by Mohamed A. El-Erian
July 21 (Project Syndicate) — I don’t know about you, but whenever I am in an airplane experiencing turbulence, I draw comfort from the belief that the pilots sitting behind the cockpit’s closed door know what to do. I would feel very differently if, through an open door, I observed pilots who were frustrated at the poor responsiveness of the plane’s controls, arguing about their next step, and getting no help whatsoever from the operator’s manuals.

So it is unsettling that policymakers in many Western economies today resemble the second group of pilots. This perception reflects not only the contradictory pronouncements and behavior of policymakers, but also the extent to which economic outcomes have consistently fallen short of their expectations.

This perception is evident in Europe, the United States, and Japan, where indicators of economic sentiment are deteriorating again, already-weak recoveries are stalling, and over-stretched balance sheets are becoming even more precarious.

[source]

July 21 (Washington Post) — House Speaker John Boehner says House Republicans are willing to compromise on a budget deal to increase the government’s ability to borrow as long as the package does not include tax increases.

Boehner told reporters Thursday that most House Republicans want to find accommodation with Democrats on the budget package passed by the House Tuesday that would raise the debt ceiling only after Congress passes a balanced budget constitutional amendment.

[source]

PG View: That’s funny; because I think that’s exactly the same position held by House Democrats and the White House.

Nonetheless, rumors of a budget deal (subsequently denied by Speaker Boehner and the White House) and the frivolous use of the word “compromise” by Mr. Boehner (even with the massive qualifier) succeeded in knocking gold more than $10. Another short-term gift.

By Wolfgang Münchau
July 21 (Financial Times) — It looks like there will be deal on a eurozone package for Greece. The full details are still missing, but it appears that the eurozone is forcing Greece into a selective default. As part of such a package, short-term Greek debt will be more or less forcibly converted into long-term debt. The wretched bank tax is mercifully off the table. And the European financial stability facility will most likely be allowed to purchase Greek debt at a discount. Let us not mince words here. This would be a default, the first by a western industrialised country in a generation. I am not quite sure how it is possible for the European Central Bank to agree to this, or to all of this. But I will surely be intrigued to hear how Jean-Claude Trichet will manage to be consistent with what he said a few days ago. There are also reports that the eurozone leaders may accept a more flexible EFSF beyond those bond purchases.

[source]

July 21 (USAGOLD) — Stocks jumped and gold slipped after WSJ Breaking News ran the following headline:

Breaking: President Obama and House Speaker Boehner are close to a $3 trillion budget deal; stocks are rallying.

Less than 15 minutes later they ran the following:

Update: both parties say they are *not* close to a budget deal. Citing Tweets by @SpeakerBoehner and @pfeiffer44.

House speaker Boehner responded: False. Senate should pass #CutCapBalance.

Meanwhile Dan Pfeiffer, via his official White House Twitter account said: Wrong. POTUS pushing for biggest deal possible, but nothing new.

[source]

By JOHN B. TAYLOR
July 21 (The Wall Street Journal) — This month marks the two-year anniversary of the official start of the recovery from the 2007-09 recession. But it’s a recovery in name only: Real gross domestic product growth has averaged only 2.8% per year compared with 7.1% after the most recent deep recession in 1981-82. The growth slowdown this year—to about 1.5% in the second quarter—is not only disappointing, it’s a reminder that the recovery has been stalled from the start. As shown in the nearby chart, the percentage of the working-age population that is actually working has declined since the start of the recovery in sharp contrast to 1983-84. With unemployment still over 9%, there is an urgent need to change course.

…Since 2009, Washington has doubled down on its interventionist policy. The Fed has engaged in a super-loose monetary policy—including two rounds of quantitative easing, QE1 in 2009 and QE2 in 2010-11. These large-scale purchases of mortgages and Treasury debt did not bring recovery but instead created uncertainty about their impact on inflation, the dollar and the economy. On the fiscal side, we’ve also seen extraordinary interventions—from the large poorly-designed 2009 stimulus package to a slew of targeted programs including “cash for clunkers” and tax credits for first-time home buyers. Again, these interventions did not lead to recovery but instead created uncertainty about the impact of high deficits and an exploding national debt.

[source]

PG View: An excellent op-ed by Stanford economist John Taylor. I agree that we really need to hit the brakes and change course before we drive off a cliff, yet the government and the Fed continues to step on the monetary and fiscal gas peddles…consequences be damned. That’s true here in America, and today’s events show that its abundantly true in Europe as well.

July 21 (CNBC) — “Gold will go much higher,” said Irakli Menabde, founding partner of fund manager M2 Capital Partners.

“It’s one of the most attractive investment opportunities out there.”

“Gold is a reflection of what’s going on in fiscal and monetary policies of the developed world and what’s going on in terms of the great inflation scare in emerging markets,” he said.

[Source]

July 21 (MarketWatch) — Gold futures swerved between small gains and losses Thursday as the U.S. dollar traded lower, but some of the metal’s safe-haven appeal diminished after European leaders agreed on a plan to try contain the region’s sovereign-debt crisis.

Gold for August delivery added $1.10, or 0.1%, to $1,598.10 an ounce on the Comex division of the New York Mercantile Exchange.

[source]

By RHIANNON HOYLE
July 20 (The Wall Street Journal) — Fiscal troubles in both Europe and the U.S. may have spurred gold to record highs this week, but the warm embrace of the precious metal appears to be the result of more than one set of incentives.

Swiss bank UBS said that gold, which cracked the $1,600 a troy ounce mark on Monday, will be the only precious metal with a supply deficit this year, as demand outstrips inventory for the first time since 2008.

…Demand for gold, meanwhile, is getting stronger, and not just from investors keen to hedge present economic uncertainties. China’s growing middle class and central banks around the globe are clamoring for more. In fact, central-bank purchases are expected to be key in driving the deficit this year, according to analysts.

[source]

July 21 (Reuters) — Gold fever is gripping Asian investors and could spread to central banks as global growth uncertainties tarnish the appeal of other assets, putting bullion on course for more gains but also provoking fears about supply.

Spot gold surged more than $100 in 11 straight days to Tuesday, its longest winning streak in four decades, hitting a record $1,609.51 an ounce, as debt default fears in the United States and Europe drove investors to seek safety.

[source]

PG View: Availability on most gold products is good right now, but we’ve seen that change dramatically and quickly in past crises in 2008 and 2009. Supply issues can lead to significant rises in premiums. It is therefore frequently prudent to take advantage of the relative calm before the storm.

July 21 (Bloomberg) — Gold may climb toward a record in New York on demand for a protection of wealth after European officials signaled Greece may default on government bonds as part of a second bailout.

Luxembourg Prime Minister Jean-Claude Juncker said he couldn’t rule out the “possibility” of a so-called selective default on Greek debt.

…“Investment demand is still very strong as there are still many uncertainties in the global economy,” Dick Poon, precious metals trading manager at Heraeus Ltd., said by phone from Hong Kong.

[source]

July 21 (Reuters) — Europe is willing to let Greece default under a crisis response that would involve a bond buyback, a debt swap but no new tax on banks, EU sources said as euro zone leaders began a crucial emergency summit on Thursday.

A draft summit statement obtained by Reuters showed leaders were also considering a sweeping expansion of the role of their EFSF rescue fund to help states sooner, recapitalise banks and intervene in the bond market in a drive to halt contagion.

[source]

PG View: Bond market intervention sounds sounds like QE to me…

July 21 (USAGOLD) — Gold is consolidating around $1600, underpinned by a weaker dollar. The greenback took a drubbing on reports that today’s EU summit netted a new deal for Greece. While the plan may include a selective default for Greece, the euro loved the news. As the single currency surged, the greenback came under pressure, buoying gold in the process. Lingering doubts as to whether the latest kick of the Greek can is a sustainable long-term solution should also help bolster the yellow metal.

Apparently the bond swap plan that was scrapped several weeks ago — because the ECB wasn’t willing to play ball — was successfully revived in Brussels. Reuters is also reporting that “a sweeping expansion of the role of their EFSF rescue fund to help states sooner, recapitalise banks and intervene in the bond market in a drive to halt contagion” is being considered. “Intervention in the bond market” seems to suggest that the eurozone is contemplating quantitative easing of their own.

So where do the funds come from to expand the EFSF and buy bonds? German taxpayers should be very worried right now…

• US initial jobless claims +10k to 418k in the week ended 16-Jul, above market expectations. Previous week revised higher to 408k.
• S&P Says 50-50 Chance Of Downgrading US To ‘AA’ over next 3-months.
• Germany’s Die Welt reports that Germany, France ECB and private banks have agreed to a “path” for Greece. Bond swap plan revived.
• Eurozone manufacturing PMI retreats to 50.4, below expectations. Services falls to 51.4. Fears of slowing growth may give ECB pause on further rate hikes.
• UK retail sales +0.7% y/y in Jun, but consumer confidence tumbled to 51, vs 55 in May.
• Swiss trade surplus shrank to CHF1.745 bln in Jun from revised CHF3.254 bln in May; Strong franc taking its toll on trade.
• IMF urged China to let “undervalued” yuan rise.
• China HSBC “flash” PMI fell to 48.9 in Jul, below neutral and a 28-month low.

July 21 (MNI) — Excerpts from a report published by Standard & Poor’s:

In our view, the need for an agreement to raise the debt ceiling before it is breached — which the government has said would occur on or around Aug. 2 — remains a major risk to the U.S. economy, in our view. Because we see a real risk that efforts to reduce future deficits may meaningfully miss the targets that Congressional leaders and the White House have discussed, we put the likelihood that we would lower the long-term rating on the U.S. within the next three months and potentially as soon as early August — by one or more notches, into the ‘AA’ category — at about 50-50.

There is some concern that investors, especially those overseas, are speculating that the U.S. government would resort to higher inflation to reduce the real value of its debts. Given the risks of a government shutdown, some feel the Fed would need to keep policy “too easy, too long” in order to accommodate whatever happens on the fiscal side.

[source]

July 21 (New York Times) — European leaders began a crucial meeting Thursday after talks between Germany and France produced agreement on a rescue plan for Greece that may push the country to default on some of its debt for a short period.

Details of the agreement, reached early Thursday in Berlin after seven hours of talks, were not disclosed.

[source]

PG View: Even if the ECB has softened its position and will accept Greek debt even after a default, this is at best just another kick of the can down the road.

July 21 (AP) — China faces risks from inflation and a possible boom and bust in real estate prices and should allow its tightly controlled currency to rise to promote economic stability, the International Monetary Fund said Thursday.

In an annual review, the IMF recommended changes it said would raise China’s living standards and promote a transition to more sustainable growth with less reliance on exports and investment. It said Beijing should allow interest rates to be set by the market and ease controls on investment flows into China.

China’s main domestic risks are higher inflation, a bubble in real estate prices or a decline in credit quality due to the upsurge in lending as part of Beijing’s response to the global crisis, the report said.

[source]

July 20 (MarketWatch) — Italy is wobbling. Spain is facing a fresh crisis. Even France doesn’t look like it is a secure member of the euro zone anymore. The storms swirling around Europe’s beleaguered single currency are growing by the day as the crisis moves in from the periphery into what can only be regarded as core Europe. The markets remain poised on a knife edge, fearful of the consequences of a full scale collapse.

And yet, the one thing that can’t be underestimated is the political will of Europe’s leaders to keep the euro alive. Three generations of politicians have staked their careers on closer European integration. They won’t give up without a fight.

They will make one last-ditch effort to save the project. How? Europe will soon start printing money on a massive scale — far larger than even the U.S. Federal Reserve’s exercises in quantitative easing.

[source]

July 20 (BloombergTV) — “We’re going into a recession, a really big one, bigger than 2008 — I’ll hang my hat on it,” says John Taylor of FX Concepts.

The recession will be deeper because there’s no other “gimmick” U.S. policy makers are able to use to stave off the slowdown, he said, referring to monetary and financial stimulus measures. Europe is likewise headed for a downturn, he said.

PG View: While Taylor sees a pretty grim economic future for both the US and Europe, he doesn’t believe we have to worry about America’s top-tier credit rating because we “print the money that makes the world go around.” It’s only when there’s an alternative currency to the dollar that we should worry. Hey, what about gold? Might that already emerging realization by global markets impact his expectations of a significant correction in gold once $1,900 is achieved?

July 20 (Fortune) — He may not be President Obama’s top economic adviser anymore, but Larry Summers still has plenty of strong opinions on the economy—and some strong words for the President’s Republican rivals in Congress.

Speaking at Fortune’s Brainstorm Tech conference in Aspen, Colo., the former Treasury Secretary and head of the National Economic Council repeated his recent warnings that failing to raise the debt ceiling would be tantamount to “financial Armageddon” and called brinksmanship on the part of Republicans “outrageous” and “profoundly irresponsible.”

[source]

PG View: Some might argue that what is truly “outrageous” and “profoundly irresponsible” are the decades of policy decisions by both parties that allowed our Nation to accumulate such a massive and dangerous amount of debt.

Gold Continues to Show Its Metal

Gold set a new low for the week in early NY trading on Wednesday at 1581.40, then promptly rebounded back to the 1600.00 level in an impressive display of resiliency. The intraday high presently stands at 1599.72. The yellow metal was knocked from its new all-time high of 1609.85 on Tuesday after initially positive reviews of a Gang of Six proposal to address the long-term US structural deficit. That plan was viewed as a possible bipartisan bridge to an agreement on the debt ceiling, but such hopes may already be waning.

The Gang of Six proposal is woefully light on details and former Obama Administration chief economic advisor Larry Summers described it as a “more a plan to have a plan rather than a plan.” That’s not exactly the reassurance against a potential US default the market was looking for. Yet, whether the debt ceiling is ultimately raised in time to avoid default or not, it’s all likely to prove positive for gold:

As analyst Julia Yoo, of Korea Investment pointed out in a Bloomberg article yesterday, “Increasing the debt limit means you print more dollars, which will weaken the dollar and consequently lift the gold price.” On the other hand, failure to raise the debt ceiling will likely lead to a selective default and a downgrade of the US sovereign debt rating. That in turn will result in higher yields that will exacerbate the US fiscal crisis by increasing refunding costs and further erode confidence in the dollar. If the dollar resumes its long-term downtrend for either reason, gold will continue its long-term uptrend.

Meanwhile, at least the near-term fate of the eurozone rests largely on the results of Thursday’s meeting of EU leaders in Brussels, where they will once again attempt to hash out a second bailout for Greece. Hope seems to spring eternal as eurozone spreads narrowed considerably today. However, German chancellor Angela Merkel has attempted to temper expectations, saying that nothing “spectacular” is likely to come from Thursday’s meeting.

If Merkel is right, gold is likely to be right back on the march higher into uncharted territory. Even if a deal is reached on Greece, there are likely to be all manner of risks associated with any such bargain. More money for Greece would simply be another kick of the can and the market will once again start positioning for follow-on bailouts for Portugal and Ireland as well as initial bailouts for Spain and Italy. That too would ultimately be favorable for gold.

As we’ve suggested over the past several months, because of the twin debt crises on either side of the pond, corrections in gold over the summer were likely to be shallow and short-lived. While there is still another week+ in the traditional “summer doldrums” period and a deeper more protracted correction cant be ruled out, we are on the cusp of a time of year that is generally associated with seasonal strength. It therefore might be prudent to buy the dips while you can. Let us not forget how gold took off in late-July of 2009 and 2010:

July 20 (Reuters) — EU leaders must find a convincing solution to Greece’s debt crisis at a summit on Thursday or the global economy will pay the price, the head of the European Commission said in an unusually somber warning.

…”Nobody should be under any illusion: the situation is very serious. It requires a response, otherwise the negative consequences will be felt in all corners of Europe and beyond,” Barroso told a news conference.

[source]

July 20 (HousingWire) — Existing home sales slid 0.8% in June, as contract cancellations spiked unexpectedly and prices rose slightly, according to a leading trade group.

The National Association of Realtors said seasonally adjusted sales decreased to an annual rate of 4.77 million last month from 4.81 million for May. Existing sales in June were 8.8% lower than 5.23 million a year earlier, which was when the homebuyer tax credit expired.

…Yun said 16% of members reported a sales contract was canceled in June, up from 4% in May, “which stands out in contrast with the pattern over the past year.”

[source]

July 20 (Reuters) — China pressed the United States to take “responsible” measures to boost market confidence in the dollar and U.S. government debt on Wednesday, underscoring investor worries that Washington could default on its debt.

The urging from China’s currency regulator came as U.S. leaders tried to hammer out an 11th-hour deal to raise a $14.3 trillion debt ceiling for the United States before it runs out of money to cover all its bills on Aug. 2.

…”If we use much of our foreign exchange reserves to invest in [oil, gold and silver], we could push up market prices, which may affect our people’s consumption and economic development.”

[source]

PG View: Nearly 70% of China’s $3.2 trillion in foreign exchange reserves are invested in dollar assets. So if China where looking to diversify their reserves into assets like gold, silver and oil — and clearly they are — it would be pretty shrewd to reinforce confidence in the dollar assets while simultaneously downplaying the other markets as being “too volatile and small” as you go on a long-term buying spree of alternative assets.

By Howard Schneider
July 19 (Washington Post) — The International Monetary Fund said Tuesday that the euro, a currency born a decade ago out of the post-World War II urge to knit Western European nations more closely together, was under “a shadow” and hinted it might not survive the current battle over government debt.

With European leaders struggling to agree how to divide the costs of another Greek rescue program, the IMF said there was “no consistent road map ahead, leaving both orderly and disorderly outcomes on the table. . . . The reaction by national authorities and economic agents has been one of retrenchment, threatening to turn back the clock on economic and financial integration, the very foundation” of the Economic and Monetary Union (EMU).

[source]

July 19 (Bloomberg) — Gold may rally further from this month’s record if President Barack Obama wins lawmakers’ agreement to raise the U.S.’s debt ceiling, weakening the dollar and boosting demand for the precious metal as a store of value, according to Korea Investment & Securities Co.

The CHART OF THE DAY shows the spot gold price in dollars has climbed along with increases in the U.S.’s statutory debt limit over the past 16 years.

…“Gold’s rally is quite explosive,” said Julia Yoo, a Seoul-based analyst at Korea Investment. “Increasing the debt limit means you print more dollars, which will weaken the dollar and consequently lift the gold price,” adding to gains this year that were driven by demand from countries including China, she said.

[source]

PG View: The referenced Chart of the Day is reproduced in today’s Morning Snapshot, clearly illustrating the real implications of another hike to the US debt ceiling. That would suggest that the pullback in gold — inspired by hopes that a deal to raise the debt ceiling is at hand — is a mid-summer gift.

July 20 (USAGOLD) — Gold remains defensive after revived hopes of a US debt-ceiling deal on Tuesday knocked the yellow metal off its new record high of 1609.85. However, one need look no further than the chart below to discern the true impact on gold if the debt ceiling is indeed raised:

Bloomberg Chart of the Day from Korea Investment (via GoldCore)

Nonetheless, hope that a debt ceiling compromise may be at hand has heightened risk appetite and yesterday’s stellar earnings data from Apple certainly helped the cause. Optimism that tomorrow’s EU summit will yield a pathway to solvency for heavily indebted periphery countries has prompted a sharp narrowing of eurozone spreads, even though leaders have been attempting to temper those expectations.

For the time being it’s “risk on;” at least until investors once again realize that there are no easy and pain-free solutions to either the European sovereign debt crisis or the US fiscal crisis.

• US existing home sales expected to rise 4.9 mln in Jun.
• Canada wholesale trade +1.9% in May, well above market expectations, vs -0.1% in Apr.
• German PPI decelerated to 5.6% y/y in Jun, just above market expectations, vs 5.9% y/y in May on lower energy prices.
• PBoC daily yuan fix at 6.4592 (+0.14%) per dollar, a 17-year high.
• Japan May leading indicators revised to +3.4 m/m in May from +3.6 preliminary reading. Coincident revised to +2.7 from +2.4.