Your money’s no good here

Gold prices hit record highs of $1,594 (£988) an ounce this week. But before you grab your tomfoolery and put it in a Cash 4 Gold bag; ask yourself, do you really want to get a load of old bumwad in return for the only thing in this crazy world that has retained economic value?

The current rise in gold prices has been attributed to investors seeking certainty in the face of some very bad news from the Eurozone and the US. But don’t just take my word for it; I’m only a mouthy roofer after all.

Ambrose Pritchard Evans of the Daily Telegraph reported that chairman of the Federal Reserve Ben Bernanke “was grilled by Congress this week on the role of gold. Why do people by gold? ‘As protection against of what we call tail risks: really, really bad outcomes,’ he replied.”

And if you’re directing the currency reserve strategy of a country that doesn’t want to buy dollars or euro right now, then there’s nowhere to go but gold.

The US is apparently within a fortnight of defaulting while Europe is mired in its own debt crisis.

Aside from the fact that the US economy just isn’t creating enough jobs right now, the boys on Capitol Hill are playing politics and poker with the nation’s credit rating.

The US must reach agreement on increasing the federal government's debt ceiling to $16.7 trillion (£10.4 trillion) before August 2. Liam Halligan (again in the Daily Telegraph) presented the stark choices that could face POTUS Obama if the Democrats and Republicans don’t get their act together:  “The US may be unable to raise the finance it needs to honour its obligations, which could see the government having to choose between refusing interest payments to the Chinese or stopping US welfare cheques.”

And of course China is extremely mindful of this potentially unappetising choice, particularly after Moody’s this week warned that it might cut its top rating for the United States, citing a “rising possibility” that no deal would be reached before the Federal government’s borrowing authority ran out on Aug. 2.  

That’s probably why the Chinese felt so entitled to offer the squabbling politicians some helpful advice. The New York Times reckons that “China holds more than $1 trillion in United States Treasury securities, making it highly sensitive to any developments that could lower the value of those holdings.”

“We hope that the U.S. government adopts responsible policies and measures to guarantee the interests of investors,” said Hong Lei, a foreign ministry spokesman, when questioned  about the Moody’s report.

Back in the old world, the Greek economy is still stumbling about like a baby giraffe and news that even in a very toothless stress test, there were still about two dozen banks out of 90 surveyed that were either at risk of failure or on the critical list.

This is how the New York Times reported it: “European regulators said 8 of 90 banks whose tests were disclosed had failed the so-called stress tests, a vast data-crunching exercise designed to expose risk and restore confidence in the overall health of the European financial system. A ninth bank, Helaba of Germany, would have failed but refused to disclose its data. An additional 16 passed narrowly, and will be asked to take steps to “promptly” increase their resilience, for example by raising more capital, the regulators said.”

Naturally enough, the banking community’s analysts queued up to discredit the stress test and there were some valid criticisms. The biggest indictment of the EBA’s stress test was that it didn’t envisage the failure or default of a European nation as a likely test scenario.

Worryingly, the other major systemic risk that stress testing didn’t assess is exactly which banks are underwriting credit-default swaps on debt from Greece, and would face huge liabilities if Greece cannot pay.

So, is it any wonder that there is a flight to quality in the face of such financial uncertainty?

The BRIC countries (Brazil, Russia, India and China) and the oil rich Middle Eastern economies have been building up euro reserves for about ten years as a way of diversifying their reserve currency exposure. But now this no longer seems like such a good idea. 

According to Pritchard Evans: “Xia Bin, an adviser to China's central bank, said in June that the country's reserve strategy needs an ‘urgent’ overhaul. Instead of buying paper IOU's from a prostrate West, China should invest in strategic assets and accumulate gold by ‘buying the dips’.”