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UK Gold & Quantitative Easing

Gold leapt as the Bank of England slashed interest rates in 2008...

The BANK of ENGLAND might become the next G7 central bank to engage in the radical policy called "Quantitative Easing", writes Gary Dorsch of Global Money Trends.

Quantitative Easing is otherwise known as printing money...unlimited quantities of order to force long-term interest rates lower – in this case, printing British Pounds Sterling in order to buy longer-dated government bonds (UK gilts) on the open market and thus push their yields lower, reducing borrowing costs for the government and cutting long-term interest rates for other debtors.

The Bank of England warned on Dec. 5th, how "It is unlikely that a normal volume of bank lending would be restored without further measures." The FTSE-100 stock index then closed out its worst-ever loss in 2008, tumbling 31% and wiping £484 billion off the market value of the UK's top 100 companies.

UK Gold & Quantitative Easing

The loss was trimmed from its worst levels when the FTSE rebounded by 5% in the final days of the year. But the Royal Bank of Scotland and HBOS – two of the UK's very largest institutions – still lost 90% of their value, and fears about the depth of the global downturn also hammered London's heavily weighted mining and oil shares.

UK home prices plunged by an average 19% last year, the largest slide in a calendar year, reducing the average home value to £159,896 according to the Halifax lender – down some £37,000 from a year ago. The number of mortgages approved in November for those buying a new home also slumped, down to a record low of just 27,000 and only a third of the number arranged in the same month in 2007.

The Bank of England has reacted to the crash in the UK housing and stock markets by slashing its base rate 350-basis points since October, now down to a record low of just 1.50%. What next? "Zero interest rates are a possibility and further capital injections may be required in the banking sector," said BoE deputy Charles Bean on Dec. 18th.

"Of course, the bank rate [was then] still at 2%, so we still have some margin to go yet, but of course we may find ourselves getting them all the way to near zero," he warned.

UK Gold: Bank of England Policy

Bean said more action by the government authorities is needed to get banks to increase lending, because of the damage done to businesses through a lack of credit. "The central question is to what extent banks around the world cut back on lending to households and particularly businesses. Clearly, the more they do that, the deeper the downturn may be.

"It's important for banks to behave responsibly. It may well turn out that further capital injections are required, but it's also necessary for banks to feel comfortable about continuing to lend."

So far, the Bank of England's rate cuts since September have only served to crush the value of the British Pound in relation to the US Dollar, Euro, Yen and – most spectacularly – the Gold Price

The Bank of England's flirtations with quantitative easing have also energized the growth of Britain's broad M4 money supply, expanding at a 16.4% annual clip in November, up from the 10% pace of May.

In turn, this surge in the UK money supply helped to lift the Gold Price in Sterling 42% during 2008 to a record £600 per ounce. Sterling meantime lost as much as 25% of its value against the Euro.

"Quantitative Easing" is the last resort of desperate governments to prevent deflation and depression from taking hold in the economy, when all other policies have failed. While the UK economy remains mired in recession, Gold Bullion and government gilts have been the only asset classes to show a profit during the financial crisis. Even so, UK Treasury chief Alistair Darling moved to quash speculation that London was planning to adopt Quantitative Easing.

"Nobody is talking about printing money," he declared at the start of January. "There's a debate about what to do as interest rates approach zero, as they are in the United States.

"But for us that is an entirely hypothetical debate."

Now that the British government is the majority shareholder in some of the country's leading banks, the aim is to force more lending from the banking sector – Quantitative Easing or not – to stimulate growth in the economy. And when that happens, investors would be better off Buying Gold as a defense against inflation, rather than long-term gilts.

GARY DORSCH is editor of the Global Money Trends newsletter. He worked as chief financial futures analyst for three clearing firms on the trading floor of the Chicago Mercantile Exchange before moving to the US and foreign equities trading desk of Charles Schwab and Co.

There he traded across 45 different exchanges, including Australia, Canada, Japan, Hong Kong, the Eurozone, London, Toronto, South Africa, Mexico and New Zealand. With extensive experience of forex, US high grade and corporate junk bonds, foreign government bonds, gold stocks, ADRs, a wide range of US equities and options as well as Canadian oil trusts, he wrote from 2000 to Sept. '05 a weekly newsletter, Foreign Currency Trends, for Charles Schwab's Global Investment department.

See the full archive of Gary Dorsch.


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