first majestic silver

Strong dollar and Weak Gold

February 21, 2002

For some time no forex analysis was done, the reason being that evidence was mounting that the US dollar was being manipulated to suit objectives of the Bush Administration and other vested interests. While what follows is plain and pure speculation on the part of the author, enough background information is given to provide the basis for the views that are presented here.

The following statements are reasonably well supported by facts that can be gleaned from official reports as well as by analyses and commentary available on the internet.

  • US consumers are, with the exception of some unique circumstances - such as the special offers on durable goods, including zero cost finance, during 4th Quarter last year, that triggered a massive jump in household debt - no longer keen to add to their debt in order to spend
  • As a consequence, the US economy was winding down from its high growth rates of recent times well before events of 11 September last year and would probably have been worse off now if it were not for increased US official spending since then
  • Bush has made the health of the US economy and its markets an issue in the War on Terror - according to the new Bush doctrine, if any of the US markets should fail, it would mean a victory for bin Laden and al Queda
  • The US dollar is a key in this battle. A firm to strong US dollar is essential if inflows of foreign funds are to be maintained - firstly to prevent a foreign sell-off of US assets and secondly to keep the dollar itself steady given the large trade deficit
  • Exposure to short gold positions by the large US and other bullion banks makes it imperative to keep gold from breaking substantially higher. This would bring the risk, if not the inevitability, of failure of some of the larger US financial institutions and thus wreak havoc on the global financial system and the global economy
  • A strong gold price could also trigger a melt down of the US dollar. Although the slogan "Gold is Dead" has often been heard over the past 5-6 years, the fact is that people of wealth have long memories and when they can no longer trust the dollar, Gold will become King again - as is happening in Japan.
  • The gold price has moved consistently higher, despite rumours of sustained attempts to keep the well-established lid in place, and has been threatening for some weeks now to blast through the psychological $300 level

Under these circumstances it would be really very strange if US authorities and vested interests failed to intervene in these markets - and were not doing all they can to keep the dollar on an even keel, perhaps even gaining slightly all the time, in order to keep foreign investors not only happy but also willing to send more money to the US.

This effort, by extension, also implies moves to contain the gold price below $300, and preferably well below that level.

Clues and suspicions
One of the complicating factors for the US authorities have been the formal acceptance of the Euro as a real currency - and thus as a second reserve currency next to the dollar. China, for example, have announced they are converting (some 10%?) of their reserves from dollars to Euro's. Other countries might be doing the same, only without the formal announcement of their actions.

It was important for the US to balance the supply of US Treasuries that would hereby come onto the market with fresh demand. Luckily, Japan offered a solution. Given the state of Japan's economy, their banks and financial system, it was easy to suggest to the Japanese authorities that an effective devaluation of the Yen would offer a way out of their problems. Obviously, doing so would imply sustained buying of US dollars by the Bank of Japan and using these to by US Treasuries. 'Hey Presto!' Problem solved.

But on the local US scene the Enron debacle has brought to light other problems. For a long time the use of 'pro forma' statements by corporations to provide a positive spin on their results was an accepted practice. Nobody really wanted Wall Street to collapse and if the books were cooked a little - sometimes quite a lot - to make things looked better than they really were, who was to worry?

But Enron changed that. Suddenly cooked books were equated to massive bankruptcy and the loss of billions. This was no longer acceptable and corporate accounts were being scrutinised to detect any strange entries or hidden dealings - more so after it was reported that the top 100 Nasdaq corporations declared to their shareholders (and the media!!) that they had collectively made $19 billion of profit during the first 9 months of 2001.

Yet, the report continued, in accounts submitted to the SEC, where creative accounting procedures are frowned upon, they admitted to a combined loss of $82 billion over the same period of time.

Now we can expect very much tighter accounting practices when US corporations report for the first Quarter of 2002 - and thus a more accurate reflection of real, substantially lower, earnings - at a time when turnover is likely to take a dive as consumers curtail their spending. This double whammy should mean that announcements of earnings will be very much lower come April. With the PE on the Dow 30 already said to be about 40, even just a 33% decline in declared earnings will, at current prices, bring the PE on the top 30 US corporations to 60 - into a region that might be considered reasonable for a small start up high-tech company, but not for these giants.

All of the above is surely not a secret to anybody who reads between the lines. But it means that US authorities and institutions will be using everything in their power to keep control of the US dollar and of the gold price. And because of the critical importance of success for the global economy, it seems more than likely that other governments and central banks will have sympathy for what the Americans are doing and may even be actively involved in the process.

The US dollar and the gold price
In support of the above speculation, it has been evident for some time that there were strange goings on with respect to the US dollar and the gold price.

Not only was the dollar remaining strong despite a near universal opinion among private and other more independent economists and financial experts that the dollar was over-valued, when examined in terms of its fundamentals - the trade deficit and the steep rise in the US money supply, among others - it also was exhibiting a weird pattern of gradual decline on days when it seemed as if Wall Street would enjoy some good news. Yet it tends to firm on days when the Globex futures market and fresh news warned that Wall Street could open weaker. A strange consistency.

This means that barring any exceptional event happening or condition arising to shatter the complacency of investors in the US, the US dollar can be expected to trade within an acceptable range - acceptable in the sense that a steep rise in the value of the dollar may just trigger the kind of profit taking that is being prevented, while the same disinvestment could happen if the dollar should suddenly lose too much value.

There is a comfort zone for the dollar against the other major currencies - say between ¥130 and ¥135 and also between $0,90 and $0,85 against the Euro - that appears to keep most foreign investors happy. And for those who watch the US dollar index, a rising dollar against the Yen is generally offset by a slightly stronger Euro, and vice versa.

On Wall Street itself there is evidence that on weak days the Dow 30 index is being used to provide a more positive spin on the market. This most widely followed Index is quite easy to manipulate for someone with a reasonably deep pocket. It is an arithmetical and un-weighted Index with a dollar in the price of any of the 30 stocks being equal to about 5 Dow points. Simply take out all the offers for a range of say $5 on one of the expensive 30 Dow stocks - doing so at an opportune moment - and the Dow Jones jumps 25 points in a minute or two. This is often sufficient to get all the well-conditioned bottom feeders waiting for just such a signal into action too and very soon the Dow is up 80 or a 100 points, with the other indices following. And another, "Hey! Presto!!"

Then, more often than not, the stocks that had been purchased an hour or two before can be off-loaded at a profit to prepare for another rainy day.

A third event that smacks of outright manipulation occurred yesterday (Tuesday 19th).

Firstly, previous incidents of much the same nature. In May 2001, at the time of the GATA conference in Durban, gold suddenly took off, rising to just below $300. Down in Durban, where the author was for the occasion, all faces were smiling. That is, there was an announcement out of the blue that Russia intended selling its gold. Within just a few weeks the gold price was back in the low $260's.

It later turned out that the disastrous news flash, given such great prominence in New York, happened to be based on a kind of off the cuff remark by the Russian premier and in no way reflected a change in Russian policy - in fact, subsequent to this news Russia purchased gold to add to its reserves and has continued to do so.

But the damage was done.

Even earlier, in 1997, when events in SE Asia threatened to send gold back towards the $400 level, Switzerland announced out of the blue that they intended selling half of their 2600 tonne reserve, for humanitarian purposes. Just that - a simple and short statement.

That too sent gold plummeting and when Swiss authorities later said that the selling could not begin before 2001 as they had to first change the Swiss constitution and also get approval from their Government, it was also too late to offer gold any benefit. The price had already fallen from about $320 to well near $280 and remained there.

And, of course, there was the announcement by the Bank of England in 1999 - also at a critical juncture - that they intended to sell a substantial portion of their own gold, using a rather strange mechanism if their intention was to obtain a good price for it.

Yesterday, in a sudden fit of transparency, President of the Bundesbank, Herr Welteke, decided to speculate on what might be done with the German gold reserve. He said in an interview he was happy with the rise in the gold price, but that the Bundesbank would consider selling some of the reserve in order to invest in other reserves that offer a rate of return. When this news hit the markets - coincidentally during morning trading in New York - gold fell $5, from $297 to $292.

Where it has since remained and even recovered a little during Wednesday morning trade in Europe.

Is there anything strange about this ??

  • As Herr Welteke mentioned in the interview, said to be due for broadcast later today (Wednesday), European central banks are bound by the Washington Accord of 1999 in which they agreed to a limit on their gold sales for the next 5 years - that is, ending in September 2004. That quota is full and it has been reported that the Accord will be extended, with a new quota to be decided later. The intriguing question is why would Herr Welteke, who is so happy about the rising price of gold, pass comments such as these all of 30 months before he could in fact do anything about this? - and, for a man in his position, knowing full well that when his statement is reported it may well send the gold price into another death spiral, as had previously happened on a number of similar occasions. No more happiness in Berlin.
  • Various elements of the Maastricht agreement that led to the European Union require solid national reserves before budget deficits can be tolerated. A steeply rising gold price would thus offer significant leeway to the German government. Therefore, why would a person in such a key position risk a statement such as that made yesterday and the almost inevitable effect it would have on the gold price - and probably on Germany's ability to use fiscal methods to stimulate their faltering economy?
  • The Germans are probably the most fanatical people when it comes to the sanctity of their gold reserve. Surely, if the President of the Bundesbank desired to inform the German people of intentions to sell some of the gold reserves and to explain the reasons why this action is deemed necessary, he should have elected to do so during an interview with a German national paper or with German television? Why select Bloomberg's to do so? Bloomberg's, of which Bill Murphy of GATA says that this news service has in the three years of GATA's existence not made one reference to it or its cause? Coincidence?
  • From the perspective of anyone who is concerned that the gold price would break above $300, the timing of this announcement of Bundesbank intentions could not have been better. It did not come when gold had already broken clear of $300 and set off on a strong advance - when Herr Welteke's happiness with a rising gold price could have been shared by so many other people. No, it came just as the gold price was retreating a little, down to $297, after having failed on Friday to sustain a break above $300. A moment in time when buyers of gold must have been disappointed at the failure to recover $300 on Monday and thus were most susceptible to the kind of bad news that Bloomberg's had to report.

But the strangest of the above is still the fact that Bloomberg's conducted the interview and carried the story. Consider the following two scenarios:

  1. Herr Welteke says to one of his aides, (in German, probably) "I think it is time we tell the German people that we are thinking very deeply about the financial well-being of Germany and that it would be wise to sell some of our gold reserves, when we can do so in 2004, and invest the proceeds in interest bearing reserves. Please contact the Bloomberg's and arrange for them to hold an interview so that all Germans can be informed of this. If they have nobody who speaks German, I'll be happy to do it in English". (I am really guessing here - but rather doubt if it is to be broadcast in the US that they will have conducted the interview in German - DJ)
  2. Bloomberg editor to one of his aides, (in American, this time), "I have a feeling old Welteke has something of imminent importance to say to all Germans. Please inform our people in Germany to arrange an English language interview with Herr Welteke so that we can do our public duty and inform all Germans urgently (those that speak English and regularly tune in to Bloomberg TV) what is being planned for their gold reserves just about 30 months from today

Which of these two scenarios do you guess is closer to what had really happened?

What about a third alternative?

Herr Welteke gets a phone call and - after the usual pleasantries with his good friend on the other side (probably in English) - hears, "Ernst, we have a problem with gold - it just don't want to get away from $300 no matter what we do. The situation is now getting critical and we have to do something to push the price lower. One can't really ask the Swiss or the British to say or do anything substantial as they have already committed themselves as deeply as they can. And Victor (Putin) is still upset about that wrongly quoted report that went screaming round the world in May last year. So the ball is now in your court. So much is hanging on any success you can achieve that I have taken the liberty to contact Bloomberg's to suggest an interview. I leave it to you what you will tell them. I know that like all Germans you are a very resourceful fellow. Goodbye and Auf Wedersehn. I hope.". Plunk.

Or something to that effect.

Having started seriously, this essay ends a bit tongue in cheek - but whose tongue and which cheek and how hard it will get bitten we will only find out later.

What is clear is that this time around - and so far, one day into the story - the effect on the gold price has been not nearly as tempestuous as when the Swiss announced their intended sale, or when the bank of England did so in 1999, or the rather strange news of Russian sales in May 2001.

The price of gold only fell about $5 and is holding - even recovering a little - so far, with New York still to open.

The US dollar too is not as firm as what it was yesterday (Tuesday) leading into the New York open with expectations of another Wall Street blues day.

Anything could still happen, but the author has a good deal of confidence that this time around it will not be as easy to keep the lid on the gold price - and the dollar healthy, as a currency in wide demand - as what it has been in the past.

Which means, of course, that alert investors stand to make a good deal of money from the opportunities that seem likely to present themselves over the next few months.

This applies to both a steeply rising gold price and, conversely, a plummeting US dollar - in whichever order.

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