02
Aug
2005

China to Use Gold in Order to Undermine US Political and Economic Dominance?

Weekly Markets
Precious Metals – UBS on Swiss Buying; Rothschild;
Strong Demand in Middle East; HSBC on Seasonality
Oil – Above $60 Again
Commodities – Strength Continues
Currencies – Berlusconi’s Antics; USD Crisis
Bonds – Yield Curve Flattens
Stocks – DOW & Gold 35 year performance in % terms
Property – UK housing slowdown affecting consumption

Weekly Commentary
China to Use Gold in Order to Undermine US Political and Economic Dominance?
 

Opinions
Mike Dolan, David McWilliams, Jean Phillipe-Cotis, Bill Gross, Bill Bonner, John Challenger, Bill Fleckenstein, Warren Buffet

Performance ( % Change)
  Current Level  5 Days  1 Year  5 Year 
Gold  429.50  1.2%  11.0%  51.7% 
Silver  7.22  2.4%  14.2%  44.8% 
S&P  1,234.18  0.0%  12.7%  -16.5% 
Nasdaq  2,184.83  0.2%  16.1%  -45.7% 
ISEQ  6,770.12  -0.4%  28.5%  36.1% 
FTSE  5,282.30  0.8%  22.1%  -18.7% 
USD/EUR  0.8239  0.3%  -0.9%  -21.8% 
OIL (Nymex)  60.57  3.3%  41.7%  100.0% 

 

"The worldwide rise in house prices is the biggest bubble in history. Prepare for the economic pain when it pops." – The Economist

Weekly Markets

Precious metals were up for the week.
Oil and commodities up for the week.
Stock markets were mixed for the week.
Bond markets sold off with a consequent rise in yields.

Precious Metals

Gold was higher by $5.10 or some 1.2% for the week; from $424.40 to $429.50.

Gold in EUR terms for the week was again up more than 1% up from EUR352.11 to EUR356.34.

Silver was higher by $0.17 or some 2.4% for the week; from $7.05 to $7.22.

Platinum settled at $896 from $889. It was up nearly 1% for the week.

UBS reported on very strong buying out of Switzerland:

"Gold opened weakly in Comex trading on Wednesday, under pressure from the strong dollar and this led Comex traders to try gold from the short side early on before some weighty Swiss buying, probably speculative in nature, wrong-sided the market and gold never looked back after that."

Gold imports into Turkey for July were reported by The Istanbul Gold Exchange. It was a record month for gold imports with 34.625 tonnes imported. The Istanbul Gold Exchange started recording data eleven years ago and this figure has never been surpassed. It was a significant 50.3% higher than June and 1.8% above the level of July last year, the previous record. So far this year imports are 21.2% above last year’s imports which were themselves a record.

The Istanbul Gold Exchange is where many buyers in the Middle East acquire bullion. Geopolitical uncertainty, terrorism, the threat of a war with Iran and the ‘war on terror’ are undoubtedly underpinning strong demand from the region. Also record oil prices are filling the coffers of oil producing countries in the region and some of these petrodollars are being recycled into gold.

Commonwealth Bank of Australia commented on this in a report which was quoted in Reuters and can be found in our Opinions of the Week section:

"Strength in both China’s economy and currency and heightened investor interest should support Asian gold demand over the next year. And with rivers of energy dollars flowing into the Middle East, demand there shouldn’t be too shabby either,"

NM Rothschild & Sons (Australia) Ltd said that China’s currency revaluation is expected to boost domestic demand for gold and help provide a base for gold prices.

"Without a doubt, revaluation is going to underpin metal prices, particularly gold, by making them more affordable from a Chinese standpoint," said Darren Heathcote, head of trading at N M Rothschild & Sons (Australia) Ltd.

Interestingly Rothchild’s noted that India imports some 700 tonnes of gold per annum while China imported only 230 tonnes last year which was up 13% on the previous year.

"I could see demand (growth) rising toward 20% this year from about 13% last year and it’s only a matter of years before we see (China) up there with India in terms of overall quantity," Heathcote said.

HSBC had some excellent research on seasonality in gold and how August and particularly September have historically seen the best performance of gold:

"July historically has been a poor month for gold. Over the last fifteen years the average monthly price movement during July has been a decline of USD1.56/oz, while over the last five years July has seen an average fall of USD5.93/oz.

Indeed, over the more recent period, July has been the worst month of the year for gold.

Since 1990, gold has risen in July only five times, and fallen in eleven, while since 2000 gold has risen only once (2003 when gold rallied USD4.40/oz) and fallen five times.

The good news though is that August, and particularly September have historically been good months for gold. True, since 1990 gold has been little changed on average through August, and has risen eight times and fallen seven, although the performance since 2000 has been more impressive. Gold has risen in four of the last five Augusts and has fallen only once, averaging a rise of USD11.18/oz. September has been a more reliable month, with gold price rises averaging USD9.06/oz since 1990 and USD8.21/oz since 2000. Over the last fifteen years gold prices have rallied through September twelve times, over the last five years gold has increased four times. (a USD3/oz fall in 2000 the exception)."

Commentary

China to Use Gold in Order to Undermine US Political and Economic Dominance?

An important commentary piece appeared in Forbes during the week. In ‘A Golden Solution To The China Syndrome?‘ Richard Lehmann, Editor of Forbes/Lehmann Income Securities Investor, wrote of how China may use it’s massive US dollar reserves and US Treasury purchases as a form of geopolitical weapon against the US and as a way of furthering their growing global political and economic aspirations. 

The piece highlights the predicament which the US and world now finds itself in when the world’s remaining superpower while overwhelmingly superior to all it’s rivals in military terms has a dangerously exposed achilles heel in the form of it’s fiat paper reserve currency, it’s massive indebtedness and balance of payments issues. 

These dangers have been warned of by a litany of astute individuals and institutions. Alan Greenspan has repeatedly urged President Bush and Congress to rein in excessive government spending as they pose long term systemic risks to the US economy. The  ‘Sage of Omaha’ Warren Buffet had been even more explicit in warning that the massive debt levels may lead to the US becoming a ‘sharecropper’s society’ whose economic destiny is controlled by foreign creditors rather than US citizens. Sharecroppers are peasants who do not own their own house or land and must pay tribute to their creditors or landlord with a share of their crop.

The US, like Blanche Du Bois, now depends on ‘the kindness of strangers’ and it’s economic wellbeing is increasingly precarious. This will affect it’s status as the world’s only superpower in the years to come which will inevitably result in a more uncertain world both economically and geopolitically.

Opinions of the Week
 

"Experts suspect there has been an implicit agreement among monetary authorities that economies and global markets are delicately poised. One false move and everyone in the increasingly integrated global economy suffers."
Mike Dolan, 
Hopes grow for "benign" world rebalancingEconomics Editor, Reuters


“We are not saying there will be a doomsday tomorrow morning … but because the adjustments [to global imbalances] are relatively slow, we are running the risk that an accident will happen. [..] Time is running out – the numbers are getting big, big, big.”
Jean-Philippe Cotis, OECD Chief Economist, Interview in the Financial Times

 

"The key to the system is collateral, and this is also where the systemic fault lies. When it comes to collateral, the banks have always had faith in the housing market. In recent years, this faith has intensified to blind faith, and now, with a 100 per cent mortgage culture, we are observing new levels of Moonie-style devotion.   . . . 
the blurred hazy world of Moonie economics is a state of mind characterised by financial back-slapping and corporate high-fiving, where each new loan begets another and the banks and the borrowers waltz blindly up a financial cul-de-sac.

Back in the real world, the only fundamental reason for house prices to rise is if the income from rent is rising.
Moonie economics is the financial equivalent of a confidence trick. When things are going up, Moonie economics accelerates the upswing. When that confidence is punctured, banks pull in their loans, shut up shop and the opposite of Irish pricing occurs – a credit binge is replaced by a credit crunch.   . . . 
Awhile back I heard one of our most successful bankers musing about national plans, financial war cabinets and credit crunches. And if you know he is worried about the ramifications of Moonie economics, you should be too.
"
David McWilliams, How secure will you be when the credit runs out?, Sunday Business Post

“My sense is that the Consumer Price Index (CPI) is really 1 percent higher than the official numbers and the GDP is 1 percent less. You’re witnessing a haute con job.”
Bill Gross, Investor Outlook – Haute Con JobManaging Director, Pimco Bond Fund

"Peter Warburton, author of "Debt and Delusion," said yesterday. "There is something big coming," he prophesized. "It is the destruction of the economy at low rates. This is going to be the big surprise, that the economy will go into a prolonged slump even at very low nominal interest rates."

As people borrow more and more money, carrying the weight of debt wears them out. Low rates permit more borrowing…but each additional unit of debt – like another beach house or another mistress – must be serviced. Eventually, you are unable to keep at it.

Total debt is around $36 trillion – about 300% of GDP.

"Usually, the upper limit of debt is about three times GDP," Warburton explained. "But there are always special circumstances. It’s impossible to say when the end will come." The weight of interest on the debt we can estimate ourselves. At 5% interest, the carrying cost would be $1.8 trillion per year – more than 10% of GDP. The end must be coming soon."  Bill Bonner, Decapitation Strategy, Daily Reckoning

"Britain’s economic ascendancy in Europe could soon come to an end as German competitiveness recovers.

In a striking column in the Financial Times a few days ago, Wolfgang Munchau, the FT’s European affairs commentator, suggested that Britain’s economic ascendancy in Europe could be coming to an end. “What masquerades as an economic miracle in the UK may in fact be nothing other than an old-fashioned Keynesian spending boom,” he thundered. What we had seen under New Labour could simply be “the first part of a boom-and-bust cycle” — with a long bust to come.

Could it be that over the next five to ten years, Britain and Germany could swap roles, with Germany becoming the economic powerhouse of Europe, while Britain is once again seen as a less efficient trading partner, suffering from its traditional weaknesses of skill shortages and inadequate investment?   . . . 

This looks pretty much like “an old-fashioned Keynesian spending boom” to me, albeit brilliantly disguised in presentational terms by constant reference to “prudence and caution”, and carried through under the protective cloak of the (economically irrelevant) “golden rule”.    . . .   Both the consumer and the government have run out of road. Debt payments as a proportion of household income are at record levels. Equally, government borrowing is now at the limits of acceptability, and taxes may have to rise to keep it within them, discouraging households further. With a weak international economy, it is hard to see where any new substantial demand might come from."
Christopher Smallwood, Germany makes a comeback, Sunday Times

"China’s first step in revaluing its currency means it and the rest of Asia will need to buy fewer dollars and fewer US Treasuries. That’s negative for the dollar and the U.S. housing market.   . . .  anything that steals a bid from the dollar is not bullish for U.S. financial assets — given that we spew out a couple of billion extra dollars daily, via the trade deficit, that someone needs to buy. 

However, anything that helps to steal a bid from the dollar ought to be bullish for gold.

This move by the Chinese will be mimicked to some degree by the rest of Asia, whose countries have been the ones supporting the dollar and our Treasuries. Since they will need to buy fewer dollars, they’ll need to buy fewer Treasuries.

Ramifications for red-hot housing? 
That’s where it starts to matter to us here in America. If rates trend higher over time — which they will, all things being equal (though all things never are) — that will definitely impact the housing market negatively. And, since the housing market, in the form of what I call the housing ATM, is the economy, it will matter to the economy and, by extension, the stock market."
Bill Fleckenstein, Will China’s float sink the housing bubble?, MSN Money

 

"The heavy layoffs of the last two months have appeared to accelerate in July. We may have reached the tipping point for this period of lacklustre economic expansion.    . . .    the forces slowing the U.S. economy — rising energy prices, health care costs, interest rates and tougher global competition — are leading to layoffs at a number of once-dominant U.S. companies.
. . .    If the summer surge proves to be the first sign of an eventual economic slowdown, this would be among the weakest expansions in recent times, particularly when compared to the boom of the 1990s.’"
John Challenger, Challenger, Gray & Christmas
 

“Strength in both China’s economy and currency and heightened investor interest should support Asian gold demand over the next year. And with rivers of energy dollars flowing into the Middle East, demand there shouldn’t be too shabby either,” Commonwealth Bank of Australia
 

"The prospects of asset bubbles bring two notable and oft-cited quotations to mind. The first is from John Kennedy who noted "A rising tide raises all boats." The second is from Warren Buffet who noted "It’s only when the tide goes out that you learn who’s been swimming naked."   . . . 
 
Just because there is not a bubble, however, does not mean that home prices will not decline once demand cools off. Remember that the combination of even a modest decline in demand and an inelastic supply curve can lead to large changes in price. Once demand cools, as it invariably will, many of the markets that are currently seeing the largest gains in home prices are the very markets that will most likely see outright declines."
Warren Buffet quoted by Wachovia Corp Economics Group,

 

 

 

Mark O'Byrne
Executive Director