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G-20 Saves the World

Is the bull market in gold finished thanks to the IMF's new $1 trillion in cash?

SO THE G-20 group of leading nations has authorized $1 trillion in funding for the International Monetary Fund (IMF), writes Julian Phillips of the

How is this to be achieved? Through the synthetic currency, the Special Depository Receipt (SDR), plus additional US Dollars to boost the IMF's reserves.

Make no mistake; this new money is being freshly printed, created just as "Quantitative Easing" relies on newly issued Dollars, Yen, Pounds or Francs. The difference is that this new G20 policy is an international issue of money, so its impact will not be seen in any national context.

Will the G20's Plan work? Thanks to Gordon Brown pushing for $250 billion of trade credit liquidity, it may well salvage international trade, just as new bank financing may salvage bank balance-sheets. But will this flood of money also de-base money in general? Well, not yet.

The credit crunch is estimated to have wiped away 45% of the world's wealth. This new money is intended to simply ease some of that loss, so that the 'toxicity' of non-paying debt investments are neutralized in the system. Once health is restored to the banks, it is hope that the toxic assets will have a higher value and can eventually have their sting taken from them.

So we fully expected the markets in general to rebound on the news of the G20 deal, regaining a great deal of the recent losses to major stock markets. And from here, the central bankers of the world hope to be able to suck out the excess money they're creating as markets recover further.

Technically this sounds reasonable. The problem is that the world has been sensitized to such an extent by the credit crunch that any attempt to raise interest rates or reduce money supply will hurt confidence quickly and deeply. As Alan Greenspan stated in a recent article, "We have never successfully modeled the transition from euphoria to fear". And so it will be in the future, should any attempt be made to reduce liquidity in the system before an even stronger level of confidence is achieved than we saw pre-credit crunch.

It is from this base that we will see inflation soar, once a visible recovery is underway.

To date the markets reacted to say that the new US and G20 stimuli will work. But in fact, there are only two ways ahead for the global banking system.

  • Either the schemes will fail, in which case financial mayhem will break out worldwide and we will move into a depression as bad, if not worse, than the late Twenties and Thirties of the last century; or
  • The scheme will succeed, cleaning up bank balance sheets. Thereafter the quantitative easing must be so great that it will not pay banks to hoard funds and restrain lending.

Until there are signs that the housing market is trying to turn higher, we cannot accept a genuine recovery is underway. This will re-establish confidence in the system, we hope.

The moment global confidence is threatened – and it will be fragile and skittish – it will collapse far faster than it did before. So Mr. Bernanke et al have to follow a very delicate process to remove inflation if they are to attempt it at all. We believe that the consumer is not so simple, making the task of sucking inflation out of the system a decade-long experience.

With the loud cheering going on at the moment, it would be easy to think that gold should be dumped because all is now well. But as the euphoria subsides, clearer eyes will look at what's happened. It is, after all, more than a simple matter of confidence levels. Confidence in the banking system and the housing markets will have to accompany confidence in the monetary system. Yes, the world has no other option than to use the monetary system, but as to confidence in it, with such a new issue of money, this may prove to be a more delicate matter.

Today is different from when the credit crunch first struck, in that if the plan does stumble, there won't simply be a recession or a manageable currency crisis attended by more new money issuances through currency swaps. Instead, there will be financial mayhem on a scale not seen for generations. The trust in hallowed financial institution (para-statal funds in particular) will also sink, and as for international institutions they could become a mockery.

So is the plan G-20 plan so believable as to knock the Gold Price off its upward trend and out of the bull market? The last few months have seen a deflationary environment and gold had risen in that climate. Why? Because gold is both a form of cash, of money, and an inflation hedge as well, because it is an asset.

After the dash for cash of 2008, therefore, the scheme of President Obama's administration is without doubt massively inflationary, requiring a move from cash to assets if wealth is to be preserved. This will add to gold's appeal, whether the coming financial climate is good or bad.

Because as history has shown, whether in deflation or inflation gold gives protection from both and preserves wealth. There is, however, a strong case to be made for inciting inflation on purpose. Debt is a bigger threat to the system than savings right now. Inflation whittles away debt (as well as savings) and encourages a quick increase in the velocity of money. This is needed to prevent hoarding by banks and savings by consumers. So strange as it may sound, the system needs inflation.

This will lead to money pouring into assets for protection, away from deposits. Cash and interest returns from cash become a bad investment. Spending spurs production, recovery and, in turn, a revival in manufacturing overall. A strong manufacturing sector is a prime sign of a healthy economy. The recovery will then gain traction and the consumer will be back in the driving seat, going right back to where we were before the credit crunch.

And then? A permanent disability caused by the credit crunch will be its dependence on the consumer and on his confidence in the system. He has been wounded badly and will be very careful not to fall back into the hole he is in now. This means that inflation will be part of our lives for the next decade or more. Whether Mr. Bernanke succeeds in controlling inflation or not, he will live with it as an inherent part of the system. This keeps gold in the limelight.

As attitudes turn from the desperation of deflation to the recovery of banking and the advent of inflation, gold may pause in its rise, briefly but will then rise again in inflation. Certainly it has garnered a great deal of confidence in the last few months and earned its place in portfolios of all kinds.

JULIAN PHILLIPS – one half of the highly respected team at – began his career in the financial markets back in 1970, when he left the British Army after serving as an Officer in the Light Infantry in Malaya, Mauritius, and Belfast.

First he worked in Timber Management and then joined the London Stock Exchange, qualifying as a member and specializing from the beginning in currencies, gold and the "Dollar Premium". On moving to South Africa, Julian was appointed a macro-economist for the Electricity Supply Commission – guiding currency decisions on the multi-billion foreign Loan Portfolio – before joining Chase Manhattan and the UK Merchant Bank, Hill Samuel, in Johannesburg.

There he specialized in gold, before moving to Capetown, where he established the Fund Management department of the Board of Executors. Julian returned to the "Gold World" over two years ago, contributing his exceptional experience and insights to Global Watch: The Gold Forecaster.

Legal Notice/Disclaimer: This document is not and should not be construed as an offer to sell or the solicitation of an offer to purchase or subscribe for any investment. Gold Forecaster/Julian D.W. Phillips have based this document on information obtained from sources they believe to be reliable but which it has not independently verified; they make no guarantee, representation or warranty and accepts no responsibility or liability as to its accuracy or completeness. Expressions of opinion are those of Gold Forecaster/Julian D.W. Phillips only and are subject to change without notice. They assume no warranty, liability or guarantee for the current relevance, correctness or completeness of any information provided within this report and will not be held liable for the consequence of reliance upon any opinion or statement contained herein or any omission. Furthermore, they assume no liability for any direct or indirect loss or damage or, in particular, for lost profit, which you may incur as a result of the use and existence of the information, provided within this report.

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