I remember going to a jewellery shop last week for surveying the latest price of gold with respect to a few ornaments. This was required as I had to prepare a budget for jewellery in connection to my pending marriage in November.

I along with my mother went to some of the renowned jewellery shops in the south western part of the city. The shops shone brilliantly with a grand display of bold jewellery pieces and effective use of lightening. However, the lightening seemed to fade away as the actual gold price was discovered. The price then stood at a whopping thirteen thousand rupees for every ten grams of gold. Before that day, I never bothered to find as to why the gold prices had soared to such an extent. Later, as I spoke to a few people, I learnt the truth.

The US sub prime crisis leading to a declining US dollar has a direct impact on the pricing of gold and a few other commodities. Ever since the sub prime crisis occurred, the nation’s trade and budget deficits have been on a rise. As a result, foreign investors have turned apprehensive of investing in US and started investing in non-dollar investments. Exporters of different currencies have started billing their exporters in currencies other than the US dollar. Hedge funds have reduced their investment in the US stocks and bonds and are increasing investments in commodities including precious metals as a hedge against the decline in the US dollar. Hence, gold market was identified as a potential sphere of investment and since 2003, the spot gold has risen by nearly 160 per cent. Over the past few years, emerging countries like India and China are witnessing a consistent growth in foreign portfolio flows. While, BSE sensex rose by 320 per cent between 2003-2007, the US dollar index plumetted 25 per cent during the period. . Thus, US dollar’s decline and a spurt in gold prices is due to the slowdown of the US economy.

Infact a direct relationship between gold and a weaker US dollar can be established. Crude oil is quoted in US dollares and so are most of the metals and soft commodities. If the US dollar declines, the net receivables of the crude oil producing nations fall. Consequently, crude oil and commodity prices rise as they are mostly quoted in US dollars. Higher commodity prices lead to higher infalation and the cycle continues till US dollar depreciates and switches away from quoting commodities in US dollar.

Most of the Central banks have set up Sovereign Wealth Funds so that huge foreign exchange reserves, mostly in US dollars, are invested elsewhere for better returns.In addition to this, more and more countries are resorting to bilateral trade instead of multilateral trade, which is not billed in US dollars. India has various free trade agreements wherein one need not bill their exports or imports in US dollar. One of reasons behind the option of bilateral trade is to hedge one’s net receivables from the US dollar decline, which is the key medium of exhange in global trade.

Another factor driving the prices of gold is the slump in global goldmine production. The problems are best typified by the world’s largest producer, South Africa, where mines face declining ore grades and rising costs as they push extremes at depths of 2.5 miles down. In 1970, South Africa had produced 1000 tonnes of gold to only let it fall to a quarter of this by 2007. Where new mines have been identified, producers have been beset by resource natianlism and grave disease like AIDS(affecting nearly one-third o mineworkers). In short, new mines are neither being found or developed to replace the ageing and the largeley depleted mines. Poor supply of gold is unable to meet the rising gold demand and is pushing the price of the metal to an all time high. Indian gold demand is expected to rise even as gold prices near $900 per ounce. Infact to meet the global demand, Shanghai stock exchange will soon open doors to gold futures trading leading to a greater demand from China. Thus, this shows that how effectively the Chinese economy switches to domestic demand-led growth from export-led growth. As a result, the chinese gold demand is likely to receive a boost. Following the footsteps of the chinese eceonomy. India too is on the way of Gold exchange traded funds, which are ususally backed by investment in gold. Instead of purchasing gold from the market and storing it, an investor can invest in GETF and indirectly oen gold. These will offer a means of diversification to the retail investor. However, investments in the funds will depend upon the returns in other finanacial instruments, which when offer better returns may turn the invetsors away from GETF’s.

With the hope that gold continues to cash on the US economic recession, I can definetely do justice by being one of the potential investors in this new global investment arena.