IronStats

Push Me – Pull You – Gold and the Dollar

If you are familiar with Dr. Doolittle and the story about talking to the animals, you will remember the Push Me – Pull You. The creature could not move without its other half moving in the opposite direction. It is a charming story that also may have some relevance with the relationship between the dollar and gold.

The dollar and gold most often move in value in an inverse relationship. What this means is a strong dollar happens when the economy is healthy, although there are foreign influences now that are having a contrary impact to the value of the dollar, which wasn’t the case 30 years ago. The relationship is that when the dollar is strong gold prices tend to be lower. To simplify this to an investor motivation is that when the economy is risk and under a great deal of stress the dollar is weaker and people sell dollars to buy gold to protect their assets.

This makes a great deal of sense when you consider that the use of gold historically is to secure wealth and provide a source of relative economic safety. Historically the price of gold is strong during risky economic times. Gold prices are also strongly influenced by the central banks resulting in a lower level of volatility and less likely to be subject to panic selling.

In addition, the recent strong economies in both India and China, where gold is a very popular way of protecting wealth has created a strong demand for gold. This is even in spite of attempts by the Chinese and Indian governments to curb the rapid exchange of their countries currency for gold. The Chinese even closed most of their gold exchanges at the end of 2011 and India has imposed a high tariff on gold imports, both in an effort to reduce the rapid selling of their countries currency.

If you are willing to learn from history, in the 1970s the world economies and currencies were under a great deal of stress. The dollar dropped drastically in value which set up a round of inflation. When currencies and economies are under extreme stress, paper money has, in some cases become almost of no value and worth less than the cost of producing the paper money. In contrast, gold has always retained some value, because people worldwide have always valued gold. This is why gold is viewed as an economic insurance policy.

The connection between gold and the US dollar was exacerbated in 1971, when then President Nixon abolished the gold standard from the US dollar.  With this one act, the US dollar was no longer backed by gold and people could no longer convert dollars directly into gold. Of course, they could always use their dollars to purchase gold. In 1971 gold was selling at $35 ozt. During the next 10 years the price of gold increased to $800 ozt. Today gold prices are more than twice the price of gold from the 1980s, which can be a simple measure of the level of economic worry.

Recent declines in the price of gold may be traced to the efforts of the Chinese to support the value of the dollar to retain their high imports of cheap goods to one of their biggest purchasers and the efforts by the Chinese government to curb gold purchases. The decline in the price of gold may also be related to the sharp increase in Indian import duties on gold purchases.

When you invest, it is always important to perform thorough due diligence and understand the global market for your investment.

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