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Gold - was Lenin right?
It was Vladimir Lenin, the distinguished Russian economist, who said the gold was just useful for lining the walls of lavatories. We were amused last week to read a report last week in the Philippine Daily Inquirer about a successful Chinese jeweller in Kowloon, Hong Kong who had taken old Vlad's advice literally and was hedging his bets between devotion to Lenin and his Buddhist religion. As an immigrant from inflation ravaged post-war China, he had installed a USD 3 million 24 karat toilet in his shop with gold plating on the floor and gold bars inlaid in the walls. He had also a USD 5 million 24 karat Buddha in the store.

Gold has had a 21 years bear market since it peaked in January 1980 at USD 850 a ounce at the end of the inflationary Nixon-Carter years. The inflation busting Paul Volcker had just been installed as head of the Federal Reserve Board. Last week it again reached the USD 255 low it touched in 1999 before the European Central Banks announced limits on their gold sales. But on 26 February it had bounced back to USD 266.

However, the Fed seems to have thrown inflation concerns to the wind in an attempt to arrest the fall in the US economy and place a fall under the stock market. The broad money supply M3 has been growing at over 15 percent annually for the last 3 months. The markets are anticipating another panic reduction in interest rates -the third this year - in March, perhaps as early as this week. This has never happened before.

Oil prices have tripled in the past two years, although they have been down slightly in the past few months. The US inflation indices are taking off again. Is this the beginning of a return of stagflation? We suspect it is.

Where does gold come into this since it is largely an irrelevance in the modern international financial system? The answer is two fold: one, the new Bush Administration is almost certainly going to be more flexible about the exchange value of the dollar; two, it may be more willing to allow gold to float freely, given allegations of manipulation by the Clinton Treasury.

The gold market has undoubtedly been massively depressed by forward selling by gold producers who have been forced into this by their bullion banks if they want fresh finance. The net result is that there is a huge short position in the market with derivative positions outstanding of several years' production. A change in psychology could lead to a substantial upward revaluation in gold as these shorts are covered.

The Howe/ GATA court cases allege, with impressive circumstantial evidence, that the Clinton Treasury and the Fed have intervened illegally in the gold market using the Exchange Stabilisation Fund. In March, Greenspan, Rubin, Summers and others will be forced to provide evidence in these cases as the "discovery" process begins. We believe that the Bush Treasury will be ultra careful moving forward to keep its distance from its predecessor Administration if there any question about their actions.

Gold could soon start an upward adjustment above USD 300 an ounce, perhaps as high as USD 400. Leveraged gold shares would boom in such an environment.

The gentleman in Kowloon may well have a smile on his face a year from now. Lenin has had his day. We prefer to side with the survivors of inflation rather than the perpetrators. It's time for that contrarian's bet. Gold stocks definitely look as if they have bottomed, and that old favourite American South African (ASA) on the New York seems a timely conservative play.

William R. Thomson                         27 February 2001
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