Race to Devaluation, Will GOLD win?

Posted On Monday, Mar 23, 2009


The Central Bank of Switzerland, the Swiss National Bank (SNB) undertook drastic steps in this month to fight an appreciating currency and an impending deflation. They cut interest rates close to zero levels and intervened in the currency markets to weaken the Swiss franc, as it forecast a deeper recession. This is the first time the SNB has intervened in the currency market in last 14 years.

As the Swiss Franc appreciated by 13% (v/s Euro) since September 2008, the SNB considered such a large appreciation being detrimental to its export growth and thus to its overall economy. This dramatic move of rate cuts and devaluing its own currency was also to stimulate demand to prevent the Swiss economy from falling into a deflationary trap. Moreover the Swiss Franc appreciation was also negating the impact of lower interest rates on the Swiss economy.

As the global scenario deteriorated, investors bought the Swiss Franc (the traditional safe haven currency), to prevent wealth erosion. Since September 2008, after Lehman went bust, the Swiss franc had gained more than 13 percent on the Euro. This made Swiss exports more expensive during the current economic downturn, particularly to its main trading partners in the euro zone, at a time when the industry was already witnessing a severe contraction.

Chart: Swiss Franc - Euro Exchange rate

Swiss Franc - Euro Exchange rate
Source: Bloomberg

The Swiss franc has always been regarded by investors as a safe and steady currency. But after the recent intervention by the SNB and subsequent weakness in the Swiss Franc, that faith has been shaken. .The investors are now questioning "Where is the safety that we were seeking"? As the Swiss Franc started falling GOLD gained quickly, being the only alternative safe haven that investors can rely on. Thankfully unlike paper currencies, more and more Gold cannot be printed by the Central Banks.

The SNB now moves towards a "massive quantitative easing" program, thus joining the other central banks globally including US & UK. Countries around the world that are faced with the constraint of zero interest rate levels, might feel that the Swiss National Bank’s move to weaken the currency in order to support the economy is acceptable. It is widely feared that other export-dependent economies might soon follow the footsteps of Swiss central bank in trying to revive their economies. Japan would probably be at the "head of the queue" being an export oriented economy. Russia is one of the few other nations to have weakened its currency in the current financial crisis.

Chart: Gold in various Currencies

Gold in various Currencies
Source: Bloomberg

All in all, it apparently seems that there does exist a race between countries to devalue their own currency to boost their respective economies. All central bankers are adopting quantitative easing measures like intervening in currency markets to devalue their currency or printing more money to buy government bonds as an easy solution to this unprecedented crisis. Nothing is, so far, showing any signs of making its way through.

In the Global race to Devaluation of Currencies, will Gold emerge as a winner, being a proxy currency, without even taking part in the race?

Gold seems to be the only solution to protect our wealth from erosion as this economic debacle prevails and the central bankers run their currency "printing presses" or devalue their currencies in an effort to combat the crisis.

Above article is authored by Quantum.

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