Gold is the one sure bet amidst the current global currency crisis

goldbar2Ten years ago when gold was trading below $300 an ounce the universal manta was, "sell gold."  Central banks were selling or leasing their gold in an attempt to get rid of their gold holdings and convert the money into bonds. Gordon Brown the then Chancellor of the Exchequer a role akin to the posts of Minister of Finance or Secretary of the Treasury in other nations managed to sell most of the British gold holdings at the low. At the same time some of the major gold mining corporations completely mistimed the market and hedged their output at the lows. But, this is hardly surprising as most of the major mining giants are run by people who are brilliant engineers and metallurgists, who know how to mine and produce, but who do not necessarily know much about market action. Then, when the price moved to $500 the mantra was the same except it got louder. And, then this happened again when gold hit $700, $900, $1000, $1100, and $1200. Now everyone is waiting for a large correction in gold price.

Luckily for some of us, these calls were ignored, and by investing in gold, some investors have managed to preserve their wealth.  Gold has been in a bull market for ten years, and yet some of these "super-stars" still fail to see what is happening. As I have mentioned on many occasions the main driving force behind the gold price has been the declining value of the US dollar the world's reserve currency. It has been on a downward spiral since 2001 when the dollar index was 120. It then traded down to a low of around 70 in April 2008, and after rallying a few times is once again back on the slippery slope downwards

A quarter century of uninterrupted and unprecedented credit expansion begun by the US in the 1980s, came to an abrupt halt years later in August 2007 when global credit markets froze, precipitating an economic crisis the severity of which surprised all except those who expected it. And, in order to prevent a collapse of our financial system, central banks were forced to bail out numerous financial institutions. Since all modern day currencies do not have any intrinsic backing, central banks can do this by simply printing more money. This is known as the fiat system of currencies.

A fiat currency is a medium of exchange composed of some intrinsically valueless substance which the issuer does not promise to redeem in a commodity or a fiduciary money. And, because a fiat currency has no direct legal connection to a commodity money (in terms of redemption) and, therefore, no real economic cost to its production, the supply of a fiat money can never be self-limiting. The value of these currencies really depends on the economic health of a  country as well as the perception of stability and confidence in the political climate in those countries. As conditions change currency values fluctuate to reflect the new perceived value. Changes in currency valuations have a significant impact on governments, corporations, financial institutions and ultimately the individual. Right now, we are seeing the result of these changes in currency valuations and the actions governments are taking to remedy these imbalances.

As the US dollar continues to lose value, other global currencies gain in value. The consequence of a stronger currency is that the cost of goods and services become uncompetitive, and this can severely hamper the growth of economies that are export orientated.

A currency war is spreading as the dollar's value against major world currencies has continued to decline in recent days. Some developed countries have begun to intervene in their exchange rates. The recovery of the global economy will suffer a negative impact if this trend is not checked. On Friday, Brazil's finance minister said that the government wanted to see if the nation's currency stabilizes before taking further measures to curb its appreciation.

Brazil has doubled the tax on foreign investments and made heavy purchases of U.S. dollars to weaken its currency amid a surge in its value against the greenback. Finance Minister Guido Mantega says if these steps don't weaken the currency, the real, the government will adopt new ones. He did not provide details. The U.S. dollar has lost 30 percent of its value against the real this year.

Two weeks ago, the Japanese government intervened in the currency market in an attempt to weaken the yen as it made a 15 year high against the dollar. The Bank of Japan cut its interest rates to zero so that foreigners would stop buying the yen. Last week Thailand imposed a 15 per cent withholding tax on capital gains and interest payments for government and state-owned company bonds, in an attempt to curb destabilising capital inflows amid fears of a global currency war.  A surge of money into Thailand has driven the baht to its highest against the dollar since just before the Asian crisis of 1997-1998.

The Turkish Prime Minister Recep Tayyip Erdogan and the Chinese Premier Wen Jiabao recently stated that  their two countries would from now on trade using their own currencies, effectively excluding the U.S. dollar. The two leaders also pledged to triple trade between China and Turkey to $50 billion within five years  and to $100 billion by 2020, speaking at a joint news conference in Ankara that marked the final stop of Mr. Wen's European tour.  The announcement on trading currencies was just the latest in a series of similar agreements Beijing has made as it seeks to increase use of the yuan around the globe. In late September, China supported a Russian proposal to start direct trading between the yuan and the ruble. It has brokered a similar deal with Brazil.

In the meantime, the value of the yuan has become a growing point of friction between China and the U.S. as well as with the EU — by far China's two biggest trading partners. U.S. Treasury Secretary Timothy Geithner in a speech on Wednesday warned of a potential downward spiral of competitive currency devaluations. Referring to China, he said: "When large economies with undervalued exchange rates act to keep the currency from appreciating, it encourages other countries to do the same." How come Geithner did not say anything about the effects a declining dollar has on other currencies? Many of these currencies are not appreciating because their economies are in such great shape, but are merely gaining strength on account of the weaker dollar. This is what happens when you have a fiat system of currencies. Right now, countries around the world are manipulating their currencies downwards. When the US Federal Reserve prints money and cuts interest rates, the dollar falls in value. This pushes the fast money to places with a strong currency – places like Brazil, India, and Canada and South Africa.

The implications of this currency war are going to be that we will see more volatility and uncertainty. It could also lead to lead to trade wars, slow economic growth and increasing unemployment.

In the midst of all this chaos, there is one sure bet. It is the asset of last resort. It is gold. Throughout history, national currencies have come and gone, but the value of gold has remained remarkably stable. Gold is one asset that does not depend upon any government's promise to pay.

While I do not know how the current global currency crisis is going to be resolved, I do know that in times like this it is advisable to have some gold. As an investor one must realise that gold is a long-term store of value. And, even after the price does correct, I sincerely believe that we can expect to see much higher prices in the future. So, what is more important than trying to time the pullbacks is to diversify some of your assets into this precious metal.  In this instance gold can be viewed as a kind of insurance to guard against unforeseen financial and monetary disasters which are beginning to look like a real possibility.



When gold finally broke above the $1000 level almost this time last year, it was a break to the upside of an inverse head and shoulders pattern. This pattern suggests an upside target (T #1) of between $1350 and $1400 an ounce.   

About the author

David Levenstein is a leading expert on investing in precious metals . Although he began trading silver through the LME in 1980, over the years he has dealt with gold, silver, platinum and palladium. He has traded and invested in bullion, bullion coins, mining shares, exchange traded funds, as well as futures for his personal account as well as for clients.

His articles and commentaries on precious metals have been published in dozens of newspapers, publications and websites both locally as well as internationally. He has been a featured guest on numerous radio and TV shows, and is a regular guest on JSE Direct, a premier radio business channel in South Africa. The largest gold refinery in the world use his daily and weekly commentaries on gold.

David has lived and worked in Johannesburg, Los Angeles, London, Hong Kong, Bangkok, and Bali.

For more information go to:

Information contained herein has been obtained from sources believed to be reliable, but there is no guarantee as to completeness or accuracy. Any opinions expressed herein are statements of our judgment as of this date and are subject to change without notice.