Poor Economy = Low Gold Price?

Louis James, Chief Metals & Mining Investment Strategist

Dear Reader,

I've been traveling again, watching the markets from afar, as it were. I doubt it proves anything conclusively, but the overnight sell-off and then rapid recovery in the price of gold last Friday was quite interesting.

Lower unemployment should signal real economic improvement, which is bearish for gold as a safe-haven asset. But it seems that many investors understood that the unemployment numbers were misleading, at best.

The average person's lifestyle seems to be worsening, conforming with Doug Casey's favorite definition of a depression: a period of time in which the average person's standard of living decreases.

What's somewhat surprising is that Mr. Market seems to have realized that last Friday, and that could be significant going forward.

Meanwhile, your Casey Metals Team has a look backward, seeking guidance on economic weakness as it relates to the price of gold from the last great bull cycle for precious metals in the 1970s.

Good food for thought.

Sincerely,

Louis James
Senior Metals Investment Strategist
Casey Research

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Gold 1,313.50 1,243.40 1,588.60
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Copper 3.17 3.14 3.29
Oil 107.89 99.60 87.13
Gold Producers (GDX) 25.59 23.75 42.04
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TSX Venture 923.56 876.99 1,173.63

 

Poor Economy = Low Gold Price?

Jeff Clark, Senior Precious Metals Analyst

Despite some positive data, the global economy is showing signs of slowing, a remarkable development in itself when you consider all the money printing and deficit spending that's transpired over the past few years. According to the IMF's overview, global growth was less than expected in the first quarter of 2013, at just over 3%, which is roughly the same as 2012. The lower-than-expected figures were driven by significantly weaker domestic demand and slower growth in emerging-market economies, a deeper recession in the euro area, and a slower US expansion than anticipated. The report concludes that the prospects for the world economy remain subdued.

Many investors consider a weak economy to be a bearish environment for commodities, including gold. Doug Casey says we have entered into what will become known as the Greater Depression. That's as bearish as it gets, so should we expect gold to decline if the bears are right?

One of the most rocky economic periods in modern times was the late 1970s. For those who don't remember, the period was characterized by:

  • Unexpected jumps in oil prices, leading to soaring gasoline prices and rationing
  • A falling dollar
  • High and accelerating inflation
  • Record interest rates
  • Bank failures
  • Wars, including the Iranian Revolution (1978), the Iran-Iraq war (1979), the Russian invasion of Afghanistan (1979), and the Iranian hostage crisis (November 4, 1979 to January 20, 1981).

Outside of the Great Depression, it's hard to identify more trying economic circumstances.

Here's a closer look at the three-year period from 1977 through 1979. In the following chart, we looked at the economic indicators that affected citizens and investors the most, showing which were getting better and which, worse. These factors would all have affected market sentiment and the appetite to invest in gold at the time...

You can see that by the time 1979 hit, inflation was rising, gas prices were soaring, incomes were dropping, and mortgage rates were climbing. The S&P was rising, but not so much in real terms. GDP growth was high, but it was clearly not a rosy time for consumers or workers. Key points:

  • Nominal GDP in 1979 increased 10% year over year, but it was 4.5 percentage points less than in 1978, when the economy expanded a whopping 14.5%. Real GDP changes didn't reach those highs but kept to the trend: in 1978 the growth was 5.6%, while during 1979 the economy expanded only 3.1%, notably slowing down.
     
  • Inflation was dramatically accelerating. The '70s was a hard time for the dollar, much of it connected to the energy crisis. Annual inflation grew from 5.7% in 1976 to 7.6% in 1978, and accelerated to 11.2% in 1979. Prices were up significantly, especially those that had energy costs associated with them, squeezing the average American budget tighter and tighter.
     
  • Gasoline prices rose almost 37% in 1979. This obviously impacted spendable income. It would be the equivalent of national gasoline prices hitting $4.54/gallon by December after starting the year at $3.32.
     
  • Real disposable personal income slowed in 1979, growing only 1.2%, compared to a 3.5% growth rate just a year earlier.
     
  • Mortgage rates were already high—and then shot higher. The interest rate to mortgage a home went from 8.8% in 1978 to 11.2% in 1979. Home values were rising dramatically due to inflation, though rate increases cooled the pace, as values slowed to a 14.7% rate in 1979 vs. 15.3% in 1978.
     
  • Real manufacturing and trade sales (listed as Real Trade Sales in the chart) weakened from 7% in 1977 to 2.4% in 1979. This is a broad indicator that includes manufacturing, merchant wholesalers, and retail sales. The likely culprit for the drop was falling personal incomes as prices were rising.
     
  • The S&P 500 went from negative territory in 1977 to logging a 12.3% gain in 1979. As inflation rose, so did nominal stock prices, but the real gain was a mere 1.1%.
     
  • Unemployment was decreasing during this period, from 7.1% in 1977 to 5.8% in 1979. This may seem at odds with a slowing economy, but labor looked cheap since prices were growing faster than wages. Also, unemployment is a lagging indicator—and it sharply worsened later, when another recession hit in 1980.

So how did gold perform during this challenging economic environment?

The gold price rose 23% in 1977 and 37% in 1978, both of which are considered economic expansion years. But as things worsened in 1979, the price accelerated and went into a mania, ending the year with an incredible 127% return.

While there are many variables at play and no two economic time periods will be the same, this history lesson signals that a sluggish economy is not necessarily an obstacle for gold doing well. Indeed, some of these factors directly contributed to the rush to gold, which is not just a commodity, but the single best tool for storing and transferring wealth (money) ever devised.

In short, there is no contradiction between Doug Casey's gloomy global economic outlook and his bullishness on gold. In our view, the former is the reason for the latter, and a very good reason to buy. If the history of the current bull cycle for precious metals even slightly rhymes with what happened in the 1970s, the market mania that lies ahead should bring us the biggest and fastest gains on our investments to date.

Tomorrow's BIG GOLD outlines why we think buying this month will reward investors not just in the long-term but quite possibly in the short-term as well. The bullion discounts we offered last month have been extended for 30 days solely for BIG GOLD readers—this is the time to pounce, so take advantage of weak prices while they're still available.

[Thanks to research assistant Alena Mikhan for her contributions to this report.]


Gold and Silver HEADLINES

Gold Premiums in India Double as Supplies Decline on Curbs (Bloomberg)

Gold premiums in India have climbed to about $10 an ounce over the London gold price, more than double from $4 just a week earlier. This is a direct outcome of the recently imposed sanctions for gold importers to set aside 20% for jewelry exporters. The restricted supply in the local market caused by the new order pushed banks and other importers to raise premiums.

Indian authorities have curbed "official" gold demand in the country by substantially increasing import duties and imposing other regulations on the local gold market. This year India will lose its status as the biggest gold consumer. But that won't be the end of the story… Watch this space.

Nazi Gold and Currency Wars: A Full Guide (Mineweb)

The story of gold looted by the Nazis in the run-up to and during WW II caught the spotlight after the Bank of England made public documents that revealed it helped Nazi officials sell about £1 million worth of gold that the German Reich had stolen from occupied Czechoslovakia. The bank was not the only one to facilitate the laundering: Switzerland and Portugal also were major traders of gold for the Nazis.

MIT Researchers Find Gold Can Control Blood Clotting (Mining.com)

Scientists at the Massachusetts Institute of Technology (MIT) have discovered a new technique to control blood clotting by using gold. The method involves small particles of gold and the use of infrared laser lights. One of the main advantages of the new method is that coagulation can be turned on and off as needed.

Surgery and wound healing require control over coagulation, and often use anticoagulants such as heparin or warfarin, but it's difficult to reverse the effect of these drugs. The new findings may help to avoid the use of blood thinners in the future.


This Week in International Speculator and BIG GOLD—Key Updates for Subscribers

International Speculator

  • One of our favorite exploration teams continues discovering potentially economic mineralization at its Canadian gold project. The company has the resources to continue delivering value and to substantially improve project economics. Here's what we recommend.

BIG GOLD

Aug 05, 2013
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