EDITORIAL — The Euro, inflation and gold — New rules for new world

The introduction of the Euro-dollar by the European Monetary Union has experts speculating about the role of gold in the world economy. The World Gold Council has suggested that rivalry between the U.S. dollar and the Euro might trigger market instability, which would strengthen gold as a reserve asset. However, other experts believe currency competition would be beneficial and lead to a more dynamic marketplace, without much need for the yellow metal to play its traditionally stabilizing role.

Of course, it remains to be seen whether the Euro will live up to expectations. It is supposed to eliminate tariff barriers within Europe, increase competitiveness, and help many small countries act as one larger, more powerful entity. This, in turn, could force North American and Asian products and services to be more competitive.

One thing is certain: the introduction of the Euro marks another chapter in the changing role of gold. Once representing currency itself, the metal has undergone numerous changes since the Great Depression, when the United Kingdom and the United States abandoned the gold standard. The price was then pegged at US$35 per oz.

In the 1970s, gold moved into the spotlight when the price was allowed to fluctuate and American citizens could own bullion. This was followed by a time of double-digit inflation. Seen as a hedge against inflation, gold became a vehicle of speculation and skyrocketed to US$800 per oz. This, in turn, sparked the explosion, or bubble, of gold production, in which the industry still finds itself.

Gold prices have weakened as fears of rampant inflation subsided. Investors have turned to the soaring stock market, particularly high-tech and internet stocks, where they are reaping returns of 15% or more. Money “locked up” in gold is not earning anything near that, which is why disinvestment is taking place at a steady pace.

In keeping with this sentiment, some countries have liquidated all or part of their reserves in the past two years, sending the price back below US$300 per oz. And the Euro may add another blow, if the vibrant currency competition between it and the dollar continues, along with low inflation.

These factors could further separate gold from its monetary past.

Recent comments by U.S. President Bill Clinton and Vice-President Al Gore reveal how this separation is viewed at the highest levels of government. At the recent World Economic Forum in Davos, Switzerland, Gore initially called for the International Monetary Fund to sell 5% of its gold. His idea, though not new, was to sell 5 million oz. of the IMF’s 103 million oz. gold to help poor countries, particularly in Africa, with debt relief. The transaction would have the added advantage of strengthening the U.S. dollar in its competition with the Euro.

Helping his nation’s currency by helping others would seem to be a laudable sentiment, but Gore’s idea probably has more to do with positioning himself for the presidential election in 2000 than anything else. The following week, Clinton showed his support for Gore by formally proposing the measure to Congress in his fiscal budget for 2000. This demonstrates that he and the future presidential candidate don’t hold gold as sacrosanct, which suggests they may propose further sales.

However, this political view appears to be at odds with the economic position of Federal Reserve Chairman Alan Greenspan, who says he sees no reason to sell any of the 262 million oz. in the U.S. Treasury under his control. At the same conference in Switzerland, European Central Bank President Wim Duisenberg vowed that his bank would hold on to its gold. His remarks, while at odds with Gore’s, sparked interest in gold futures for the week — a rally that was short-lived. A few more years of low inflation and a strong dollar (maybe even a strong Euro) could test the resolve of even the most stalwart defenders of gold.

Gold bugs had speculated that economic crises in the world might reverse the trend of gold being viewed strictly as a commodity. However, recent calamities in Asia, Russia and Brazil have had little effect on the precious metal. And no one wants, or expects, a wholesale collapse of the American economy (as some had predicted for the end of the millennium) to trigger a higher value for gold.

No one wants high inflation either, which means that how gold fares in the next few years may depend on other methods for boosting its value, such as cutting back production.

But over the long term, gold will prevail over any currency as a storehouse of value, and hold that value when stock markets crash, as they always do.

Gold has done all this for thousands of years, and will probably do it for thousands more.