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The Bullion Report

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December 1, 2010 in 'The Bullion Report'

War and PeaceWar and Peace

12-1-10

War and Peace


Precious metals are viewed as both currency and commodity, giving them a unique position on the global investment radar. Above many other tangible goods, they have a serious sensitivity to global events. Economic fears and inflation concerns can often light a fire under prices, but other global issues can also move prices. These issues include geopolitical tensions and conflicts. As certain countries flex their war muscles, let’s take a look at the potential impact on bullion.

 
Past performance is not indicative of future results.
***chart courtesy Gecko Software’s Track n’ Trade Pro

In ancient times, gold or some other hard currency was needed to raise and maintain an army. The costs associated with armed men included armor, training, food, as well as the salaries that battle-ready men needed to motivate their spirits. The armed nations could gather this gold from taxes or from pilfering conquered lands. In ancient Rome, even Caesar’s men were paid with the golden spoils of war. Conflicts throughout the European expansion into the New World can be marked by the hunger for precious metals, specifically the Spanish quest for gold in Central America. The same idea persisted in this time: gold was needed to pay for armies and armadas and fund the expansion and exploration of a sovereign nation.

Trade and wars with Asia periodically drained the western world of silver. During and after the two World Wars, precious metals went on wild rides as currency changes, issues over the gold standard, and rampant inflation in some countries all skewed the fundamental picture. Geopolitical tensions in modern times from the Soviet war in Afghanistan to the invasion of Kuwait and the Gulf war have in some way or another precipitated a reaction in gold prices. Conflicts associated with the war on terror are harder to link to gold prices effects since many of the situations, like that in Afghanistan, are ongoing. However, the initial fallout from the attacks on US soil appears marked by increased buying of precious metals.

Why should conflicts affect gold prices?

Fear can be an extraordinary motivator of prices. Recent trading around economic uncertainty shows how strong that motivator can be. Conflicts and war can cause just as many jitters, so it would be logical to conclude that fear of war can move prices too. Although many people consider great wars a thing of the past, even smaller conflicts have the opportunity to destabilize a nation and the overall economic situation. Basically, the effect of an internal or external conflict can be two-fold.

Wars still cost money, just like they did in ancient Rome. Armies need to be sustained and this can be an incredible drain on the resources of the nation at war. A spending boost is a potential underlying cause of inflation. Large amounts of borrowing or huge deficits can be the outcomes of war spending. Gold and other precious metals are viewed as a hedge against inflation. Therefore, a nation at war can inspire additional investment hedge demand for bullion. Currency weakness can also come from concerns over the outcome of the conflict.  Citizens may decide hoarding gold as a store of wealth is the best course of action when war appears on the horizon.

However, a rise in gold prices seen ahead of conflicts never seems guaranteed to sustain itself. In fact, there have been instances where gold lost significant value during wars. On a fundamental front, it may be argued that the threat of war or fear of tensions may build up investor interest in gold ahead of the actual event. A fantastic example of this kind of mentality actually played out in the Civil War Gold Hoax.

This hoax, according to the MuseumofHoaxes.com, was a publication of a false news story which said the Civil War was going to continue, contrary to widely held beliefs that Grant would soon be putting an end to things. The result - an initial purpose for the hoax – was to cause a spike in gold prices. The ruse worked, with shares on the New York Stock Exchange falling while gold values rose. The original perpetrator was sentenced for his deception, but the experiment appeared to prove his evaluation of investors was right: rumors of new or prolonged conflict can move prices.

Summary

Recent geopolitical tensions could have provided strong catalysts for gains in gold, silver and other commodity prices. From the war in Afghanistan to the perceived threats from places like Iran and North Korea, there still appears to be plenty of potential for conflict. The uncertainty of the global political situation seems to provide as much of a boost for gold prices as economic reasons. The unifying feature is investor demand for potential safety. It would seem apparent that no matter what factor would be pulling the rug out from under the investment world, there is still a strong predilection for people to turn to bullion until the matter has been sorted out. It might not sustain itself throughout the conflict, but any whisper of troubles can bring a spike in prices and another round of buyers. This is likely to persist whenever talk on the global frontier gets tough, despite other underlying fundamentals for supply and demand.

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"It is much better to have your gold in the hand than in the heart."- Thomas Fuller
 


Disclaimer: The prices of precious metals and physical commodities are unpredictable and volatile. There is a substantial degree of a risk of loss in all trading. Past performance is not indicative of future results.