Gold to gain as global currency war intensifies

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Published: September 11, 2019 1:18:06 AM

Make a strategic allocation to gold because it is the counterweight to paper money which is continuing to lose credibility as a store of value.

To analyse gold over the long term, it needs to be seen as a monetary asset rather than a commodityTo analyse gold over the long term, it needs to be seen as a monetary asset rather than a commodity (Illustration: Shyam Kumar Prasad)

The US treasury has labelled China as “currency manipulator”. In fact, the Middle Kingdom, had long been manipulating its currency upward, above market valuation, and was sanctioned by the United States only when it began to let market forces push its currency down a little. It didn’t designate China in the 2005-08 period when a case to do so existed, as Beijing was running a current account surplus of 10% of GDP and intervening heavily.

Growing currency war

Global growth is slowing down and the trade war uncertainty is worsening growth prospects further. Faced with insufficient growth, politicians see a weaker currency as a direct shot at improving their export competitive status. Currency war is just the logical extension as worried politicians tinker their exchange rates as a way to tackle faltering economies.

The race to the bottom between the fiat currencies will continue as each sovereign state believes that a weaker currency will boost exports and ultimately will get them out of this mess. The fact that each round of currency devaluation negates the previous one would appear to have gone unnoticed by those involved.

Why gold will gain

The main influencing factor in the gold market today is the massive and unrealistic heap of sovereign debt throughout the Western financial system coupled with a paper currency that is positioned as the reserve currency of the world, which however can be issued and abused by a single government. These high levels of debt, combined with slow economic growth compel central banks around the world to ‘print’ more dollars and other currencies (in order to pay the bills), stimulate the economy, engage in national currency devaluation, and inflate away the debt burden with an intentional plan of currency devaluation.

Long-term trends in gold prices are driven by changes in the overall level of confidence in the monetary system and the economy. Therefore, to analyse gold over the long term, it needs to be seen as a monetary asset rather than a commodity. Given the current economic backdrop, where governments are struggling with problems like rising deficits and unsustainable debts, it is indeed logical for gold prices to increase in value. With policy makers continuously debasing currencies, gold will be viewed as a preferred investment, lending some solace to the chaos.

The rationale for owning gold assets remains simple: global deterioration of sovereign credit and a growing need to debase currencies in order to meet future obligations, whether it’s in the US, Europe or Japan. The policy of socialising risk with monetary and fiscal policy has destroyed the balance sheets of the Western world. We are in a phase of experimental central banking, which I believe is going to end badly due to the dislocations of capital it has caused through prolonged periods of negative rates.

The clash for supremacy will overtime intensify strains between the US and China, reinforce the trade war, unleash global currency tensions and add to financial market volatility. This may increase global downside risks and hurt growth.

Make a strategic allocation to gold because it is the counterweight to paper money which is continuing to lose credibility as a store of value. Review your allocation to gold to make sure it remains adequate enough to be able to serve as an effective portfolio diversification tool; an allocation of 10-20 % of your portfolio. That way the precious metal can act as a shock absorber to help protect from any unexpected bumps in the financial system.

(The writer is senior fund manager, Alternative Investments, Quantum Mutual Fund)

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