The world has been experiencing the largest liquidity boom, as the central banks’ seven-month easing binge continues. Over this time, ISI counted 127 different stimulative policies, such as printing money, lowering interest rates and other easing measures, taken by governments around the world.
The policy shifts helped carry the equity market a long way from the low on March 9, 2009. At the time, we noted in a special Investor Alert that there were significant government policy changes that signaled the market had hit rock bottom. According to USA Today, from the 2009 bottom through the end of the first quarter, the S&P 500 Index increased more than 100 percent. No wonder U.S. equity investors are singing.
However, the side effect of the abundance of printing by the central banks in the U.S., Europe, Japan and England has bloated balance sheets amounting to nearly $9 trillion. This is double the amount that it was three and a half years ago, says Ian McAvity in his recent Deliberations on World Markets, as the printing presses have pumped our monetary system full of liquidity. This is merely “kicking the can down the road,” as central banks will have to deal with the overhang later, says Ian.
This has historically been a strong positive catalyst for gold. An analyst at the Economics and Finance Fanatic blog put together a visual that illustrates just how strong of a catalyst the nonstop printing of money is. The chart compares the U.S. adjusted monetary base since 1990 with the “surging” price of gold. As you can see above, the amount of money in the U.S. system climbed to extraordinary heights since 2008, with gold following the same path.
The economic challenges of the U.S. and eurozone “promise to be a prolonged one with sluggish economic growth,” says McAvity, and easy monetary policies will likely be the remedy for awhile. This provides a strong case that any pullback in the gold price may be a buying opportunity. Ian says, “Tax uncertainty, festering toxic debt that’s out there but out of sight and impossible debt service ability looming? I’ll stick with gold and sleep better at night.”
U.S. investors might sleep better at night with an allocation to gold in the face of continued negative real interest rates. Gold has historically climbed when interest rates fell below zero percent, with a “strong correlation from 1977-84, and again recently when rates turned negative in early 2008,” according to Desjardins Capital Markets.
The U.S. has not made any cuts in entitlements which make up 60 percent of the deficit. There have been no changes in fiscal policy and no change in current monetary policy. Ian McAvity says these factors together make “the most powerful argument in favor of converting that paper into gold.”
What would have to change to make me turn bearish? I believe the following three actions would need to be taken:
1. Real interest rates would have to increase 2 percent above the CPI in the U.S. and Europe;
2. GDP per capita in Chindia would need to fall, negatively affecting the “love trade”;
3. Substantial fiscal cuts would need to be made in entitlement programs in the U.S.and Europe.
I believe there is a low probability of these events occurring any time soon. In this environment, gold should thrive.
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Frank Holmes is chief executive officer of U.S. Global Investors – a registered investment adviser that manages approximately $2.8 billion. The information provided herein has been provided to MiningFeeds.com by the author and, as such, is subject to our disclaimer: CLICK HERE.