Sean O'Grady: Instability will keep gold on a high, for now

Economic Studies

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The Independent Online

To all intents and purposes, gold is at an all-time high in its nominal price – now in excess of $1,900 an ounce in trading – and in real terms. Strictly, depending on which measure of inflation you use to adjust the headline value, gold scaled its zenith in January 1980, at around $2,200 an ounce (at today's prices; it was more like $900 then). That, however, was a very short-lived spike, to do with an extraordinary period of geopolitical tension occasioned by the overthrow of the Shah of Iran by Ayatollah Khomeini. With the Soviet invasion of Afghanistan – my how these events echo down the years – there was also a real risk of the world ending through a nuclear war. It was a worrying time, as now, yet the period of true terror and the gold panic was relatively short. Leaving that aside, the yellow metal has never been more expensive.

Should gold be as high as it was in 1980s? Geopolitically, the ultimate horror of nuclear holocaust is that much more distant than it was three decades ago. With the Cuba crisis of 1962, the early 1980s was the nearest the world has ever come to topping itself. Our economic problems, threat of terror and civil unrest at home are even more worrying than they were in the 1980s, but that ultimate catastrophe can be reasonably discounted.

That, it would seem, is not good enough, perhaps because, in the case of nuclear destruction, there is no point in money anyway. Short of that there is some purpose in fretting about where to put one's cash. The key to understanding the rise of gold is to understand that it has re-emerged as an alternative currency rather than a mere commodity. Unlike oil, say, which has subsided dramatically in recent weeks, gold benefits from fears of recession and of inflation. When people think bad times are coming they tend to save, almost irrationally, and certainly destructively for the health of the wider economy. They look for places to store their wealth, and when shares, government bonds and hard currencies begin to lose their appeal – partly due to worries about future inflation - there is really only one avenue left; precious metals.

Right now investors are getting spooked about the efforts of the Swiss national bank and the Bank of Japan to restrain the rise in the value of their respective currencies, which are presenting serious risks to growth. By contrast, gold is a currency without a nation or a central bank to undermine it, so it has no such downsides. With the dollar, the euro and sterling all suffering from various degrees of economic or political risk, the attractions of gold are really faute de mieux. Remember that one of the crucial characteristics of a currency, that is to say money, is to act as a reliable store of value, and that is not being offered by paper money. Thus it is that the US Mint reports that it sold 91, 000 ounces of gold coins in August; and the Bombay Bullion Association expects gold imports in India to top the 1,000-ton mark this year for the first time.

Given where we are now, with sovereign debt crises refusing to go away, weak banks throttling the recovery, and the widespread fear of a second recession, gold probably has further to run, beating even that brief 1980s peak. One day, fundamentals will reassert themselves, the economies of the world will recover and investors will become more confident, in which case gold will collapse as quickly as it did in the early 1980s. By the time Gordon Brown made his much-maligned decision to sell much of the UK's gold reserves in 1998 the precious metal had proved to be a rotten investment for almost 20 years, and certainly for anyone who bought in 1980. Gold will not rise for ever. I would not be foolish enough to predict when the turning point will come.

There are people who need cheques

Years ago, I was taken around what the National Westminster bank regarded then, with some justification, as one of the wonders of the financial world; its cheque processing centre at Goodmans Fields on the fringes of the City of London.

It was in the 1980s, which was pretty much the high point in the life and times of the cheque, and the big room where the millions of cheques were processed was, as they say, the size of a football pitch. It was an awesome sight.

Only a tiny number of cheques are written now, and even fewer with a guarantee card, but they are disproportionately relied on by the elderly, and the Treasury Select Committee is quite right to argue for the retention of the old payments system. The economic cost involved is outweighed by the anguish caused by the withdrawal of the cheque and guarantee card. The economic case for retention is thus obvious.

Oil supply is a legitimate worry

The West's intervention in Libya may or may not have been motivated by oil, but it is not shameful to look forward to the benefits to the world economy of a return to stability and peace in that country. Libyan crude only a accounts for about 2 per cent of global output, but a vital 2 per cent.

We in the West should be legitimately concerned about the security of our oil supplies, and we can now look forward to another downward pressure on the price of a barrel of crude and, in due course, energy and fuel prices and general inflation here.