The Goldwatcher

This  revealing chart,  prepared and explained by Bullion Marketing services, is based on reconstructed M3 money supply as calculated by John Williams in Shadow Financial Statistics.

The message is stark and simple. As money supply soars purchasing power plummets.  The Bretton Woods accords reached after World War II  gave the US a licence to print money instead of using gold to settle international committments. Then the US was the world’s richest country and principal creditor. Now it is the world’s biggest debtor and borrower. Keeping the money printing licence depends on creditors  having confidence in committments to a stable dollar. While there’s nothing on the horizon to suggest that’s happening now there’s plenty to suggest the fearful Wile E Coyote dollar plunge moment, mentioned in the Goldwatcher blog on $1000 gold and discussed by the economist Paul Krugman,  is too close for comfort.  Inflation in the US and UK is way above the target 2% and oil is no longer so cheap it’s almost given away.

Barclays Capital has now advised clients ‘to batten down the hatches for a worldwide financial storm, warning that the US Federal Reserve has allowed the inflation genie out of the bottle and let its credibility fall “below zero”. 

 Economic realities:

Factors now driving oil and gold prices are addressed in Chapters 5,6,7,8 & 9 of The Goldwatcher:

5: The Dollar Standard & the ‘Deficit Without Tears:’ Is the dollar again America’s currency and everyone else’s problem?

6: The Economic Consequences of 9/11 and George W. Bush : For how long will Asians go on lending for Americans to go on spending?

7: The End of Cheap Oil, ‘Chindia’ and Other Tipping Points to Instability : Will alternative energy come to the rescue?

8: Globalisation and Global Economic Rebalancing: Can the IMF avoid global financial meltdown?

9: Gold Prices : Inflation, Deflation, Booms and Busts : Do Trees grow to Heaven?

Recent developments point to the $ being everyone’s problem;  Asians continue to lend for Americans (and us Brits) to spend - but without any assurance they will continue to;  the ethanol alternative energy experiment was too little too late and fueled food price inflation; the IMF continued to act as guardian of the dollar standard without even recognising the biggest real estate bubble ever was about to burst.

Small wonder, then, that oil and gold prices are spiking.

The West Wing and the Real Thing: 

While the Clinton Obama contest was center stage the current Presidential election was at times about as real world as the  ‘West Wing’ election won by Matt Santos.  Now, however,  the candidates and the electorate must address realities. A soaring oil price, a shortage of oil, oil producers commanding pricing power,  a sinking dollar compounding the problem, the Iraq and Afghanistan wars on course to costing some $3 trillion (all borrowed); twin deficits and a multi trillion fiscal gap; high inflation with stagflation back in the global economy and  geopolitical tinder boxes in all the world’s hot spots. With Ross Perot back on the scene there will at last be no escaping realities and the days of the US electorate, and perhaps its creditors,  living in a fool’s paradise are over.

The case for investors to keep gold on the agenda remains compelling.  As stateless money it has through the centuries kept its value even in the worst of times - and will continue to.

On line debate Friday 27th June.

Two of the world’s well respected commentators on gold will exchange views on the most significant global threats and top global opportunities on Friday at 11 a.m. ET. ( 4 pm UK time.)  

In the foreward to The Goldwatcher Marc Faber warns of the Zimbabwe-isation of the dollar. In a recent posting on his blog Frank Talk Frank Holmes attributes the surge in commodity prices to lack of foresignt…….  ’we have to turn around and adjust to the fact that the population of the world has doubled. We’ve underinvested in the exploration and development for energy, for copper, potash, there’s no copper or potash mine being brought onstream, of significant size, for the past 30 years. Same thing with oil and gas fields.’   And, I expect, with gold and other precious metals.

The link to the Friday webcast hosted by US Funds gives the log in details.  The debate is bound t0 explore the key macro issues affecting gold, energy etc and will include practical information for investors. 

Rising inflation : The Governor – Chancellor letters:

Gold was $690, some 30% lower than its £ price now,  when the first letters on inflation breaching the target were exchanged between the Governor of the Bank of England and the Chancellor of the Exchequer last April .  It was the first time since the Bank was granted independence in 1997 that the Consumer Price Inflation index exceeded 3% -  1% above the 2% inflation target.  In April 2007  The Goldwatcher posted a comment on the dilemma facing policy makers. The predictions by the Governor and the Chancellor that energy and food prices would fall within a year were not convincing and the blog ended with this conclusion:

…‘whenever inflation is rising gold has utility for investors and should be on the agenda for asset allocation and strategic investing decisions - even when the inflation bell is still only tinkling.’   

Official UK Statistics now report that the Consumer Price Index (CPI) was up 3.3% and the Retail Price Index (RPI) was up 4.3% in May 2008.  Governor/ Chancellor letters have been exchanged again. Now the party line is that inflation will fall below 2% within  a year or two and,  to discourage those seeking pay increases,  a strident warning has been sounded that policy makers will,  if necessary,  raise interest rates to suppress wage demands above the 2% inflation rate.

Real world inflation rates:

On the same day as the high interest rates warning was published  an agreement was reached with petrol tanker drivers to increase their wages by 14% over two years. This illustrates the problem with official low inflation rates. Most of us are experiencing near double digit inflation and we don’t know anyone who is experiencing the much ballyhooed 3%.  The Daily Telegraph have calculated  a Real Cost of Living Index . It adds up to 9.5%. 

In the US John Williams Shadow Financial Statistics indicate real world consumer price inflation is about 12% as illustrated in the following chart:

Misleading inflation indicators are dealt with in The Goldwatcher – page 134 following.

Housing and Credit Bubbles:

HBOS, the UK’s largest mortgage provider, reported today they expect house prices to fall 9% in 2008 with payment defaults rising. Policy makers are facing twin challenges. On the one hand they fear the  economic, social  and political consequences of house price deflation. On the other they must keep monetary policy consistent with restoring their 2% inflation target.  Policy makers won’t have all options open to them.  Raising interest rates will wreak havoc for already over extended borrowers facing higher mortgage interest obligations,  record petrol and food prices and rising inflation generally. To survive they will require more money. Less spending power will mean defaults. 

Oil prices:

The Goldwatcher addresses oil prices in Chapter 7,  in this blog on cheap oil a decade back and in the following blog dated 16th June. With demand now exceeding supply producers command pricing power. The proposed meeting in Saudi Arabia with oil producers and consumers can’t be counted on to produce  positive results. The 68p from the 115p pump price of a litre,  the lion’s share, taken in taxes in the UK will also concern producers.

Price correction will eventually come through the market as demand destruction follows high prices -  or through policy as proposed by David Walker.

#  Added on 20th June : Link to Bloomberg video on prospects for meeting in Saudi Arabia on the weekend and China withdrawing subsidies on oil to subdue demand.

Gold and the policy tightrope:

Panic warnings of imminent financial disaster made by some strategists have made the headlines but there are also credible commentators who recognise current problems and expect conditions will settle down in 2009 that we should consider.  Among those with constructive views are Trevor Williams, Chief Economist of Lloyds TSB Bank and Julian Chillingworth,Chief Investment Officer of Rathbones Investment Managers.

Of course we all assume in our everyday lives that current financial crises will pass.  But we must prepare for the consequences of worst case scenarios.  Policy makers are walking a precarious tightrope between house price deflation and consumer price inflation. Leaning too far on the monetary tightening side will tip the balance towards systemic risk for the banking system. Too much much support for consumer spending will entrench inflation.

In a best case scenario the Treasury and the Bank of England will inject enough money into financial markets to cushion the housing collapse,  ease the general credit squeeze and the £ will loose purchasing power gradually.  In a worst case scenario policy makers will be unable to contain inflation expectations and the £ will loose purchasing power rapidly. 

While the high wire policy act plays out we need a safety net. The case for keeping gold on the agenda as a hedge against paper currencies losing purchasing power remains compelling.

I heard the Deputy Chairman of Credit Suisse, Bob Parker,  remark in a BBC interview this morning that Coca Cola costs $128 a barrel.  In Chapter 7 I quote Matt Simmons on oil having been so cheap over most the 20th century it was ‘almost given away.’ In February 2009 The Goldwatcher reviewed  the soaring gold price and a comment from Simmons that oil is still a bargain.

 In The Goldwatcher - pages 30 and 31 - the question is raised whether gold prices over the 20th century were enough to reward producers adequately and whether a similar view that gold was almost given away could also be correct.

Reported increases in electricity costs of 65% suggest that South Africa’s electricity has been very cheap. Now there is another structural change affecting the cost of producing gold.

Saudi increase of 200,000 barrels a day a ‘drop in the ocean.’

In a Bloomberg video interview today with Matthew Simmons  he relates the 200,000 barrels a day of oil increase proposed to the daily 8,000,000 being consumed and brands it a drop in the ocean. He doubts that globsl supply can be realistically increased and forecasts a $200 price.

The Economic Consequences of G.W. Bush as seen by Ross Perot & David Walker

Billionaire Ross Perot stood as an independent candidate in the 1992 US Presidential elections. In the campaign he challenged rose tinted views of the US economy. His flip charts with financial analysis spelled out economic realities, illustrated the need for tax increases and changed the agenda for the Presidential candidates George Bush Senior and Bill Clinton.

Though he is not a candidate this time round Perot is back in action  warning of the most serious risks since the Great Depression.  His web site www.perotcharts.com presents a superb supplement to content discussed in Chapter 6,7 & 8.

David Walker, former US Comptroller General,  now President of the Pete Peterson Institute,  preaches from the same pulpit as Ross Perot. The Goldwatcher has been expecting involvement from Walker in the current Presidential elections.  The front page of Perot’s new web site carries this endorsement:

New Categories Test

Monday 9th July 2008. 

This web site is currently being re-organised to update and supplement information in The Goldwatcher.