It’s Complicated

Economics is a push-me-pull-you business. What make sense in one environment can backfire when economic dynamics change.

Take India for example. They have experienced phenomenal growth, a significant increase in jobs due to outsourcing. They are part of the BRICs growth picture, Brazil, Russia, India and China.

During the height of their growth FCCCBs (Foreign Currency Convertible Bonds) gave Indian corporations a cheap way to get funding. Some of the coupon rates were zero percent so the FCCBs seemed like an easy and convenient way to get cheap money.

The current situation is a prime example that no one can anticipate the future because inflation has created a difficult situation for Indian Corporations that hold FCCBs. Inflation in India has devalued the rupee by over 25%. With the payments on FCCBs due in dollars, the payment on the FCCB debt has become expensive indeed.

Inflation in India has also been a driving force that influences the amount of gold the Indian people can purchase with the rupees. Gold purchase has a long cultural history in India, because it is a sign of wealth, a popular gift for religious holidays and weddings and a way to preserve wealth. When the inflation monster is tamed in India, will the Indian people return to their long cultural history of buying gold? No one can predict the future but my take would be that they will come back to purchasing gold with a vengeance.

China’s situation is also complicated, although the Chinese government exercises more control over their growth to prevent unwanted consequences from their economic growth. To prevent an inflationary problem, the Chinese government has had a tighter monetary policy which has slowed growth and prevented runaway inflation. This leaves the Chinese people with fewer yen to purchase gold.  The Chinese have a long cultural history of saving and preserving their wealth by purchasing gold. Will the Chinese continue and increase gold purchases when they have available yen? There is a very good chance that gold will continue to be a popular way to preserve wealth in China.

The US economic picture is just as complicated. The Fed stands ready to take any steps necessary to tweak the economic growth picture. It may not be to the extent that Wall Street wants but sufficient to stave off economic recession and stimulate economic growth. Americans have been addicted to debt and are now showing signs of lessons learned by paying down expensive debt, which puts pressure on retail sales.

Gold prices reflected the disappointment with the recent Fed (in)action and the Wall Street wall of worry is factoring in a possible rise in interest rates, which Walls Street views as likely. Again, not even Wall Street can predict the future, although in many situations Wall Street works very hard to create the outcome they want.

Will gold prices stay down, no one can predict the future but with India and China both being avid purchasers of gold and Americans breaking their debt habit, saving more and in many cases purchasing gold to preserve their wealth, it is likely that gold prices will resume their upward trend.

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