Why People are Buying Gold Now

No, it wasn’t a one-day wonder. Gold is holding its own after reaching a record high.

The yellow metal’s spot price jumped $25 an ounce yesterday, topping out near $1,275 before pulling back – but not much. This morning, it sits at $1,268.

The immediate catalyst appears to have been some conference call chatter by Jan Hatzius, the chief US economist at Goldman Sachs. He speculated another round of quantitative easing is on the way, with the Federal Reserve buying up more Treasuries. He threw out the number $1 trillion, and a target date of November or December.

Traders acted on the theory that if this is coming from Goldman, it might as well be coming from a Fed governor, or Ben Bernanke himself. Buy!

Then again, Hatzius merely confirmed suspicions that have been building for a while. Connect all the dots, and it adds up to much higher gold prices. Maybe not this week or this month, but sooner, rather than later…

For starters, gold and the dollar appear to be reverting to their traditional roles – one goes up, the other goes down. Certainly, that was the case throughout 2009, but we noticed in early February that this trend had begun to take a breather. Gold and the dollar became unusually well correlated.

But that correlation started breaking down in mid-June and fell apart a few weeks later.

Gold and Dollar Divergence

“The dollar has benefited from the troubles in other countries [like Greece] in its role as a relative safe haven,” says US Global Investors chief and Vancouver favorite Frank Holmes.

“But ‘relative’ is the key word – roughly $10 trillion is expected to be added to the US federal debt burden through 2019, and the US trade imbalances are huge. These trends stand to weigh on the dollar and support gold’s safe-haven status over the longer term.”

“Faced with voter anger at the failure of monetary and fiscal stimulus to stimulate, the Obama administration and the Federal Reserve are doubling down,” Alvaro Vargas Llosa explains further. He’s a senior fellow at the Independent Institute, and one of the experts Addison interviewed for his current documentary project.

“If almost $1 trillion of fiscal spending and a tripling of the Fed’s balance sheet have not done the trick, leaders should realize by now that the process of economic healing – paying down debts; liquidating redundant assets; saving; and, eventually, investing and consuming again – cannot be altered by political diktat.”

About that fiscal imbalance: On Monday, the Treasury Department said the federal deficit for the first 11 months of the fiscal year totaled $1.26 trillion. (Treasury lied. According to its own website, Uncle Sam ran up the national debt by $1.53 trillion.)

It’s only going to get worse, judging by figures out just this morning from the nonpartisan Tax Policy Center…

  • 44% of Americans live in a household where someone is receiving government benefits. That compares to 30% in 1983
  • An estimated 45% of US households pay no income tax, compared to 39% just five years ago
  • 13% of households pay neither income tax nor payroll tax.

If numbers like that don’t awaken the bond vigilantes from their slumber now, it’s just a matter of time. Steven Romick, manager of the well-respected FPA Crescent Fund, reminds us that 48% of US debt outstanding is due to mature over the next two years.

That’s $3.7 trillion that needs to be rolled over, on top of a ballpark $3 trillion in new debt Uncle Sam will run up during the same period. Who’s going to buy all that? “Will it be the foreigners who already own half of the US debt?” asks Alvaro Vargas Llosa. “At what point do they realize that the US government can actually go broke?”

That’s what’s dawning on the people buying gold now.

Dave Gonigam
for The Daily Reckoning