greenspan's gold

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    Federal Reserve Chairman Greenspan Confirms
    Governor Bernanke's Reintroduction of the Subject of Gold
    as Relevant to Present Economic Circumstances

    by James Sinclair

    I have learned over time to recognize that when a Federal Reserve Chairman discusses subjects, it is wise to take it seriously, not only what is said, but also, the fact that it is said. It was this approach that gave me the cue to know in 1980 that Chairman Volcker was going to take the anti-inflationary stance that he did successfully. It was this understanding that gave me the courage after having led the 1968 - 1980 gold bull market as its largest trader to sell 900,000 ounces of physical overnight plus an additional 1,200,000 ounces of gold as represented by Comex contracts the next day. The day before gold had traded on the Comex at $887.50. Something equally as important happened today and you must be informed. It is the absolute opposite of March 1980 and means to me that gold is in a very long-term bull market and will not be opposed by central banks. This is a major starting point for gold for many years to come.

    We have already heard from Chairman Greenspan suggesting we might have come full cycle from the Volcker experience. Now let me quote to you the opening remarks of Chairman Greenspan today, December 19, 2002, speaking to the Economic Club of New York.

    "Although the gold standard could hardly be portrayed as having produced a period of price tranquility, it was the case that the price level in 1929 was not much different, on net, from what it had been in 1800. But, in the two decades following the abandonment of the gold standard in 1933, the consumer price index in the United States nearly doubled. And, in the four decades after that, prices quintupled. Monetary policy, unleashed from the constraint of domestic gold convertibility, has allowed a persistent over issuance of money. As recently as a decade ago, central bankers, having witnessed more than a half-century of chronic inflation, appeared to confirm that a fiat currency was inherently subject to excess." [1]

    You have just heard the Chairman of the Federal Reserve speak the Gospel of Gold. It was not said randomly. When a subject is put at the beginning of a presentation to an important group by the Chairman of the Federal Reserve System, it is there for a reason. I believe I know the reason. Gold is on its way back into the monetary system not, IMO, as convertibility, but rather as a Gold Cover Clause different in form from the previous Gold Certificate Federal Reserve Ratio that affected the cost of money as a corrective mechanism. This time the Gold Cover Clause will function as a control over the creation of fiat currency as a ratio to money supply in a free market for gold and valuation of US Treasury gold at market. I will explain to you during Christmas how this will effect gold trading in a firm range, in my opinion, at higher levels than we have so far experienced. I believe the price of gold is headed higher without significant interruption. I firmly believe that gold is headed back into the monetary system in a control mechanism with an adjustable market mechanism. Gold could easily be trading between $450 and $550 in 2003.

    Chairman Greenspan went on to say "Moreover, a major objective of the recent heightened level of scrutiny is to ensure that any latent deflationary pressures are appropriately addressed well before they become a problem." This statement confirms the statements of Governor Bernanke that the Federal Reserve intends to use the tools at hand that have historically (1930 - 1934) been used to stimulate economic activity when decreasing interest rates fail to push business activity forward as is possible, if not probable, now. [2]

    Now the Chairman says, " Although the US economy has largely escaped any deflation since World War II, there are some well-founded reasons to presume that deflation is more of a threat to economic growth than is inflation." This confirms to me that the Federal Reserve and the Bush administration will move to whatever is required to whatever degree is required in order to stave off the political implications of deflation. I have said before that deflation would not be entertained. The Federal Reserve and the Bush administration will burn the barn down before accepting the political implications of deflation. I have defined the barn as the dollar. I am now more than ever convinced that I was and am correct in this assumption. The US dollar on the USDX is headed, IMO, to between .73 and .80 as I see it.

    Greenspan goes on to say, "the expansion of the monetary base can proceed even if overnight rates are driven to their zero lower bound." This interprets, IMO, as a statement that guarantees two events: Interest rates will continue to be reduced and monetary aggregates will continue to be expanded.

    The next important statement is: "Clearly, it would be desirable to avoid deflation. But if deflation were to develop, options for aggressive monetary policy responses are available." That means to me that a plan to fight deflation is in fact being pursued now by the US Fed, but it is prepared to expand significantly regardless of the effect on the dollar.

    There is however herein given a hint of the dollar rescue plan that is envisioned. That is the reintroduction of gold into the monetary system via a somewhat restructured Gold Cover Clause that recognizes the changes that have taken place in the world in the last seventy-five years.

    The Federal Reserve has announced to those with ears to listen that gold is no longer a rejected subject. Quite to the contrary, Governor Bernanke has described gold as a tool used to resuscitate economies. Fed Chairman Greenspan has introduced gold's role in two ways. First, gold is defined as a means of price predictability. Secondly, he touched on the control function that gold offers over the natural excess inherent in a fiat monetary system in the overproduction of money.

    I firmly believe that you can now expect a rise in the price of gold without significant interruption unless it runs too hard, too fast. Since that is the nature of gold, you can expect gold to be turned back at certain levels as it was yesterday at $354.50. It will be turned back again at $372. However I am now convinced that we will see a price in the area of $529 in the not too distant future as the Federal Reserve acts to offset incipient deflation by significant additional expansion of monetary aggregates and the attendant effect on the dollar.

    Gold will be called back into the system somewhere in the middle .70s on the USDX to then prevent the dollar from experiencing a free-fall in the form I have suggested above. In my opinion it will work when it is done. Since the need exists now to expand the monetary aggregates, gold will not now find its way into the system.

    I now believe that with this plan in hand, the cyclical bottom due in the general equities market by June of 2004 has a good chance of occurring. Everyone laughed at me a year ago when I suggested that the bond market would find a top by November of 2002. Well, it did. So grant me the possibility that I might be right in my cyclical analysis that suggested equities as long-term investments in June of 2004, now along with gold shares. Yes, along with gold shares.

    Gold companies that survive the excesses of over-the-counter derivative hedging will be transmuted back into the utilities they were when gold was trading at $35 an ounce and mining costs were extremely small. South African shares then yielded between 18% and 22%. As a young trader of 19 years old, I bought physical gold and borrowed against it in Swiss Francs at 6%. I covered my currency risk against the dollar by going long future Swiss Francs to cover my debt and used the 95% borrowed funds to buy high yielding South African gold shares. This was my first pyramid and my first fortune.

    You now have seen the future. Sure, I will ignite some of the web site owners in the gold community, but that seems to be my unintentional habit. There can easily be changes in timing and price levels to the scenario described above, but I know what I heard and I know what it means. When I sold 900,000 ounces of gold into the Asian, British and European cash market the night after gold had sold at $887.50 in the US, I was blamed for having broken the gold bull market. Barron's editor Bleigberg wrote an editorial that criticized me sharply for having said publicly that Chairman Volcker was a "class act" and that he would attack inflation successfully. It was my opinion that gold was finished and that it would be 15 years before interest in gold could resuscitate it. I was wrong, it was 22 years.

    [1] Remarks by Chairman Alan Greenspan Before the Economic Club of New York, New York City December 19, 2002 "Issues for Monetary Policy" Article

    [2] Remarks by Governor Ben S. Bernanke Before the National Economists Club, Washington, D.C. November 21, 2002 "Deflation: Making Sure "It" Doesn't Happen Here" Article

    James Sinclair
    Chairman of the Board
    [email protected]

    21 December 2002

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