of fundamental information as investors worldwide reacted to global events including statements made during a lecture delivered to students at Washington University.

A series of four speeches by a former economics professor last month resonated globally, its impact reaching every corner of the globe. These lectures came from no ordinary professor. For this professor is now the chairman of the Federal Reserve. No surprise that his lectures were heard far beyond the students in attendance.

On March 22, Ben Bernanke began a series of lectures to economics students. These lectures would focus upon the role of the Federal Reserve in central banking.

It is quite clear as we view the chart above what the overall effect of his lectures was. The exact low of gold occurred just prior to the beginning of his lecture series. These speeches contained not only the chairman's historical perspective; they also contained statements revealing possible future actions by the Fed. Interwoven in his speeches were hints that a change in direction might be forthcoming.

These lectures also explained his actions following the 2008 financial crisis. The first action was to drive interest rates to a record low - near zero. This would be followed by two rounds of quantitative easing (QE1 and QE2). At his command the Federal Reserve purchased $2 trillion dollars’ worth of bonds, flooding the markets with cheap, abundant liquidity. These efforts would drive down long-term interest rates in an attempt to stimulate spending. Up to the university lectures, no mention had been made that the Fed would enter into another round of quantitative easing. In fact, the Fed alluded to the contrary. Although Bernanke never directly mentioned a third round of quantitative easing he did defend former bond purchases. It is this stance that has been interpreted by many as a prelude to QE3. The Federal Reserve Chairman also said another financial crisis is "probably unavoidable." Can we conclude similar monetary policies and actions would be taken should such events occur?

The gold standard as an inferior monetary system

During the Q&A portion of his lecture Bernanke began a dissertation on gold, the gold standard and the Depression. The gold standard, when compared to the modern Federal Reserve System, is inferior according to Chairman Bernanke. He contends that the gold standard encouraged gold exploration and development, thus diverting resources from the real economy. He also spoke about the high correlation between the complexity of the gold standard and the beginning of the Great Depression. As countries defended the values of their currencies against gold, they became cash poor, which propelled them into a depression, a theory accepted by many economists, but not all.

This theory is not the whole story. According to Richard H. Timberlake, regarded as Milton Friedman's greatest student, no evidence exists that the Fed was following gold–standard rules or rubrics when it contracted the money supply from 1928 to 1933.

The Federal Reserve chairman said that he rejects a return to the gold standard because it would not be practical or desirable. The truth of the matter is our present monetary policies are in direct conflict with the gold standard and the safeguards it creates. Because the gold standard intrinsically limits fiscal spending to monetary reserves, no government could implement this standard without first paying off debt and balancing money supply against tangible assets.

Truth In Numbers

Currently global currency reserves are valued at just over $10 trillion. Central bank gold holdings are currently 31,000 metric tons. The equation reveals that central banks hold approximately $2 trillion in gold and $10 trillion in fiat currency. Unless the value of gold increases 5-fold, the reality of returning to the gold standard is a moot point, as it is unachievable.

According to Frank Hubbard, “The safe way to double your money is to fold it over once.” Comments made by Bernanke last Thursday suggested a more radical approach: just print more money. The Federal Reserve has been running a monetary regime for the last 40 years that is absolutely at its sole discretion. During that period, one burning question remains unanswered. Can the Fed with its absolute discretionary power and an absence of rules manage money effectively?  I fear that in the absence of the gold standard to guide monetary policy, there is no standard.

Hunter Brinkmeier said it best: “Money is nothing more than arrogance on paper.” Bernanke’s most recent statements clearly illustrated this fact. 

Gary Wagner

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.

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