"PERFECT GOLDEN STORM" » Global Instability

Global Instability

Gold’s 1979-1980 surge to $852 was driven by the Iranian revolution, which triggered the second OPEC oil crisis and a period of double-digit inflation combined with stagnant economic growth. Investors turned to gold as a safe haven because they feared inflation and political and economic turbulence. Such turbulence threatens the smooth operation, and therefore the profitability of businesses, turning stocks, corporate bonds, and even fixed-rate government bonds into dubious assets.

The demise of the Soviet Union and the restoration of capitalism in Eastern Europe, Russia, and China were supposed to usher in a period of world peace and prosperity. Unfortunately, the reality of the war on terrorism has replaced the promise of the “peace dividend.” One sign of the times: the US military budget for fiscal year 2005 has surpassed the highest annual military budget of the Cold War, when we were spending billions to deter nuclear annihilation.

Do the next several years promise peace and prosperity, instability and uncertainty, or even chaos and violence? Will they be like 1979-1980, or even worse? Let’s briefly survey the world’s hotspots and try to determine if they are more likely to cool off or flame out of control.

Terrorist acts and threats in the US and Europe
Al Qaeda’s horrifying bombing of the Madrid subway in March 2004, which killed over 200 people, and the reaction to it by Spain and other members of the US-led coalition in Iraq taught or confirmed a number of sharp lessons:

• Despite losing Afghanistan as a Taliban-protected base of operations, Al Qaeda, with the help of likeminded terrorist groups, remains able to function internationally to deadly effect.
• The invasion and occupation of Iraq, which was supposed to reduce international terrorism, has certainly not yet done so. Madrid was attacked because Spain joined the “Coalition of the Willing.” People in England, Italy, Poland, and other countries that are participating in the occupation of Iraq are waiting for the other shoe to drop. Studies by the US Congress and numerous think tanks warn that the next attack by Al Qaeda within the US is a matter of “when, “ not “if.”
• There are just too many soft targets — subways, freight and commuter railroads, ports, power plants, factories, urban centers, reservoirs, to name only some — to protect. Stepped up security at US airports is costing $xx per year. It would be fiscally impossible to multiply that effort to cover other systems and sites.
• Countries that joined the “Coalition of the Willing” despite opposition to invading Iraq from huge majorities of their citizens are shaky allies of the US. Largely as a result of the subway bombing and the incumbent regime’s failed effort to blame it on Basque independentistas, Spain’s Socialist Party unexpectedly won a national election. The incoming prime minister immediately announced that Spanish troops would be withdrawn from Iraq in June unless the occupation became part of a UN mandate, which is highly unlikely. He also announced that Spain would realign its foreign policy closer to EU powerhouses France and Germany. Other countries with troops in Iraq, or who were considering sending troops, have also expressed doubts or reconsidered their commitments.

Ongoing violence in Iraq
Violence continues. US occupation is likely to be long and expensive, and is unlikely to lead to a stable society. A divided and/or “failed state” is a likely outcome, increasing instability in the already shaky Middle East and threatening the world’s oil supply.

READ MORE ON IRAQ

Unresolved war in Afghanistan

Al Qaeda is still organizing terror in many countries, and the Taliban continues to wage war from bases on both sides of the Afghanistan-Pakistan border. US intervention in this area could undermine President Musharraf and put Muslim fundamentalists in a position to bid for power in nuclear-armed Pakistan. Such a development would derail talks with nuclear-armed India over control of Kashmir and once again raise the specter of war between two nuclear powers.

READ MORE ON AFGHANISTAN

“Hezbollah . . . the A-team of terrorists”
US Deputy Secretary of State Richard Armitage and other neo-conservative intellectuals have warned of the danger of ignoring the Lebanon-based terror organization, Hezbollah. Armitage said, “Hezbollah may be the A-team of terrorists,” while “al Qaeda is actually the B-team.” The group’s operatives have reportedly traveled to postwar Iraq to build on historic Shiite ties. Former Bush-administration officials such as Richard Perle have urged military action against the movement’s state sponsors, Syria and Iran. Such intervention would stretch the US military even thinner, stretch the US budget deficit even higher, and probably lead to attacks on US forces within and outside those countries.

Saudi Arabia: shaky sheiks
The Saudi Royal Family stays in power by supporting fundamentalist clerics and buying off citizens with oil profits. With the decline of the US dollar, oil revenues are down, and so, therefore, are subsidies to citizens. US pressure to stop pandering to the clerics strikes at the only other support for the dictatorship. The frightened sheiks are turning on each other, some wanting to move closer to the US, other wanting to maintain the alliance with the clerics. A crisis in Saudi Arabia would almost certainly disrupt the world oil market and therefore the world economy, and could result in intervention byan already overstretched US military, provoking serious repercussions in the Middle East and throughout the world.

READ MORE ON SAUDI ARABIA

Ongoing Israeli-Palestinian conflict
The second, and much more violent, Intifada, and Israel’s armed incursion into the West Bank and its construction of a “security fence” to contain the Palestinians play into al Qaeda’s strategy of polarizing popular opinion against the Arab monarchies which are allied with the US, Israel’s main all

READ MORE ON THE ISRAELI-PALESTINIAN CONFLICT

Rift between the US and European “allies”
Competing interests of the US, EU, Japan, Russia and China are reflected in ongoing disputes about the handling of Iraqi debt and how Iraqi reconstruction and oil production and distribution will be managed. These diverse interests fan the flames of hotspots from Iraq to Iran to Israel to North Korea to Hait

READ MORE ON THE RIFT BETWEEN U.S. AND ALLIES

Rise of China intensifies economic rivalry
China’s economy has been growing at an average annual rate of about 8% — the fastest sustained growth rate in the world. Set on regional dominance and already armed with nuclear weapons, China is engaged in a military build-up. Beijing has warned of the possibility of military action against Taiwan if it continues moving toward independence. As we discuss in the next section, Washington’s relations with China are complicated by billions of dollars in direct US investment in China and, even more so, by the enormous Chinese investments in US Treasury bonds and US equities.

READ MORE DETAILS ON CHINA

Bottom line: A review of some the world’s hotspots suggests that global instability is likely to increase. Historically, investors have reacted to global instability by seeking the safe haven of gold, driving the price of gold upward.

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