Inflation, the slump, recession & an impotent Fed all point to $2,000 Gold by next summer...
THE CORRECTION in crude oil prices was so inevitable, there's little point in even calling it, writes Ed Bugos for The Daily Reckoning – especially since I don't have any great insights as to its depth or length.
But just when the world economy is slowing and central bankers are talking tough, the stickiness of this key commodity's price at heights unimaginable only five years ago must be scaring the bejesus out of Ben Bernanke at the Federal Reserve.
He can't make heads or tails of it. But Ben won't be there long anyway, especially not if he mucks this up.
Maybe the new White House administration will replace him as soon as it takes power. Then he could write a book debunking gold bug myths about the Federal Reserve System, such as the one about how the Fed is "the engine of inflation".
As it is today, the markets, overall, are performing as expected. They are treating the gold correction of March-June as though it were a healthy mistake.
Not only did this correction in Gold weed out the weak hands; it also gave central bankers a false sense of security in the face of escalating energy costs. With gold in the doldrums, bond yields relatively low and stock prices recovering, all looked good for a relaxing summer vacation – at least until mid-July.
Gold bulls are now popping with enthusiasm about the post-Fed recovery in Gold Prices. And so they should be.
After breaking through $920, the market almost shot clean through the May high of $940, staring the reversal point at $950-960 right in the face. The chart bias has turned bullish, and I would expect to see support hold above the $900-920 level if the market were to backfill over the next few days – validating my bullish outlook.
But it's not just technical action. The Gold Market is doing all the right things fundamentally. It has realized that the Fed didn't really mean what it said about daring to raise US interest rates later this year. And if it did, it's rate-hikes wouldn't be anything to reward Dollar holders anyway.
The focus of the debate is shifting to areas that make the Fed uncomfortable: The Dow failed to breach 13,200 and the inflation story is heating up, despite ongoing cracks in the economy.
These things are driving gold now. And bull markets are notorious for going much further than their earliest prophets ever imagined. That's the message in oil prices. As a gold bull, I am taking heed.
What the Fed didn't anticipate was that the oil price rise would be so sticky, emboldening the inflationary psychology with or without Gold. And it cannot afford to lose control over bond yields, letting them surge in the absence of higher rates on short-term government debt.
On the other hand, however, the Fed cannot afford to tighten rates either. It can only try to talk down inflation expectations – a task it singularly failed to achieve during the late 1970s.
A whole new generation has grown up since 1979. It is not used to a tough Fed. The toughest Fed it ever saw was in 1994. And putting aside the character comparisons, I'll tell you this – it was only after several years of inflationary fallout, when people finally began to worry more about inflation than deflation, that Volcker was hired with a political mandate to attack the inflation monster head-on.
At the time, CPI inflation and interest rate levels were already high, and price/earning ratios on the US stock market were half today's. The Bernanke Fed is nowhere near such a mandate. It cannot have anything more in mind than Greenspan's gradualism.
Yet even that "baby-step" approach would be dangerous at this time. The Greenspan Fed tried raising rates during a period of economic stability (2004-2005). It baulked at rates of 5.25% when the banking crisis began. Today, the Fed is talking about raising rates in response to an inflation outbreak amid a financial crisis.
C'mon! How are you gonna 'splain that to the voters?
If Bernanke wants to survive long enough to secure another term, he's not going to challenge the status quo, and the status quo is not willing to accept the kind of austerity package now needed to contain and defeat inflation.
The Fed is damned if it does and damned if it doesn't. This means that prices will continue to rise until outright fear of inflation exceeds all others. And that's why Gold has the potential to catch fire here.
The market is beginning to understand this, too. It has seen Bernanke flip-flop from worrying about deflation to worrying about inflation a few times already. The Fed's hesitation to act in July's Open Market Committee meeting was like a starting pistol for this realization.
It's too late to fix this break in confidence, and it's too early for the Fed to really take on inflation. You'll see Gold Prices double over the next year – that's my forecast. I think it will reach $1,200 by year-end, and $2,000 by next summer.
This may well be your last chance to Buy Gold below $1,000 per ounce.