first majestic silver

Gold rises, and ….?

December 1, 2003

As most of my "spare" cash is invested in gold and silver shares, it seems reasonable to expect that I have a vested interest in seeing Precious Metal prices rise. The fact is that I regard my gold/silver investments as I would a Life Insurance policy. There is no pleasure to be derived from collecting on a Life Insurance policy.

Many gold bugs are cheering gold on to $3,000 an ounce and, yes, I can envisage a situation where that outcome may arise. What scares the hell out of me is that this event - if it occurs - will not occur in a vacuum.

Thirty years ago I was a Director of a curtain weaving factory which used Jacquard looms to weave intricate patterns of both texture and colour into the curtain fabric. I was particularly impressed by how the computer (Jacquard) punch cards were used to instruct individual strands of warp yarn to be lifted above the shuttles as they flew back and forth across the loom at incredible speeds. Although weft yarns (those on the bobbins inside the shuttles) sometimes did snap, they were very quickly repaired. Very seldom did I see a warp yarn snap. Warp yarns are the important ones. If they snap, the loom's down-time escalates.

Efficiency within a weaving factory is highly dependent on minimization of loom down-time. You don't want those looms to stop working, because it can be a real bitch to get production back up to speed. It's all about recovering fixed costs. Most costs in an automated weaving plant are fixed. If a curtain weaving factory can only generate a return of (say) 10% Earnings Before Interest and Tax (EBIT) to Sales; and the looms go down for even 5% of the time, your profits can be decimated.

If one thinks of Life as an intricately woven tapestry, then the analogy becomes clear. Society's momentum is what facilitates the quality of life we enjoy. Most of us have high "fixed costs" of running our lives. If the down-time in the economy as a whole starts to escalate, most of us will suffer extraordinarily painful dislocation in our lives.

In the end analysis, that is why the Gold Price is so important. It monitors the efficiency of the highly complex economic machinery that has been put in place - one finely machined piece at a time - over generations; and it warns us when the risks of economic down-time are approaching.

Dear readers, believe me when I say that you do not want to see the Gold price getting to $3,000 an ounce in a hurry - because the implications are that we will be experiencing a failure in the world's financial infrastructure which, in turn, will lead to excruciatingly painful down time in the world's economy.

The key issue which we face in the world's economy today is "debt"; and those of us who were brought up in a rational environment cannot get our heads around any argument which gainsays the principle that what one borrows one should repay. If debt as a percentage of income rises to too high a ratio, it seems to reasonable people that debt will not be capable of being repaid.

Right now, the ratio of personal debt to personal annual income in the USA is greater than 100% - for the first time in history. Reasonable people (those who are focusing) are arguing that this is too high.

Right now, there is a battle raging between "the markets" - which appear to be anticipating an economic dislocation - and "the authorities" who are fiercely fighting (and sometimes using highly questionable techniques) to prevent this dislocation.

It is arguable that the debt problem was caused by "the banks" who allowed debt levels to build to these unsustainable levels.

But, if you dig deeply enough, you arrive at the conclusion that the banks were merely driven by their urge to earn profits. The raison d'etre of a bank is to on-lend money which it has borrowed; and if the Central Bank in any country "throws" money at the Commercial banks, one cannot blame the Commercial banks for seeking to on-lend this money - even if the consequence is that the end borrower lands up in over his head.

Theoretically, the propensity of a Central Bank to "throw" money at the Commercial Banks is limited by the likely consequence that the value of the currency which is being prostituted by that particular Central Bank will fall relative to other currencies.

But the theory falls apart in a "global economy" where ALL Central Banks are behaving in the same manner.

So where does this leave us? If ALL Central Banks are behaving irresponsibly, by "forcing" Commercial Banks in their respective countries to lend to borrowers who have generally passed the threshold of credit worthiness, then surely the system must collapse? Isn't that why the gold price is rising?

Well, there are two ways forward:

  • Buy gold and silver (the alternatives to Fiat currency)
  • Move to prevent the system from collapsing.

Buying an alternative to Fiat Currencies is, at face value, sensible. However, if you stop to think about it, it is totally unproductive. If the economy becomes dislocated, your standard of living will deteriorate - whether you own gold or not. It is what is known in scientific parlance as a "necessary but not sufficient" condition.

It is necessary, but not sufficient to own gold in the event of an economic dislocation.

CLEARLY, the most sensible approach would be to devote our energies to PREVENTING an economic dislocation.

This will be my last Gold-Eagle article. I have found myself becoming increasingly frustrated by my inability to convey the message that is contained in this article.

Folks, we need to DO something other than twitter on about whether or not and how far the gold price may or may not rise. This particular game is not your typical game of Monopoly. If the gold price rises to $3,000 in the "near" future, there will be un-intended, and excruciatingly painful consequences.

The Federal Reserve Bank of New York holds the world's largest accumulation of monetary gold.
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