Gold Underpinned, Despite Mounting Deflation Risks

Gold firmed in early New York trading to retest the high from earlier in the week at 1255.35, despite a push in the dollar index to new eight-week highs. The greenback was bolstered by fresh seven-week lows in the euro amid rising expectations that the ECB will soon ease further.

German full-year GDP for 2013, which was released earlier in the week, was a mere 0.4%. This troubling number suggests that the economic heart of Europe is barely above stall speed. If Germany slips back into recession, Europe as a whole would most assuredly follow.

ECB Mario Draghi has been pretty adamant recently that the central bank remains ready to use whatever instruments that are allowed under its treaty. This week, ECB executive board member Benoît Cœuré said, “There is room to cut [rates] if needed.” The ECB’s refi rate is presently at a record low 0.25%; another cut would presumably take it to 0%.

While Draghi dismissed the likelihood of Japanese-style deflation in his press conference last week, clearly there are heightened concerns about negative price pressures of late. IMF chief Christine Lagarde warned of the growing danger of deflation this week. “With inflation running below many central banks’ targets, we see rising risks of deflation, which could prove disastrous for the recovery,” said Ms. Lagarde.

Lagarde went so far as to suggest that even Japan — which hugely expanded monetary accommodations under the leadership of PM Shinzo Abe and complicit BoJ governor Haruhiko Kuroda— may have to do more to “overcome the ogre of deflation” as the initial boost from Abenomics begins to lose momentum. Good golly, if a plan that doubles the monetary base in two-years is already running out of steam after less than one-year, at what point do you throw in the towel, rather than succumb to the temptation to throw money from a helicopter? JP Morgan senior economist Masamichi Adachi believes, “Doing nothing more is not an option for the BoJ.”

Another warning on deflation came from OECD chief economist Pier Carlo Padoan. He told The Wall Street Journal that the ECB should be on high alert for deflation and, if necessary, launch it’s own QE program.
 
Chicago Fed president Charles Evans also spoke this week about price risks, noting that inflation is running well below the FOMC’s target of 2%. “The recent news on inflation has not been good,” said Evans.
 
Economist and New York Times columnist Paul Krugman cited low inflation as evidence that the economy “still has a lot of slack.” Krugman went on to state, “This economy needs more, not less, stimulus.”

That’s a good point. So I ask again: At what point do you throw in the towel and acknowledge that monetary expansion — that debasement of one’s currency — simply doesn’t work when every major country is attempting to do the exact same thing?

For the die-hard Keynsians the policy is seemingly never a failure, it’s just a matter of not printing enough. In theory, there is simply no limit to the amount of money central banks can create out of thin air…up to the point… Up to the point…what? I suppose to the point they get the inflation they so desperately desire, or all hell breaks loose, whichever comes first.

And it is that doubt as to which will come first that motivates many of our clients to buy gold. They certainly hope that ‘all hell’ doesn’t break loose, but they are determined to be prepared and able to take care of themselves and their families if it does.

But what if the “ogre of deflation” ends up winning this epic battle? When you consider the absolutely massive amount of money printing that has already occurred, and that deflation is now seemingly the biggest concern of policymakers worldwide, you must conclude that this is one tough ogre.