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Indians have not really become �anti-gold.�
They are just undergoing a natural re-evaluation process. The global crisis
makes the outcome rather predictable
It�s
lonely out in gold-land without Indians doing their traditional holiday
buying. What�s
the deal? Why are they staying on the sidelines?
There are a number of reasons. Most of them have been touched on
before, but the main reason is that urban Indians have recently emerged from
the dark ages of superstitious adherence to rigid traditional values � and stepped
right into the utter blackness wherein the modern banking caste thrives.
Bank-issued credit has helped
India transform itself from a country without a middle class beset by city
slums, poverty, cholera and famines into a modern-day miracle that in no way
falls short of the Chinese miracle. Naturally, that is something to be proud
of, and Indians rightfully are - so, just as naturally, they tend to go along
with their newfound appreciation for western financial wizardry.
Unsurprisingly, they have promptly expressed that appreciation by sinking a
good part of wealth into it.
�Sinking�
is the operative term here, of course. Here is what happened to the Bombay
Stock Exchange since December last year:
There is one more reason that
has not been discussed much, but it is a direct corollary from the last
sentence above. The Indian middle class that has squandered away its former
gold wealth for an ephemeral illusion of even vaster future riches has
gambled away its last undergarment and is now in no position to buy anywhere
near the traditional amount of gold anymore. In good old western tradition,
they lost their britches in the stock market. Now, they are reduced to
bargain-hunters as they are only willing to re-enter the gold market at
prices substantially below $800 per ounce.
India�s BSE (Bombay Stock Exchange) has lost more than 50% of
its December 2007 peak value. Gold (even its comedians exchange paper-contract
variety) has only lost 20% in the same period. Now, all those illusory riches
are gone, however, and the adverse wealth effect of standing naked in the
cold winds of a global stock market rout is forcing Indians to conserve their
resources, so they�re just not buying much gold..
The
Question
The question to answer is � how well are they conserving resources by staying in cash
or money market funds, or whatever? How much better could they do by
returning to the safety of gold? After all, gold is the only financial asset
that is maximally insulated from the foibles of uninformed and corrupt policy
makers.
That question is now being
answered by official inflation numbers. Here is an excerpt from a recent
Bloomberg article:
India's inflation slowed more
than economists expected to a four-month low, giving the central bank room to
keep injecting cash into the financial system without fanning prices.
And here is the headline of
another article, also from Bloomberg, of the same date:
India's Inflation May Rise to
11.86%: Bloomberg Survey
Mind you, that the �four-month low� reported in the first article came in
at 11.44 percent. That�s not that far of a cry from the
expected 11.86 percent. Mind you, also, that a 0.42% difference can easily be
finagled in order to give the central bank the �reason� it needs for dropping its interest rate. Once you�re talking about price-inflation in the double-digits,
half of a single-point drop isn�t exactly overwhelming � or even mildly encouraging.
With the economy of India�s major trading partner, the US, about to be completely
undermined and swallowed up by government largesse, and with the Europeans
also not doing all that well on that front, who will farm out their personal
services to (no longer all that low-priced) Indian virtual assistants?
One thing is certain: The
latest drop of the derivative price-illusion we call �Comex-gold� into the sub-$800 region has proven
that gold at or near $700 is viewed as a tremendous bargain, especially in
India. This, combined with the stock-rout induced reluctance to buy at prices
above $850 may well keep Comex gold in that tight range between these numbers
for the near future.
However, when viewed in
comparison with the fifty-plus percent losses of other asset classes, gold � even its third-cousin derivative variety traded on the
New York Commodities Exchange � is proving, once again, that it is
indeed the most reliable and therefore superior wealth storage facility man
has ever known. In times like these, who could ask for more?
The
Indian Price-Floor
The Indian market�s $700/oz price floor under gold will keep it from
following other asset classes into the abyss. Here is a picture:
Major stock markets worldwide
have already tumbled over the fifty percent ledge and are about to resume
their free fall. Many others will follow. I don�t
know about you, but the chance of buying into an asset that has already
suffered most of its potential decline (Friday�s
Comex close for derivative gold came in at $782.90 for the 24hr contract)
sound pretty good to me. That is especially true at a time when the world is
holding its breath to await the Lehman implosion�s second-round effects on the credit default-swaps market,
when protection-sellers are forced to fork it over, this coming Tuesday.
Push the rewind button on this
phenomenon a few more times while worldwide stock markets keep on tumbling
and long-term interest rates keep heading the other way, and you can see why
more and more people will come to the realization that, indeed, there is
safety in �them thar hills� where gold can be found. All the while, credit markets
are responding only in the most underwhelming fashion to hyper-billion dollar
government bailouts.You know very well what happens when the credit doesn�t flow in a credit-fueled global economy. It�s the same thing that happens when gasoline doesn�t flow through the carburetors of your car�s engine: nothing.
That spreading perception of
where true financial safety can be found will trickle down even into the
nether reaches of the Valley of Comex where the derivatives-river of
paper-gold flows like a non-potable, poisonous version of milk and honey. It
has long been known that paper factories are some of the worst polluters of
our waterways. It�s the same with the Comex� manufactured stream of paper contracts. Soon enough, even
fund managers will have to return to the valley to drink their fill of the
poisonous mixture. What else can they load up on to reduce damage to their
portfolios? Their funds� digestive tracts are not set up for
physical intake. Meanwhile, physical gold owners (there are still many
Indians among them) will safely look on from the hillsides as the polluted
river below turns into a raging torrent.
Now, back to the Indians� erstwhile darling, the bombing-stock exchange.
Where
is the BSE�s
Price-Floor?
There is no technical support
worth talking about below the 9000 point mark � all
the way back to 6000 which, if reached, would set the BSE back to where it
was at the end of 2005 � five years ago!
What�s worse, the fact that the index currently stands at less
than 10,000 means it has already breached the 50 percent retracement level
from its blow-off peak at 21,000. There truly isn�t much support below.
Indian price-inflation,
meanwhile, gives the purchasing power of Indian-held cash an eleven percent
haircut every year as we have seen above. Combine that little tidbit with the
Royal Bank of India�s plans to inject billions of new cash
into the economy, and you know that inflation numbers won�t get much better anytime soon.
On that front, many Indians
are mistakenly drawing comfort he fact that the economy is slowing and
inflation is therefore perceived as less of a problem by policy makers but,
unfortunately, that is little more than a ruse. Contrary to the media-honed
popular view, slowing economic activity, by itself, does not make general
price-inflation go away. It makes it worse.
Why
Slowing Growth Won�t
Cure Inflation
In short, slowing or even
negative growth won�t cure inflation because the �demand-model� for explaining the phenomenon we call
inflation is fundamentally flawed. It intentionally confuses cause and effect
so that people would not catch on to the bankers� game of bait and switch.
Keynesian economic theory
holds that price inflation is demand-driven. As people demand more stuff, it
becomes more and more scarce, so prices rise. That�s all good and well, but it completely ignores what the
actual cause for the rising demand is. Austrian economists, on the other
hand, have properly diagnosed the disease when they posited that the
increased demand is the precise result of an increased supply of
credit-money. In other words, all the economic �growth� Keynesians like to brag about is nothing other than
classic mal-investment. It�s fake �
and it eventually collapses in on itself, just like any other good Ponzi
scheme. Current world market conditions are a living testimony to this simple
fact of life.
Excessive monetary inflation
is the more price-inflationary the slower the underlying economy grows. Put
another way, growth of monetary aggregates that is roughly in sync with
economic growth (whether mal-investment or not) doesn�t produce much price-inflation, at least for the time
being. It is when monetary inflation far exceeds the rate of economic growth
that prices start to climb more rapidly. Now, picture a situation with strong
monetary growth that occurs during a time when GDP actually declines � and you have a perfect recipe for hyperinflation.
Right now, we have a situation
of massive global monetary or credit-inflation combined with a mounting
global recession. Under normal circumstances, this additional credit translates
into economic growth/mal-investment. Unfortunately, this time around in the
West, banks aren�t lending much, at all. They are
hoarding cash to cover expected future writedowns and to keep themselves from
falling into insolvency.
Global
Economic Lockdown
As a result, all of that newly
injected (central-bank-borrowed) cash just sits there, decorating the banks� balance sheets. That may make them look pretty for the
holiday season, but it won�t make shoppers go to the stores and it
won�t be used by consumers and companies to
pay bills � and that means it won�t even reach the general economy.
What�s worse, the banks aren�t
even lending this cash to each other because they all know that it has to be
paid back to the Fed whence it was borrowed. That means they all know it is a
ruse because they themselves have taken advantage of the same cosmetic
treatment, and they know it isn�t even skin-deep. It�s only lipstick on the proverbial pig.
That means the governments
will have to pony up even more money to guarantee deposits of more failing
banks..
That means they will have to
borrow more money from their domestic public and from abroad.
For that to work, either their
own citizens or foreigners will have to have extra money lying around that
they can afford to loan out to a spendthrift outfit like the US and other
western governments.
And, since that extra money is
becoming increasingly scarce as this process unwinds, the lending stream of
money will dry up.
That, finally, will force
these governments to borrow more money from their central banks and that is
the same as monetising the debt, which is purely inflationary.
It will also drive down
government debt prices, boosting longer term interest rates in the process,
which further depresses the housing market and makes rescheduling ARM loans
gone-bad just a tad more difficult.
In order to prevent further
loan defaults at home and abroad, the governments will then have to step in
again and guarantee new loans at below market rates � which will only serve to further compound an already bad
problem.
So
- What About India?
Indian banks are getting
tighter with issuing credit to their public as well, but Indian inter-bank
lending hasn�t suffered anywhere near to the same
degree as in the West, simply because Indian banks aren�t quite as exposed to defaulting US mortgages as the West
is.
It�s the same with the Indian commercial paper market. It has
suffered because the downturn in stocks caused the big funds to liquidate
their positions in order to meet their own liquidity requirements (when their
investors sell their shares, they want whatever is left of their money back),
but the cause of that is not western-style mortgage defaults..
So, after all is said and
done, without steady US and European demand for Indian services, Indian stock
markets will have a very tough time climbing back to anywhere near the BSE�s recent peak at 21,000. That�s a deliberate understatement. Accordingly, money flows
back into these markets will be severely limited. The incentive to get back
into still falling stocks just isn�t that great. Gold, on the other hand,
being no man�s liability and not dependent on anyone
else�s performance, will very likely regain
its traditional attractiveness to Indian investors.
At the very least, Indian
frugality and value judgments likely keep a floor under the Comex-price of
gold at or very near current world prices �
something that cannot exactly be said about any other asset type. And that,
in the end, is probably the best reason why gold as an investment asset will
remain attractive to investors, even western-style fund managers, for many
years to come.
In the end, it cannot be said
that India has really become �anti-gold�.
It is just in the process of re-evaluating its traditional relationship to
the metal. The most probable outcome of that evaluation period is that Indian
investors will stick with what has served them so well in the past and what
we now know would have served them far better than stocks did - had they
stuck with it.
Got gold?
Alex Wallenwein
Editor, Publisher
The EURO vs. DOLLAR & GOLD MONITOR
In this multi-decade gold bull market, the old investment maxim of "know
when to buy and when to sell" has been replaced by "know when NOT to sell!"
Euro vs. Dollar & Gold Monitor subscribers know when not to sell.
October 20, 2008
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