Three Revived Forces Could Push Gold Higher in May and June

The banking crisis has been mostly ignored since it revived in early March but the financial damage could be worse than the 2008 financial crisis, according to some measures. More than half a trillion dollars in assets have been wiped out by the failure of three of the nation’s 30 largest banks. – Silicon Valley Bank, Signature Bank the following week and now First Republic Bank. That accounts for $548.5 billion in losses, far exceeding the $373.6 billion lost in 27 bank failures during the 2008 crisis.

A report by Moody’s in March showed that U.S. banks are far more exposed to potential losses from their holdings in high-interest rate bonds (held at a loss) than are the banks in the United Kingdom and European Union and they are also keeping the lowest percentage of cash balances relative to assets.

The approaching debt ceiling is another threat. The federal government is living in what The Economist magazine calls a “Fiscal Fantasyland” in this week’s cover story. The last time there was a huge impasse over the U.S. debt ceiling was in August 2011 and we saw the stock market collapse while gold soared. During the first week of August 2011, the S&P 500 fell 13% and gold soared over 8%. In the two months from July 4 to September 4, 2011, gold soared 27%, from $1,495 to $1,895 per ounce.

An escalation in the Ukraine/Russian conflict is a third “wild card” in the next two months. Billionaire hedge fund manager Ray Dalio has long been interested in the impact of foreign affairs on markets. He wrote a fascinating book, “Principles for Dealing with the Changing World Order.” Last March, he wrote about scenarios in which the Ukraine war could spread to involve NATO or even China. His primary concern is that a “cornered” Putin might act irrationally, for instance, “upping the ante by giving NATO countries something big to lose (e.g., a nuclear confrontation),” involving even the United States.

A second major unknown, Dalio said, is the level of support China would give to Russia to weather sanctions. Adding, “It would not have been logical for Putin to have taken the path he took alone, and it is well known that China and Russia are very aligned in many ways and that can be very helpful in minimizing the effects of the sanctions.” Dalio also noted that China’s yuan-based payments system could be a pathway for Russia to conduct international trade now that the major Russian banks have been banned globally.

The investment implications point to gold. Dalio wrote. “When hot wars happen, classically it pays to sell out of debt and buy gold because wars are financed by borrowing and printing money, which devalues debt and money, and because there is a justifiable reluctance to accept credit.” In his book, he wrote the same thing: “Gold — or, in some cases, silver or barter — was the coin of the realm” during wartime.

These three looming dangers – a spreading bank crisis, a coming debt ceiling debate and potential global escalation of the old Cold War – point toward higher gold prices in the coming months.

Central Banks Continue to Load up on Gold in Record Amounts

In all the talk about the “de-dollarization” of global commerce, pundits talk about which currency will replace the dollar – will it be the Chinese yuan, the euro, or some combination of many currencies?

How about gold? The central banks of the world keep accumulating gold in record amounts. Demand for gold among central banks reached a first-quarter record high in 2023.

Despite gold’s strong price rise in the first quarter – rising 9.2%, from $1,812 to $1,979 – the World Gold Council’s (WGC) quarterly “Gold Demand Trends” report stated total gold demand was up only 1% from the same quarter last year but that was a quarter of high demand due to Russia’s invasion of Ukraine in February of 2022. This year, in the three months ending March 31, central banks added 228 metric tons of gold to their coffers, the highest total in any first quarter since central bank gold data began in the year 2000.

This follows a year of robust central bank gold buying in 2022 – the most buying of any year since 2011.

Top central bank buyers last quarter were (1) The Monetary Authority of Singapore (69 tons); (2) The People’s Bank of China (58 tons) and Turkey (30 tons). Also, Chinese consumers bought 198 tons of gold jewelry last quarter, 41% of the global total, with demand resurging after the removal of Beijing’s strict zero-Covid measures. Investment gold demand surged in March after the failure of Silicon Valley Bank.

The WGC added that total gold supply also increased by 1% year-over-year, including a first-quarter record high in mine production of 856 tons and higher recycling of 310 tons, so this year’s high gold price is causing some recycling as well as some re-opening of marginal mining operations to add to supply.

How Gresham’s Law Works Today – Examples from 1965, 2011 and 2023

Gresham’s Law says that “bad money drives out good.” Thomas Gresham didn’t invent this law, but he was the monetary advisor to Queen Elizabeth I, so the principle is at least 450 years old.

In Gresham’s day, bad money usually meant a coin that had been debased through clipping off some of its weight, or by using base metals. Over the last 20, 50 or 100 years, all currencies have lost purchasing power to gold. Here is a chart of the dollar, yuan, pound, yen, euro and Australian dollar since 2000:

Each major currency is down at least 60% to gold since 2000 (source: Ray Jia, World Gold Council)

A modern example of Gresham’s law was U.S. silver coinage in 1965 after President Johnson removed most of the silver content in favor of a copper “sandwich” of 40% silver. All of a sudden, nationwide, customers would pocket the old 90% silver coin and spend the 40% silver coin, and that big old bully LBJ couldn’t stop them with his words of warning on the day of this Great Silver Swap, July 23, 1965:

“If anybody has any idea of hoarding our silver coins, let me say this. Treasury has a lot of silver on hand, and it can be, and it will be, used to keep the price of silver in line with its value in our present silver coin. There will be no profit in holding them out of circulation for the value of their silver content.” – LBJ.

He was wrong. Silver gained 65% in three years and tripled in a decade (and gained 40-fold by 1980).

“I highly recommend buying some silver today!” – Dr. Mike Fuljenz, America’s Gold Expert ®