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Can the G-20 and the I.M.F. Burst the Gold Bubble?

Commodities / Gold and Silver 2010 Oct 13, 2010 - 10:52 AM GMT

By: Julian_DW_Phillips

Commodities

Best Financial Markets Analysis ArticleWhen George Soros stated that gold was the "Ultimate Gold Bubble," we believe that he was not saying that it is now in a price bubble, but that it would one day get there. This is backed up by his accumulation of gold and gold shares since then. So we are not looking at a 'gold bubble' even with gold at this price.


The only way that the G-20 or the I.M.F. could burst any gold bubble would be to reform the monetary system in such a way as to restore confidence in the global monetary system and currencies returning to them the stability that reliably prices goods internationally over the long-term. That is not on the table yet. With today's foreign Exchanges seeing rising confrontation between nations that want weaker currencies and those that are fighting the strengthening of their currencies we need to know what these two 'global' bodies think of gold and what they may do as the future of money darkens in the face of the coming storm.

Who runs the I.M.F.?

There is a popular assumption that the I.M.F. is a global body representative of all and equally so. The perception includes the belief that their recommendations are independent of government. The body is empowered by its members to address all matters affecting the world's monetary system. Included in this perception is the money sponsored by the I.M.F. called "Special Drawing Rights", a money creation that allows it to lend to distressed nations facing Sovereign Debt crises, such as we have seen of late. If this were true, there is no doubt that it would have the competence and power to fix the global monetary system.

But these perceptions stray significantly from reality. For instance, let's look at the voting structure in the I.M.F. Each member is entitled to a percentage of the voting power from less than 1% upwards. It takes 85% of all members' votes to pass any I.M.F. resolution. The largest holder of voting rights is the U.S. which holds 16.74% of the votes. This allows it to veto any resolution it wants to. While this does not make it a pawn of the U.S., it does prevent any resolution being passed that it alone does not want passed.

The U.S. effectively controls the actions of the I.M.F., so when Timothy Geithner put forward the idea that China's place at the I.M.F. would be enhanced if it was tied to an appreciation of the Yuan, we saw a strong-arm demonstration of that power. China has made it clear that it will not be pressured on the Yuan, but feels it deserves a greater say at the I.M.F. than its present 3.65% of voting rights. China's central bank Governor Zhou Xiaochuan specifically noted that this weekend.

Next year, the I.M.F. has to review the make-up of the Special Drawing Rights, currently composed of the U.S. dollar, the Yen, the Pound Starling and the Euro. A huge issue that goes far beyond politics is the make-up of a 'currency' that reflects world economic power and influences between currencies. Between now and then, we expect the international presence of the Yuan to be felt considerably more than it is currently. It would seem imperative that the Yuan be a sizable component of the make-up of the S.D.R. and of such a size that reflects it global economic presence and ongoing growth.

Is the G-7 an effective body in itself?

The G-7 comprises the top seven, most economically powerful nations in the world. China is not included. Of course, it should be. It was formed in 1976, when Canada joined the Group of Six: France, Germany, Italy, Japan, United Kingdom, and United States. To date, the G-7 has discussed its own interests behind closed doors, but rarely has it come out with any action to rectify global issues. It is not expected to now, either.

The most recent meeting was held last weekend and the media hoped to hear some policy statement that would address the 'currency' issues causing so much damage right now. None came except an instruction to the I.M. F. that it looks deeply into capital and trade flows with the purpose of proposing some 'rules' over them. No mention of who would likely impose them or enforce them. With national interests a far greater priority than international ones, the proposals are unlikely to be implemented but simply remain 'recommendations' when they come. After all, the U.S. will have to abide by them as well as China. Is this going to really happen?

What we do expect is for the I.M.F. to follow the lines of its previous paper [issued by the I.M.F. in February] on capital inflows, capital controls and financial crisis put forward on the 10th February 2010. In this paper, capital controls are suggested in certain circumstances. [Gold Forecaster has been predicting the potential for these for two years now.] The effect of both inflow and outflow capital controls is to render an exchange rate suspect, with the commensurate drop in confidence in that rate alongside the prospect of severe speculation against the exchange rate.

So the G-7 postponed and passed the 'buck' on global imbalances for at least one month, in which time we will see several currency pressure points. These started today with the Yen reaching historic highs against the U.S. dollar, despite the Bank of Japan's confirmation that it would attempt to lower the value of the Yen. It is likely that we will see 78 against the Yen and huge inflows into Japan. Will they impose capital controls soon? It is most likely.

Are they against Gold?

While the I.M.F. is completing the only sale of gold we expect them to make now and in the future, here is what the I.M.F. feels about gold:

"In 1995 the Executive Board reviewed the role of gold in the Fund. The Board concluded that use of the Fund's gold must take account of the overriding need to maintain and, where possible strengthen the Fund's financial base. In this regard, there was broad agreement that the Fund's policy on gold should be governed by the following principles:

  1. As an undervalued asset held by the Fund, gold provides a fundamental strength to the Fund's balance sheet. Thus, any mobilization of the Fund's gold should avoid weakening the Fund's overall financial position.
  2. The Fund's gold holdings provide the Fund with operational maneuverability both as regards its policies on the use of its resources and through adding credibility to the level of the Fund's precautionary balances. In these respects, the benefits of the Fund's gold holdings are passed on to the membership at large, to both creditors and debtors.
  3. The Fund should continue to hold a relatively large amount of gold among its assets, not only for prudential reasons, but also to meet unforeseen contingencies.
  4. The Fund has a systemic responsibility, given that it is the second-largest official holder of gold in the world, with about 10% of total official gold stocks of member countries."

As you can see here, there is no thought in the mind of the I.M.F. that gold should not be firmly held as a reserve asset. This leaves them with the only way to "burst gold's bubble" is to ensure that the global economy is healthy, cooperative to the extent that a rosy future exists, based on a sound global economy with financially sound, healthy economies using a sound well regulated currency system making up the global economy. As we all know, this looks like a utopian dream at this moment in time. So the I.M.F. will no longer act against gold. Once its present sales of gold are complete they will no longer sell gold.

As for the G-7, gold is not on their mind. Their retentive actions on gold demonstrate that they too see it as a reserve asset to be used in unforeseen circumstances. There is no doubt in our minds that the G-7 will treat gold as an alternative source of value to currencies, when push comes to shove. So neither of these two bodies will "burst gold's bubble", but will they support it now?

Gold Forecaster regularly covers all fundamental and Technical aspects of the gold price in the weekly newsletter. To subscribe, please visit www.GoldForecaster.com

By Julian D. W. Phillips
Gold-Authentic Money

Copyright 2009 Authentic Money. All Rights Reserved.
Julian Phillips - was receiving his qualifications to join the London Stock Exchange. He was already deeply immersed in the currency turmoil engulfing world in 1970 and the Institutional Gold Markets, and writing for magazines such as "Accountancy" and the "International Currency Review" He still writes for the ICR.

What is Gold-Authentic Money all about ? Our business is GOLD! Whether it be trends, charts, reports or other factors that have bearing on the price of gold, our aim is to enable you to understand and profit from the Gold Market.

Disclaimer - This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. Gold-Authentic Money / Julian D. W. Phillips, have based this document on information obtained from sources it believes to be reliable but which it has not independently verified; Gold-Authentic Money / Julian D. W. Phillips make no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. Expressions of opinion are those of Gold-Authentic Money / Julian D. W. Phillips only and are subject to change without notice.

Julian DW Phillips Archive

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