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We've Met The Enemy and He Is (Among) Us

By Jon Nadler       Printer Friendly Version Bookmark and Share
Apr 6 2009 4:44PM

Good Afternoon,

Gold and other precious metals were hit hard on Monday, as the after-effects of last week's G-20 meeting and IMF gold mobilization chatter started to take their effects on more than just the swiftest speculative trigger-fingers out there. Mass position liquidations followed on the heels of a substantial rise in the US dollar (which, was supposed to be defunct several times over, by now - according to certain camps) and a $1.40 drop in crude oil. Stock market erosion, tense global geopolitics (N. Korea's science fair rocket launch, blasts in India, more Somali pirates hard at work), and diametrically opposed bank analyst forecasts failed to lift gold. A the end of the day, the metal suffered a setback which now brings the $890's into focus as an exit point for holders or the speculative ilk.

That this huge (decline) is no longer about the psychological impact of the IMF sales topic, is becoming clear. Since but ONE day after the announcement of US debt buyback be the Fed (an event that should have made $1200 gold a shoo-in that same day!) the metal has lost $100 or so. Okay, so the mere idea of a return to stability has prompted some of the flock to take flight. That this (return to more moderate; read realistic values) is more about the shifting of the tectonic plates which have had the credit and economic lands of the planet locked since 2007, is also becoming clear. The fallout of the G-20 meeting -one at which the US took the reins firmly- is being measured in terms of degrees of optimism. Quite a switch from the 'more of the same' syndrome that had greeted every previous attempt by officialdom to meet and talk. Credit appears to be due to Mr. Obama for several of these rising degrees of hope.

Gold, (at the new price equation), found buyers in (gasp!) India for a change. Yes, the previously hibernating species of buyer reluctantus emerged and scooped up some gold, with but 22 days to go before it becomes a 'must' to do so. Akshaya Tritiya prayers may have found a partial answer today. Other Indian observers talked about $810-$850 gold late last week. Scrap flows eased up as well, and these two incipient phenomena could put a possible floor under bullion near $845. Looks like the zealots who derided India for no longer making a difference to the gold market might have to find a new tune, and a new drawing board. On the problematic side of things, the cessation of accumulative behavior in the gold ETF. If gold did react to something early on Monday, it was perhaps the significant and on-going decline in German retail sales and producer prices.

Spot prices fell $125 in gold, to last trade near $869 (after lows of under $864 were recorded) and the market's tilt-meter appears pretty firmly leaning towards the supports that might hopefully emerge in the mid $800's. We just did not expect such a slide to show up all in one day. It nearly did. Hyper-bull gold forum chatter had declared that we might 'never see $890 again' over the weekend. Such prognostications could take on a whole new meaning this morning. Silver lost 65 cents in today wash-out, and was last quoted at $12.11 per ounce. Platinum fell $16 to $1139 per ounce, in sympathy with the complex, and on lack of fresh news. SAAB was given a bit of additional time to get its de facto bankrupt act together. No other sector news was seen on the wires. Palladium rose $3 to $222, bucking the selling trend in the complex.

Here is a glimpse at what may be eating away at commodity players as the post G-20 period gets underway. Comments from two Fed officials regarding the clear and present danger. No, not the Weimar-Republic hyper-inflation assurances we are being inundated with in every hard-money publication. THIS is what's gnawing at the psyche out there:

"The U.S. economy is in a state of a panic that predated the official recession and may have significant long-run implications, a Federal Reserve official said on Monday. In remarks to the Council of Institutional Investors, Fed Governor Kevin Warsh said that while the pace of economic decline was likely to abate, "I am decidedly uncomfortable forecasting a sharp and determined resumption of growth in the coming quarters."

Warsh used the word "panic" more than 30 times in his speech -- entitled "The Panic of 2008" -- and said both faulty private practices and flawed public policies were to blame for causing it. While Warsh did not comment specifically on monetary policy, his speech alluded to one of the thorniest issues facing the central bank: when and how to pull back some of the trillions of dollars that it has pledged to support the financial system.

Some Fed officials have expressed concern that removing liquidity too slowly will trigger a dangerous bout of inflation. But Warsh's comments suggested he is concerned that the financial crisis may have done lasting damage to the economy's potential growth, so pulling away supports too soon could throw the economy into a tailspin.

"The panic conditions that have marked this period may also have long-run implications," he said. "I suspect that the process of an efficient reallocation of capital and labor will prove slower and more difficult than is typical after recessions."

He said policymakers should be wary of taking action that makes the economy less capable of growth and productivity. Warsh said the panic began before the recession "and will assuredly end before it," but the unemployment rate would likely rise steadily through the balance of the year. Recent economic data was consistent with the view that this recession will be longer, deeper and broader than most, he added.

The breadth of the global slump shows that the financial crisis runs far deeper than souring U.S. mortgage loans and requires a global response.

"There is a global recognition, for the first time in a long time, that this is not about U.S. subprime mortgages. Those who thought this could be contained in one country or in one asset class have been sorely disappointed by the contour over the last six to 12 months," he said.

"We are in this thing together. This is indeed a global recession and it will be resolved only through coordinated actions across country lines," Warsh said. Before the U.S. economy can fully recover, the financial sector needs to be functioning efficiently once again, and greater clarity as to policymakers' objectives would help to restore faith in financial firms and markets, he said.

"To accelerate the formation of a new financial architecture, the official sector should outline and defend a positive vision for financial firms and welcome private capital's return," Warsh said. "The nature and terms of the relationship between financial firms and the official sector should not be left in limbo."

No, we will not be beating the IMF horse either, any more today. Tomes have already been written as to the possible outcomes of such sales. This is one tired horse. Let's instead focus on one of another color: that of deflation. It is, still, the lead horse in this equation. To see anything else in the urgency present at the G-20 table, is to misread the overriding worry of the participants. The Wall Street Journal relays the Fed-issued warnings as follows:

"Federal Reserve Vice Chairman Donald Kohn offered a sobering assessment of the economic landscape and warned in starker terms than he has before about the risk of deflation -- a widespread drop in consumer prices that can sap the economy's strength.

"Many financial markets remain under considerable stress," Mr. Kohn said in comments at the College of Wooster in Ohio, his alma mater, noting that the value of assets -- such as stocks and homes -- has fallen and credit is still tight for firms and households. "These conditions are not conducive to a substantial and sustained economic rebound."

The Fed has already lowered interest rates to near zero and in recent months has tried other approaches to repairing financial markets by aggressively expanding its lending and asset-purchase programs. Mr. Kohn expressed worry that with the Fed's benchmark interest rate already about as low as it can go, further declines in inflation could push up the real cost of borrowing, which is borrowing adjusted for inflation. That, in turn, could further weaken the economy.

"If such a process continued for some time, we could fall into deflation, much as Japan did for a time in the 1990s and earlier this decade," he warned. The Fed is combating that risk by ramping up its purchases of securities and loans to needy firms, an act that ultimately could have the opposite effect -- causing inflation. Both Mr. Kohn and Fed Chairman Ben Bernanke, speaking separately in North Carolina, addressed the need for the Fed to pull back its special lending programs once the economy gets back on its feet. To finance its asset purchases, the Fed has effectively been printing money which shows up in the financial system as reserves that banks keep on deposit with the Fed.

"The large volume of reserve balances must be monitored carefully," Mr. Bernanke said. If not carefully managed, he said, the cash sloshing around the financial system could make it harder for the Fed to raise interest rates down the road when the economy starts a convincing recovery."

A week to watch the US banks' stress test results, the post-communique actions of the G-20, and the attempted rebalancing of the gold market's essential pillars of supply and demand. Would not hold any breaths over that last one. Emotion rules for the moment. It is not emotion that a $1 billion sale should engender. But, you know the story: when a market disregards positive news and amplifies each negative one, its mindset is fairly obvious. To all but Manipulation Scientologists.

See you (sort of) on Bloomberg Radio at 6:10 am NY time tomorrow. Semi-live (at that hour).

Jon Nadler
Senior Analyst
Kitco Bullion Dealers Montreal



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