A Melman Minute — October 31, 2011
| By | Leonard Melman |
|---|---|
| Date | October 31, 2011 |
Every so often, it would appear worthwhile to re-state our overall thinking on economic matters as they relate to both the precious and base metals. The present time period seems to qualify as especially important.
Simply presented, at The Melman Report, we believe the monetary precious metals – particularly gold – respond to fears of impending financial or currency devaluations crisis more than any other factors. With that in mind, we pay particular emphasis to such matters and, of late, the looming European financial crisis ranks highest on that list.
At the same time, we believe that the strongest influence on the price of the base metals plus those metals with both monetary and industrial applications such as platinum and palladium is the fundamental data relating to present and future supply and demand information. According to the most basic and widely accepted laws of economics, as data suggests a combination of rising demand and/either diminishing or static supply, prices tend to rise - and vice versa.
Relating to the European crisis, several noted financial journalists are asking the same questions we discussed late last week regarding the actual effectiveness and believability of the latest European financial rescue effort - and they are coming up with the same general answers. The plan appears to be seriously flawed.
Barron’s Magazine’s long-standing columnist Alan Abelson is a noted sceptic regarding the new plan. He first offers this pithy comment regarding his own personal disposition, “...to treat sceptically any bulletin from a cabal of politicos under pressure to come up with a credible solution to a long-festering problem.”, a scepticism we definitely share. After providing some details of the proposed plan, he suggests that, “...Even a cursory reading of the proposed package makes it evident that it contains a healthy lacing of fiction comingled with facts.” His last comment related to our chief concern when he wrote, “...Nor is it immediately clear where the mountain of dough to fatten up the bailout fund will come from.” (Our emphasis)
There is another problem with the package and that stems from the assumption that European economies are going to move forward into rapid expansion, allowing tax revenues to increase sharply and thereby, when combined with austerity measures to limit expenditures, help diminish future budgetary deficits and bring them back into line with European Community published standards. The one great problem is that such growth, in our opinion, rests on some very specious assumptions.
Financial writer Sudeep Reddy, writing in the Wall Street Journal, takes up that question. First, he points out the simple reality that, “...it (the rescue plan) won’t succeed without stronger economic growth.” He then has the temerity to point out the following thoughts which we believe are worthy of serious consideration by our readers.
“At the current pace of expansion, unemployment will stay high and incomes will stall. Debt-saddled governments will have an even tougher time generating revenue to pay bills. That could spark more default fears or higher interest rates in Greece, Italy and others under pressure...Projections for global growth have been falling...The 17-nation Euro zone, meanwhile, will flirt with recession in 2012 with projected growth slightly above zero.”
Regarding the possibility of a currency crisis, there is a serious growing problem facing the future of American Greenback and, therefore, is relevant regarding the future of the monetary precious metals.
We have been writing frequently of late about the sudden and dramatic decline in the “Foreign Holdings of U.S. Debt numbers.” For almost three months, that figure has been undergoing a sharp reversal from years of steady and rapid growth to sudden decline and last week’s numbers offered little comfort as the figure fell by yet another $11.505 billion to a total of under $3.4 trillion for the first time in months.
We believe that someone out there (China? Japan?) is looking forward into the future for the American economy and does not like what they see. Therefore, they are coming to the conclusion that American debt is becoming ever more risky and when that is combined with interest rate yields approaching “zero”, they are quietly and quickly beginning to unload such debt.
It is our belief that, should this trend continue, the world will begin to look at the Greenback as the major international currency at risk – rather than the Euro. That could lead to a falling American Dollar, resultant higher inflation, and ultimately force the Fed’s hands in the direction of higher interest rates to attract more Dollar investments. However, that latter course could put immense negative pressure on the American economy at the very moment when solid growth is necessary to increase federal revenues to help balance the unwieldy American budget.
Within the same cluster of reports, we noticed one other figure which we believe holds negative implications for the U.S. economy-at-large. We are referring to the “Business Inventories” numbers.
The raw numbers give us much to think about. One year ago, ‘Business Inventories’ amounted to $1.390 trillion but last weekend’s total surged to $1.536 trillion – a whopping gain of $146 billion – or almost eleven percent – during the past year. Our interpretation of this surge is that retailers began to believe all the optimistic reports about rapid improvement in economic activity, particularly along the retail consumer front and so, anticipating a rapid pick-up in retail sales, they built up their merchandise inventories.
However, it is apparent that those gains failed to materialize and, in fact, the Retail Sales component of America’s economy grew during the past year at a rate of only six percent, far below the rate of inventory accumulation and it appears the outlook for future retail sales growth is questionable at best. In fact, word is spreading that retailers are already anticipating a slow Christmas sales season and are prepared to discount prices sharply in order to move excessive levels of merchandise in inventory.
If that is the way matters indeed play out, it would appear that manufacturers’ order books for the first quarter or two of 2012 may be somewhat less than inspiring, to put things mildly, and that could put at risk many of the current Administration’s optimistic economic projections.
One other area of America and other nations’ economic activity which raises doubts about any sustainable rapid economic expansion is their domestic housing industry. Despite the Fed using every weapon in its arsenal, the picture for residential real estate appears bleak and that supposition would appear to be confirmed by price performance in the commodity market for lumber. If the combination of low interest rates, job stimulus programs, upbeat economic forecasts for GDP growth and loosening of mortgage requirements were having their anticipated effects of stimulating new home purchases, we should see lumber prices surging – but the price for lumber shows that is not the case.
Also, if home building was ready to surge, appliance manufacturers would be hiring in anticipation of strong growth in appliance demand for new homes, but appliance manufacturer Whirlpool, for example, just announced a planned cut of 5,000 jobs in its North American workforce.
Given these considerations which appear to point toward continued uncertainty in the monetary world and a relatively slow growth in economic activity, we believe the monetary precious metals offer a higher probability of significant price increases over the coming year than the base metals.
We shall see.
As of 9:00AM PDT, financial markets have headed lower with the Dow Industrials down by more than 150 points while Canada’s TSX is off by about 125. Precious metals sold sharply overnight, but have recove3red somewhat with gold now trading just under $1,730 while silver is close to $34.50 per ounce. Base metals are sharply lower on balance and mining share indexes have fallen by an average of about two percent.
In other morning markets, crude oil is down by $1.00 per barrel; the US Dollar is considerably stronger in currency markets; and long-term interest rates are trending lower.