Jan 27 (USAGOLD) -- Gold began the week with a convincing push above the $900 level. While prices have moderated slightly, global economic turmoil persists and is expected to remain a primary driving force behind the yellow metal.
We have now seen the first government collapse that is directly attributable to the global financial crisis. On Monday the Prime Minister of Iceland announced the resignation of the government. President Olafur Ragner asked that the outgoing government remain in place until a new government could be formed.
Over the past decade Iceland's economy became extremely reliant on financial services and banking, driven primarily by foreign investment. When global risk aversion took hold last year, the flow of investment dollars into Iceland dried up.
As the krona carry trade was unwound, the Icelandic currency tumbled. Since the island nation imports just about everything, the plummeting krona resulted in substantial inflation and erosion of the standard of living on the island.
The government reacted initially by raising interest rates in an effort to support the krona and fight inflation. The higher rates failed to override risk aversion, but succeeded in decimating economic growth.
Faced with a diminished standard of living and rising unemployment, the Icelandic people turned on the government and took to the streets. Rioting ensued and the demise of the government followed shortly thereafter.
One must wonder what other governments might be vulnerable. The UK economy is also extremely reliant on financial services. Economic growth has already been decimated.
Trading guru Jim Rogers said the other day that he thinks the British Pound could reach parity with the dollar. Sterling has already lost more than a third of its value against the buck since its Oct-08 high at 2.1160. A move to parity would suggest that cable could lose nearly another third of its value.
What would be the social implications of such a currency move? Could one reasonably expect inflation and a corresponding deterioration of the standard of living in the UK, much like we just saw in Iceland? The rather dismal outlook for sterling is unquestionably one of the reasons that we are consistently seeing new all-time highs in gold versus the pound.
And what of Europe? Civil unrest has already been seen around the periphery of the continent, in Eastern Europe and in Greece. EU leaders have expressed heightened concern and have proposed a summit in March to address rising tensions.
Dominique Strauss-Kahn, the head of the IMF, categorized the situation as "really, really serious." He added that tensions "may worsen in the coming months."
In his recent comments on the global economy, Jim Rogers also suggested that the euro won't be around in 20-years. I recall quite vividly the political and economic wrangling that occurred in Europe leading up to the adoption of the euro. If the EMU is ultimately dismantled, I can only imagine the chaos that would likely ensue.
It was just this past summer when everyone was talking about the likelihood that the euro would be the next global reserve currency. I haven't heard any such talk in quite some time and I think that the shift in sentiment goes a long way to explaining why gold has also been making new all-time highs against the euro.
It now seems that the Chinese yuan has about as much chance of becoming a reserve currency as the euro. In fact the Chinese have begun a trial program where international transactions are settled in yuan.
If the program gains transaction, it would be a negative event for the dollar. Treasury Secretary (nominee at the time) Timothy Geithner's inflammatory accusation that China was a currency manipulator may give the Chinese added incentive to push forward with yuan settlement.
The Chinese responded to Geithner's comments rather angrily, suggesting that the US was in fact the real currency manipulator. Given the huge monetary expansion going on in the US, I'd have to say that they've raised a valid point.
Jonathan Kosares and I discuss the implications of the heightened rhetoric and recriminations between the US in China in our latest VideoBrief, not the least of which was the rather sharp increase in the price of gold over the past week.
