Gold prices were rather volatile last week as they vacillated between the key support level at around $1550 an ounce, and the key resistance which seems to be tracking the 50 day Moving Average as well as the $1600 an ounce level.
Much of the selling pressure in the gold market can be attributed to the current strong US dollar which I believe is a total aberration. Since May this year, the greenback has gained more than 6% against a basket of major currencies despite a slew of poor economic data. The last employment report released on July 06 was hardly encouraging.
The unemployment rate is a measure of the strength of the labour market. And, analysts often gauge the strength of an economy by the number of jobs created. Strong job creation is indicative of economic growth as companies increase their workforce in order to meet increasing demand. And, a weak job market is a reflection of diminishing demand and a contracting economy. Since the US is the largest economy, it is important to monitor events that take place in this country.
Usually, when a country experiences a period of prosperity, the currency is strong. But, in the case of the US, there is high unemployment and stagnant growth, yet the currency is exhibiting extraordinary strength. And, the current low interest rate environment is not an incentive for investors who are seeking high yield. In fact in this current environment interest rates are offering investors a negative real rate of interest. Thus, one can deduce that the current rally in the dollar can only be attributed to something else. As far as I am concerned this rush into dollars is due to a mass exodus out of the euro. So, for now the US dollar seems the least contaminated of all the fiat currencies, but this is merely an illusion, and it will not last.
Now the markets await US Federal Reserve chairman Ben Bernanke's testimony before Congress. Bernanke is due on Tuesday to give his semi-annual monetary policy report to Congress. With the current high prices of corn, wheat, and soybeans, I doubt he will introduce another round of quantitative easing. Besides, the Fed is stalling any further stimulus until closer to the time of the election. However, is should be obvious by now that any policy decision of the US Fed will not do much to stimulate the US economy, and instead it will be aimed at assisting the banking sector first and foremost. So we can expect a continuation of the low interest rate policy.
With regard to the current interest rate policy of the US Fed, it is interesting to note what Ludwig von Mises once wrote many years ago. True, governments can reduce the rate of interest in the short run. They can issue additional paper money. They can open the way to credit expansion by the banks. They can thus create an artificial boom and the appearance of prosperity. But such a boom is bound to collapse sooner or later and to bring about a depression.
Recently Fitch affirmed the US' AAA credit rating, with a negative outlook citing its “highly, diversified and wealthy economy; monetary and exchange rate flexibility; and the exceptional financing flexibility afforded by the global reserve currency status of the U.S. dollar. Also, the agency noted that fiscal and macroeconomic risks emanating from the financial sector are moderate and diminishing. Fitch expects that the economy will gradually accelerate into 2013 and 2014. And Fitch doesn't expect to resolve the Negative Outlook until late 2013.
Frankly, I don’t see any economic acceleration in the US in 2013. In fact, I believe with the high level of debt, stagnant growth, high unemployment, record high level of financial fraud, things are going to get worse. So, this dollar rally won’t be sustained, and gold has a much better chance of hitting $1800 an ounce before it hits $1200 an ounce.
In the meantime, financial leaders in the Eurozone agreed to help Spain’s fledging banking sector. It was agreed that Spain's bank rescue will include a first disbursement of 30 billion euros ($40 billion) in July and a second pay out of 45 billion euros by mid-November.
According to the European Financial Stability Facility document dated July 9 and posted on the Dutch finance ministry website, based on current estimates, there will be subsequent disbursements of 15 billion euros each. European Union finance ministers have offered a credit line of up to 100 billion euros to stabilise its troubled banking sector.
At the same time, they agreed to extend a deadline for Spain to cut its public deficit to the EU's 3.0% limit by one year to 2014.
Spanish Economy Minister Luis de Guindos said the two agreements are very positive, giving the recession-hit nation the time and the money to thoroughly clear up the banking sector.
The rescue will be finalised at a special Eurozone meeting on July 20 because countries such as Germany must first get parliamentary approval for the deal. In order to receive these loans Spanish banks will have to open their doors to the European Commission, European Central Bank and European Banking Authority. The government will also have to impose caps on executives' bonuses.
On Wednesday, Spain's Prime Minister Mariano Rajoy announced a 65 billion euro ($80 billion) austerity package. Included in the package was an increase in VAT from 18% to 21%, even though Rajoy promised earlier that was something he would not propose.
While it is impossible to predict the future, it is very evident that nothing that central bankers, politicians, bureaucrats, finance ministers and Nobel Prize winning economists have done since the 2008 global financial crisis has fundamentally changed economic conditions. And, no matter if they call it asset purchases or quantitative easing, the net result is going to be the same. These actions are not going to revitalise the respective economies.
Llewellyn H. Rockwell Jr. chairman and CEO of the Ludwig von Mises Institute in Auburn, Alabama recently stated the following:
The combination of outright spending by Congress, the desperate schemes to reflate the housing market, the attempt to transfuse bleeding firms with other people's money, and the creation of trillions in artificial money, has not done a thing to lift the US economy.
However, as these currencies devalue against one another what we will see is an inflationary environment leading to the erosion of the purchasing power of money and a related redistribution of income and wealth among the people.
So as long as these financial leaders continue down the same Keynesian path, I will keep recommending gold no matter the price. Gold is liquid, divisible, indestructible, and easily transportable. It also has a worldwide market and there is no default risk. It is thus money of the highest quality.