Record gold prices are not always good news

Sep 10 2009 by Peter Jackson, The Journal

I ALWAYS like to keep an eye on the gold price as it can drop so many hints as to what is going on in the rest of the economy.

So, what are we to make of the fact that the gold price has broken through the $1,000 an ounce barrier for the first time in six months and has risen 13% so far this year? Some, by the way, are predicting a price of $1,100 by the end of the year.

Partly, of course, it reflects the weakness of the dollar, but mainly it reflects a fear of inflation – and the amount of money governments, particularly the US and UK governments, have pumped into the world economy makes that a very real fear. This is fuelled by talk of the world economy coming out of recession towards the end of this year, and no recession implies no deflation and no deflation implies inflation.

On the other hand, there are those who argue that central banks have not lost control of inflation and that a return to benign economic conditions will ease fears of uncertainty and turbulence, which also tend to push the gold price upward. Maybe, but this sounds like a soft-landing theory to me, and we all know what happened to the projected and wished- for soft landing in house prices.

There are two other intriguing aspects of the gold price to examine. One is that – as gold-watcher Ambrose Evans Pritchard has pointed out – the US Federal Reserve’s policy of printing money is causing consternation among the Chinese who hold huge US dollar reserves. They are intimating that they will shift some of those reserves to other currencies and into gold. It is probably no coincidence that the rise of the gold price over the last eight years has mirrored the rise in Chinese reserves to some $2 trillion.

Second, and more worrying, is the view that over the past two years, whenever gold has moved around the $1,000 mark, it has coincided with stress in the market, most notably in March 2008 when Bear Stearns had to be rescued by the Fed and JP Morgan.

Let’s hope it is coincidence that we now read reports of French and German banks needing rescuing.

Peter Jackson is a writer and former business editor of The Journal – p.jackson77@btinternet.com