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'Barbarous relic' retains its charm

By David Robertson

It was John Maynard Keynes who called gold a "barbarous relic" and despite the recent popularity of Keynesian thought in speeding the world back to recovery, we have still not got over our love affair with this precious metal. The price of gold hit an all-time high of $1,226 (Dh4,503.22) an ounce last year and it has stubbornly remained at over $1,000 so far this year – much to the annoyance of the anti-gold brigade.

For those in the "relic" camp, gold is essentially useless. As an investment it does not grow or provide an income and yet it retains a value far higher than its commercial worth as a component in, for example, electronics or dentistry.

Sceptics like Nouriel Roubini from the Stern School for Business at New York University believe current prices demonstrate that we are witnessing a bullion bubble that cannot be supported by fundamentals. Certainly, the high price has killed off jewellery demand and industrial consumption has fallen as global economic growth has slowed. The gold price is, therefore, being supported by investment demand – people stashing their money in metal as a preference to shares, currency or even bank accounts.

Given that the global economy is now recovering it is understandable why Roubini and his supporters would think that gold is dangerously overpriced. By any rational measure of intrinsic value, gold should fall to a fraction of its current price. Yet some leading fund managers believe gold could hit $1,500 an ounce this year as more and more investors buy the metal as a hedge against other trends in the global economy.

The most significant of these is concern over the value of the United States dollar. Countries and individuals do not want to hold their savings in dollars, the world's de facto reserve currency, if the greenback is falling in value. So, they are looking to put their money somewhere else.

This has led to a quite remarkable shift in attitudes among investors and central bankers in particular. Individuals have been flooding into exchange traded funds or buying coins and bars from the gold souks while central banks have quietly been adding bullion to their vaults. The extent of central bank buying was revealed recently by the World Gold Council, which produces quarterly figures on how much metal is held by each country.

For the past couple of decades there have been far more sales by central banks than purchases but that changed in 2009. For the first time since 1988, central banks bought more gold than they sold. Based on an average 2009 price of $978 an ounce, governments bought about $28 billion of gold last year while sales amounted to $12 billion.

The main buyers were countries like India, China and Russia – countries that are growing rapidly and do not want to hold all their foreign reserves in dollars. India, for example, bought 200 tonnes of metal from the International Monetary Fund (IMF) while China added 454 tonnes to its vaults to bring its total to 1,054 tonnes. Even smaller economies such as the Philippines, Sri Lanka and Mexico were growing their vaults adding 16.6 tonnes, 10 tonnes and five tonnes respectively.

The sellers were, as usual, the western economies that have traditionally held the largest reserves. France took the opportunity presented by high prices to sell 73.4 tonnes last year, raising about $2.5bn. Sweden added $476 million to its treasury selling 13.8 tonnes and the Netherlands raised about $307 million selling 8.9 tonnes.

Meanwhile, the UK was left wondering how it could have been so stupid to have let Gordon Brown, the prime minister, sell nearly 400 tonnes of gold a decade ago. He achieved an average price of $275 an ounce raising $3.9bn. Had he sold the gold last year he would have raised $13.8bn – not that the British economy, the only major economy still in recession at the end of 2009, needs the money of course!

While the developing world continues to buy gold as a hedge against the dollar, gold will remain an important reserve asset. Keynes's barbarous relic appears to have been given purpose again. In the meantime, jewellery buyers should have a look at platinum as a comparatively more attractively priced alternative.

The writer is a business correspondent with the Times of London


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