The topic of gold price suppression has been an intensely controversial idea, but because it carries sufficient ramifications for the financial world, investors need to consider the matter without jumping to a rash conclusion.
As gold's trailing price performance has been strong, it may seem counterintuitive to consider that an unhindered market could have already hit substantially higher prices. But I want Fools to understand that a large and growing number of economists, analysts, and investors are reaching those very conclusions.
Whatever you think about gold, there can be no doubt that gold has dramatically re-asserted its immutable role within the global financial realm over the past decade. Former Fed chairman Alan Greenspan conceded in 2009 that "gold still holds reign over the financial system as the ultimate source of payment." The world experimented with moving away from gold beginning in 1971 with the "Nixon Shock," but extremely poor stewardship of the key paper currencies has ushered gold back as the sole currency immune to the ravages of obscene debt and competitive devaluation. On that point, the case is quite simply closed.
The question remains, however, whether Western central banks may be intervening in the gold market to mitigate or delay the appreciation of gold against their troubled paper currencies.
The incentive to do so is quite clear, since nothing less than the very survival of the present global currency regime is at stake. As a recent report by QB Asset Management asserts, banks "short gold futures because they have incentive to sustain the current monetary system and maintain control over credit distribution."
A 2009 diplomatic cable from the U.S. Embassy in Beijing to the U.S. State Department -- recently made public by WikiLeaks -- summarized Chinese media as follows:
The U.S. and Europe have always suppressed the rising price of gold. They intend to weaken gold's function as an international reserve currency. They don't want to see other countries turning to gold reserves instead of the U.S. dollar or euro. Therefore, suppressing the price of gold is very beneficial for the U.S. in maintaining the U.S. dollar's role as the international reserve currency.
The historical perspective
The idea of central banks working together to suppress the price of gold hasn't come out of thin air. To the contrary, the world's major central banks orchestrated just such a suppression scheme during the 1960s -- only its existence was no secret. From 1961 to 1968, eight central banks operated the London Gold Pool in order to keep the gold price pegged at $35 per ounce; the United States provided roughly half of the needed supply of gold to conduct their market interventions. This fascinating example offers a powerful precedent for the sort of surreptitious activity many gold market observers now allege.
In 2004, Japanese periodical The Nikkei Weekly printed former Fed chairman Paul Volcker's fascinating recollection of a global currency intervention led by the United States in February 1973. At the time, Volcker served as undersecretary of the Treasury for international monetary affairs. Volcker recalls:
That day the U.S. announced that the dollar would be devalued by 10 percent. By switching the yen to a floating exchange rate, the Japanese currency appreciated, and a sufficient realignment in exchange rates was realized. Joint intervention in gold sales to prevent a steep rise in the price of gold, however, was not undertaken. That was a mistake.
Gold price suppression in action?
I have already pointed out that gold is one of the least transparent markets on the planet, offering ample opportunity for surreptitious intervention be obscured from public view. Instead of witnessing the action, onlookers must instead settle with scrutinizing market dynamics for signs of potential foul play. In the eyes of the gold market's many seasoned and highly credible observers, the sharp selloffs that occurred immediately prior to and following Switzerland's major currency intervention last week smacks of central-bank intervention in action.
By establishing an artificial floor of 1.20 in the euro/Swiss franc exchange rate, Switzerland effectively sought to remove its currency from the short list of safe-haven currencies that investors and speculators have been flocking to in droves. Logically speaking, the news is immensely bullish for gold, since gold essentially becomes the primary safe-haven asset left standing. However, noting gold's sudden and uncanny drop within hours of Switzerland's announcement, Hinde Capital CEO Ben Davies pronounced: "The central banks will all have been in on knowing ahead of time that the Swiss were going to announce this. So there was central bank selling because they really didn't want the price of gold to skyrocket on what is incredibly bullish news for gold."
Precious-metals trader Dan Norcini noted that 4,000 gold contracts -- representing about $740 million worth of (virtual) gold bullion -- changed hands on the COMEX within just one minute last Tuesday evening. Norcini added: "If it is not obvious by now, it should be -- an attempt by the Central Banks of the West to derail the rise in the gold price is currently underway."
After observing gold's surprising price action, Goldman Sachs' head gold trader Zak Dhabalia reportedly commented:
The immediate aftermath was in complete contradiction to prior recent episodes of intervention and what anyone would have expected. Instead of spurring a further gold price rally on the basis that it was one of the few remaining safe haven "currencies" we saw a 50 usd collapse in minutes. The source of this flow seems hard to pin down with some speculating over whether "authorities" were concerned about the signals of an accelerating gold price and its impact on other fragile markets.
When the head gold trader at Goldman Sachs is sufficiently perplexed by recent gold market dynamics as to reference the possible concern of "authorities" over the signals inherent in gold's advance, that tells me it's time for investors to take this issue seriously and conduct their own due diligence on the matter. The Gold Anti-Trust Action Committee has amassed reams of documentation to support its longstanding claim that central banks regularly intervene to suppress the price of gold -- even taking the U.S. Federal Reserve to court -- and I encourage Fools to take an open-minded and comprehensive look.
What this means for you
My conservative price target of $2,000 gold that I set out for myself and my readers several years ago was never predicated on the assumption that gold price suffers from coordinated suppression by Western central banks. But if there is such a presence in the gold market attempting to derail or delay gold's upward price momentum -- and at the very least, the circumstantial evidence creates a powerfully compelling case -- then I would hasten to suggest that such currency intervention is likely to end in outright failure.
John Embry, chief investment strategist for Sprott Asset Management, recently declared: "The Chinese have a very good understanding of what’s been going on in the gold market, as the Russians have for a long time. The Chinese know full well that the Western central banks have been suppressing the price." If that's true, then Fools can expect manipulation of leveraged paper vehicles representing gold to result in actual physical supply flowing to demand hotspots like China and India until physical gold becomes too scarce to perpetuate such a leveraged house of cards.
I intend to raise my long-term price target for gold once my $2,000 target is breached, but even my subsequent forecast will prove grossly conservative if a scheme to suppress gold prices is confirmed as incontrovertible fact or is defeated by the market (or both). I believe investors are still wise to seek direct exposure to physical gold through trusted bullion proxies like Central GoldTrust (AMEX: GTU ) or Central Fund of Canada (AMEX: CEF ) . I think Goldcorp (NYSE: GG ) offers some of the cheapest available exposure to massive physical gold supply, and Freeport-McMoRan Copper & Gold (NYSE: FCX ) also commands attention, as its share price has retreated notably this year. Small-cap miner Brigus Gold (AMEX: BRD ) is forging a remarkable turnaround story, and my top pick for 2011 AuRico Gold (NYSE: AUQ ) continues to execute a gorgeous growth strategy with the recently announced acquisition of Northgate Minerals (AMEX: NXG ) .
I'm not recommending that Fools alter their gold investment strategies to account for their own view of whether coordinated gold price suppression occurs. All I seek is an honest public discussion of this high-stakes issue within the broader topic of gold's crucial monetary role within the global financial system. Please get the discussion started by voting in our Motley Fool Poll, and share your thoughts and questions in the comments section below.