Why Gold Prices are rising?

The reason why the gold prices are galloping

By Dr Bharat Jhunjhunwala


The global investors are today looking for an alternative storehouse to keep their wealth. They want to exit the Dollar, Euro and Yen. This alternative storehouse they are finding in Gold. Thus, the price of gold is likely to increase more in the near future.


It will be plainly understood by the reader that the value of the paper, on which a 1,000-rupeenote is printed or the paper on which a cheque of Rs. 1 crore is written, is scarcely 1 paisa. Or, the value of the paper, on which a property valued at Rs. 10 crore is registered, may only be a few lakh rupees. The value of these papers arises from the backing of the matter written thereon. The 1,000-rupee note is valuable because the Reserve Bank of India guarantees to redeemit. A cheque is valuable because the bank is ready to honour it. The document of a property is valuable because the police are committed to restore possession of the owner. It will be clear from the foregoing that value of a currency arises from the ability of the central bank to back it with real assets.

The American dollar was backed by the US government in this manner after the Second World War.The American Federal Reserve Bank guaranteed that it would provide an ounce of gold for $35 to anyone who demanded this. In this situation it was profitable for people to keep their wealth in form of dollars instead of in gold. They could deposit the dollars in a bank and earn interest on it. They could withdraw the dollars from the bank and convert them into gold whenever they wanted. Keeping wealth in form of gold did not earn interest. This was the reason that the dollar acquired the status of the “world currency”.

The situation changed dramatically in 1971. Oil-producing countries of West Asia formed a cartel by the name of OPEC and raised the price of oil overnight from about $1-2 a barrel to $11. Subsequently, they raised it to about $21 a barrel. The American economy started feeling the pressure of expensive oil. People were worried whether the Federal Reserve Bank would be able to honour its guarantee of exchanging $35 into an ounce of gold. There was a run on the dollar. This forced the Federal Reserve Bank to withdraw the guarantee. The gold standard was abandoned. The dollar was no longer freely convertible into gold. This was the beginning of the end of dollar supremacy. The writ of the dollar continued, however, because the United States accounted for more than one-third of the global economy at that time.

The US economy began to crumble in the nineties in large measure due to the wars in Iraq and Afghanistan. The American government did not have the money to wage these wars. American people also did not have the income to consume goods produced by rest of the world. America adopted Charvaka’s dictum: “Borrow and Drink Ghee”. The Federal Reserve Bank sold US Treasury Bonds in large quantities to raise moneys for the wars and for consumption by the American people.

Coincidentally, China was seeking modern technologies at the same time. China invited American multinationals to come with frontline technologies and establish manufacturing facilities in China to produce goods for exports to their home countryChina provided these multinationals with cheap labour having virtually no protection of labour laws andcheap electricity and minerals. The multinationals exploited these cheap resources and exported goods to America. The problem was that America did not have the money to pay for these imported goods. China stepped in and started buying US Treasury Bonds. China provided the money to America to buy Chinese goods much like automobile companies provide loans to buyers. America sold US Government Treasury Bonds and bought goods from China and waged wars on Iraq and Afghanistan. In the last decade, this led to China accumulating US Treasuries to the tune of$1,400 billion. This accumulation of US Treasuries was okay as long as the US economy was strong.

There were limits to this policy of borrowing for consumption, however. Last two years have seen this truth dawning upon global investors including China that the US was living beyond its means. Most expect the dollar to decline further. Investors stopped investing in dollar-denominated assets. The extent of decline of the US economy can be gauged from the fact that the price of Gold has increased from $35 to $1,000 an ounce between 1971 and 2009.

This decline of the US economy is not clearly visible today. The dollar has risen against the rupee, for example. Four years ago, the price of a dollar was Rs. 40 as against Rs. 48 today. But this is deceptive for two reasons. One, the Indian rupee has decline parallel to the dollar because the Indian government has been as profligate as the American government. Both are declining as two persons holding each other drown in the river together. Secondly, American companies have brought back investments made by them in foreign countries after the crisis has struck at home. This inflow of dollars is temporarily pushing up the value of dollar against other currencies. The rise in dollar against the rupee, therefore, does not cancel the long-term decline in the dollar, which is plainly visible in the steep increase in the price of gold since 1971.

The decline of the dollar has removed the only ‘safe’ storehouse of wealth. The dollar was considered safe in the last 60 years after the Second World War. The value was reduced to one-half upon abandonment of the gold standard in 1971. The American economy continued to dominate the world, however, because it was the largest and technologically most advanced. The remaining value of the dollar has declined in the last two decades, in part, because of the wars launched by that country. The global investors are reluctant to invest their money in dollar-denominated assets like US Treasury Bonds, property in Manhattan or shares of US companies because the future of the US economy and value of the dollar are no longer stable. My assessment is that the world economy will face another crisis, perhaps worse than the present one, in the coming two-three years. The US Dollar, European Euro and Japanese Yen will all crumble because the high wages of these economies are no longer sustainable against the high-technology low-wage combination wielded by India and China.

The global investors are today looking for an alternative storehouse to keep their wealth. They want to exit the dollareuro and yenThis alternative storehouse they are finding in GOLD. Thus, the price of gold is likely to increase more in the near future. There may be a temporary decline for a year or so as the Western economies grow on the back of the stimulus packages. But this facade will collapse as soon as the time comes to pay for the stimulus packages. Therefore,GOLD is likely to shine in the times to come.

From Wikipedia, the free encyclopedia

Dr. Bharat Jhunjhunwala

Born 1950
Education University of Florida, Kanpur University
Occupation Columnist and consultant

Dr. Bharat Jhunjhunwala acquired his Bachelor’s Degree in Science (Physics, Chemistry and Mathematics) from Kanpur University and doctorate in Food and Resource Economics from University of Florida in 1973 at the age of 23. He has published academic papers inThe American Economist and the Southern Economic Journal.

He was Assistant Professor of Economics at the Indian Institute of Management, Bangalore. He has been a freelance columnist and consultant to donors and NGOs since 1993.


The Banks cheat on Gold- Must Read

Why local banks looting its customers
Those who are planning to buy gold for investment must read this article especially NRIs
Buying precious metals such as gold or silver from the trusted banks will give you confidence and satisfaction about the purity when compared to the nearby jewellery shop but at the cost of high prices.  Those who are wish to buy gold or silver as an investment can buy from the National Spot Exchange (NSEL) much lower cost when compared to the prices charged by the Banks, NSEL prices are directly linked to the market prices.  
Banks in India have started taking exorbitant profit by selling gold and silver to the innocent customers.   The Relationship Managers of the banks convince the poor customers that, buying gold and silver from them is the best and wise decision.  In my opinion, if you wanted to buy gold or silver don’t go to the banks, buy it from the local Trusted Jewelers or other gold/silver dealers.  The price difference between banks and local jewelry dealers/National Spot Exchange is huge.   Banks are looting the customers and innocent customers are buying without knowing the actual fact.  Today 10th August 2012 the prices quoted in NSEL (National Spot Exchange) for 1 gram Gold is Rs. 3,018.00 but if you wanted to buy this same gold with same purity you need to pay between Rs. 3,250.00 – 3,300.00.  You yourself can calculate the differences.  This price is even after giving 4-5% discount. 
The price differential, which is an outcome of overheads incurred by banks and jewelers in procuring and storing the solid metal, can thus be saved if one were to invest in the yellow metal through the paper route. Moreover, given the convenience of redeeming the investment at the click of the mouse, investing in paper gold definitely makes sense for those seeking Gold purely from an investment perspective.
Now a days our Customs authorities started hunting   the poor NRI when they travel to India.  To avoid the harassment form the custom officials, most of the NRIs are hesitate to carry gold when they travel to India, instead they started buying gold from Indian local market.  To exploit this to a great extent our Banks in India started e-mail campaign to attract the NRIs to buy gold from their bank and also they offer discount.  When people hear about discount, naturally they will tempt to buy the gold at higher prices at the influence of relationship manager.
So, while buying gold and silver, please avoid banks, instead opt for a credible jeweler or NSEL , as even in the case of jewellers, you can find  a lot of price variation with branded stores charging a premium. Do your homework well before you buy gold. And, of course always buy standard, hallmarked gold. If you do decide to go to a jeweler to buy gold in bulk, do negotiate. It is likely you will get a discount.
Most of the people in India, whether they are above or below the property line have a passion to invest in precious metals, especially gold and silver.  NSEL offers a chance to retail investors to enter into the precious metal commodities market through its E-series product and can invest in the demat format.  Rather than investing in physical gold, one can hold gold or silver in demat account, as it not only saves locker and insurance costs but can be bought in very small quantities.  Retail investors can invest in small denominations, like 1 Gram, 2 Grams, 5 Grams and so on, whenever they have sufficient money available for investment.
 But there is a difference in the form of delivery of the precious metals.  When you buy from a Bank or local Jeweler immediately you will get the physical possession  of the metal but when you buy from NSEL you will not get any physical possession instead  it will be in the  demat or e-form.     The advantage is that, you need not worry about the physical keeping or safety of the metals.  In case you wish to convert the e-form to physical, that option also available.   Another advantage of buying gold/silver from the NSEL is that, even you can buy small quantities.
Advantages of e-gold and e-silver
Investing in e-gold and e-silver are seen as safer options today since they are not affected by inflation and other economic risks.  Since gold is an excellent hedge against inflation, it is always best to buy gold as a short or long term investment.  E-gold and e-silver investment gives better returns as compared to ETF’s since the Mutual Funds charge additional cost like fund management fees, vault charges which are comparatively lower here.  National Sport Exchange charges 0.4% annually while is upto 2.5% for ETFs.  Transparent pricing, seamless trading, no holding cost are some of the advantages of e-gold and e-silver trading.  Hassle free buying and selling of the commodity is possible in demat fold and silver.  It is emerging as a better alternative to ETF,which is like any other mutual fund.
The buyer is not the outright holder of the gold as the institution holds the metal on his behalf. With e- gold, security is always an issue as there is always a risk of account being hacked. Due to security breach losses can occur, which are irreversible but perhaps you are protected by insurance against this issue.  Also there are custody charges that one has to pay on a monthly basis. This is just another way to buy our favorite commodity in which our Indians are more attached to than ever, the gold as well as silver.  I would personally suggest you to go for this to buy e-silver if you already have an gold ETF account.  But if you are looking to have physical gold at the end of the investment period or when needed, go for e-gold offered by  them.  

Based on my so many years interactions with hundreds of individuals, I felt the  instances of mis-selling of investment-related services and products are growing at an alarming rate and the prime source of mis-selling are private banks. Customers don’t know any better, as they trust the bankers blindly. 
Banks are making huge profits by mis-selling financial and other products to their own innocent customers. Aslo it is given to understand that few private sector banks have a policy to change their relationship managers frequently because as time goes by major portion of the bank customers start getting hostile towards their relationship managers due to this types of misspelling . 

Please  don’t forget to mail your feedback and suggestions to Prakash@yourownadviser.com   .  I need more feedback from you that will encourage me to write more or provide more useful and up to date information.