Gold price to reach “all-time high” in 2013
MFM’s Angelos Damaskos says that money printing is the only option available to many western economies struggling under the weight of debt, which will boost both inflation and the price of gold.
The US administration managed to agree a partial deal on the "fiscal cliff" negotiations on New Year’s Eve.
Nevertheless, full agreement is still subject to the resolution of a number of issues, the most important being approval by Congress to raise America’s debt ceiling.
This would allow it to borrow more to refinance existing obligations in addition to financing the stimulus programmes launched recently; tantamount to an agreement to print more money while borrowing more from abroad.
There are two other important issues relating to cutting government expenditure and raising taxes to reduce the deficit in cash-flow.
An increase in the debt limit would exacerbate the situation, leading to higher inflation due to the additional liquidity and a subsequent dampening of economic growth.
The second concern is that cutting government expenditure while raising taxes would also negatively impact growth and employment and disincentivise new investment in productive capacity.
Understandably, politicians are caught between a rock and a hard place. Their position is similar to a household earning less than their regular outgoings, having no savings and piling on debt via credit cards and bank overdrafts.
Finding ways to reduce expenses requires undesirable adjustments to lifestyle, while possibilities to increase income are hard to find.
At the same time, creditors are knocking on the door, asking when they might get their money back. The economic activity of the household will have to be reduced if it is to avoid losing valuable assets to the banks.
The main advantage of a public body in control of its own finances, such as the US, is that it can print money to inflate the value of the debt.
The difficulty is doing this without angering its creditors, who may ask for their money back. It is a fine-balance politically, with politicians walking the tightrope.
The European Union is in a similar, possibly worse, situation. The additional burden of cultural differences among member states makes reaching an agreement on debt levels, cuts in expenditure and a fiscal union difficult.
Under the circumstances, many investors sense the risk that the value of their money held in US dollars or euros could fall.
The potential loss in purchasing power due to increased money supply and the consequent inflation could be significant. In their quest for alternative stores of value, many look to gold as a safe-haven.
This investment demand has propelled the gold price to a six-fold increase over the last 12 years.
Many now believe that, as the governments of the US and EU have stated their intent to print more money in order to stimulate their economies, the debt problems might be resolved sooner rather than later.
They therefore suggest that we saw the peak in the price of gold when it reached $1,927 per ounce in 2011.
This argument ignores the potential impact of inflation and the economies' inability to invest in new productive capacity.
Other more cautious investors are still looking for stores of value, such as gold. As more people become convinced that their money is at risk of losing its value, a rush to buy gold could push its price to a much higher level than that reached in 2011.
We believe that this situation is likely to happen in the next 12 months as politicians struggle to find alternative ways to resolve the debt problems and the electorate becomes restless.
When the gold price reaches new highs, the current undervaluation of gold mining shares will be stark for all to see, causing a sharp re-rating of the sector.
We believe that investment in well-managed and capitalised gold mining companies is among the most attractive opportunities we have seen in a long time.
Angelos Damaskos is the manager of the MFM Junior Gold fund. The views expressed here are his own.