Saturday, November 29, 2008

USD's last gasp - implications for India

Like a drowning fellow, who is unable to swim against the tide, catching breath of stay alive as long as possible is one of the ways to extend the critical last moments. USD's resurgence after July 15,2008 is somewhat similar.

Historically, after the gold standard was done away with, USD has been the gold standard for the world. The reason was the sheer dominance & impact of US on global trade and the fiscal and monetary aspects of the trading partners. USD was thus de-facto currency to have of you wanted to trade at global scale, thus fueled the demand for the USD.

However, such is the nature of man-he digs his own grave knowingly. US Fed - helicpoter Ben and along with the Treasury secretary Hank Paulson have shown to the world, they are ready to reinflate the system at all costs. It is but natural, that anything thrown into the market more than what the demand is, leads to reduction in the value of that object. The same is going to happen to USD in the coming months. USD is on a precipice waiting to take a dip into the abyss.

There are two options with Fed, ahead.*
1] Because of the huge influx of USD into the system, US Fed will have to accept that down the road; US would have to deal with huge inflationary pressures in the economy.
2] US Fed instead of letting free market system, letting it devalue USD in a cruel, fast & furious way, handles the devaluation systematically to avoid serious consequences of free market reaction.

Thus, what does it mean for a country like India?
Take a look at our RBI annual report 2007-08, released on the web on August 2008.

As of on June 2008, RBI had gold reserves amounting to 9BN USD (valued at market price).
Assuming that the average market price at that point in June was USD900/ ounce, this amounts to a gold holding - 283 tonnes or 10,000,000 ounces.
FOREX assets were USD302Bn, majority of which are in USD. Out of total USD312Bn of total FOREX reserves, having just USD9Bn worth of gold, is sheer madness.

You can go and check the details at

Never, before in the last 100 years has the world faced economic headwinds of such staggering effects as we have seen in the last 1 year, and would keep on seeing ahead for atleast 1 year or so. Currencies globally are in turmoil with only Yen and USD strengthening due to factors out of the scope of discussion of this post.

Now due to the reasons cited above*, USD is going to be devalued either way, drastically in the coming years. So much so that there is a talk of a new currency replacing USD, called Amero by the last years of Obama administration.

Thus having majority of the FOREX reserves in foreign currency, and that too predominantly in USD is harakiri.
The reason, why i cited the gold holdings above is: in this age of high volatility and uncertainty, gold is one of the assets that has surpassed ages preserving its status as safe haven investment in troubled times. Chinese, having surpassed Japan as the biggest holders of UST bonds, have announced that they will start to diversify their FOREX reserves into gold, and want to take their present gold reserves of 600tonnes to 4000 tonnes. Check out one of the several news articles at link

May be they know something, we dont, because lets accept the fact that they are far more superior businessmen than we are.

As of today, i have not come across any news article stating that RBI intends to increase its gold holding in the near term. Hence, as the USD would go down, Rupee would have serious implications for it, to preserve the trade across the major trading partners, are we going to devalue Re along major currencies. Since no currency has yet emerged as the replacement for USD as global reserve currency, I assume that other world currencies too would have to take the bait.

Incase, Re devalues, then we as citizens of India are going to see a loss of purchasing power over the years. Hard assets will be the investments rising in this scenario going ahead.
Thus as a safe way to retain, even enhance your purchasing power over the next 3-5 years, i would suggest you hold some share of your investments in physical gold only.

And there is a sweatner too.
We are hearing (as mentioned above) from experts a new monetary system. A possibility to returning to gold standard is also being mentioned.

US right now has official gold reserves 8100 tonnes.
Fed balance sheet size is USD2trillion.

Thus if the world would go to the gold standard, all the balance sheet of Fed would have to be backed by the gold holdings they have, thus valuing gold @ a staggering $7000/ ounce.

Against this, in India the gold prices would shoot up to Rs 12lakh for an ounce with the balance sheet at Rs 14.6 trillion and gold holdings of roughly 283 tonnes.

Now the balance sheet size of RBI in 2007-08, rose by a staggering 46% to Rs14.6 trillion.

Going ahead, for you as citizens living in India, buying physical gold might be the way to new found riches in a new age that lies ahead of us.

With that I am finished for the day.

No comments: