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Could Gold Replace the Euro?

Currencies / Euro Nov 30, 2010 - 12:11 PM GMT

By: Bari_Baig


The pace at which things are changing in this ever changing world is very interesting. Less than two weeks ago Irish government was reluctant to admit to a problem with the Irish Banking system. Outcome; Mr. Cowen panicked he did not just agree to the bailout package but to keep the fragile coalition in place he announced re-elections in January. Everyone touts about being democratic however, coalition governments seldom work [well] even when all seems to be going fine whereas Mr. Cowen has work cut out for him as he’s frantically juggling to keep things in place most importantly the Budget.

Well, Ireland’s gotten the bailout package and that’s that! We must move on. Move to other PIIGS [Portugal, Italy, Ireland, Greece and Spain] we wrote in our article on [Why weren’t such issues discussed earlier?] dated November 16th that “The Greece of today is Ireland, but what happens once Ireland is bailed out as Greece was? Does it end there? No it does not! It shall not. It shall continue to move from one member to another which makes up the PIIGS “Portugal, Ireland, Italy, Greece and Spain”. Once a rescue plan for Ireland is put forward Portugal will rise to the challenge and then shall Spain, and much like Greeks the Italians will to join the bandwagon and before the bailing out process of PIIGS has not even taken one full revolution Greece shall rise once again”.

Before we look at who is now standing in line to be granted the bailout package, what is of even more interest is that PIIGS now seem to be brushing shoulders with one another to move ahead in line! Last week Spain’s Prime Minister Mr. Zapatero gave a statement which seemed nothing more than a “Scare tactics” and today the statement from Spain’s Economy Secretary Mr. Camp who said “Elevated financing costs will be worrying if they last”. They aren’t worrying! They are very much worrisome even now as the “Banking Stress test” results are once again under scrutiny thus pushing financing costs even higher. Portugal and Spain than seem to be running neck to neck in the race to get the new aid package as Portugal’s CDS [Credit Default Swap] rose to make a [New] record and Spanish bonds slid the most since the single union currency was established.

Certainly it is interesting to see Portugal and Spain apparently fight it out but there lies an even greater problem and that is pertinent to the size of the current “Emergency kitty” of European Central Bank “ECB” which isn’t big enough to handle Spain and Portugal simultaneously. Spain is almost twice as big as PIG in the PIIGS put together. Whether more cash would be made available for the kitty is an open debate as it would be discussed on December 2nd by the ECB members. Question is “if” Spain which is in denial much like Ireland, and all of a sudden Spain were to come to the market to be bailed out, what would be the likely outcome of the European Union? We at even before the EU crisis took place in spring have boldly stated our reservations toward the single European currency numerous times. To us the demographics alone seem to be the biggest threat for the survival of Euro which is not only the second biggest reserve currency but also the second most traded currency.

China has the most to lose as Euro makes a significant portion of the People’s Bank of China’s book. As the Greek crisis unfolded it was observed that delegations from China to Greece went up by a few notches as Chinese assured the Greeks of more trade with Greece. China did that not because it has a soft spot for Greece but due to the fact that a weakening Euro was hurting Beijing. But can China save Euro from the brink of extinction? The answer is simple, it cannot nor would it try to do so as China is focused toward making Renminbi a reserve currency.

The pace at which Euro is slipping is certainly not building anyone’s confidence in the currency. Euro might find midterm support at and above 1.28s but in wake of this far more serious EU debt crisis Euro trading to par with U.S Dollar cannot be ruled out or perhaps even lower. That really would be the tipping point for Euro, as countries around the world which are patiently looking at all this drama unfold would start to “dump” Euro from their reserve books, but the question is for what? What will replace Euro?

The only logical inclination is then towards Gold from the perspective of [central bankers] of different countries but to us U.S Dollar shall remain the undisputed champion. Central bankers of developing nation have been gradually accumulating Gold in their books but the same cannot be said about U.S or other developed nations which already maintain a sizeable position in Gold. U.S has accounted gold reserves at $42.22 per oz and U.S holds almost 9,000 metric tons of Gold.

Other central banks which are late in this game and are accumulating Gold at current levels or slightly lower prices might be dumbfounded if U.S were to mark its gold reserves to the market. But U.S would not do that in short term therefore Gold could potentially get a bid on it as Euro continues its downward slide. In the bigger picture however, U.S Dollar which has been the most favored reserve currency shall continue to enjoy the same status in decades ahead. The days of negative correlation of Gold with U.S Dollar seem numbered then keeping the above argument in view and Gold is increasingly trying to prove that. How, as Gold now more than ever breaks the age old inverse correlation and trades parallel to U.S Dollar. Why then buy Euros which comes with a lot of excessive baggage of debt when you could buy Gold in Euro terms and be hedged against a fall.

By Bari Baig

© 2010 Copyright Bari Baig - All Rights Reserved
Disclaimer: The above is a matter of opinion provided for general information purposes only and is not intended as investment advice. Information and analysis above are derived from sources and utilising methods believed to be reliable, but we cannot accept responsibility for any losses you may incur as a result of this analysis. Individuals should consult with their personal financial advisors.

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