25/07/2024 MÉXICO

If you suffer from vertigo… Don’t buy gold!

A gold bar. [Photo: BullionVault Flickr's account]
Until 2009 a total of 165,000 tonnes of gold have been mined in human history. At current’s gold price it would mean US$ 7,085.6 billion, or more than twice Germany’s GDP. Its value, and its extraction, keeps accelerating.

Gold is the most malleable and ductile of all metals; a single gram can be beaten into a sheet of 1 square meter, or an ounce into 300 square feet. Can you imagine that? Well, in fact it is not that hard to imagine since gold has been commonly used in jewelry and we have all been able to see what is possible to do with it.

Gold has traditionally found use because of its good resistance to oxidative corrosion and excellent quality as a conductor of electricity. Because of this the precious metal has been also used in many modern industrial uses including dentistry and electronics.

But, guess what? Gold has been also used as a store of value. In fact, the world consumption of new gold produced is about 50% in jewelry, 40% in investments, and 10% in industry.

Until 2009 a total of 165,000 tonnes of gold have been mined in human history. This is roughly equivalent to5.3billion troy ounces. At current’s gold price (November 18th) that huge quantity translated into money would mean US$ 7,085.6 billion, or more than twice Germany’s GDP (according to 2009 CIA estimates).

Keep dreaming, alchemist

All metal atoms are made of the same particles, that is to say: protons, neutrons and electrons. But, obviously what differs each metal is its composition, so in theory it could be possible to change base metals into gold or any other metal of value to mankind. In practice, it is achieved only in nuclear reactions, where heavy radioactive metals decay into other lighter elements, including some isotopes of gold. However, man’s ancient dream of turning base metals into gold is not a practical proposition.

Wryneck is what you will have if you look at gold‘s price evolution

If you check the graph below you will see that the price of gold has been exponentially rising since year 2000. We are constantly hearing on the news that gold’s price is hitting all-time record. The last one took place on November 9th when metal’s price reached US$ 1,424 per ounce.

Year 1980

Currently the price of gold is experiencing its highest nominal value in the last one hundred years, but not its highest real value (you know, the value if we take inflation into account). During the year 1980 the price of gold averaged $614.61 per ounce, which in today’s money is $1,537.94!

Why the price of gold is going up, and up, and up…

But what are the drivers for the gold price to go up? There are, in fact, several factors that can lead the price of gold up, by rising its demand:

Weakness of the currencies: The most extended argument for the rise of the price of gold is the weakness of the dollar, since the greenback is usually seen as the World’s reserve currency. So if dollar is weak, and it is getting weaker over time –by lowering the interest rates, or by deploying government’s massive economic support packages- then the price of gold increases. Why? Because investors always put their money on assets which they think, and hope, that will gain value over time, and gold is the most usual alternative to currencies as a place to invest money in.

Gary North, from The Market Oracle explains it in a very easy way:

‘One of the best ways to assess the logic of an argument that explains the move upward in the price of gold by means of an appeal to a falling dollar is to check the price of gold in several other currencies. If you find that, over several years, the price of gold has moved up in a number of major currencies, then you can conclude that the driving force behind gold is not the Federal Reserve System acting alone. The cause is the policies of other central banks around the world. In other words, if gold moves upward in multiple currencies, investors worldwide have determined that gold is a way to hedge their economic futures against a decline in the purchasing power of their own currencies.

If gold’s move were simply a result of expansionary monetary policies by the Federal Reserve System, then the price of gold ought to be flat in relation to the other currencies. Under these circumstances, we would expect the purchasing power of the dollar in relation to those other currencies to be falling. “See? The other currencies are stable; the problem is the declining value of the United States dollar.”’

Inflation risk: The second most usual argument is that gold is seen as a shelter when inflation is in action. Or when potential inflation is expected. So if the are mounting worries about potential inflation in 2011 they may be enticing more investors to the precious metal.

Speculation: A lot of the investment (maybe this is not the right word) into gold is just coming from institutions such as hedge funds – whose money needs to go somewhere. So, if there are no other more valuable alternatives speculators will be staring at gold. Furthermore, when banks are offering very low rates of interest on savings – and money can be borrowed extremely cheaply and you don’t get much return of your savings in a bank account – gold becomes even more attractive.

Psychological: Gold tends to hold its value over the long term and is not anchored to the value of cash. This means that people are drawn to it in uncertain times, though he cautions the price can be volatile.

Seasonal: A financial adviser may not advice you to get gold as an investment. At least in Western cultures. However, in countries such as China and India, buying gold as in investment is more common. And at this time of year, in the run-up to the Diwali festival, there is a seasonal increase in gold purchases because the metal is traditionally given as a gift. Indian farmers are also big gold customers at this time of year – seeing it as a way of keep their profits safe after harvest – free from threat of currency fluctuations.

News and international events: Investors love stability and predictability, so they can take decisions with lowest risk possible. For this reason they are permanently connected and up to date on what is happening to the world. So if for some reason an event affects, or may potentially affect, the economic environment, or the expectations of investors this, for sure, will have an automatic effect on their actions, and consequently in the price of gold.

The effects of 9/11

The economic consequences of the worst act of terrorism in U.S. history -which destroyed the twin towers of the World Trade Center in New York and left the Pentagon burning in Washington – were unexpected. After the first plane crashed the price of gold in New York market moved upwards more than 5 percent in just two hours. At 9 am the price moved from $274 to $288 and ounce at 11:30 am.

In overseas bullion trade, gold soared nearly six percent, or $16 an ounce, after the attacks, with the London benchmark fixing price climbing to $287.00 in the afternoon from the morning’s benchmark $271.40.

Check out this video if you want to listen to a broker that will tell you the same. Maybe it will shock you!

[vsw id=”yoQOXepaCjk” source=”youtube” width=”425″ height=”344″ autoplay=”no”]

Soviet invasion of Afghanistan and Iranian Revolution

In 1980 the invasion of Afghanistan by the former USSR and the Iranian Revolution also had an effect on the price of gold. Both events caused further rises in oil prices and inflation. Consequently gold prices hitted a high around $ 850, or $ 2,200 in today’s money (the highest real price ever!).

Political declarations

Another source of the gold fever that has sent the price into the sky is the world Bank president Robert Zoellick. Mr. Zoellick made it clear that he felt all leading economies in the world should start using the gold standard again to bring stability and real price points to currency prices. As the U.S. Federal Reserve started pushing quantative easing Mr. Zoellick kept chiming in with his push towards the gold standard.

Why the gold demand in 2010 is rising

According to the WGC’s Gold Demand Trends report for Q3 2010 demand for gold in the final quarter of 2010 will be driven by the following factors:

  • Increasing demand by the world’s two largest markets, India and China, as rising income levels, high savings rates and strong economic growth continue to push up consumption.
  • Gold jewellery demand is likely to exceed that of 2009 due to an anticipated recovery in India, the most significant gold jewellery market, and continuing strength in China.
  • Concern over fiscal imbalances and currency tensions will continue to support investment demand for gold. Aside from the recent additional US$600 billion of quantitative easing by the US, the weakening of the US dollar and associated fears of inflation, demand is also likely to be driven by higher gold price expectations, as well as increasing availability and accessibility of gold investment products to retail investors.
  • Industrial demand, which has returned to long-term levels, is expected to remain firm on the back of renewed growth in the electronics industry, due to the majority of semi-conductors being wired by gold.

This is a Non-Profit Explanation

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Lluis Torrent

Barcelona, España. Licenciado en Ciencias Ambientales, Máster en Intervención Ambiental, Máster en Relaciones Internacionales y Especialista en Ciencia Política. He trabajado como consultor ambiental para gobiernos locales y regionales y empresa privada. Socialmente comprometido, me apasiona explorar la fina línea que transcurre entre la política, la economía, la sociedad y el medio ambiente. Sígueme en Google+ Lluis Torrent

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