The Northern Miner,   Volume 90 Number 10, Apr 26 - May 2, 2004

Murenbeeld still bullish on gold

Growing debts will keep monetary policies relaxed

Gold guru Martin Murenbeeld of Victoria, B.C.-based M. Murenbeeld & Associates sees the price of gold continuing to appreciate in the coming years, powered in large part by governments' choosing to reflate their way out of debt.

Speaking at the recent convention of the Prospectors & Developers Association of Canada, in Toronto, Murenbeeld provided a counterpoint to a talk a day earlier that saw Barclays Capital gold analyst Kamal Naqvi neatly lay out the case for a bearish outlook on gold (T.N.M., April 9-15/04)

"We differ on some key points," said Murenbeeld. "I'm bullish on the gold price; gold should remain in an uptrend for at least several more years. Further out, with the baby boom retirement and its attendant costs, we could become even more bullish."

A year earlier at the PDAC, Murenbeeld showed his prowess in predicting the gold price: He foresaw an average price of US$364 per oz. for 2003, whereas it actually averaged just over US$363 per oz.

Murenbeeld believes that many of the factors and themes that went into last year's forecast remain with us today, and he divides them into two components:

q the supply-demand side of the gold market, which looks at gold as a commodity and includes the renewal of the Central Bank gold agreement, mine supply, plus producer hedging and dehedging; and

q the macro-economic side, which he said has become "the central, most-important theme in the gold market," and includes factors such as the strength of the U.S. dollar, money-supply growth (reflation), and government debt.

Of lesser importance, Murenbeeld said, is the recent renewal of the Central Bank gold-sales agreement, also known as the Washington Agreement, which set the new annual limit of selling by the signatories at 500 tonnes, up 100 tonnes from the previous agreement (T.N.M., March 26/04). The new 5-year agreement begins Sept. 27, 2004, and lasts five years.

While the market more or less discounted the renewal news before its official announcement, he said there were clear advantages to the new agreement, including: market transparency; the continued absence of uncertainty and fear of central bank gold sales; higher gold prices for official sales; and benefits for producing countries in Africa and elsewhere.

The European countries will still have 11,000 tonnes of gold left to sell in 2009, Murenbeeld noted, "meaning an endless series of agreements to come."

On the mine-production side, he said the outlook is "equally benign" and that it takes upwards of eight years for Western World mine output to respond to higher gold prices.

He remarked that a production decline has been "baked into the cake," as it were, as a result of weak gold prices in recent years, and that this decline augurs well for prices in the medium term.

"We're not particularly worried about some surge in supply over the next few years," said Murenbeeld.

De-hedging effects

Gold supply is also affected by producer hedging and de-hedging. According to Murenbeeld's model, for every 100 tonnes hedged or de-hedged, the gold price falls or rises, respectively, by about US$5 per oz.

Here, too, Murenbeeld sees a "constructive outlook" and suggests that the de-hedging of about 300 tonnes of gold annually in the future will add about US$13-15 per oz. to the yearly average gold price going forward.

While conceding that there will be gold loans every now and then in connection with new projects, Murenbeeld said "the days of heavy hedging are behind us."

He added that the "boost from de-hedging is really quite modest in the scheme of things -- hedgers didn't hurt the price of gold all that much, and now de-hedgers won't add to the price of gold all that much."

Murenbeeld noted that the significance of the U.S. dollar to gold is well-established, with a weaker dollar being positive for the U.S.-dollar price of gold. But he cautioned that the "gold market reacts to a thousand things, and it's ludicrous to expect one variable, charted against gold, to perfectly explain the ups and downs of gold. People try it, but I'm always skeptical when people have that philosopher's stone that says 'this is the variable.'"

Pointing to a chart of the U.S. dollar rising in the second half of the 1990s and starting to break down in 2001, he commented that the U.S. Administration does not normally like a strong dollar when domestic demand is weak. In other words, it does not like a significant percentage of domestic demand going into imports when there is under-used capacity and high unemployment at home.

Dollar decline

"The U.S. Administration has made it clear that it would like the dollar to decline against many Asian currencies, including the yen and the Chinese renminbi," said Murenbeeld, though he noted that, to date, the dollar's fall has come mostly at the expense of the Canadian dollar and the euro.

He suggested we might still be in the early-to-middle stages of a protracted U.S.-dollar decline. He placed particular emphasis on the fact that the U.S. current account deficit now sits at a record 5% of gross domestic product (GDP), and that the last time the dollar suffered a significant decline was in 1985-87, when the U.S. current account deficit exceeded 3% of GDP.

"In standard currency analysis, the current-account balance is an important and, in some cases, critical factor in the behaviour of a currency," said Murenbeeld. "Today, the current-account deficit has caught up with the U.S. dollar."

Since the current account deficit has been rising for some time, he said, the natural question to ask is, "why now?" and to arrive at an answer, one must consider the factors that contributed to the rise of the U.S. dollar.

He described the strengthening of the U.S. dollar in the early 1980s as being prompted by the election of Ronald Reagan and the adoption of a supply-side economic policy characterized by tax cuts.

"The world loved it, and the world poured money into the United States," said Murenbeeld. "That money-flow bid the dollar up to the point where the current-account balance naturally started to go into deficit and made the dollar uncompetitive from a trade point of view."

Later, in the period 1995-2000, there was a similar period during which foreign investors poured money into the U.S.:

"Wherever you went in the world, people were essentially doing a punt on the U.S.," he said. "But when that blows off, what you're left with is a humungous current-account deficit that just pours currency on to the foreign-exchange market, because of this big imbalance. And that starts to wear the currency down.

"To argue that the U.S. dollar has bottomed, you'd better give me an argument as to why you think the rest of the world is suddenly going to rediscover investments in the U.S. If you're not seeing this US$600-700 billion coming into the U.S. [per year] by private investors, not central banks, you have a tough case to make on the dollar going up."

Furthermore, Murenbeeld's modelling shows that it is difficult to get a significant decline in the U.S. current-account deficit -- even with a seriously devalued dollar -- if foreign economies do not grow faster than, and import more from, the U.S.

Reflation

Next, Murenbeeld turned his attention to reflation, which is a policy response to deflation that is intended to stimulate demand in order to stop prices from falling.

"This is what the world economy is grappling with at this time," he said, noting that the techniques used to reflate an economy include: rapid money-supply expansion; low or negative real-interest rates; fiscal stimulus through budget deficits; and currency devaluation.

"Almost every major economy is doing one, two, three or four of these things -- they're all trying to boost demand."

As Europe, Asia and North America pump up their respective money supplies to encourage more consumption and economic expansion, "some investors smell monetary debasement and turn to gold, while others smell future inflation, which has always been bullish for gold."

Monetary reflation is seen in the real, inflation-adjusted, short-term interest rates in the U.S., which are currently negative.

"The last time this happened was in 1993, and gold rose at that time as well," said Murenbeeld.

It's not clear when this period of reflation will end, he said, but an "analysis of debt problems suggests that reflation, in one form or another, will be around for many years to come -- this is where I could become a little gold-buggish."

Debt load

He pointed out that U.S.-government and household debt has reached a new high, after starting to rise significantly again in 2001.

While this rising debt has been instrumental in keeping the U.S. economy above water, he said, the total U.S. debt (government plus household plus corporate) has swelled to nearly 200% of GDP in recent quarters.

The last time debt levels were this high was during the Great Depression, when GDP contracted sharply.

"This is not what we should be doing at this time; we should be reducing debt," said Murenbeeld. "We are building huge debts today and, on top of that, we're going to have humungous debts going forward as we move into the great baby-boom retirement."

Citing Germany as an example, he said that country's net liabilities (gross liabilities minus government assets) in 2002 were about 50% of GDP. These liabilities are expected to rise four-fold over the next 25 years, to 216% of GDP in the year 2030.

In the U.S., net financial liabilities are expected to double over the next 25 years, and it could be worse if the U.S. government cannot control its budget deficit in coming years.

The question then becomes, "How are governments and households going to deal with this debt level?"

Among the options for governments are reneging on promises, boosting taxes, and raising the retirement age.

Households, in turn, would have less income for consumption, resulting in sub-par economic growth.

"What worries me, and what makes me bullish in the long term on gold, is that there will be significant pressure on the central banks to -- in the vernacular -- 'print money' to pay for these obligations. Historically, when governments have had to deal with war debts and such, they chose to 'print' and 'reflate.' The resultant inflation reduced the real value of debt."

He concluded: "Chances are, we will have to continue with very easy monetary policy as we go forward."

Murenbeeld sees an average gold price of US$428 per oz. for 2004, up dramatically from his previous prediction for the year of just US$380 per oz.

He said there are three possible scenarios: a base scenario (with a 55% probability) of gold averaging US$420 per oz. in 2004, and closing the year over US$430; a more bullish scenario (35% probability) of a US$470-per-oz. average; and a bearish scenario (10% probability) that has gold weakening slightly as the U.S. dollar strengthens.

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