Weekly Gold Market Update

Once again gold tested the $270.00 - $272.00 an ounce support level and then rallied sharply. By Thursday gold was $278.30 an ounce, up $7.20 from its August 23rd bottom. On that Thursday gold rose $4.40 an ounce on a day that stocks, bonds and even the dollar all rallied sharply despite the European Central Bank rate increase. On Friday the dollar reversed course, but gold declined $l.30 on less than one fifth of Thursday's volume, and closed at $277.00 an ounce, up $4.20 for the week.

These days currency relationships seem to depend importantly on presumed economic growth rather than on the quantity and quality of monetary reserves and the prudence with which nations manage their international balance of payments position. Thus, the weakness of the Euro when interest rates were raised just one week after the German business confidence index fell to its lowest level in eight months and one day before reports of:

• A decline of Euro zone industrial production
• The fourth month of a falling Euro purchasing managers index
• A rise in French unemployment

Producer prices in Euroland, however, have risen 5.8% during the past year and import prices are rising at double-digit rates. A continuation of these trends as commodities rise would be known as stagflation, which may be what a weak Euro is foretelling. The Euro also suffers from qualms about a lack of both sovereign controls and assured continuity as well as the monetary weakness of eager entrants at the Euro's door.

The report that accounting for stock options as an expense would have caused one quarter of the S&P 500 companies to report earnings declines of more than 10% last year was nonchalantly received. Speculative fever thrives. Other feverish symptoms include: The ABN Amro Banking Group Chairman's proclaimed goal to double earnings and market share in four years, presumably by assuming risks others would shun. Although margin debt declined in July, as a percentage of market value, it actually rose and is higher than just before the 1987 crash. Then there is the power industry where utilities and independents alike are spending more to buy existing power plants than to build new ones. Power shortages have developed even in the Pacific Northwest where the region's hydropower is being offered to the highest bidder.

The fruits of credit induced speculation include the comment by Moody's chief economist: "Credit deterioration in the most speculative area is getting uglier". In Japan the longevity of bitter fruits was typified Friday when after ten years of recession another failing construction company sought $4.5 billion of debt relief from a beleaguered banking system.

Economic signals in the U.S. have been decidedly mixed. Friday's weak employment report shifted the balance to the minus side. The dollar fell. The Federal Reserve may soon confront a dilemma similar to but of greater moment than the one confounding the ECB. The Fed's quandry is accentuated by America's huge current account deficit. After decades as a net creditor, the U.S. from 1985-1998 ran up $1 trillion of net debt, which likely will reach $2 trillion this year. Since it is speculative, flows that now mainly determine currency relationships a reduction of inflows, much less outflows, could devastate the dollar.

Chairman Greenspan recently noted that latent protectionist sentiment had only been suppressed by strong economic growth. He said: "Cyclically adjusted protectionism is on the rise." Perhaps that specter induced the Federal Reserve to commission a study by professors of The University of California and Harvard on the implications of an U.S. current account adjustment for the dollar. The study concluded that the dollar could fall quickly by 24% - 45% and "The Fed would face a painful trade-off between higher unemployment and greater dollar depreciation."

Twice in the twentieth century The Federal Reserve faced similar dilemmas. Both times the U.S. was a net creditor. Nevertheless, in each instance a 10% investment in gold would have salvaged a typical equity portfolio from the ensuing bear market.