{"id":1825,"date":"2013-04-26T15:26:13","date_gmt":"2013-04-26T09:56:13","guid":{"rendered":"http:\/\/teekhapan.wordpress.com\/?p=1825"},"modified":"2013-04-26T15:26:13","modified_gmt":"2013-04-26T09:56:13","slug":"a-case-for-gold-at-10000-per-ounce","status":"publish","type":"post","link":"https:\/\/vivekkaul.com\/2013\/04\/26\/a-case-for-gold-at-10000-per-ounce\/","title":{"rendered":"A case for gold at $10,000 per ounce"},"content":{"rendered":"

\"gold\"<\/a>Vivek Kaul\u00a0<\/span><\/span><\/strong>
\nThe funny thing is that the more I think I will not write on gold, the more I end up writing on it. So here we go with one more piece analysing the prospects of the yellow metal.
\nThe recent past has seen a host of analysts and economists turn negative on gold. One of the reasons for this has been the feeling that the developed world (US, Europe and Japan i.e.) which had been reeling under the aftermath of the financial crisis since 2008 is now on a roadmap to sustainable recovery.
\nThe irony is that analysts and economists jump at any opportunity to predict a recovery but are nowhere to be seen when a recession is looming. As Albert Edwards of Societe Generale writes in a report titled\u00a0We still forecast 450 S&P, sub-1% US 10year yields, and gold above $10,000\u00a0<\/i>released yesterday \u201cThere are some ever-present truths in this business. Economists usually\u00a0forecast a return to trend growth and will never forecast a recession. Equity strategists tend to forecast the market will rise 10% each year and will never forecast bear markets.\u201d
\nSo dear readers this is an important fact to be kept in mind when reading any dire forecast on gold. As Edwards puts it \u201cThe late Margaret Thatcher had a strong view about consensus. She called it:\u00a0\u201cThe process of abandoning all beliefs, principles, values, and policies in search of something in\u00a0which no one believes, but to which no one objects.\u201d\u00a0<\/i>The same applies to most market forecasts. With some rare exceptions…analysts don\u0092t like to stand out from the crowd.\u201d
\nAnd the consensus right now seems to be that gold is done with its upward journey. The logic being offered is that all the money printing that central banks around the world have indulged in since the end of 2008, has helped them repair their respective financial systems and economies. (To know why I don’t believe that is the case\u00a0click here<\/a>).
\nTo achieve this economic stability a huge amount of money has been printed. As Gary Dorsch, an investment newsletter writer\u00a0wrote in a recent column<\/a>\u00a0\u201cSo far, five central banks, – the Federal Reserve, the European Central Bank, Bank of England, the Bank of Japan and the Swiss National Bank have effectively created more than $6-trillion of new currency over the past four years, and have flooded the world money markets with excess liquidity. The size of their balance sheets has now reached a combined $9.5-trillion, compared with $3.5-trillion six years ago.\u201d
\nWhile this money printing has ‘supposedly’ helped the countries in the developed world move towards economic stability, at the same time it has not led to any inflation, as it was expected to. And this is the main reason being cited by those who have turned bearish on gold.
\nGold has always been bought as a hedge against the threat of high inflation. And if there is no inflation why buy gold is the argument being offered.
\nOn the face of it this seems like a fair point to make. But lets try and understand why it doesn’t work. It is important to understand that free money does not and cannot exist. As Dylan Grice of Societe Generale wrote in a report titled\u00a0The Market for honesty: is $10,000 gold fair value? r<\/i>eleased in September, 2011 \u201cSince there can be no such thing as a government, or anyone else for that matter, raising revenue \u201aat no cost\u201b simple logic tells us that someone, somewhere has to pay.\u201d
\nThe point being that when the government finances itself by getting the central bank to print money, someone has to bear the cost.
\nThe question is who is that someone. As Grice wrote \u201cThis is where the subtle dishonesty resides, because the answer is that no-one knows. If the money printing creates inflation in the product market, the consumers in that product market will pay. If the money printing creates inflation in asset markets, the purchaser of the more elevated asset price pays. Of course, if the printed money ends up in asset markets\u00a0even less\u00a0<\/i>is known about who ultimately pays for the government\u2019s \u2018free lunch\u2019…The \u2018free lunch\u2019 providers will be the late entrants into whatever asset-bubble or investment fad the money printing inflates.\u201d
\nSo how does this work in the current context? While the money printing hasn’t led to product inflation in the developed world, the stock markets in the developed world, particularly in the United States and Japan, have been rallying big time. Despite the fact that the respective economies are not in the best of shape. Hence, the money printing even though it hasn’t led to consumer price inflation, it has led to inflation in the stock market. And those investors who will enter these stock markets late, will ultimately bear the cost of all the money printing.
\nMoney that leaves the printing presses of the government need not always end up with people, who use it to buy consumer products and thus push up their price. As Grice puts it \u201cBy now, some of you might feel this all to be irrelevant. Surely, you might be thinking, the plain fact is that there\u00a0is\u00a0<\/i>no inflation. I disagree. To see why, think about what inflation is in the light of the above thinking. I know economists define it as changes in the price of a basket of consumer goods, the CPI(consumer price index). But why should that be the definitive measure, given that it\u2019s only one of the many possible destinations in money\u2019s Brownian journey from the printing presses? Why ignore other destinations, such as asset markets? Isn\u2019t asset price inflation (or bubbles as they are more commonly known)\u00a0more\u00a0<\/i>distortionary and economically inefficient than product price inflation?\u201d
\nThe consumer price index which measures inflation is looked at as a definitive measure by economists. But there are problems with the way it is constructed. As a recent report titled\u00a0Gold Investor: Risk Management and Capital Preservation\u00a0<\/i>released by the World Gold Council points out \u201cThe weights that different goods and services have in the aforementioned indices do not always correspond to what a household may experience. For example, tuition has been one of the fastest growing expenses for US households but represents only 3% of CPI (consumer price index). In practice, tuition costs correspond to more than 10% of the annual income even for upper-middle American households \u2013 and a higher percentage of their consumption.\u201d
\nThis helps in understating the actual inflation number. There are other factors at play as well which work towards understating the actual inflation number. As the World Gold Council report points out \u201cConsumer price baskets are frequently adjusted to incorporate the effect that advancement in technology (e.g. in computer hardware) have on prices paid. These so called\u00a0hedonic<\/i>\u00a0adjustments can overstate reductions in price compared to what consumers pay in practice. For example, a new computer can have the same nominal price as it did five years ago, but adjusting for the processing speed and storage capacity it appears cheaper.\u201d
\nThen there are also methodological changes that have been made to the consumer price index and the way it measures inflation over the years, which in practice do not always reflect the full erosion of the purchasing power of money.
\n<\/span><\/span><\/span>The following chart shows that if inflation in the United States was still measured as it was in the 1980s would be now close to 10% instead of the official 2%.<\/span><\/span><\/span><\/p>\n

\n\"The<\/span>\n<\/div>\n

\u00a0<\/span><\/p>\n

The moral of the story is that the situation is not as simple as those who have turned bearish on gold are making it out to be. Given that, how does one view the recent fall in prices of gold on the back of this evidence? As Edwards puts it \u201cGold corrected 47% from 1974-1976 before rising more than 8x to US$887\/oz in 1980. A\u00a0steep correction is normal before the parabolic move.\u201d
\nBoth Edwards and Grice expect gold to touch $10,000 per ounce (one troy ounce equals 31.1 grams). As I write this gold is currently quoting at $1460 per ounce, having risen from the low of $1350 per ounce that it touched sometime back.
\nCentral banks around the world have tried to create economic growth by printing money. But their efforts to do so are likely to backfire. As Edwards writes \u201cMy working experience of the last 30 years has convinced me that policymakers\u2019 efforts to manage the economic cycle have actually made things far more volatile. Their repeated interventions have, much to their surprise, blown up in their faces a few years later. The current round of QE will be no different. We have written previously, quoting Marc Faber, that \u201cThe Fed Will Destroy the World\u201d through their money printing. Rapid inflation surely beckons.\u201d
\nAnd that’s the point to remember: rapid inflation surely beckons. And to be prepared for that it is important to have investments in gold, the recent negativity around it notwithstanding.
\nTo conclude let me again emphasise that this is how I feel about gold. I may be right. I may be wrong. That only time will tell. So please don’t bet your life on it and limit your exposure to gold to around 10% of your overall investment.
\nIt is important to remember the first few lines of Ruchir Sharma’s\u00a0Breakout Nations: \u201c<\/i>The old rule of forecasting was to make as many forecasts as possible and publicise the ones you got right. The new rule is to forecast so far into the future that no one will know you got it wrong.\u201d<\/span><\/span><\/span><\/p>\n

The\u00a0article<\/a>\u00a0originally appeared on www.firstpost.com on April 26, 2013\u00a0<\/span><\/span><\/span><\/p>\n

(Vivek Kaul is a writer. He tweets @kaul_vivek. He has investments in gold through the mutual fund route)\u00a0<\/b><\/span><\/span><\/span><\/p>\n

\u00a0<\/span><\/p>\n","protected":false},"excerpt":{"rendered":"

Vivek Kaul\u00a0 The funny thing is that the more I think I will not write on gold, the more I end up writing on it. So here we go with one more piece analysing the prospects of the yellow metal. The recent past has seen a host of analysts and economists turn negative on gold. … <\/p>\n

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