Fool's gold: How I bought into a sucker's scheme

By Barrie Walsh
www.salon.com [1]
August 9, 2000

I blame some of it on myself. But I blame the rest of
it on the government. Inflation has arrived, but no one
will admit it.

Even as we continue to read data that indicates the
economy is slowing, the I-word goes officially
unuttered, and the Fed withholds its option to raise
interest rates. Commander Alan Greenspan placates a
frazzled Wall Street with a reassuring message that new
hikes do not appear necessary.

This is why I continue to lose money.

Historically, gold is a great bet against inflation.
Last February, when inflation seemed imminent, Placer
Dome, the world's fifth-largest gold producer, joined
others in the industry with an announcement that seemed
to open up a primo investment opportunity.

For years, gold companies sold their product at a price
higher than the market. This practice, called hedging,
becomes profitable when gold prices fall. But if gold
prices rise, the companies get stuck with the lower
price.

Placer Dome, in Vancouver, B.C., said there would be no
more hedging. And gold rallied nicely. I jumped in and
purchased a chunk of Placer Dome shares. Unfortunately,
the rally fizzled within days. My decision turned out
to be a big mistake.

So what went wrong?

The Gold Anti-Trust Action (GATA), a lobbying group in
Dallas, believes the gold market is being manipulated.
I do too.

When I first started looking into the matter in
February, I wasn't convinced; today, something
suspicious indeed seems to be going on. GATA Chairman
Bill Murphy, who has worked in the gold industry for 30
years, says the U.S. government is conspiring with the
Exchange Stabilization Fund and some bullion banks to
hold down the price of gold for political and financial
gain. (The ESF, under the jurisdiction of the secretary
of Treasury, was formed in 1934 to provide exchange
rate stability in the foreign exchange market.)

Murphy's evidence: record gold demand and rising
inflation.

Annual gold demand and prices have been rising but the
government's Producer Price Index (PPI) and Consumer
Price Index (CPI) haven't shown much upward movement.
Some in the media, including New York Post business
writer John Crudele, have questioned the government's
official inflation reports. Even Greenspan sometimes
relies on private data to access the state of the
economy. Murphy attributes the refusal to acknowledge
inflation to the coming election -- a time when no one
wants to put a damper on the good times.

But look at oil prices and it's clear there's reason to
be concerned. Last year, crude oil traded at between
$14 and $15 per barrel; it's currently trading at $30
per barrel -- a 13-year high. Inflationary pressures
from high oil prices are significant, though often
dismissed by Wall Street as not being part of the
quot;corequot; inflation rate. Yet, world finance ministers at
a July meeting in Japan said high oil prices could
hinder global economic growth.

Commodity prices and wages are rising. With demand so
much greater than supply, the price of gold should be
rising.

So how is this alleged manipulation being carried out?
GATA describes the process like this: The world's
central banks have large reserves of gold, which are
loaned to bullion banks, and which, in turn, are sold
to jewelry makers and others. Central banks charge a
low interest rate -- say 1 percent on the borrowed
gold.

When bullion banks sell gold short, they have an
obligation to replace the borrowed gold. (Selling an
investment that you don't own is referred to as selling
short.) If the price goes down, the gold can be
purchased at a lower price and returned to the central
bank at a profit. If the price goes up, the bullion
banks lose money because they have to pay a higher
price to replace the gold.

Meanwhile, Murphy says, bullion banks invest proceeds
from the gold sales at a much higher rate than the 1
percent they are charged to borrow the gold.

Gold analyst Frank Veneroso claims world gold loans to
bullion banks at present are as high as 12,000 tonnes
(a ton equalling 1,000 kg). Not every analyst agrees
with his figure, but there is growing concern about the
large amount of outstanding gold loans.

GATA says a financial crisis could occur if investors
start buying lots of gold. Heavy buying would spike the
price of gold and bullion banks would be forced to
quickly buy back the gold they have borrowed ... at a
much higher price. Murphy believes that under those
conditions, the selling pressure would not be strong
enough to offset the frenzied buying. The bullion banks
would lose a lot of money.

Gold now sells at about $281 an ounce. Veneroso
believes the price would be closer to $600 if the
manipulation of the gold market stops. GATA has met
with Speaker of the House Denny Hastert, R-Ill., and
handed out a 100-page document called quot;Gold Derivative
Banking Crisis,quot; detailing the alleged manipulation to
the Senate Banking Committee. Since then, the Senate
subcommittee on Technology, Terrorism and Government
Information has requested copies of the document, and
GATA has asked for a full investigation.

In September 1999, the European Central Bank signed the
quot;Washington Agreement,quot; which limits gold sales for
five years by 15 central banks to 400 tonnes per year.
This signaled a lower available gold supply. Heavy
selling ensued and another rally fizzled.

If this story is true, then I have bought into a rigged
market -- a sucker's rally. I am hardly alone in my
frustration. What am I going to do with my Placer Dome
shares? For now, I'll hold on. I think inflation is
very much alive, if not accurately reported. The stock
market's volatility is a big concern; I am worried
about the U.S dollar bubble. If things go sour, gold
could go to $600. It all comes down to patience.

For now, I'll keep polishing.

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Barrie Walsh is a Canadian school teacher.