Another unsettling week for markets has kept traders’ thoughts focused on the big themes haunting the international system, with an accompanying softish tone to Gulf stocks and fixed-income, particularly as Brent oil prices languish below $50 (Dh184) a barrel.
Unexpected devaluations of China’s renminbi on consecutive days spooked sentiment by betraying the weaknesses afflicting the leading locomotive of world growth and commodities in recent years — even if supposedly signifying another move away from a manipulated exchange rate (see box).
That’s against the backdrop of the US dollar already in firm territory ahead of much-vaunted monetary tightening, which imposes the likelihood of a tougher burden on borrowers globally through both currency translation and rate charge effects.
Scary stuff, then, on two counts for emerging markets especially. They have been used to financing themselves on rock-bottom terms, leveraged accordingly, while very exposed in many cases to the Asian behemoth’s massive call upon raw material exports and other business.
Gold investors were momentarily lifted by China’s news, with its implication of systemic financial stress and a revival of the currency war theme, whereby endangered economies seek in turn to recover a competitive edge.
Destructive strategy
At a time when the world economy and finances have been traumatised and continue to be stretched (as indicated by rising sovereign debt ratios still), many observers are aware that such beggar-thy-neighbour strategy can be hugely destructive.
Few need reminding that the depression of the 1930s related substantially to embattled countries importing others’ traumas in an uncontrolled vicious circle. In such loaded circumstances as now, the past benefits imparted of cheap Chinese manufactured goods tip disturbingly into future deflationary forces.
And we know how fearful of deflation are central banks and governments whose standard response to economic retrenchment since the credit crunch has been to inject liquidity, which seemingly has neither stimulated prices nor quantities a lot (in the potential split of outcomes), but instead mostly found its way into bank reserves and financial assets.
Safe-haven instinct
Gold is caught in the crossfire of two offsetting factors in this situation.
The repeated, progressive depreciation of mainstream currencies not only makes them less valuable on a policy-inspired basis, but also revives the safe-haven instinct supporting precious metals, as policymakers are perceived to have lost control.
Equally, the underlying condition which is frightening the authorities, by definition, is recessionary enough to deny gold its essential motivation thrust (besides not actually being remedied by artificial stimulus). Only if printing more and more paper — or simply selling repeatedly to achieve debasement — actually produced inflation, allied with growth, would gold sit up and take notice.
A few years ago investors speculated on this latter impact outweighing the former, fundamental challenge. Now they know the collective strategy hasn’t worked, and gold consequently has subsided in a clear indication of that policy failure.
As it is now, China’s wrestling with adversity could well be sufficient for the US to hold back on its pending rate hike. Again, that’s double-edged for gold, in diminishing the prospectively wider negative yield disadvantage on the one hand, but reflecting disillusioning global debility on the other.
For most observers, though, it remains hard to be convinced of the upside, unless any sense of crisis intensifies.
Recuperative dosage
Gold relies on officials either being conspicuously in a deep, degenerative mess or seriously overdoing an otherwise successful recuperative dosage. It’s not beyond possibility that the first of these could come into view at some point, though we’re not there yet.
Global policymakers, empowered and with populations to satisfy, naturally struggle to accept that throwing money around is not only (i) not the answer to the difficult long-term questions facing mature and heavily debt-laden economies, but (ii) may not even be helpful in the short term now either.
Which is why an increasing number of voices are wondering aloud whether a normalisation of (higher) interest rates is a necessary step back towards a healthier world economy, even as many others remain scared of what that could mean for fragile confidence.
As summer soon gives way to autumn, we may find again how we live in interesting times, and discover whether any chill in the air becomes pervasive across markets too, or whether instead this uneasy state of limbo will persist.
