What's Really Driving the Gold Price Up
by Julian D.W. Phillips, Global Watch: The Gold Forecaster. April 19, 2006
Gold has just broken through the $640 level at a pace that has taken even the most hardened "Gold Bug's" breath away. Most gold commentators are still standing opened-mouthed, their forecasts close to $100+ below present levels already.
Why have they been caught out of touch in this way? We hear that Iran and the Oil price are to blame, but there is a larger, integrated and global set of factors that have produced and will still produce this phenomenon and will continue to do so for quite a few years to come.
Market Observers are going to have to expand their horizons to encompass these factors if they are to understand and pertinently comment on the gold market now and in the future. [This is why we include "Global Watch" in our title.]
The Evolution of the Gold Market
- Three years ago, gold was still being treated as a "Barbarous relic" the term Keynes applied to it. Gold had been vilified since the early 1980 period. The influence and spread of the $ was growing across the globe, until it is now responsible for over 80% of global international transaction. This figure is shrinking now. However, as the sheer weight of dollars grew [once oil was universally priced in the $ the demand for them allowed the number to burgeon], gold was prevented from reflecting the issue of these "promises to pay the bearer" notes, by rising in price in terms of the U.S. $' growth.
- Accelerated gold supplies were encouraged by Bullion Banks, who loaned gold to developing Producers [against the gold they were going to produce in the future] who, in turn, sold that gold at prices [including the "Contango"] not available to the ordinary man in a falling gold price market. Over time the over-supply of gold to the market was felt heavily with the gold price being taken down to around $270.
- Then came the "Washington Agreement", which limited the open market sales of gold by European Central Banks [but with the tacit support of both the U.S. and Japan] to 400 tonnes a year, then in the second of such agreements, the Central Bank Gold Agreement, to 500 tonnes of gold per annum. This turned the price of gold around and it started rising like the gears of a car as it accelerates.
- Last year saw gold beginning to react like a currency, moving along with the European currency the Euro. However, the cry then was that the $ was going to fall against the Euro. But it didn't and it became clear from the subsequent Euro:$ exchange rate that the two currencies were effectively "managed" to hold within a +5% range around $1.20. This has been the trading range of the two for the last year.
- Then a further step in this evolutionary process has been the break away by gold from all currencies as it began to react to a foreign exchange system across the world that was interrelated through global trade and so interdependent. In other words the concept of protecting values by changing from one currency to another to guard against dropping exchange rates was seen as unworkable as the problems facing the globe affected all nations.
- The latest step in this evolution has been the way Oil in particular has reacted, as a consumable money, in itself. To illustrate, when seen in this light the U.S. $ has been devalued by 50% in the last two years from the day oil was priced at $35 a barrel.
Today's Gold Market
This year so far [in its short life], gold has run ahead astoundingly, rising $100 in a matter of weeks. At first it would seem that it is merely a "spike" in the price, due to turn down any time. But it hasn't, instead it has only paused at what were thought to be significant resistance levels. There is no doubt that the gold market has changed its very nature, from a metal market to something more fundamental to the functioning of the entire global market system. If this is correct then these gold price levels or even considerably higher ones are here to stay.
Technical Analysts are seeing a fundamental change in the "shape" of the gold market, which is defeating the certainty with which they could accurately forecast price moves.
It is clear there has been a significant expansion in the demand for gold, without a similar expansion in supply. New, highly competent, Investors have arrived on the scene turning to gold not only a "safe-haven" but as an investment, which will hold its value in a world where inflation or deflation will cause the money we are so used to, to lose much of its value while confidence in it wanes steadily. It is clear the globe is on the brink of seeing a loss of confidence in the market system itself, as it approaches a rupture in the stability of the oil market where we will soon see demand outrun supply. In this role gold will more than match the rise in the price of oil, as it did in the seventies.
So what has led us to this point? We can point to a series of individual factors outside the gold market, but relevant to gold in specific countries. In the States, interest rate prospects, or local inflation rates will be seen as the cause of particular gold price move. In Japan the Yen price of gold and the exchange rate of the Yen will be seen as the cause of gold price move that day and in India, professionals will believe that the gold price must come down because India is not importing so the world's largest buyer of gold has to affect the market, but it didn't. On the international front the Nuclear development in Iran is seen as a prime mover of the gold price. But the implication of that approach is that each nation has the power to dominate the gold price.
Stand back and look at the global picture and we see gold is a 24-hour market covering the globe, in a world where the internet and other wonderful knowledge gathering engines are available to anyone with a mouse. Like the tributaries of a river, each market and their driving forces add to the flow into gold. As each market during the day reacts to the global gold price they begin to realize that there is a synthesizing going on as well as a simple addition of demand, contributing to the gold price. This gives the river a turbulence and momentum beyond the simple weight of water.
For instance in India a new class of gold Investor is appearing and growing in importance, the gold Investor, buying gold not only because of Hindu tradition and trust in gold for financial security, but a buyer of gold because he believes it is a good long-term investment. In this he is bringing new thinking to the Indian gold market.
In the States in particular, the establishment of the Exchange Traded Fund brought a huge new source of gold investor to the market one who was not permitted to go into gold directly. This new source has bought 450+ tonnes of gold since its inception. He is not buying gold because of simple gold market factors, he is looking at the world's economic climate in the future and feels he needs to cover his back against what may well be a very disturbing future.
Add all this demand together from the 24-hour market and put it against a gold supply that's gently falling and like the oil market it is a matter of time only before an explosion in the price had to occur.
And behind the scenes factor in the reality that gold is no longer a threat to the growth of the $ as the global reserve currency, but could be an important support to it and you have the prospect of a gold market in the next few years that makes the gold market of the '70's and '80's pale by comparison.
In future articles in our publications we will cover the detail of this disturbing future and its impact on gold!
© 2006 Julian D. W. Phillips