Why decline of the euro is good for gold – and for Switzerland

Big eurozone economies such as Spain and Italy with debt problems would be not only 'too big to fail' but 'too big to save'

The price of gold hit an all-time high yesterday, reaching a peak of $1,609 an ounce. The price has doubled in two years and, allowing for inflation, it is also thought to be at its highest level since the 1500s, apart from a brief spike in the early 1980s. Few economists appear willing to bet against it exceeding even the 1980s record value of about $2,400 at current prices.

Click HERE to view graphic (47k jpg)

As faith in the paper currencies of the world, and in particular the euro, has evaporated, the ancient attractions of gold have brightened. Condemned by the great economist Maynard Keynes as a "barbarous relic" destined to be worthless except for marginal demand for jewellery, gold has, once again, emerged as a de facto currency in its own right, the most reliable store of value for many investors worried, however irrationally, about the twin dangers of recession and inflation.

The immediate reasons for the popularity of the precious metal are not difficult to discern; investors are nervous about the future of the world economy and are desperately seeking safe havens for their funds. In a relatively narrow spectrum of assets currently regarded by institutional and private players as safe are gold and silver, the Swiss franc and US Treasury bills.

These are all considered traditional destinations in troubled times, and are regarded as holding their value long-term better than their alternatives – though US bonds have themselves been in and out of favour as worries about the American economy have ebbed and flowed.

Specifically, the markets remain nervous that the European financial system will collapse under the weight of the eurozone's sovereign debt crises, and the danger of them spreading from relatively small economies such as Greece and Ireland to Italy and Spain – nations that would be not only "too big to fail" but "too big to save".

An emergency eurozone leaders' summit tomorrow is not expected to break the long-standing impasse on how best to fix the single currency area: the German government and the European Central Bank are battling over whether there should be any sort of default in Greek government bonds in return for a new rescue deal for Athens.

The German Chancellor, Angela Merkel, has long insisted that private bondholders should take a "haircut", a hit on the value of their bonds; the ECB is adamantly opposed on the grounds that it would destabilise the European banks and create a fresh round of "contagion" – threatening Spain and Italy and the very existence of the euro. This very failure of political leadership is making the markets exceptionally jittery, and that nervousness is itself proving to be a self-fulfilling prophecy, leading to sell-offs in Greek, Italian, Irish, Portuguese and other troubled government bonds for a switch into gold, US Treasury bills and other assets perceived as less risky.

Marcus Grubb, the managing director of investment at the World Gold Council, pointed to the other factors that have helped to create a new generation of "gold bugs" globally.

He said: "The current congressional deadlock over the raising of the [US] federal debt ceiling by 2 August and the consequences for the country's AAA credit rating of a missed payment of principal or interest is also weighing on markets.

"Meanwhile, both Chinese and Indian inflation rates remain high as both central banks attempt to curb excess liquidity and rising food prices."