The World According To Gold

James West

This past week saw the Euro edge just a little bit closer to oblivion with the petulant Greeks insinuating that they'll default if they don't get bailed out. Not that you're going to see that written anywhere, because it's a statement that simply cannot publicly be made. But reading between the lines is our particular oeuvre, and so without hesitation we thus opine.

Germany has the right idea, inclining towards allowing the Greeks to capitulate, Euro be damned. The Euro doesn't have a hope in hell of surviving if it doesn't adopt a dispassionate policy of ejecting the delinquents at the table until they learn how to behave. You can't choose your family but you certainly can your friends, and this is the distinction I think Eurozone management needs to embrace.

Basket case nations threatening the integrity of the Euro include Spain, Latvia, and some might argue even the United Kingdom. The next 12 months should be very interesting in this regard. The value of these currencies continues to decline incrementally as measured by gold, and though the U.S. dollar has demonstrated some resilience during the past week, the amount of gold that can be obtained in U.S. dollars will also continue to decline.

Listening to the doomsdayers among letter writers at the most recent Prospectors and Developers Association Convention in Toronto a couple of weeks ago, I was struck by how this perennial message of at least a decade has yet to materialize. Global Financial Armageddon (GFA) is such an impossible devolution, as the most recent financial correction has shown us. Resilience is a basic component of the system, and the swindlers and hedge fund hacks in the world couldn't pull the whole thing down if they tried.

The stored lost wealth of nations in the derivatives market will continue to be rolled over by the originators and counterparties of the top banks, and there will be no balancing of that book through the delivery of the commodities upon which bad bets have placed. The is the great hydraulic cushion of the financial system, and as such, any regulation of it will ensure these positions are never unwound.

The indifference to these bankers' shenanigans is probably nowhere more acutely felt than in Peru, who was the world's only country to add jobs and growth during 2009. Lima, the country's capital, is experiencing a residential housing boom driven by the last decade's commitment to improving transportation infrastructure, giving people the freedom to move and develop their financial enterprises. Peruvian bankers are having to buy a lot of dollars and sell soles just to keep their currency from taking off and impugning competitiveness.

The country's upcoming election should see Alan Garcia, who has managed in large part to keep his hands out of the cookie jar this time round, replaced by Dr. Luis CastaÃ’eda, the highly competent and industrious mayor of Lima since 2002. If his ability for organization and fiscal management can be scaled to fit the federal requirement, Peru could see a period of extreme prosperity and economic growth. Looking around at the other South American nations, it is conceivable that Peru could become the strongest democratic economy in South America after Brazil. Overall, but for deteriorating Venezuela, perennial basket case and hopelessly politically divided Boliva, and dysfucntional Argentina, South America is in very good shape. Once Chavez has been disposed of, the era of violent dictatorships will be about over. For a continent as rich in natural resources as South America, there could emerge a new economic super zone to rival China, and one largely insulated from the travails of the developed world, where resources are depleted and empires are in decline.

And China this past week ratcheted up the warning signals suggesting its super hot economy could go supernova. Headlines warning of crises in debt, housing and speculation were abundant in diverse mainstream news sources, and as we all know, where there's smoke there's generally fire.

This is the theme of imminent risk this week. If China were to suffer a major debt and housing market contraction like that triggered by the U.S. in 2008, the good times could temporarily end for the otherwise frothy commodities markets. A substantial Chinese stumble would most likely trigger panic asset selling and capital hoarding, plunging the world into what would in reality be the Next Leg Down in the 2008 financial crisis.

That spells trouble for individual investors, whose scale of capital destruction is generally proportional to their distance from the markets in which their invested (I mean psychological distance).

These signals from China need to be very carefully monitored, and if the risk of economic contraction or crisis is perceived to increase, a proportional controlled liquidation of assets should be converted into gold and safer bonds. Risk capital can be left working in small batches, with one eye on the news feeds and the finger on ready to pull the sell trigger.

The first casualties of a Chinese crisis will be industrial metals like copper and iron as well as commodities like dimension lumber and related products. A temporary halt to economic growth would likely result in markets reliant on trade in such materials. Chile would suffer, Peru to a lesser extent, Canada and the United States as well.

Essentially what we see developing is a "perfect storm" of potential economic news that, if they unfold simultaneously, could be enough to plunge the world economy back into recession. We watch and wait nervously.

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