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The only thing left that glitters?

Finance Blogger: Anthony Harrington Anthony Harrington

For the last several months, with some minor retreats here and there, investors—and central banks—around the world have been quietly buying gold, either directly or via a range of possible channels such as Exchange Traded Funds (ETFs), gold stocks, and so on. As one commodities trader cited in a recent CNN story noted: “There is a general flight of money into metal … people feel paper is going to be worth less.”

By paper, of course, he means the dollar. There is a general suspicion, voiced loudly and repeatedly by some senior Chinese central bankers, that quite apart from trying to reflate a flattened economy the US is quietly and determinedly inflating its way out of a truly mountainous debt. Since the Chinese are sitting on vast piles of US dollars, all of which are indubitably on the losing side of this equation, that makes them unhappy.

However, both Europe and the US are just as unhappy that the Chinese have been (allegedly) systematically undervaluing the renminbi to boost their export engine, instead of putting vastly more resources into building a home-based consumer market which would then suck in imports from Europe and the US, thus recycling part at least of the Chinese dollar mountains back to source.

The growth of consumerism in China is obviously going to happen, but the US and Europe, without quite knowing how, exactly, would like the Chinese to stamp on the accelerator, assuming there is one. The Chinese for their part clearly feel that building 200 more cities to accommodate the mass migration of rural populations to urban centers is, well, doing quite a lot really, along the lines of growing an emerging consumer class. And that is a very expensive infrastructure exercise, even for a government with billions of dollars in its coffers.

So, unsurprisingly, China wants its export engine tuned up and roaring to take the strain. Which means more US dollars flooding into China and then being recycled back to the US to buy Treasury bills to earn at least a smidgeon of interest (since a dollar in a drawer is just paper with a diminishing value). Which means the Chinese being exposed yet further to the risk of getting hammered by US inflation, should it, in its turn, start to roar.

Investors look at this picture and, not surprisingly, start to think about finding themselves a hedge against what might turn into a vicious circle. With gold being the time-honored hedge in troubled times, the price of gold is hitting new record highs, and more than one tipster in the US is flagging up the possibility of gold passing $2000 an ounce “sometime soon.” It wouldn’t be the first time. On January 21, 1980 gold peaked at $825.50 an ounce, which, adjusted for inflation works out at $2163.62 an ounce in 2009 dollars (source: CNN). By November 20, gold futures for December delivery had reached a new high at $1148.50, climbing 9% through the month. Other metals such as platinum and silver are also doing very well.

Of course, investor sentiment could turn against gold if the US does indeed manage to keep a lid on inflation. Commentators point continuously to the excess industrial capacity in all the major economies as evidence that it will be a long time before anyone is in a position to raise prices. But for now the gold price continues to serve as a mild warning bell to industry to keep a weather out for inflation in the medium term—just in case…

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Tags: China , commodities , financial crisis , global imbalances , gold , inflation , spot market , US
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