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Roubini: I Don't Believe in Gold

Only sharp inflation or economic depression can move Gold higher, says Nouriel Roubini...

Dr. NOURIEL ROUBINI, professor of economics and international business at the Stern School of Business at NYU and chairman of RGE Monitor, is perhaps best known for his prescient predictions of the financial market collapse in 2005, reports Hard Asset Investor's sister-site Index Universe.

Dr. Roubini will be the keynote speaker at IndexUniverse's upcoming Inside Commodities conference on Nov. 4 at the New York Stock Exchange. We sat down with Nouriel ahead of the conference to get his view on global markets, the role of oil and gold, and the impact of commodity futures regulation...

Index Universe: You've said that you're worried we're already sowing the seeds of the next crisis. Where do you see that most directly?

Dr. Nouriel Roubini: Well in commodities, I look at oil prices. They fell from $145 last summer, came down to $30 earlier this year and now they're back close to $80. But if I look at the fundamentals of demand and supply, demand is down to 2005 levels, supply and inventories are at all-time highs. In my view, the movement in oil prices is not fully justified by the fundamentals.

Yes, there are improving fundamentals, there is a global recovery. But that justifies oil going from $30 to maybe $50. I think the other $30 is all speculative demand feeding on it – speculators and herding behavior. Last year, when oil was at $145, that killed the global economy. I worry that oil is going to go up above $100 for reasons that have nothing to do with the fundamentals of supply and demand. Oil at $100 would have the same negative effects on the global economy as oil did at $145 last year.

Last year, when oil was at $145, the global economy was still growing. Right now it has collapsed, and is recovering. Oil pushing above $100 would have nasty, negative real trade effects and real disposable-income effects on all importing countries: US, Europe, Japan, China, India...all the countries that were hit by the oil shock last year. So that's an element that is in my view totally speculative, and dangerous to the global economy. Is that true elsewhere?

Nouriel Roubini: I could make a similar argument for other commodity prices. In my view, rising commodity prices are not justified by the fundamentals.

There's a huge bubble, because we have zero rates in the US, zero rates around the world, and a huge carry trade. Everyone is borrowing at zero interest rates in Dollars and getting a capital gain because the Dollar is weakening, so they are borrowing at negative rates. And then they invest in risky assets: commodities, equities, credit. We're creating a bigger bubble than before.

It's going to go crashing down, in an ugly way. That's the basics of the argument. Is there a regulatory solution to the speculation issue? Is the CFTC tightening and enforcing position limits a step in the right direction?

Nouriel Roubini: I think it's an idea worth considering. I'm not usually in favor of position limits, but I think the swings in the value of oil have been extremely dangerous for the global economy. Oil at $145 was the reason – more than Lehman or anything else – that the global economy tipped into the worst recession in the last 60 years.

After the collapse of the global economy, oil collapsed to $30. At $30, there can be investment in new capacity. But now it's back at $80 and soon enough it's going to be at $100.

If position limits are going to be effective – and I don't know that they are – I would not be against them. Because these swings in value of oil, on the way up and on the way down, are extremely damaging to global economic activity. They are dangerous. They are not justified. And if they can be controlled, so be it. You recently co-authored a report in which you and your colleagues ranked the US third in world financial markets, after London and Australia. Was regulation a big component of that?

Nouriel Roubini: The US might have been No.3 overall, but it was ranked No.38 out of 55 in financial stability, because we've had a disastrous banking and financial crisis. That was in part due to poor regulation and supervision of financial institutions. That's one of many factors and reasons why the US was ranked so low on that particular pillar.

Certainly there has been a massive failure of regulation and supervision of the financial system. But the regulatory failure was more in the direction of unwillingness by regulators to apply regulations. The Fed had all the powers to regulate toxic underwriting of mortgages, but they believed in laissez faire markets, and they created a disaster. How does this get fixed?

Nouriel Roubini: I don't believe in market discipline. It doesn't work. That was the ideology of the last 10 years. Self-regulation means no regulation. Market discipline doesn't exist with irrational exuberance and reliance on internal risk management models that don't work. Nobody listens to risk managers, because it's risk takers that make the profits.

The reliance on ratings agencies that have their own conflicts of interest, the reliance on soft-touch regulation, the focus on principles instead of rules – that particular regulatory philosophy has been a disaster, and we've learned it the hard way. We have to go to simpler rules, tougher rules and more binding rules. That's the right approach. You've been clear that you think most assets are currently overvalued. Do you think there are opportunities for investors in certain asset classes or certain geographies?

Nouriel Roubini: Well, there is a wall of liquidity chasing assets. That liquidity can chase those assets higher for the time being until the huge carry trade – the asset bubble and the wall of liquidity – comes crashing down. You can still have all the risky assets going higher. Of course, the higher they go, the more they diverge from fundamentals, and the riskier the situation becomes. But eventually, if the recovery of the economy is going to be anemic, sub-par, below-trend and U-shaped, there is going to be a correction. And therefore my view is to stay away from risky assets.

Stay in liquid assets. I don't know when the correction is going to occur, it could be a while longer, but eventually it will be a pretty ugly correction, across many different asset classes. When you say "stay away from risky assets," many people hear that and think, "Aha, gold!"

Nouriel Roubini: I don't believe in gold. Gold can go up for only two reasons. [One is] inflation, and we are in a world where there are massive amounts of deflation because of a glut of capacity, and demand is weak. There's slack in the labor markets with unemployment peeking above 10 percent in all the advanced economies. So there's no inflation, and there's not going to be for the time being.

The only other case in which gold can go higher, with deflation, is if you have Armageddon, if you have another depression. But we've avoided that tail risk as well. So all the gold bugs who say Gold is going to go to $1500 or $2000, they're just speaking nonsense. Without inflation, or without a depression, there's nowhere for gold to go.

Yeah, Gold can go above $1000, but it can't move up 20-30% unless we end up in a world of inflation or another depression. I don't see either of those being likely for the time being. Maybe three or four years from now, yes. But not anytime soon.

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