Waiting for the
sky to fall: Asia and gold at $500
By
Keith W Rabin and Scott B MacDonald
With gold
approaching US$500 and silver above $8, there is a
tendency to wonder whether the long awaited "end game"
is now before us.
Gold gained almost $17 an
ounce last week - on par with levels not hit since late
1987. Silver reached prices not seen since April 2004.
We share a bearish posture, particularly in
respect to US equity markets. However, before adjourning
to the bunker in anticipation of massive social and
economic breakdown, it is important to note the odds
favor a more protracted adjustment than the possibility
things will spin quickly out of control.
While
one cannot totally discount the potential for a crash
and major spikes in volatility or dispute the excitement
forecasts of this kind provide, recessions are far from
everyday occurrences and depressions even rarer events.
Reality tends to be much more mundane and there is
little incentive on the part of the world's central
banks and political leaders to allow the global economy
to slide into a massive meltdown.
So what is the
outlook moving forward? The trick for global economic
policymakers is to maintain stability as they steer the
world away from its excessive dependence on the US
economy. The US has substantial economic problems - a
massive current account imbalance, a sizeable though
falling fiscal deficit, a lack of household savings and
a consumer on his last legs. As a result, one has to ask
how the US can continue to progress with an exhausted
consumer and cooling housing market.
The
pressures of economic globalization also make it highly
unlikely the US and other developed economies will be
able to achieve the productivity gains they need to
sustain a cost structure and standard of living that is
so much higher than that of the developing world.
Over the long term, the US simply cannot
maintain its position as the consumer of last resort.
This means the Federal Reserve and corporate and public
sector managers cannot rely indefinitely on
ever-increasing real estate and other asset values as
well as other questionable financing vehicles that
enable Americans to accrue the ever-higher levels of
debt needed to feed their voracious propensity to
consume.
Other than hoping there is sufficient
room to keep pumping up the bubble and hope it does not
blow, the only real option is to shift demand to Asia.
In particular, this includes the trio of China, Japan
and India as well as other economies in ASEAN
(Association of Southeast Asian Nations).
What
is the worst-case scenario? Our biggest worry is that
central banks overreact to inflation risk by raising
interest rates to the point where they kill off growth.
In the United States, the Fed could overshoot raising
rates, sending an already retreating consumer into a
tailspin and making the downturn in the housing market a
rapid plunge as opposed to a more orderly retreat from
its current heights.
Translated into real gross
domestic product (GDP) growth, this could result in a
slowdown in the first half of 2006, followed by a steep
decline in the second half of the year, setting the
state for an actual recession in 2007. It would also,
despite their far better fundamentals, at least over the
short term, cause panic and fear in Asian and other
markets that are believed to remain highly correlated to
the US.
In our view, however, while we do not
doubt this sell-off would occur, the surprise will
likely be how quickly these other markets then recover
while the US shows at best more lackluster performance.
Fortunately, there are whole legions of people
around the world - rising out of poverty or shifting
from a predominantly export orientation - who are only
too happy to "catch the American disease" that manifests
itself in the aggressive accumulation of material
possessions. This is not to suggest the US will no
longer remain an extremely important market, but rather
the most important drivers of marginal growth will occur
offshore.
In unit terms, China alone is already
said to constitute a larger market than the US for
steel, TVs, refrigerators, radios, motorcycles and
cellular phones. If one adds in India, Japan, Korea,
ASEAN, Central Asia, Africa, Latin America and the rest
of the developing world it appears inevitable that the
US portion of global market share will decline on a
percentage basis though not as radically as a
demographically challenged Western Europe.
Indian credit card usage, for example, rose from
4.3 million to 9 million from 2000 to 2003, and ICICI
(India's second largest bank) alone issued about 100,000
cards every month in 2004. Only 53 million people - less
than 5% of India's population - are estimated to have
mobile phones. Indonesia's mobile market is also growing
dramatically - at a more than 70% compounded rate over
last six years - yet still has one of the lowest
penetration rates in the region.
The US would be
hard pressed to show similar demand growth in any
sector. Even in terms of luxury goods the US no longer
remains dominant. Japan now represents the market that
defines the profitability for many luxury goods
manufacturers and retail chains. Some analysts even
forecast the luxury product market in China will be
larger than the US in five years.
This is not to
suggest a seamless transition or the absence of extreme
anxiety and tension along the way. Additionally, over
time it may even be possible we will see the dramatic
readjustment predicted by analysts such as Richard
Russell whereby the price of an ounce of gold ultimately
exceeds that of the Dow Jones index.
Rather, it
is to recognize that whatever adjustment occurs,
investors are likely to be better served by strategies
that focus on the greater probability of a (investment
writer) John Maudlin-like "muddle-through" protracted
adjustment than the expectation that a new era of
hyperinflation, end of fiat currencies, breakdown of law
and order and other aspects of life as we know it lies
right outside our door and is ready to commence at any
time.
Perhaps the most important reason an
abrupt adjustment will not take place is that it is not
in anyone's interest - save perhaps a few highly
leveraged speculators. While developing and developed
markets around the world will ultimately move to
decouple themselves from an excessive reliance on US
demand and the vacillations of Wall Street that are
still the norm this will take time. To do so
prematurely, therefore, is equivalent to economic
suicide.
While we are not big fans of the PTB
"powers that be" argument - if for no other reason than
it is impossible for the bureaucracy and consensus
needed to carry out all the machinations accorded to
them in total secrecy for decades or centuries. That
said, it would be a great mistake to underestimate the
capacity of central bankers and key economic
policymakers to maintain the subterfuge longer - given
that aside from a few major breakdowns they have done so
for centuries. It is also worth noting that aside from
economic concerns, it is potentially destabilizing in a
political and security context as well.
What is
the bottom line? For those who predict that foreign
buyers are likely to suddenly abandon treasury
securities, they must recognize this is not only a US
problem but a global one - as Asia and other markets
remain very dependent on the US both as an export market
and an element within the global security environment.
That said, it is clear these economies do see the
writing on the wall and are making every effort to
promote this adjustment as well - ie building up the
domestic component of their economies and shifting
resources, not so much away from US but to allow a
multiplicity of focuses.
What does this mean for
investors? It depends on the time frame and one's
individual circumstances. Over time, the underlying
trends are hard to dispute. The entry of large numbers
of new people into the world economy will help to ensure
strong demand for commodities, energy and other
resources for the foreseeable future. Furthermore the
strong growth that will be seen in emerging markets that
possess positive demographics and that are just starting
to develop consumer-oriented cultures offer far better
potential for appreciation than the US.
In
addition, Japan and other markets that are now in the
midst of achieving the benefits of corporate/economic
rationalization also have an advantage as the benefits
are before them rather than the US where they have
largely been realized. Finally, as seen in the recent
comments by a Russian official, the growing need for
central banks to diversify away from the US dollar as a
reserve currency almost necessitates increased demand
for gold over time. This innate demand is further
accentuated by troubles in Europe that diminish the
potential for the Euro to act in this regard.
Therefore, those who have strong stomachs and
can afford to simply buy and hold are probably best
advised to scale into positions that will benefit from
these trends. Those who are a bit more aggressive can
take on and trade around core positions, lightening up
on strength and buying back with weakness.
The
key point, however, is that while the train has
certainly left the station, there will be starts and
stops and one needs to resist the urge to leverage up
every time things get hot and everyone starts crying "to
the moon" and doing high fives in the newsletters and
message boards, only to then get shaken out on the
inevitable downturns. On the other hand, if one is able
to hold one's nose, those gut-wrenching moments that are
only likely to increase in volatility, are more likely
to be buying than selling opportunities - so long as the
underlying trend is maintained.
Keith W
Rabin is president and publisher, KWR International
Advisor. Dr Scott B MacDonald is editor and
senior consultant for KWR International Advisor.
(KWR International Inc, a New York-based
consulting firm specializing in research, communications
and business development services for the public and
private sector, with a special emphasis on the
Asia-Pacific region. Visit the site.) | |
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