Nouriel Roubini Writes, "Beware Of Gold Bubble"

As webbed by the Globe and Mail, Roubini warns that the case for gold is contingent upon either inflation coming back or financial crisis resuming. Those two forces are what's pushed up gold in the last few years. After summarizing the case for gold, he points out the risk of the global recovery becoming anemic without inflation re-emerging. That combination would be great for the U.S. dollar and bad for gold. He also mentions the risk of the U.S. dollar carry trade unwinding, which would also push the price of the greenback up and gold down.


Essentially, gold bulls are betting on: a), stagflation; b), the Fed letting inflation kindle by staying too easy for too long. The best environment for gold is actually anemic growth combined with high inflation, because gold tends to outperform all other asset classes in that environment. It isn't clear that we're facing stagflation in the coming years, although stagflation did emerge in the 1970s after the Fed pumped lots of money into the system due to credit-crunch fears in 1970. This time 'round, though, the money multiplier has collapsed; excess reserves are legion, whereas in the 1970s there were little. The money multiplier stayed normal back in the bell-bottom decade, unlike this past year. Also, the opportunity cost of not lending is lower now than then - and the decision by the Fed to pay interest on held reserves means that the opportunity cost can be lowered even more. For the first time, the Fed can actively encourage banks to hold excess reserves by raising the rate it pays on them.

On the other hand, the Fed has almost always had a track record of staying too easy for too long. The early 1930s stick in our memories, aside from the economic devastation of that period, because it was the only period in which the Fed didn't ease enough. Since then, it's always been erring on the side of easing. This inclination shows up even more after credit crises, because the risk of another Great Depresssion is most acute then. With respect to this plank, the odds are definitely on the side of the goldbugs.

But will gold be the beneficiary of the resultant asset inflation? I believe it will, largely because gold has shown the same "magical" qualities that residential real estate did in the last recession: not dropping during the bad times, then rising once the bad times started to fade. We all know that some asset class is going to be the prime beneficiary of a post-overeasing bubble. In the 1990s, it was stocks; in the '00s, it was residential real estate. Gold looks a likely candidate this time 'round.


A wryer gold-skeptic argument is over at Bloomberg. It's by Claudia Carpenter and Pham-Duy Nguyen, and it turns one of the goldbugs' favorite arguments on its head. Right before the last bear market faded into a new bull, Gordon Brown ordered the Bank of England to sell about 400 tons of gold. The end of the '80s-'90s gold bear market, as the article relates, is now known as the "Brown bottom;" Mr. Brown's been the butt of a lot of goldbug jokes since the bull market got rolling. Now, though, central banks are buying gold. If central-bank timing is as bad as before, then "Gold Buying by Central Banks May Send Signal to Sell."

One quibble with that article's premise: the much-vaunted Indian central bank gold purchase was of gold that the IMF chose to sell beforehand. Which of these institutions has the lousy timing?...