New Gold Rush

Constantine in Michalopoulos, “The Gold Market in the United States in 1977,” in Gold (Consolidated Gold Fields Ltd., 1978) p.55. In a June 7, 1978 speech, “The Outlook for Gold,” Herbert J. Coyne of J. Aron Company, quoted a much larger figure 103.6 tons of gold coins imported for 1977.

Consolidated Gold Fields Reports (1974–1978).

In 1975, the announcement of IMF sales helped dampen enthusiasm for gold. It was feared that in a thin market with an inelastic demand, supplies from official stocks added to new production would seriously dampen price. Now by 1978, we have the experience in 1977 of absorbing 240 plus tons from official sales, another 250 tons from Communist bloc nations in excess of what they sold in 1975 with the market price of gold continuing to rise throughout the year. Altogether, official sales and Communist sales in 1977 (above old levels) added nearly one-third to the total supply of gold available for private purchase.

Coyne Herbert J. , “Gold —Now and Forever,” speech to American Institute of Mining Engineers, June 7, 1978, Table II. Perhaps not all the Krugerrands purchases are investment; perhaps some are analogous to the high carat jewelry purchased in some LDCs. However, the large sales of Krugerrands have not displaced gold used in fabricated jewelry. In the last three years, 1975–77, gold used in fabricated jewelry in the U.S. has increased from 2.1 million ounces to 2.9 million ounces per year. Constantine Michalopoulos, op. cit., p. 57.

Ibid.

“The U.S. Gold Futures Market,” Mining Survey, No. 88 (1978). Pages 3–4 indicate futures market operators had to increase warehouse stocks from ten tons at the end of 1976 to over seventy tons at the end of 1977. van den Bosch L.W.P. Mr. , president of the Chamber of Mines of South Africa has stated that “on the average, less than 2 percent of futures contracts culminate in physical delivery of gold.” Mining Survey, No. 89 (1978), p. 3.

This assumes a price elasticity of –.7, at the high range of published estimates, and an additional 268 tons to be added to the 505 tons actually bought for fabricating. A lower elasticity would have meant an even greater price decline.

Jastram Roy W. , The Golden Constant (New York: John Wiley and Sons, 1977), pp. 177–178.

During 1975 and 1976 average mining cost increases of 26.8 and 15.5 percent respectively cut profits substantially. The price recovery in 1977 enabled an increase in profits even with a further increase in average mining costs of 23.7 percent. Bank for International Settlements Forty Eighth Annual Report (June 1978); p. 129.

Actually Jan. 1 or July 1; or closest dates for which quotations are available.

Wolfe Thomas W. , “Active Monetary Role for Gold Forecast,” Mining Survey, No. 80 (1978), p. 14. Similar analyses appear in the 1978 report of the Bank for International Settlements, op. cit.; and West J.M. , Gold: Mineral Facts and Problems (1975), pp. 1–4.

Farrell Vicki , “Industrial Gold Demand Elasticities,” in a Treasury Department memorandum, Sept. 30, 1976 revised upward as earlier demand elasticity estimate to –.40 from an earlier –.33. Her estimates show the price elasticity falling in the U.S. from –.54 in the 1953–1975 period, –.44 in 1960–1975, and –.40 in 1968–1975. Income elasticities in three comparable periods declined from 2.38 to 2.13 to 1.56. Citibank, in a May 1977 Economics Week, used the –.33 price elasticity figure in a similar method for projecting a price trend. In the Argus Weekly Economic Review (4 April 1977), similar results are shown. They note the range of estimates for industrial price elasticity of demand ranging between –.3 and – 1.0 and note that + 1.2 is in the midrange of income elasticity estimates. Their calculated average equilibrium price of $37 per ounce compared with $ 120-$ 130 for 1976 gives a range of real price increase from 5.4 percent to 14.2 percent in the same ballpark as our estimates.

One obvious complication is the effect of price changes on the trend in long-term investment buying. Gold for jewelry fabrications in LDCs, which we have classified as investment, is estimated to have a price elastic demand of −2.07; see Farrell , op. cit. The 1978 Gold Fields Report makes a similar comment: “Gold use in jewelry fabrication is found to be markedly more price sensitive in developing countries while income changes have a more pronounced impact on fabrication volume in developed countries,” p. 25. Gold Fields Report also notes that some estimates err by using dollar quotations for gold that do not reflect actual price changes because of exchange rate shifts and taxes. In addition the export (often hard to trace) of high carat gold jewlery makes analysis more difficult. Estimates on price and income elasticity of investment demand exist but rest on too few observations and questionable data.

Solow Robert M. , “The Economics of Resources or the Resource of Economics,” American Economic Review (May 1974) p. 7.

Ibid. p. 2.

Ibid.

Gold mining technology is already highly advanced. Increasingly, mines must be operated where ore quality is poorer or extraction more difficult. In the recent period, rents rose rapidly with price but predictably mining costs followed to cut into rent. See West J.M. , op. cit., pp. 1–3 for a brief analysis of mining costs and technology.

Obviously political risk, taxation, expected price and cost changes affect the operation. Also, if the industry is extensively monopolized, net returns will be higher, rate of production lower much as would be dictated by a lower social rate of discount.

Gold also showed a variability greater than stocks, less than bonds and paper, and comparable to commodities.

Shisko Irwin , The Journal of Portfolio Management (Spring 1977), pp. 37–38.

van Eck John C. , “Investment Policy Strategies,” The Wall Street Transcript (28 March 1978).

Fisher Irving , The Theory of Interest (New York: MacMillan, 1930), pp. 36–44.

However, of the identified fall in “official western” gold stocks of 190 tons in 1977, 187 1/2 tons is accounted for by gold sales by the IMF. Bank for International Settlements, op. cit.

Mineral Trends and Forecasts (U.S. Department of the Interior, October 1976), p. 11.

An IMF study on the behavior of prices of bullion futures concluded “the random walk model appears to provide a good description of the price generation process of gold prices, futures as well as spot, although there was some evidence of slight positive correlation in the price variance over time.” Matin Michael G. , The Behavior of Prices in the Futures Market for Gold: A Test of Random Walk Model (Treasurer's Department, International Monetary Fund, 14 November 1977), p. 2. If we take even the low end of our estimated range for the real price trend, 5 percent, and add a conservative 5 percent figure for inflation, the nominal price of gold should be doubled in less than ten years unless, of course, the current price is well above the trend.

The research for this article was supported by the J. Aron Company. Thomas Austin was of great help as a research assistant.