Gold is part of the new economic order

Alasdair Macleod – 3 November 2010

One thing is certain: gold is not part of the old economic order, which is comprised of the US, UK, Euroland, and Japan. The new economic order is different, embodied in the Shanghai Co-operation Organisation (SCO) with its members, observer states and affiliate nations. Those interested in the future course of precious metal and commodity prices should take the trouble to understand the significance of the SCO. The SCO is already driving prices in commodity markets, and this transfer of power from the old to the new economic order is of tectonic magnitude, but the pace is far from tectonic, more like volcanic.

The driving forces behind the SCO are China and Russia, both large gold producers. Gold will have a role in the SCO, but what it is has yet to be disclosed. However, we do know that the SCO’s other participants are also buyers of gold. Their actions are either freakish coincidence, or there is a hidden agenda to include gold in the SCO’s new financial order. This point was rammed home this week when Iran announced it had also accumulated gold, indicating the quantity to be about 340 tonnes.

I have written about the SCO before, and the link is here. Iran and India are just two of the nations that have observer status and attend the SCO meetings. They are privy to discussions and strategic planning, including plans to defend its members from the old economic order’s ongoing financial crisis. This is why we should regard Iran’s gold purchases as an important signal and why we may be mistaken to dismiss India’s purchase from the IMF as just opportunistic. The gold purchases of the SCO’s participants follow a clear pattern and look like an early indication of an emerging new financial, as well as economic order.

The reasons why the SCO’s participants are adding to their gold holdings should also be considered in the light of the West’s continuing and possibly deepening financial crisis. China, for example, has ended up being exposed as the largest single holder of US dollars and debt, having accumulated this position through currency intervention. To the extent that this is regarded as the price of a successful economic plan, China’s dollars are therefore expendable: the value of the dollar has been important for fixing terms of trade, but not as a store of value in China’s foreign reserves. Put yet another way, if you value precious metals and important commodities, you will not regard dollars as your store of value.

The same must apply to other paper currencies, which explains why China’s flirtation with the euro was brief. And not only is China adding to her own gold reserves, she is also happy for her people to buy gold and silver. Russia hoards all the gold she mines. The other SCO members are acquiring gold, admittedly in smaller amounts, or have ample stocks in the ground. The message is clear: the long-term success and stability of the SCO will be based on sound money, or at least money more sound than the fiat currencies of the West. And this being so, it makes sense to place a lower value on trade with the West, because the West pays for goods by just printing the money. It has become more important for SCO participants to use worthless dollars to position themselves for the future than continue to finance the West’s profligacy. This is why the SCO is the future for Asia and promises to become the biggest economic bloc ever seen.

Reading the English version of the Bishkek Treaty of 2007 one is struck how similar many of the objectives are to those of the Treaty of Paris in 1951, which marked the founding of the European Coal and Steel Community. The crucial difference is the SCO does not seek long-term political unification, but the co-ordination of common security and economic development. This means that laws will continue to be decided at national level, so the over-regulation and central bureaucracy that emasculates business in the EU and America should be avoided.

The SCO’s structure is therefore less political and more flexible. This is how China will co-exist with India, India with Pakistan and Russia with her former stans. It is intended to defuse the border disputes of the past by allowing common interests to overtake them. The SCO will represent about half the world’s population, the largest grouping imaginable, making Europe and America look like two-bit players.

So where does this leave the old economic order with respect to the new? If we think we have financial leverage with all those dollars and Treasuries owned by Asians, it is more limited than we think. Furthermore, forget the idea that China will protect her dollar interests by buying more Treasuries: her dollars are more likely to be spent on natural resources and precious metals. If we think China is dependant on trade with the West, any such dependency is limited and temporary, since China sees the West as merely a stepping-stone into her own economic block: the SCO. If we think China is dependant on the West’s financial system, she has her own plans to extricate herself.

This new economic order’s official languages are Chinese and Russian, and it is these two nations who dominate the SCO. Both are major gold producing nations, and both can see how the West’s fiat currencies are destined for collapse. Between them, they are resource-rich. Russia is second only to Saudi Arabia as an oil producer, and thanks to the post-communist liberation of her economy, she has surplus grains and timber.

Russia, under Putin and Medvedev, is now strong again. She learned the lesson of the risks of taking salt with the West’s financial system in the crisis of 1998. Since then, she has become progressively more independent from the West’s financial troubles, and presumably will wish to keep it that way. All her future alliances will be on her own continent and under her own control, which is why the SCO is important to her. She naturally turns to China to protect herself from the West; a tendency enhanced by China’s own economic prospects relative to those of the old capitalist economies.

As the old economic order collapses, the SCO’s observer and affiliate states will apply for full membership, and others will soon be knocking on the door. Will they include Turkey, who has been continually denied membership of the Christian EU? Will they include some of the Central European states, who have tasted EU regulation and bureaucracy? Will they include Afghanistan, Iraq, or even Saudi Arabia, disillusioned by worthless dollars and American imperialism?

Time will tell; but the attractions of a supranational SCO seem certain to include a sounder currency than the dollar, euro, pound or yen; if only because all SCO parties are accumulating gold. Those of us who myopically think gold has run too high too fast and are praying for a buying opportunity on a pull-back, should not forget that there are six SCO member states, four observer nations, and two dialogue partners also buying the dips. And if Iran is telling the truth about its purchases, they are clearing Western markets out of the physical.

So if you want to buy a stake in the new economic order, while shorting the old, buy gold.

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Alasdair started his career as a stockbroker in 1970 on the London Stock Exchange. In those days, trainees learned everything: from making the tea, to corporate finance, to evaluating and dealing in equities and bonds. They learned rapidly through experience about things as diverse as mining shares and general economics. It was excellent training, and within nine years Alasdair had risen to become senior partner of his firm. Subsequently, Alasdair held positions at director level in investment management, and worked as a mutual fund manager. He also worked at a bank in Guernsey as an executive director. For most of his 40 years in the finance industry, Alasdair has been de-mystifying macro-economic events for his investing clients. The accumulation of this experience has convinced him that unsound monetary policies are the most destructive weapon governments use against the common man. Accordingly, his mission is to educate and inform the public in layman’s terms what governments do with money and how to protect themselves from the consequences.

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