What are record gold prices telling us now?

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What are record gold prices telling us now?
It is now the heart of the northern summer doldrums period for the gold price yet it is riding at record highs. What is this telling us about the state of the global economy?

Author: Lawrence Williams
Posted: Monday , 25 Jul 2011

LONDON -

Gold ended the week at a little over $1600 an ounce after a brief markdown following the EU's latest fudge over Greek sovereign debt. Overnight in Asia it moved upwards further hitting yet new records of above $1620 an ounce before coming off a little as Europe opened and has been strengthening again as this is being written. To this observer that signifies that investors do not believe the European crisis, which could rapidly affect other countries in the Eurozone too, and then spread to firstly the European banking system and then knock-on globally, is anywhere near played out. As analysts pored over the Greek rescue plan they began to see major holes in the financial package and its logic and we could yet see the whole house of cards come crashing down.

The supposed avoidance of a Greek default - which the ratings agencies are already saying is still a technical default whatever the Eurozone politicians and central bankers may claim - seems illusory. The latest attempt to muddle through in the hope that the avoidance of a full Greek default by September (which had been on the cards) will give everyone a bit more time and, with a lot of luck that the full financial catastrophe will be avoided, is not being fully believed by the markets.

But if we look at things rationally, Greece is an out and out financial basket case. Its citizens are fighting the proposed austerity measures in the streets and the feeling there is that default, withdrawal from the single currency and devaluation of the resurrected drachma is the lesser of the evils facing the population. Can the Greek government survive to actually implement the IMF/ECB imposed austerity measures given the strength of popular feeling against them?

And it doesn't end here. Portugal and Ireland are not in a much better state as far as sovereign debt is concerned and if the financial world turns on these weak economies, they would soon have to follow the same path as Greece - and then could Spain and Italy, with economies many times bigger than the three Euro minnows, be next in line?

Maybe we can pin the whole Euro crisis on Germany, although its citizens don't see it that way. Germany has been the principal beneficiary of the Eurozone single currency experiment. Because of the weaker parts of the Eurozone the currency itself has been kept from rising too far and too fast against the dollar, thus helping Germany's huge export led manufacturing sector. If Germany was out there on its own its own currency would almost certainly have been rising dramatically against the dollar, thus cutting into its exports and its economic growth potential. No wonder Germany has reluctantly been supporting the weaker Eurozone nations in their efforts to stave off bankruptcy.

On the other side of the coin, German economic strength has prevented the Euro from falling as it might have done otherwise, thus exacerbating the problems facing what it sees as its profligate neighbours to the south. If all had maintained their own currencies, the weaker elements would have seen their currencies fall on world markets thus making them more and more competitive and more able to cover their debts without defaulting - but the whole bonding together of countries with strong economies and those with weak ones under a single currency has proved, in retrospect, to be a recipe for financial disaster without full financial union.

The banks too should take their share of the blame for the situation. Virtually uncontrolled lending in the first few years of the 21st Century has let countries build up their debt positions to levels from which it is almost impossible to recover. As you sow so shall you reap and the banks may now be faced with defaults on a massive scale - and many may not survive. And it won't just end with Europe. The global banking system is inextricably entwined and the whole default problem will spill over into the U.S. and elsewhere too. No wonder investors are turning to gold as a desperate last resort to preserve what they have against what they see might be coming.

Now maybe the politicians and bankers will somehow manage to stave off the seemingly inevitable, but in case not, gold is seen as the one insurance policy that may provide some protection.

Meanwhile, across the Atlantic things aren't looking so good either. There is the immediate problem that unless Democrats and Republicans can come up with a compromise over extending the debt ceiling, horror of horrors the U.S. could default on its debts too. This political brinkmanship game has been going on for some time and, deep down, everyone thought, and are probably still thinking, that a compromise would be reached sooner or later. But there are now only eight days to go before D Day (default day) and there seems to be no solution yet in sight.

If D Day is actually reached without agreement, this is the wild card which could drive gold through the roof. If the world's most prosperous nation is seen to default, the global financial repercussions could be enormous. One suspects that markets have been assuming Republicans and Democrats will find it within themselves to reach agreement at the 11th hour but nothing is certain and latest rhetoric sees the two political movements as far apart on this issue as ever.

But, assuming the U.S. debt ceiling is, indeed, extended in time then this, coupled with the Greek compromise, could settle some jitters, however unjustified this may be, and gold could come back a few dollars - or even tens of dollars. However its performance Friday and this morning suggests that any setback is likely to be very shortlived.

What the U.S. debt impasse is bringing home to people is its massive size - $14.5 trillion and rising by the second - (see fascinating representation of this on www.usdebtclock.org) . This has been built up over the years and has accelerated drastically recently. No-one in their right minds thinks that this will ever be reduced to zero. To the person in the street the size of the debt is so great that it actually means nothing to them - it is beyond comprehension. They feel perhaps that the U.S. can go on running deficits of this size and higher for ever - which indeed it will probably have to - the gap between spending and income being so enormous. What the debt ceiling deficit debate is doing is bringing this to the surface and the person in the street is only now beginning to realise that this is actually a problem for the government and for the people themselves. The possibility that if the debt ceiling is not raised that social security payments are not made in August is really beginning to bring the financial mess in which the U.S. finds itself into the forefront of individuals' realisations. Is it any wonder that gold is rising? Nervousness over the financial future is beginning to rule people's minds.

But the U.S. problems do not start and end with the debt ceiling. This observer thinks that this will be raised before next Tuesday - not to do is unthinkable. And undoubtedly gold will waver when this happens. But, many of the U.S. individual States' deficits are in the same league as those of the Eurozone nations, but news of this is being swept under the carpet. Some States will be forced to renege on their debts too. State employees will be put out of work with no money available to pay them. All this will further bring home the seriousness of the situation facing America and the world. It is beginning to sink in now.

July/August is traditionally a weak time for gold. Purchasing from Asia - perhaps the main gold price driver - falls off, picking up again once festival seasons start in late Summer/early Autumn. Yet gold is standing at an all-time high as August approaches. That should indeed be telling us something. The chickens are coming home to roost and gold will continue to be the major beneficiary.

This writer was looking to see gold in the $1700s by year-end in Mineweb's January gold price competition. This is beginning to look as if it could be a very conservative prediction indeed!