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Bursting Gold's "Bubble"

Could the G7 or IMF burst gold's "bubble"...?

stated that gold was the "Ultimate Gold Bubble", we believe he was not saying that gold is now in a price bubble, but that it would one day get there, writes Julian Phillips at the

This is backed up by Soros' own accumulation of gold and Gold Mining shares this year. So we are not, at least judging by Soros' own behavior, looking at a "gold bubble" worth fearing just yet, not even with gold at this price.

But could the world's major powers move to burst it regardless?

The only way the G7 group of advanced economies could burst any gold-market gains – with or without the assistance of the International Monetary Fund – would be to reform the monetary system in such a way as to restore confidence. Currencies worldwide would need to return to stability, reliably pricing goods internationally over the long-term. That is not on the table yet.

However, with today's foreign exchanges seeing rising confrontation between nations that want weaker currencies and those that are fighting the strengthening of their currencies, we need to know what these two 'global' bodies – the G20 and IMF – think of Gold Bullion and what they may do as the future of money darkens in the face of the coming storm.

There is a popular assumption that the IMF is a global body representative of all and equally so. The perception includes the belief that their recommendations are independent of government. The body is empowered by its members to address all matters affecting the world's monetary system. Included in this perception is the money sponsored by the IMF and called "Special Drawing Rights" – a form of "notional" money that allows it to lend to distressed nations facing sovereign debt crises, such as we have seen of late in Greece.

If this perception were true, there is no doubt that the IMF would have the competence and power to fix the global monetary system. But these perceptions stray significantly from reality.

For instance, let's look at the voting structure in the IMF. Each member is entitled to a percentage of the voting power from less than 1% upwards. It takes 85% of all members' votes to pass any IMF resolution. The largest holder of voting rights is the US which holds 16.74% of the votes. This allows it to veto any resolution it wants to. While this does not make it a pawn of the US, it does prevent any resolution being passed that it alone does not want passed.
The US effectively controls the actions of the IMF, so when Timothy Geithner put forward the idea that China's place at the table would be enhanced if it was tied to an appreciation of the Yuan, we saw a strong-arm demonstration of that power. China has made it clear that it will not be pressured on the Yuan, but feels it deserves a greater say at the IMF than its present 3.65% of voting rights. China's central bank Governor Zhou Xiaochuan specifically noted that last weekend.

Next year, the IMF has to review the make-up of the Special Drawing Rights, currently composed of the US Dollar, the Yen, the Pound Starling and the Euro. A huge issue that goes far beyond politics is the make-up of a 'currency' that reflects world economic power and influences between currencies. Between now and then, we expect the international presence of the Yuan to be felt considerably more than it is currently. It would seem imperative that the Yuan be a sizable component of the make-up of the SDR and of such a size that reflects it global economic presence and ongoing growth.

As for the G7, is it an effective body in itself? The G7 comprises the top seven most economically powerful nations in the world. China is not included, but of course, it should be. The group was formed in 1976, when Canada joined the Group of Six: France, Germany, Italy, Japan, United Kingdom, and United States. To date, the G7 has discussed its own interests behind closed doors, but rarely has it come out with any action to rectify global issues. It is not expected to now, either.
The most recent meeting was held last weekend and the media hoped to hear some policy statement that would address the 'currency' issues causing so much damage right now. None came except an instruction to the IMF that it looks deeply into capital and trade flows with the purpose of proposing some 'rules' over them. No mention of who would likely impose them or enforce them. With national interests a far greater priority than international ones, the proposals are unlikely to be implemented but simply remain 'recommendations' when they come. After all, the US will have to abide by them as well as China.

Is this going to really happen?

What we do expect is for the IMF to follow the lines of its previous paper (issued in February) on capital inflows, capital controls and financial crisis put forward on the 10th February 2010. In this paper, capital controls are suggested in certain circumstances. (Gold Forecaster has been predicting the potential for these for two years now.) The effect of both inflow and outflow capital controls is to render an exchange rate suspect, with the commensurate drop in confidence in that rate alongside the prospect of severe speculation against the exchange rate.

So the G7 postponed and passed the 'buck' on global imbalances for at least one month, in which time we will see several currency pressure points. These started today with the Yen reaching historic highs against the US Dollar, despite the Bank of Japan's confirmation that it would attempt to lower the value of the Yen. It is likely that we will see 78 against the Yen and huge inflows into Japan. Will they impose capital controls soon? It is most likely.

Are they against Gold Bullion? While the IMF is completing the only sale of gold we expect them to make now and in the future, here is what the IMF feels about gold:

"In 1995 the Executive Board reviewed the role of gold in the Fund. The Board concluded that use of the Fund's gold must take account of the overriding need to maintain and, where possible strengthen the Fund's financial base. In this regard, there was broad agreement that the Fund's policy on gold should be governed by the following principles:

"As an undervalued asset held by the Fund, gold provides a fundamental strength to the Fund's balance sheet. Thus, any mobilization of the Fund's gold should avoid weakening the Fund's overall financial position.

"The Fund's gold holdings provide the Fund with operational maneuverability both as regards its policies on the use of its resources and through adding credibility to the level of the Fund's precautionary balances. In these respects, the benefits of the Fund's gold holdings are passed on to the membership at large, to both creditors and debtors.

"The Fund should continue to hold a relatively large amount of gold among its assets, not only for prudential reasons, but also to meet unforeseen contingencies.

"The Fund has a systemic responsibility, given that it is the second-largest official holder of gold in the world, with about 10% of total official gold stocks of member countries."

As you can see here, there is no thought in the mind of the IMF that gold should not be firmly held as a reserve asset. This leaves them with the only way to "burst gold's bubble" is to ensure that the global economy is healthy, cooperative to the extent that a rosy future exists, based on a sound global economy with financially sound, healthy economies using a sound well regulated currency system making up the global economy. As we all know, this looks like a utopian dream at this moment in time. So the IMF will no longer act against gold. Once its present sales of gold are complete they will no longer sell gold.
As for the G7, gold is not on their mind. Their retentive actions on gold demonstrate that they too see it as a reserve asset to be used in unforeseen circumstances. There is no doubt in our minds that the G7 will treat gold as an alternative source of value to currencies, when push comes to shove. So neither of these two bodies will "burst gold's bubble". The question remains, however, whether instead they will support it now...?

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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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