Gold is heading for $3,000, Bank of America says. “The Fed can’t print Gold”
21 April 2020
Over the past twelve months, the gold price has increased by 34% to over $1,700 per ounce. Many analysts are forecasting great things for gold with Eduardo Elsztain predicting “this level only express the start point of what might be the strongest rally of the metal as never before, at the same pace that fiat money is being printed worldwide”.
The COVID-19 has triggered a global response with a ramp-up in debt to deal with the economic downturn and governments are calling on Central Banks to help fund this debt increase through money supply.
In response, Central Banks around the world have pledged to do “whatever it takes” and put together the most aggressive balance sheet expansion in modern history, with the FED itself expected to expand its balance sheet from an already high pre-pandemic level of USD 4 Trillion to a staggering USD 12 Trillion.
In addition, governments have put together bail-out plans that will increase fiscal spending to historic highs. More bail-outs plans are expected to follow.
Whilst it is reasonable to expect inflation to first fall in the coming months, given the large contraction in demand relative to supply, the big question is whether a large monetary overhang in the recovery phase will eventually stoke consumer price inflation.
Double digit inflation has invariably followed major global economic crises over the 20th and 21st centuries – why will this time be different?
The Global Financial Crisis (GFC) was an exception to this rule. Many predicted hyper-inflation as a result of the huge quantitative easing that never materialised. However, there are key differences between then and now.
Firstly, austerity theory has been replaced by Modern Monetary Theory (MMT). MMT is the notion that a country can print its own currency freely to fund deficit spending without long term implications. Critics refer to MMT as the Magic Money Tree.
Secondly, in the aftermath of the GFC, major banks absorbed much of the massive injection of liquidity from Central Banks to sort out their own financial stability rather than relending to their customers. This quashed the money multiplier leading to subdued inflationary pressures. However, this time banks entered the crisis on a stronger footing and government policy is more squarely aimed at putting liquidity directly in the hands of businesses and households. Governments are underwriting many of these loans, shielding banks from losses and encouraging them to lend.
If this infusion of debt has the desired effect and stimulates a recovery, Central Banks will typically attempt to keep inflation under control through sharp increases in interest rates. However, an economy with a high level of debt is also one that does not digest interest rate increases well. That is particularly relevant here with such a high level of debt. So, when the time for lift-off finally occurs, any hiking cycle is likely to be delayed and unambitious.
This suggests if inflationary pressures do emerge then they might be difficult to contain through monetary policy alone, as Central Banks fear undoing all the good work in getting the global economy moving again.
A further factor may be if developed countries aim to become less reliant on China in response to the current crisis and a move away from global supply chains spills overs to goods prices, undoing two decades of disinflation attributable to globalization.
One thing is for sure, there will be many assets that will move as a result of this money creation. So what are investors buying?
A Golden Decade
In times of high inflation, investors need to hold assets particularly those with limited supply. Over the last two months Wall Street and institutional investors have been buying gold.
Paul Tudor-Jones, is a leading US hedge fund manager and is predicting we will see a sustained period of double digit inflation over the next decade. As such he has increased his exposure to gold as a key inflationary hedge.
Looking at price movement of gold before and after previous crises, he predicts gold will continue to perform strongly. He states “A simple metric based on the ratio of the value of gold above ground to global M1 suggests gold could rally to 2,400 before it reaches valuations consistent with the lowest of the last three peaks in this valuation metric and 6,700 if we went back to the 1980 extremes. One thing is for sure, these are going to be incredibly interesting times.”
As reported by Bloomberg on 20 May 2020, Crispin Odey, one of Europe’s highest profile hedge fund managers, increased the gold position in his flagship Odey European Inc fund during the course of April. Holdings in June gold futures represented 39.9% of the fund’s net asset value at the end of the month, up from 15.9% at the end of March. In addition a holding in Barrick Gold was the largest single long equity position.
Odey is not alone in betting that gold will be a major beneficiary as high inflation follows the coronavirus crisis, citing forecasts of inflation rates between 5% to 15% in the next 15 months.
Andrew Addison writing for Barron’s is also a strong advocate of gold-mining stocks predicting they will outshine a strong performance from gold in 2020.
Kiril Sokoloff the global investment strategist and founder of 13D Global Strategy & Research, disagrees that we are set for a period of high inflationary pressure and believes the current crisis will precipitate a long term period of deflation.
Sokoloff asserts that Central Banks are “pushing on a string “in trying to drive an economic recovery through loose monetary policies. He believes that with the high pre-pandemic levels of debt, adding more results in the additional debt becoming less and less effective. Sokoloff estimates that due to the current unprecedented stimulus packages, $1 of debt is generating as little as 25 cents of growth.
As such, he predicts we are heading towards a long term deflationary period with the only solution a sustained period of austerity. Despite this, he is also backing gold and gold mining stocks.
There is much speculation on the longer term impact from the current global stimulus packages in response to the Covid-19 pandemic. The currencies of developing nations are at greater risk of significant devaluation if the national debt levels are considered unsustainable.
For the US and other developed economies, the present round of global government spending and Central Bank interventions is not expected to lead to hyperinflation. This is due to the spending being focused on restarting the collapsed demand and supply side of the global economy and the levels of government indebtedness, whilst very high, remaining manageable
However, the system is under considerable strain. The extent of the strain is reflected in the gold price. A rise of gold is equivalent to a debasement of currencies and $3,000 does not seem an unrealistic level for gold.
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The Financial Times – Lunch with Sokoloff 04 May 2020
The Great Monetary Inflation – Paul Tudor-Jones and Lorenzo Giorgianni 13 May 2020
Gold Mining Stocks Will Outshine Gold in 2020 – Andrew Addison 14 May 2020
Chapter Three of the Most Challenging Crisis of our Lifetime – Eduardo Elsztain 25 May 2020