Gold looks good right now, thanks to sub-zero real rates of interest...

"SO WHERE'S the big Gold bull market?" I asked John Doody over lunch yesterday, writes Steve Sjuggerud in his Daily Wealth email.

John writes the excellent Gold Stock Analyst newsletter, where he takes a deep look into gold and the major Gold Mining stocks every month. Before starting the newsletter in the early 1990s, John was an economics professor. This week, John and I are at a conference on Maryland's Eastern Shore.

"John, if Gold is so great now, then why hasn't it soared this year?" I asked him. "It's only up like 5% against the Dollar..."

"That's a good question," John replied. "In my opinion, the primary driver of the Gold Price is real interest rates that investors earn on their cash."

In short, if investors earn nothing on their cash, then gold goes up. If investors earn high rates of interest on their cash, then gold goes down. As the chart below shows, that's the only gold indicatory you need to know.



Importantly, we're talking about the "real" rate of interest – after inflation. John defines the real interest rate as the interest rate on risk-free 90-day Treasury bills MINUS the inflation rate.

That's a good estimate of your "real" return on cash. And as John explained, when the real interest rate is negative – when inflation is higher than risk-free interest – "cash loses purchasing power and buys fewer goods than it bought earlier in the year.

"When that happens, for protection, investors Buy Gold and drive its price higher."

Now, take another look at the chart. John explained:

"Today's gold bull market and 1970s gold bull market were eras of negative real interest rates. But importantly, for 2010 to date, the real interest rate has been barely negative, as shown by the chart's red-circled area."

With the real interest rate at about 0%, gold isn't moving anywhere. And John pointed out that the Fed rarely raises interest rates as elections approach. So interest rates should stay where they are.

But eventually, John says, "A pickup in the economy will be the key to higher inflation. With the US economy slowly on the mend, we could see inflation. Real interest rates would go negative and gold would rise."

One thing I like about John is, he's not the typical gold bug. He's not taking some moral stand against the government or digging a bunker full of freeze-dried food.

John simply looks at the facts. The facts say you need to own gold when the "real" interest rate is negative...almost regardless of the what's in the news.

His work shows that gold goes up when the bank's paying you nothing. That's where we are now...and that's what you need to know. John believes if the economy starts to recover before the election and inflation shows its head, the situation could get better from here for Gold.

In short, gold looks good now, with rates low and inflation likely to rise faster.

Ready to Buy Gold today...?

Gold traders have seen the Greek horror movie – and its ending – before...

With an EERIE SENSE of déjà vu, German finance minister Wolfgang Schauble pleaded with his country's citizens on April 20th, to back a joint EU-IMF bail out for Greece worth up to €45 billion, warning that failure to act would risk another global financial meltdown, writes Gary Dorsch of Global Money Trends.

"We cannot allow the bankruptcy of a Euro member state like Greece to turn into a second Lehman Brothers," he told Der Spiegel. "Greece's debts are all in Euros, and it isn't clear who holds how much of those debts. The consequences of a national bankruptcy would be incalculable. Greece is just as systemically important as a major bank..."

The next phase of the global debt crisis could be on the horizon, however, if Eurozone politicians fail to take swift action, and prevent Athens from defaulting on its debts.

German banks have $330 billion of loan exposure to Greece, Portugal, and Spain, while French banks had $307 billion of claims, and British lenders have $156 billion. However, the European banking oligarchs, such as Credit Suisse, UBS, Société Générale, BNP Paribas, and Deutsche Bank have a stranglehold on the public purse, and Eurozone politicians readily submit to the economic interests of the powerful bankers.

Yet official German backing for a bailout of Athens failed to stop spreads on Greece's 10-year bonds from surging 300-basis points to 660-basis points over German Bunds, over the past two weeks, the widest yield spread since the launch of the Euro. Only two years ago, Greece's cost of borrowing for 10-years was only a half-percent above Germany's.

Until recently, Greece's membership to the Euro club had relieved investors' fears about currency devaluations and inflation. Trust in Greece's budgetary statistics was always shaky, but overlooked. The under-pricing of default risk gave Athens easy access to longer-term loans at low interest rates, - until now.

However, Greece needs to raise €50 billion ($68 billion) for each of the next five years, in order to roll over existing debt and pay interest. The rescue package that's on the table right now, crafted by the IMF and Euro-zone governments, would only buy a year's worth of time for Athens to get its financial house in order. But bond investors are looking longer-term, and questioning the resolve of wealthier Eurozone states to cover Greece's debts beyond April 2011.

Yields on Greece's 2-year note soared to as high as 17% week, from as low as 2% at the start of December, after Greece admitted that it auditors missed a few line items on the income statement, resulting in an even bigger budget deficit of 13.6% of GDP in 2009, up significantly from the previous estimate of 12.9%, and nearly double the 7.7% deficit recorded in 2008. That's far above the average Euro-zone government budget deficit-to-GDP ratio of 6.3% last year.

Germany's PM Angela Merkel wants Athens to agree to tough austerity measures for the next several years, before handing-out German taxpayer money. But Athens has already slashed public sector wages, and raised taxes – setting off violent protests and strikes across the country, where unions control half of the nation's workforce.

Greece's jobless rate rose to 11.3% in January, with 69,000 jobs lost in December. The bitter medicine of fiscal austerity is unpalatable for Athens, and with its membership in the Euro, it lacks the ability to monetize its debts away.

Will Greece become the Lehman Brothers of sovereign credit? Greece's outstanding debt is roughly equal in size to that of Lehman's when it collapsed in Sept 2008. If it's forced into debt rescheduling and restructuring, it could trigger a domino selling effect in other vulnerable European bond markets in Portugal and Ireland, both wrestling with exploding levels of sovereign debt, and lacking the ability to engage in "Quantitative Easing" – otherwise known as printing vast quantities of money.

Even if the Euro-zone politicians and the IMF can cobble together a bailout of Greece, they simply lack the financial resources to bailout the next wave of European sovereigns. With G-7 central bank interest rates pegged near-zero percent, global finance houses are able to borrow money at next to nothing and deal in of all types of speculation. Trade is soaring in one of the most speculative forms of derivatives - credit default swaps (CDS), which played a key role in driving Lehman Brothers, Bear Stearns, and American International Group (AIG) into bankruptcy.

The activities of CDS speculators are not restricted to Greece. In the past few weeks, they have increasingly turned their firepower on Portugal's bond market.The odds of default for Portuguese debt over the next two years, has shot-up 135-basis points in the month of April to 335-points today. At the same time, the yield on Portugal's 10-year note has risen 150-basis points from four-weeks ago to 5.75% today.

The bond markets of Greece and Portugal are tiny, with trading volume of less than €1 billion per day, making them easy and tempting targets for heavy hitters. Greece's outstanding debt equals €300 billion, and Portugal's debt is about €126 billion. Still, the nature of CDS trading, which is unregulated, gives speculators a big incentive to push companies or countries toward bankruptcy. There's an incentive to burn the house down, in order to hit pay-dirt.

Attracted to the highly indebted Greek bond market like vultures to a decaying corpse, CDS traders have moved in for the kill. By attacking Greek and Portuguese bonds, traders have injected greater volatility in the Euro currency, thereby leveraging little nations' problems into gigantic trading-floor profits.

The surge in Portugal's CDS and bond yields is very uncharacteristic for a country which enjoys a AA- rating from Fitch and Moody's, and A- rating from S&P. Could the rating agencies be lagging far behind the eight ball again, getting it right long after the fact?

The CDS market is a hotbed of speculation, where banks and hedge funds, can bet on contracts without holding the underlying bonds. The threat of sovereign default, most immediately by Greece, has provided an opportunity for speculators to drive up the price of insuring the countries' bonds, thereby further undermining confidence in the countries' debt, and increasing the prospects of contagions sales.

If other Club-Med countries would require a bail-out, the final price tag could be so large, that it could backfire, by forcing French and German bond yields higher, especially if accompanied by a plunging Euro. Despite the specter of a Greek moratorium on its debt payments – and a replay of the Sept 2008 meltdown of the global stock markets, triggered by the bankruptcy of Lehman Brothers – in a strange twist of logic, the German DAX-30 Index has been thriving on Greece's woes, benefitting from a weaker Euro and ultra-low German 10-year bund yields.

Even Spain's IBEX index was climbing higher in tandem with the German DAX, since early February, tracking the Dow Jones Industrials and Transports, figuring the Greek tragedy is strictly an isolated affair, with little risk of contagion fallout to the rest of Club-Med. In any event, traders have seen this horror movie before, and the ending is always the same – a massive government rescue with a bailout.

Still, there was a noticeable divergence last week, between the Spanish IBEX index, which tumbled 5%, and the German DAX, which continued to climb 2% higher to the 6,350-level, its highest in 19 months. Spain's IBEX was dented by a quarter-percent jump in its 10-year bond yield to 4.10%, while Germany's 10-year bund yield fell 15 basis points to 3%. Spain must service 560 billion Euros of outstanding debt, nearly double Greece's debt, but it's more manageable, since Spain's debt-to-GDP ratio is only 53% compared with Greece's 115%.

Finally, a bit of reality set in the delusional German DAX Index on April 27th, after S&P shocked the global markets, by cutting the credit rating of Greece three notches to BB+, or junk status, and lowering Portugal's credit rating two notches to A- from A+ earlier, while putting Ireland on negative watch. In regards to Greece, the outlook is negative, meaning S&P could downgrade the rating again.

"In our revised projections, we forecast Greece's net general government debt-to-GDP ratio reaching 124% of GDP in 2010, and 131% of GDP in 2011," S&P warned.

Within minutes after Greece's credit ratings were slashed into junk territory, the UK's FTSE-100, Germany's DAX, and France's CAC-40 lost a combined €80 billion in market capitalization.

Bullish speculators in the top-3 European bourses had figured that the Greek debt crisis would be fully contained, with the aid of the €45 billion bailout package, and would no longer be a nagging headache. As John Maynard Keynes famously observed, "The market can stay irrational longer than you can stay solvent." However, once Greek 2-year CDS rates jumped above the psychological 1,000-level, the German DAX bubble quickly popped, and plunged 200-points.

The sighting of an "inverted" yield curve is as rare as spotting a lunar eclipse today. So it's of great interest, to observe the deeply "inverted" yield curve in the Greek bond market, where the 2-year note is yielding 680-basis points more than 10-year notes. If the yield curve inversion persists for an extended period of time, the fate of the Greek economy would be perilous – perhaps, a 1930s style Great Depression. The "green shoots" rally on the Athens stock exchange has gone bust, with its economy suffocating under the chokehold of double-digit bond yields.

Traders betting on a strong global economic recovery were dumping Greek shares and shifting the proceeds into the German DAX, a safer haven. The Bundesbank said on April 18th, the German economy is on track for a solid rebound in the second quarter, with its manufacturing sector expanding at a record pace in April. German carmaker, Volkswagen said its first-quarter operating profit nearly tripled.

Athens aims to unwind the inverted yield curve as soon as possible. Greek Finance Minister George Papaconstantinou warned CDS speculators they will "lose their shirts," if they bet cash-strapped Greece will default. He said market rumors of Athens cutting or delaying payments to bond investors, is a "red herring, and restructuring is off the table. Greece will not leave the Euro," he added. The next day however, the bottom fell out of the Greek bond and stock markets.

Opting out of the Euro currency regime, and reinstituting a sovereign central bank to print Greek Drachmas and monetize debt, carries huge risks for Athens. Abandoning the Euro for the Drachma could spark hyper-inflation, and send 10-year bond yields soaring into the mid-20% range, which in turn, would send its economy spiraling into a Great Depression.

Still, the alternative – adopting draconian austerity measures, tied to IMF and German loans – is also a poison pill leading to severe recession. According to the latest opinion poll, 70% of Greek citizens are opposed to dealing with the IMF, or accepting loans from the European Union.

Last week, the ECB kept interest rates at a record low of 1% for the 11th month in a row, pointing to the debt problems facing the Club-Med governments. With German and French banks holding more than 650 billion Euros of Club-Med debt, many traders prefer the safety of gold, over German DAX shares, since the Greek tragedy could turn out far worse than anyone could imagine right now.

Gold is soaring to record heights against the Euro, as traders bet that at some point in time, the wealthier Eurozone governments would lose their resolve to finance Greece over the next five-years. The EU-IMF rescue package of €45 billion will only cover Greece's financing requirements for one year. Fears about a default, restructuring, or rescheduling of Greece's debt payments in the medium term would still persist. Either scenario could hurt European bank earnings.

In the event that Athens decides to opt out of the Euro, or calls for a moratorium on its debt payments, after the first tranche of EU-IMF bailout money is used-up, gold is a good hedge against a devaluation of the Euro.

However, gold is also following time honored fundamentals, such as acting as a hedge against commodity inflation. The CRB Commodity Index is surging +22% higher against the sinking Euro from a year ago, signaling an outburst of inflation in the months ahead, as factories pass along the cost of increasingly expensive raw materials, to end users.

Bundesbanker Juergen Stark, the ECB's token inflation hawk, said on April 15th that policymakers must consider the consequences of keeping ECB rates "too-low for too-long", creating stock market distortions and cause banks to become addicted to cheap money.

"Central banks ought to be aware of asset prices. There are times when it would be appropriate to raise interest rates to cool them if they appear to be overheating. Risks to the global inflation outlook are tilted to the upside. A multi-speed recovery of the world economy has the potential to exert upward pressure on prices...

"In the same vein, we also need to closely monitor the adverse impact from fiscal developments on the inflation outlook. High levels of government budget deficits and debt may push up inflation expectations, and place an additional burden on the monetary policy of central banks. Additionally it could push up the borrowing costs of troubled countries, constraining growth, and leave little capacity to support economies in future crises."

However, Stark's boss, ECB chief Jean "Tricky" Trichet, is strongly opposed to lifting interest rates anytime soon, arguing that inflation is dead.

"We have inflation under control and that's the reason why I have said on behalf of the governing council that interest rates are appropriate," Trichet said on April 26th.

Of course, "Tricky" Trichet is pointing to phony inflation statistics massaged by government bureaucrats, and not taking an honest look at commodity inflation that is galloping ahead.

For European banks, Greece is too-big to fail, but it remains to be seen whether the Greek populace would choose to live under the yoke of EU-IMF austerity for the next several years. In the event of the un-thinkable, a Greek exit from the Euro, or debt restructuring, a Lehman style shake-out would ensue, rocking global markets. The odds of that happening are higher than most believe, about a 50-50% chance.

The German economy is emerging from its deepest post-war recession, led by its booming export industry, with two-thirds of Germany's exports shipped to other Eurozone countries and 75% sold to Europe.

In February alone, Germany earned a trade surplus of €12.1 billion. Germany uses these surpluses for foreign direct investment and bank lending to its Eurozone partners, which in turn, buy German goods. However, along with the buying binge, huge increases in personal debt have sprung-up in countries such as Greece and Portugal.

Germany was the world's biggest exporter of goods for five-years thru 2008, before being overtaken by China. Die-hard bulls bidding-up the German DAX since it hit bottom in early February, are optimistic that German multinationals can deflect a downturn in the Club-Med economies, such as Spain, where the jobless rate is above 20%, by increasing sales to the booming Chinese economy, where GDP expanded at a sizzling +11.9% annualized rate in the first quarter.

However, what's been overlooked is the recent sharp slide in Shanghai red-chips, skidding 8% lower over the past 10-days, after Beijing ordered local governments to take strong steps to control speculative buying in real estate. Banks listed on the Shanghai and Shenzhen stock exchanges fell sharply on fears that a government clampdown would increase the number of bad loans, since Chinese banks have lent a large amount of money to property companies and speculators. Beijing says property values on average rose 12% from a year ago, but in some sectors of the country, property prices have skyrocketed by 45%.

On March 27th, former Fed chief "Easy" Al Greenspan was asked whether there is a real-estate bubble waiting to burst in China.

"I think so. To be sure, there are significant bubbles in Shanghai and along the coastal provinces. Some of that is going back into the hinterlands as well.  Remember, the bursting of a bubble by itself is not a big catastrophe. We had a dotcom bubble, it burst and the economy barely moved. It is hard to tell when that bubble bursts, what the consequences are, because we do not have enough data on China."

And who would know better than Greenspan, the world's top serial bubble blower...?

The specter of a bursting real-estate bubble in China could wreck havoc upon the global economy. Most impacted would be the satellite countries, which rely heavily on sales to China, such as Korea, Taiwan, Japan, and Australia. A shake-out in Asian stock markets would also ricochet to the European sphere, and eventually hit North and South American markets. The earliest signal of trouble ahead, would be a break-down in the Shanghai index below the key 2,900-level.

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"The only way to lose money in a secular bull market is by trading..."

SO TOBY CONNOR has an essay posted at Goldseek.com with a title that I find very intriguing, writes the Mogambo Guru in The Daily Reckoning.

Namely, it's called "The Strong Hand Theory" – which sounds like it could be all sorts of terrific things, ranging from a new Sherlock Holmes mystery to "How to destroy brick buildings with a karate chop with your bare hand and impress girls!"

Unfortunately, Mr. Connor does not offer any help in impressing girls by demolishing random commercial property, nor does he entertain us with a story of the famous detective noticing the strength of a man's handshake...and going on brilliantly from there to cleverly solve a murder using mere wisps of clues. Unlike the Securities and Exchange Commission, which can't even recognize blatant frauds when they are repeatedly pointed out and the evidence is dumped on their desks.

It reminds me of how that little snot Arnold, from the accounting department, keeps showing my boss his stupid charts and stupid printouts that prove, so he says, that I am the worst employee the company has ever had, and my stupid boss wants to know if I can explain any of that, and I say, "Of course I can explain it! Arnold hates me, and he is a lying piece of crap that likes to hang around playgrounds and talk to cute little boys about joining the Nazi Party!" and of course Arnold, all flustered and upset, says, "That's not true! None of it!"

Naturally, my back is against the wall, and I'm afraid to go home to face my wife and tell her that I have been fired from yet another job. So I press the attack by replying, "That's just what you filthy Nazi pedophile bastards always say! Fire him! Castrate him! Kill him!" which must have been a better retort than I thought, because he never brought it up again when I was in the room!

Anyway, this is not about Arnold, but about you should be Buying Gold, silver and oil in response to the governments of the world, especially that of the USA, deficit-spending double-digit percentages of GDP, all financed by the central banks of the world creating huge expansions in money, and how inflation in prices will soar in response to all of this new money, making gold, silver and oil go up in a huge, multi-decade hell of roaring inflation, starvation and murderous social discord, worse and worse, misery upon misery, until a Strong Hand arises to seize control of the world, and all people fall to their knees to worship The Mighty Mogambo (TMM)!

Okay, Mr. Connor did not say that, but since I am sure that Buying Gold, silver and oil will be worth whole multiples of their current prices, he's bang on when he says that "The only way to lose money in a secular bull market is by trading" which is – as funny as it seems – pretty much exactly right!

And if you want to know the one investing strategy that always comes out best over the long-term when investing with a secular trend, it is Dollar Cost Averaging, a mindless system where you invest the same number of dollars each month, regardless of price. And that is only part of the reason why I extol the virtues of the Mogambo Can't Miss Portfolio (MCMP), loaded to the gunwales with gold, Silver and oil, and, bristling with all the firepower that the Second Amendment allows, gives one the courage to say, "Whee! This investing stuff is easy!"

Ready to Buy Silverand gold today...?

South Africa's huge gold and precious metals industry needs more power, fast...!

SOUTH AFRICA is no longer the world's No.1 Gold Mining nation, but it remains one of the world's primary precious metals producers, report Lisa Barr and Lara Crigger at Hard Assets Investor.

It also continues to struggle to meet its own growing electricity needs – and there's little relief in sight, says Eskom, the state-owned power utility. It accounts for 95% of South Africa's electricity supply, which is crucial to Gold Mining and precious metals production. Unless more power plants are built soon, however, the nation could face severe power supply shortages in 2011-13 and beyond.

This would cripple South Africa's precious-metals mining industry, which, according to Johnson Matthey, accounts for some 78% of the world's platinum, 35% of its palladium and 87% of its rhodium supply. And Eskom's announcement could impact the precious metals market well before 2011, says Jessica Cross, CEO of VM Group.

Working in conjunction with Fortis Bank Nederland, VM Group – which produces the annual Yellow Book of Gold Price and mining research – provides research and analysis of the metals and broader commodities markets, including precious and base metals, energy, agribusiness and renewables.

Here, Jessica Cross tells Hard Assets Investor about South Africa's power troubles, including what ripple effects the news could have on automakers, how platinum-group ETFs have affected the market, and what difference a flooded mine shaft makes.

HAI: What consequences would ongoing power disruptions in South Africa have on the precious metals markets?

Jessica Cross: It could be very serious, particularly for the PGMs [platinum group metals], not so much for gold. Well, South Africa is not the biggest gold producer anymore, but it is still up there, so any loss of production will certainly impact that market, too. But the real question is, what happens to PGMs? The world needs PGMs for autocatalysts, and primarily, South Africa is the main producer.

So obviously, any break in power supply to the mines is of very serious consequence, particularly for your deep hard-rock mining. If you have a prolonged power cut, chances are that those mines could flood, and the cost of trying to de-flood them is enormous. So it's not just a question of the power going out and coming back on tomorrow, and it all gets sorted out; this has long-term consequences for PGM and gold capacity. It's very serious.

HAI: When a mine floods, how long does it take to de-flood it?

Jessica Cross: Well, very often, they don't even do it, because it just proves to be so expensive. It depends on the age of the mine, the depth of the shaft and how much life is left is in that shaft. In the end, you really, really don't want to flood a shaft. It could take months to get that right, and everything – basically, your equipment, the shaft – all gets decommissioned.

So any announcement from Eskom along these lines makes one sit up and think what's going to happen to PGM prices.

HAI: Something like that would certainly lend long-term support to PGM prices.

Jessica Cross: Absolutely. And I'm sure PGM producers are in intense discussion not only with their management, but also the government. Obviously, mining is crucial to the South African economy; it's all intertwined and interrelated. It has implications in South Africa for employment. But a regular and reliable source of power is core to that industry and the economy, and really they can't afford to have a problem like this re-emerging.

HAI: It's interesting, because the platinum and palladium markets are so much smaller than other precious metals markets. So an announcement like this has the potential to dramatically drive prices.

Jessica Cross: It certainly does. I think once investors pick up on this it will create a knee-jerk reaction, because of South Africa's dominance as a producer of PGMs, but also as you said, the markets are that much smaller, and people know that the PGMs are very instrumental in the control of exhaust emissions.

HAI: Speaking of which, how do you see power disruptions affecting the auto industry, especially with the current recovery in automobile demand?

Jessica Cross: Well, it's interesting that they're happening at the same time. You could have a double whammy. You've got very strong car registrations in China, and a recovery in Europe, a recovery in the U.S. It's all primarily gasoline-driven cars, too, so you're not seeing many electric cars coming in that don't use platinum or PGMs at all. The market penetration isn't there, and we don't see that happening for the foreseeable future.

So we're still very much relying both on diesel and gasoline catalysts, both of which require PGMs in different ratios. The procurers of these metals for the car manufacturers are left in a difficult situation, because they're obliged to procure metals for long-term plans and production lines, but they have to do that not only amid rising prices, but also volatile prices. That's very difficult.

HAI: There's another factor, too, here, and that's the platinum and palladium ETFs. Europe has had physically backed PGM ETFs for awhile, but in the United States, PPLT and PALL just launched, and they're very popular. How do you see ETF investment affecting demand in this sector moving forward?

Jessica Cross: All the precious metals ETFs are doing particularly well. They're the right products at the right time in the right place. They're allowing investors to participate in this commodities cycle in a way that they couldn't do before.

Clearly, if you have a sharply rising PGM price because of the Eskom factor in South Africa, you're going to see more interest in these ETFs. People who got in early are obviously going to do very well with their investments. So I think the Eskom factor could raise the volatility of the ETFs, raise the turnover and it will lead to more investors coming in as a consequence.

HAI: Do you see the ETFs having a disproportionately large effect on the platinum and palladium markets, compared to something like GLD and gold?

Jessica Cross: I think you're getting a slightly different sort of investment coming in, but it's a very savvy investment. I think, yes, the ETFs are a very significant bottom line in your demand/supply balance, and this will instill volatility. So not only could there be upward pressure on PGM prices, but you'll see a roller coaster of very sharp up and down movements, as this thing continues to play out.

That in itself gives investors a fantastic opportunity to trade. There's nothing more boring for an investor than a very stable price that moves a tiny percent over a certain period of time – it's like watching paint dry. Of course, you could lose your shirt very quickly, too! So I'd say PGM ETFs are not for the faint of heart, and they're not for the inexperienced. But there are enormous opportunities coming in this industry.

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Rates can't rise because of the deficit. So Buy Gold before the inevitable money-printing begins...

The DEVELOPED NATIONS of the world are over-extended, their debt levels are ballooning, and their governments are creating copious amounts of money, writes Puru Saxena of Money Matters in Hong Kong.

Put simply, most industrialized nations are now caught between a rock and a hard place.

After years of excesses, the developed world is slowly beginning to realize that you cannot continue to live beyond your means and spend your way to prosperity. Today, US national debt stands just north of $12 trillion. Its fiscal deficit for this year alone should come in around $1.6 trillion and the nation faces mind-boggling deficits for as far as the eye can see. Furthermore, demand for US government debt has begun to wane and this implies that the Federal Reserve will have to resort to creating even more money over the following years.

Make no mistake; the US cannot afford higher interest rates and in order to keep a lid on the government bond yields, we are convinced that the Federal Reserve will resort to debt monetization. In other words, the central bank will create new Dollars in order to fund the deficits.

Needless to say, this money-creation will be extremely dilutive and end up undermining the viability of the world's reserve currency.

If our assessment is correct, within the course of this decade, the interest payments on the existing government debt will become so large that the US Treasury will need to issue new debt just so that it can keep paying interest on its outstanding debt. When that happens, you can be sure that foreigners will not be eager buyers of US government debt. Therefore, the Federal Reserve will have to create additional money, just to keep the Ponzi scheme going. And when all else fails, the US will simply debase its currency, thereby repaying its creditors in significantly depreciated Dollars.

Although our prognosis may sound far-fetched, we want to remind you that throughout history, currency debasement has been the norm rather than the exception. Let us put it simply, the US is now left with three options:

• Sovereign default (unimaginable)
• Severe economic contraction (unlikely)
• Currency debasement (most probable)

Due to the risk of being thrown out of power, the policymakers will certainly not admit to an outright sovereign default. For such an event would cause a revolution within the US and shock-waves throughout the economy. So, this drastic measure can be ruled out.

Next, we are also sure that policymakers in the US will not swallow the bitter pill and pursue sound monetary policies. So this option is also out of the question.
Finally, it is obvious to us that policymakers in the US will have no hesitation in opting for the inflation solution. By diluting the supply of money and eventually debasing their currency, policymakers in the US will create the illusion of prosperity via rising nominal asset prices.

Unfortunately, severe monetary inflation and currency debasement is likely to occur in many Western nations, not just the US. Remember, a host of nations such as Ireland, Italy, Spain, Greece, Portugal and the UK are also swimming in an ocean of debt. Moreover, their populations are ageing and this trend will put further pressure on these countries' finances.

So, in this 'new era', whereby most of the 'advanced' economies are on the edge of bankruptcy, various paper currencies will come under pressure. The more nations that move to debase their currencies, the more that the paper monies of the world will depreciate against hard assets such as Gold Bullion.

Although currency debasement and inflation are good enough reasons to hold on to some gold, the biggest bullish factor is that real (inflation-adjusted) interest-rates are now negative in most nations. Thanks to the central banks' reflationary efforts, short-term interest rates today are way below the official inflation rate. Therefore, holding cash is now a loss-making proposition and thus, forward-looking investors are turning to Buy Gold.

On the supply side of the equation, it is worth noting that central- banks have now become net buyers of gold. After years of selling bullion, the public sector has done an about-face and this is very positive for the yellow metal. Currently, the creditor nations in Asia are sitting on mountains of foreign exchange reserves and in an effort to diversify out of paper, they will surely add to their gold holdings. Recently, we have seen China and India buy huge amounts of gold and you can bet your bottom Dollar that they will continue to add to their tiny positions.

Gold Prices are in a secular bull-market and every investor should own some bullion as an insurance policy. At present, Gold Mining stocks are undervalued relative to gold bullion, so those seeking extra leverage should consider investing in dominant gold producers. Finally, in our view, the high-cost South African gold producers, who do not hedge their production, offer the maximum leverage to gold. And at current prices, these companies are being given away.

Buy Gold today at $3 spreads and store it securely in Zurich, Switzerland for just $4 per month...

Gold Prices are now critically linked to China and its booming middle class...

CHINA IS KEY when it comes to the shape of gold demand according to Eily Ong, author of the World Gold Council's recent study, Gold in the Year of the Tiger, writes Lara Crigger at Hard Assets Investor.

China's growing middle class with disposable income and a penchant for saving, says Ong, could drive gold consumption in the country to double over the next decade – which should help boost Gold Prices.

Ong has been with the World Gold Council since November 2009. Previously, she was a metals and mining equities analyst for Credit Suisse, in London. Currently, she is an investment research manager for WGC, where her role is to research and promote the use of gold as a long-term portfolio asset.

Recently we sat down with Ong to learn more about the supply and demand factors underpinning Chinese gold consumption, including why jewelry plays such a big role, how China could affect gold's price seasonality, and whether the current growth is sustainable.

Crigger: We've seen incredible growth in Chinese gold demand over the past few years. What's driving the push?

Ong: Chinese gold consumption has been driven mainly by several factors: the rising average income per head; a surplus of investable income, given the high savings rate amongst the Chinese people; the underlying strength of the Chinese gold culture; and the improving standards of living in China itself.

In recent years, we have seen demand across all sectors grow for the expanding Chinese middle class, especially in the 18-karat jewelry market and the industrial sector (particularly for mobile phones). However, our report and our outlook are based on the Chinese population as a whole, not just the middle class.

Crigger: What about the investment side? Are we seeing growth among the Chinese middle class there?

Ong: We do see strong evidence from both the jewelry and investment side; they are expected to be the chief drivers of Chinese gold demand going forward.

By far, jewelry is the most dominant area of gold demand in China; it absorbs almost 80 percent of all gold usage! We found that if gold was consumed in China at the same per capita rate as it was in India, Hong Kong or Saudi Arabia, then the annual Chinese demand could increase by at least 100 tonnes, to as much as 4,000 tonnes, in the jewelry sector alone.

But in terms of investment demand, this sector has been growing in line with the country's GDP and population. The IMF and World Bank have forecast Chinese GDP to grow by 10 percent and 9.5 percent, respectively, in 2010. So we'll also see that investment demand grow. The Chinese are high savers, and the World Gold Council expects consumers to look at gold as an asset class as they continue to build (or, in some cases, rebuild) wealth, while minimizing the variability of their returns.

Crigger: Would such a high growth be sustainable over the long term?

Ong: Gold demand has grown in China at an average rate of 13 percent per annum. During the past decade, the Chinese gold mining producers stepped up production by 84 percent. So Chinese demand growth has continued to outpace domestic production capacity, and we've seen this since 1992.

But China is still ranked No. 2 behind India in terms of demand. And although we see the acceleration in the demand growth, the country still has one of the lowest gold consumption intensity rates, if you compare it to Western economies, or even countries with similar gold cultures, like Taiwan or South Korea.

Crigger: Why is that?

Ong: Well, we had this deregulation in the Chinese gold market; I think people aren't really aware that the regulations were only lifted less than a decade ago. So, yes, we've seen the per capita consumption level growing: From 2002, the per capita consumption was at 0.17 grams, and this has almost doubled to 0.33 grams in 2009. But it's still one of the lowest in the world. So they are catching up in terms of their Western counterparts.

Crigger: Won't this growing consumption eventually put the squeeze on global gold supply?

Ong: We did some analysis in the report on recently published '09 figures from the United States Geological Survey; they estimate that China's known gold reserves account for just 4 percent of the total global gold reserves. That's really small. So our estimates suggest that China may exhaust its known gold reserves in just six years from now. And it could be less, if the Chinese demand continues to accelerate.

So if our suggested analysis comes to fruition, then it seems that indubitably, there would be some implication for the gold market, as China is the world's largest gold producer since 2007.

Chinese companies have already started acquiring gold mining production and businesses outside China, as the country tries to secure sources of gold supply to meet its growing domestic demand. We do see that domestic supply growth could be challenging structurally in China, unless there's more funding directed toward exploration. Chinese gold mining resources are still relatively undiscovered, and we believe this could create new investment opportunity.

Crigger: As China continues to increase in importance in the gold market, do you think we'll start to see gold's seasonality follow the Chinese calendar more closely? Will we see a bigger bump from the Chinese New Year, for example?

Ong: There are many factors driving commodity prices, of course, and seasonality is just one of them. If you look at it in terms of Dollars, we showed in the report that January, September and November have been the strongest months for gold in the past five-10 years.

In terms of Chinese holiday seasons, we do typically see investors restock during the Chinese New Year, Christmas and the world New Year. Yes, they do have a positive impact on the world Gold Prices, historically. But there's no perfect rule of thumb to seasonality, in terms of forecasting.

India is still a key gold market; it has been the world's largest gold market, in terms of volume. Certainly, China's outlook will have implications for the gold global market, but in many respects, China shares a similar gold culture or heritage to India. So in long terms, we do see both India and China to be very important gold markets, regardless of which is going to be the main driver.

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The Euro and Gold Prices are diverging against the Dollar...

WE WERE RIGHT to think that the Euro and Gold Prices would de-couple, writes Julian Phillips at GoldForecaster.

But much more than that is happening in the gold markets of the world. The process is an ebb and flow process, with last week seeing Gold Prices move with the Euro after moving independently. What is becoming clearer and clearer to investors, however, is that the Gold Price should not move with the Euro or with any other currency, as there are few common denominators between gold and currencies.

The erosion of confidence in currencies is far more pertinent to the Gold Price. Along that line of thought a look over the last year and more is relevant to the future of gold.

So far in 2010, the Gold Price has been consolidating from above $1200 down to $1050 an ounce, with the point of the pennant being $1150 according to our charts. While the Gold Price has been reacting to the Euro moves against the US Dollar, and in the opposite direction to the US currency, during that time – and just below the surface and right down to the very structure of the monetary world – something different has been going on. The words 'decaying confidence' seems too vague to describe it. To isolate one particular potential crisis does not do it justice either.

What is happening is similar in concept to when tributaries of a river meet the main stream and the flow becomes overwhelming. Follow the thinking of the saying, "He who sows the wind reaps the whirlwind" and you start to get the feel of where we are going with this. It has been of significant concern that the time the Gold Price has been moving between $1075 and $1150 has been so extended. Normally a consolidation period is over far quicker and there has been fairly strong moves thereafter.

The Gold Forecaster called the bottom at $1050 for its subscribers, and emphasized this in subsequent Market Alerts in the last few months. However, as the consolidation dragged on it became clear that something far larger than a simple consolidation was underway. We are not talking about a mid-trend correction either. It is far more than that!

Falling confidence in the monetary system itself.

Not only have banks lost their untouchable image and their position on the moral high ground, but during the last year there has been a marked change in the perception investors have of the global monetary system itself.

Confidence has dropped heavily in the Euro, in Pound Sterling and in the US Dollar. Major surplus holders have expressed themselves strongly that they are unhappy with the state of US financing, both internally and externally. Then the Eurozone lost its solid image.

Confidence in Sterling has dropped markedly as the prospect of an indecisive potentially 'hung' Parliament looms. The Euro has taken a caning because of the one very visible problem of Greece and potentially Spain Portugal, et al. The Yen remains unattractive at close to its peak, with its nearly zero interest rates. These four currencies make up the Special Drawing Right of the International Monetary Fund, which is a reflection of the world's main currencies.

There is hardly any way in which this falling confidence can be reflected in the currency world as they all fall together and look relatively stable against each other. But you can be sure that surplus holders and outside investors are not buying into any idea of the system being stable. In this very divided world, decaying confidence will be expressed but how will it be expressed? We are sure that no matter how, gold buying will be one way.

Now the structural damage will extend and involve not just banks and credit but include the appearance of Capital Controls (now 'approved' by the International Monetary Fund, which used to oppose them), tensions growing between the West and East (don't expect a revaluation of the Yuan anytime soon) even leading to a fragmentation of international trade relations, following a bout of protectionism. The Eurozone's problems are moving to become the world's. The difference is that there is no Maastricht Treaty governing the global currency systems. A global solution to the global monetary system must be found, if it is to remain intact.

How close are we to such multiple crises? Previously, we discussed the concept of 10-year Treasury yields rising as a thermometer to what lies ahead. Former Fed chairman Alan Greenspan has labelled this the "canary in the mine". Right now long-term Treasury yields are rising strongly steepening the Yield Curve. In the climate we have described above, this is bad news. As they rise, they tell us to expect more of Treasuries because of future rising risks. (We don't even dignify the concept that this is a growth signal.) Such yield elevation points to international disenchantment with the prospects for Dollar investments.

In this scene gold will be viewed as a 'retreat position' in the face of considerable uncertainty. These Treasury Yields Curves are a measure of where the Gold Price is going, indirectly. But this time we are not talking of a growth in the Gold Price as we have seen in the last ten years, but a strong move from the largest of institutions into gold.

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