Three Dominant Factors Will Impact Gold, Silver and Platinum in 2011:
As we near the end of the first quarter of 2011, the potential for a widening of the uprisings in North Africa and the Middle East has pushed oil prices past the $100 mark. Long before the riots began, commodity prices had risen to uncomfortable levels, having soared over 30 percent in a matter of months.
Currency creation by emerging market central banks was, and is, a major factor behind the rise in oil prices. Egypt’s M2 money supply, for example, rose 13.3 percent during 2010, while China’s M2 money supply increased by 17 percent and India’s M3 money supply increased by 15 percent. When currency creation outpaces GDP growth, too many artificially created rupees and yuan and pounds and euros chase too few goods, and price inflation results (Figure 1).
In an economy largely propped up by quantitative easing and money supply expansion, three dominant factors are likely to impact gold and precious metals prices in 2011. They are:
1. Movement away from currencies;
2. Central bank buying;
Outlook for Precious Metals
Gold, silver and platinum prices will continue to rise, driven by a shift away from depreciating paper currencies and massive economic growth in China, the world’s second-largest economy.
Despite rising prices, overall demand for gold is expected to remain strong in 2011, building on 9 percent growth in 2010, its highest rate in a decade (Figure 8). Investment demand for gold is soaring, and investment in physical bars surged 56 percent over the past year to reach 713 tonnes. In recent years the Chinese government has actively encouraged its 1.3 billion citizens to put a portion of their savings into silver and gold.
China and India are major demand drivers, accounting for over half of world demand for jewellery, bars and coins. China is poised to overtake India as the world's largest consumer of gold, thanks in part to strong economic growth, but also due to the government’s gold-centric policies. Since 2003, China has more than doubled its official gold reserves, yet even today, gold accounts for only 1.6 percent of the total reserves held by the People’s Bank of China, China’s equivalent of the US Federal Reserve. Chinese officials are on record as saying that the country needs to raise its gold reserves, which are considered “inadequate” compared with the 8,133 tonnes held by the US and 3,408 tons by Germany. Given the size and scope of China’s central bank, this bodes well for future gold demand.
India continues to be the largest market for gold, accounting for approximately 20 percent of world demand. India’s gold imports surged to 800 metric tonnes in 2010 (compared with 557 tons in 2009) driven mainly by investment demand. Indian consumers see gold as a store of value and protection against inflation, which has been surging over the past several years. Indian investment is traditionally in the form of jewellery as opposed to gold bars. Jewellery demand rose 67 percent year in 2010, despite rising prices. Gold demand in India has increased 13 percent per year, on average, during the past decade, outpacing the country’s real GDP, inflation and population growth by 6 percent, 8 percent and 12 percent respectively.
Currently, Indians own roughly 18,000 tonnes of aboveground gold, or approximately half an ounce of gold per person. This is significantly below consumption in Western markets. Since incomes and wealth continue to rise in India, there is plenty of scope for additional future growth. Gold has already surged to new highs in 2011.
Outlook for Silver
Like gold, silver has been money for thousands of years, and was used as ordinary coinage in both Canada and the US until 1965. Recognized for its unique attributes as both a monetary and industrial asset, silver is both a safe haven in the event the economy regresses and a scarce commodity that will soar if the economy enters an inflationary boom. Despite its recent price rise, silver remains undervalued compared to gold, and the recent “backwardation” in the price of silver reinforces this view. Backwardation occurs when the current or spot price is higher than the price for future delivery, clearly indicating that there is a silver shortage, since demand is greatly outpacing the ability of dealers to deliver.
Many factors are pushing silver prices higher today: falling currencies are raising the likelihood of spiralling inflation; new hightech applications are increasing industrial demand; rising energy costs are pushing production costs higher; and China, India and other developing economies are ramping up their silver purchases for industrial and investment purposes.
The supply/demand characteristics for silver are even more attractive than for gold. For many years, the governments of India, China and Russia have been selling off their stockpiles of silver, but now these countries have curtailed sales. Silver shortages are the most likely reason. Globally, demand from the developed world combined with accelerating demand from the emerging world should continue to stretch the limits of supply.
While it is true that silver is ten times more abundant than gold, silver has been in supply deficit for many years because much of it is consumed. Although silver is a critical component in a vast number of industrial and high-tech applications, the amount of silver consumed in each application is generally so small as to make recovery economically unviable. In addition, investment demand is likely understated. China, the world’s third-largest producer of silver, imported four times as much silver in 2010 than the previous year, and demand shows no signs of abating in 2011. Meanwhile, escalating drug wars in Mexico are threatening to choke off silver production from the world’s second-largest producer.
Silver may finally be ready to jettison its title as the “poor man’s gold”. Regardless of how well or how poorly undamentals are clearly in silver’s favour. If the economy shows signs of recovery, industrial and monetary demand will push prices higher, and if the economy continues to stagnate or decline, silver will remain firmly in demand as a store of value. The price of silver, like gold, is simply mirroring the disarray in the global monetary system. How long can silver prices keep going up? As long can monetary authorities keep printing currencies at breakneck speed.
Growing Competition for the World’s Gold
The three long-term trends we noted above will have consequences for years to come, especially in the developed world. The cost of supporting aging populations whose income is destined to flatten or decrease can only create a drag on economic growth. Meanwhile, the ongoing outsourcing of jobs, including skilled labour, will further hollow out already fragile Western economies. Finally, the end of cheap oil will create tremendous unpredictability and price uncertainty, creating exogenous price shocks that will drive food prices to unprecedented levels.
As we enter 2011, there is little indication that global governments are any closer to getting their fiscal and monetary houses in order. The US in particular remains on a spending path of a size and intensity never before witnessed in human history. As investors lose confidence in currencies, the world's appetite for the relatively small amount of available gold will increase.
As a direct result of worldwide debt and currency debasement, more people will be competing for the world’s available gold, yet fewer and fewer new deposits are being found. Smaller, lower grade deposits with none of the “economy of scale” benefits of larger deposits are being put into production out of desperation. Mine supply has been in a deficit since 2005.
The Future of Precious Metals
Based on current economic factors, we expect gold prices will end the year somewhere between $1,700 and $2,000 per ounce. Silver and platinum prices will experience similar growth based on investor demand.
As safe haven demand accelerates, there will be a transition from the $200 trillion financial asset market to the $3 trillion aboveground gold bullion market. Of the $3 trillion aboveground gold bullion, about half is owned by central banks and half is privately held. (Figure 12)