Why Gold Is Not $2000 An Oz (Yet)

November 22, 2009

Much has been made of the fact that the 1980 top of $850 per oz equates to a price of over $2200 per oz in 2009 after allowing for inflation. But let's take a look at the 1980 chart for gold. I think you'll know what I am getting at after you've examined it.

More useful information contained in a table showing the daily prices throughout the 1980 year is shown below.

I remember the 1980 front pages of the daily paper trumpeting the new high in gold, but a high on a single day or even over a whole month does not necessarily constitute a foundation or a new permanent level for the gold price. Spikes generated by fear, speculation or misinformation can hardly be used as historical sign posts when they do not translate into ongoing highs.

You will note that the average price of gold even in that tumultuous month of January 1980 was only $675 which if adjusted for inflation would be around $1750 today. The average of $612 for the 1980 year as a whole would also only be around $1600 today.

Thus it would appear on the basis of the above that the adjusted price should be somewhere between $1600 and $1750 at the present time.

The above reasoning however applies only if 1980 and 2009 were identical in all other respects. Clearly this is not the case. The world is now a very different place. Back in 1980 the USA was the undisputed economic powerhouse of the world and its finances were somewhat different (to say the least) to those of today.

The investment world was also different as mortgage backed securities, credit default swaps and other exotica had not taken root, nor were investments in China and Russia being contemplated. Things changed and until recently a myriad of investment products stood ready to soak up any amount of roaming, speculative and risk hungry capital at a moment's notice.

Gold therefore has shared the investment stage with quite a few alternatives particularly over the last decade. As these alternatives bite the dust, investors are increasingly flocking back to gold. Keep in mind that many of these products were conjured up in the Western world and collateralised by assets in the Western World. As the valuations for these assets fell so did the value of the product that was flogged off to unsuspecting investors and banks. As the Global Financial Crisis deepens and nations impose capital controls either on outward or inward flows of capital, we will see $90 billion of annual gold output quickly disappear into hands that understand that the current malaise is not temporary.

Once the masses also begin to comprehend the true depth of the downturn and how it will impact their pieces of paper, you can be sure that the price of gold will move in 2%-3% increments on a daily basis.

The day of at least another major spike is not upon us yet. Payments and capital still flow between nations despite the fact that tensions are mounting. People are still in a stimulus induced coma. The smart money however, does not wait for barriers and write-downs to take place. It has already read and understood the lessons of history and is taking precautions.

The third complicating factor arises from the dampening impact that gold "substitutes" could be having on the gold market. Some of the gold ETF's are rumoured to be problematic in that they may not be actually holding the gold they profess to hold. A further problem arises from speculation by some writers that quite a few thousand 400oz gold bars which are floating around the world are filled with nothing more than tungsten. This could also be suppressing gold's price.

One must also not underestimate the corrosive effect that central bank gold sales have had until recently. Once again, the sales effected under the Washington Agreement may pale into insignificance should it be proven one day that a huge chunk of central bank gold, that was leased out, has still not been returned. This is one big elephant that cannot be ignored.

Furthermore, one must pay serious attention to the use of derivatives to "smack" the little investors into submission and suppress the price of gold to date. Here's a small snippet from Bill Murphy of GATA:

"The Gold Anti-Trust Action Committee's basic assertion for the past 10+ years is that there is a Gold Cartel out there suppressing the gold price. It consists of the US Government, including the Fed and Treasury, various other central banks, and bullion banks like Goldman Sachs and JP Morgan Chase. Bullion banks such as Goldman and Morgan became The Gold Cartel's hit men, trading the gold market from the short side and bombing the market in coordinated anti-trust fashion at the beck and call of our government, making a great deal of money in the process."

Finally, we must all keep in mind that another major sub-prime situation will manifest itself with increasing severity. The sub-prime development I am referring to will be the ongoing and accelerating pace in the dollar's loss of value which at some stage China will not be able to shadow any longer. At that point all holders of US dollar investments will panic into a crazy buying spree for anything they can replace those dollars with.

By the time the dust settles the dollar and other paper currencies as stores and imitations of wealth will have been well and truly damaged. Nations will not continue to provide credit to other nations simply for the purpose of selling goods and services lest they fall into the same situation that China finds itself in. They will want to be paid with value rather than promises.

The Chinese did what they did knowing full well that it would end badly for their dollar reserves. They could see however that whilst they were gutting the US and building up China, it was worthwhile to finance the USA's destruction by recycling dollars into Treasuries. This strategy's use by date is now fast drawing to a close. Any continuing purchase of Treasuries by China is simply China's way of managing the end game. The point China fails to appreciate fully is that the status of its currency will only be ensured in the long run if its political and legal systems place the individual's freedom and rights above the Communist Party. This will be China's stumbling block if it wants to be a true superpower.

One is loathe making predictions about the price of gold in US dollars given its very volatile and uncertain future. What I would prefer to say is that over the next 24 months gold will move upwards by 20-60% in other major currencies.

The only spanner in the works could be either a "trade" war with China or a technical default by the USA whereby it prints one final time to buy back its treasuries and then creates a new currency backed by a massively re-valued gold pile (if it's still there). Such a scenario may sound crazy but keep in mind that crazier things have happened in the last 100 years. Should something like this transpire, then the price will reach and exceed the $2000 mark level in anything from seconds to minutes.

Peter Cooper has been a senior business and financial journalist for 20 years. Since selling his dot-com news website before the global financial crisis he's been a gold and silver investor. Cooper studied politics, philosophy and economics at Trinity College, Oxford University. He was 'financial journalist of the year' in the UK some 25 years ago for his scoop on the privatization of Russian real estate, the largest privatization of public property in history. You can reach Peter at: dubaijournalist@gmail.com.

Due primarily to the California Gold Rush, San Francisco’s population exploded from 1,000 to 100,000 in only two years.

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