COMMENTARY — Watch those geo-political risks

Gold’s role as a reliable store of value can be important at times of political or economic uncertainty.

This applies not only to Western investors but, more importantly, to the populations of countries that face domestic turmoil whether due to war, political unrest or destructive economic policies.

The end of the Cold War has not led to increased geo-political stability. If anything, the reverse is true because the crumbling of the Soviet empire and the drastic curtailing of the U.S. military have created a serious power vacuum in many regions. In real terms, U.S. defence spending has dropped by 15% in the past five years and is projected to decline by a further 25% during the next five years.

A number of major sources of potential instability exist. These include spreading conflicts in the former Soviet republics, the growing power of Islamic fundamentalism in the Middle East, rising tensions between North and South Korea, and an alarming military buildup in China and in other Asian countries.

From the point of view of gold markets, the fragile politics of South Africa are also cause for concern. The prospects of a smooth transition to black majority rule there are minimal. The worst possible outcomes range from outright civil war to nationalization of the gold industry.

On the economic front, U.S. dependence on imported oil will continue to grow. Imports already account for 45% of consumption, and production is in steady decline. As a result, U.S dependence on the volatile Middle East will increase dramatically. Meanwhile, U.S. control over its economic destiny will be progressively weakened by the chronic buildup in foreign indebtedness. There is no way to quantify geo-political risks. Suffice it to say that the U.S. will be increasingly unwilling and unable to deal with regional conflicts that do not directly affect its domestic security. The debacle in former Yugoslavia can only serve to encourage would-be regional despots. Fear of geo-political instability is not a sufficient reason to expect a short-term acceleration in gold prices. However, it could be the future trigger that ignites a market which is cheap and faces tightening supply and demand conditions.

— From a recent issue of “The Bank Credit Analyst” of Montreal.