Forecasts for Gold Price

Gold is seen as a safe investment. When stock markets are turbulent and major currencies like the dollar seem unsafe, investors flee to the safe haven of gold.

Therefore, in a period of economic uncertainty, gold often provides one of the best investments.

In the current economic situation gold looks attractive because of the widespread uncertainty facing financial markets. Already gold has increased significantly to over $900. This is because of:

• Rising US debt and possibility of debt default.
• Increased numbers of bankruptcy or bailouts of major banks like Lehman Brothers, Bradford & Bingly, Morgan Stanley.
• Falling stock Markets
• Weakness of US Dollar due to impending recession.

The current financial turmoil is likely to continue well into 2009. During this period the price of gold is likely to continue to rise.

However, one word of caution, markets are highly volatile and therefore often overreact. It is quite possible that we could see a spike in the price of gold that appears unsustainable. But, whilst international investors seek to switch away from holding dollar assets, gold will only continue to get stronger and look more desirable

Predictions for Dollar
How Long Will Credit Crunch last

Predictions for Dollar

A look at whether the US Dollar may collapse in 2009.

In particular, how concerned should we be over the mounting National Debt. Could the US government default on debt? Could they respond by increasing the money supply, which would cause inflation and devaluation?

Although the dollar looks very weak, it may still retain its strength given the weakness of other currencies.

Forecast for US National Debt

The forecast for US National Debt is grim. Already over 65% of GDP, it is likely to rise to over 70% by the end of 2009. National debt is also likely to keep increasing over 2010-2012 as the government struggle to deal with 3 substantial problems.

Why US Debt is Increasing

Demographic Changes. The US population is ageing. An ageing population pay less income tax but receive more benefits and need more health care
Demand for Health Care. The cost of health care has been increasing faster than the rate of growth. This is because there are more medicines on the market and also higher expectations.
Tax Cuts. Bush cut taxes, especially for the rich. It is very difficult for a candidate to promise to change these tax cuts.
Financial Bailouts. The financial bailouts are increasing the liabilities of the government. Some are not even on the balance sheet e.g. Freddie Mac and Fannie Mae. The $700bn package may still not be enough to deal with the legacy of toxic mortgage loans still flooding the financial system.
Recession will only make things worse. Despite a large fiscal expansion programme, the US now appears to be heading towards an official recession, with rising unemployment. This will place a greater cyclical strain on the budget and will exacerbate the structural changes

• UK National Debt
• Forecasts for US financial system - a grim outlook
• US could be going bankrupt

How Long Will Credit Crunch Last?

Despite the failure of many leading banks such as Bear Sterns, Lehman Brothers and HBOS. Many predict the credit crunch still has longer to go.

The credit Crunch will last for Longer Because:

1. House prices are still falling compounding the problem of negative equity.
2. Banks still need to write off more bad debts stemming from losses on US mortgages. A report by The Standard and Poor said its estimate earlier this year of total credit crunch losses of more than $250bn had now risen to $378bn - and could double to nearer $500bn as house prices in the US continue to fall.
3. The demise of investment banks like Lehman Brothers is a problem because they were one of the major players in buying toxic US subprime debt.
   
4. US, Europe and UK are entering into recession. With unemployment rising more people will suffer home repossession (even people not on subprime mortgages) therefore, there will be a greater shortage of funding
5. Bank liquidity is poor.
6. Low confidence and volatility on the stock markets

See also:

• How Long will US recession Last
• Credit Crunch - Worse still to come at Guardian

Ban On Short Selling - Will it Help

With markets in free fall, regulators have sought to intervene and restore calm. One thing they have done is ban the practise of short selling - selling shares you don't own to try and profit from falling prices. Short selling explained

The FSA has temporarily banned short selling in major UK banking and insurance companies. It is hoped this will reduce the downward pressure on share prices and prevent shares like HBOS coming under extreme fire.

However, the ban on short selling does not address the fundamental problem of the credit crunch - which is a shortage of funds, bad debts and illiquidity in the banking sector. However, it may help reduce the volatility of markets.

Forecasts for American Financial System

There are worrying signs that the American financial system is facing real problems.

The Fed have rescued Bear Sterns and the US government nationalised Freddie Mac and Fannie Mae, however, the losses from the subprime debacle are placing at risk many other banks.
Lehman Brothers, seems the next in line which threatens to go under soon.

Lehman Brothers was one of the major non depository banks who made up the 'shadow banking system.' In other words, they didn't make loans based on deposits, but, they rebundled loans from one bank and sold them on. The idea was to spread risk, but, in practise it had the effect of hiding risk and giving banks a false sense of security to keep lending risky loans.

The Fed, are faced with a difficult dilemma. They have already exposed US taxpayers to substantial potential losses. There is also the danger of moral hazard. Rescuing banks which go under, may just help encourage more reckless behaviour.

Therefore, Paul Paulson has tried to limit the exposure of public funds to the rescue package of Lehman brothers. However, there is a danger, that without sufficient guarantees, market forces may not be sufficient to rescue Lehman brothers.

The American economy and financial system is facing an unchartered future. There is the real possibility of a collapse in 2009.

How Long Will US Recession Last?

The US is entering recession because:

Falling house prices. Consumer wealth is shrinking as the main form of asset is declining sharply in value. This reduces consumer spending and confidence. House prices may continue to fall for another 12 months because there is still a surplus of unsold housing stocks and mortgage delinquencies are still occuring putting more unsold houses on the market.

Credit Crunch. The losses in the subprime mortgage sector have left large black holes in the balance sheets of many banks, leading to the nationalisation of Freddie Mac and Fannie Mae. The result is that it is difficult to get loans and borrow money. Demand for high ticket items like cars is falling. Unfortunately, many are still facing home repossession, including prime mortgages on adjustable rates. The decline in house values only compounds the problem for banks. It will become increasingly difficult for the government to bail out banks.

Global Downturn. The EU and Japan are also entering recession. Therefore, there will be less demand for US exports.

Other Factors That Make US economic Future Depressing

Dollar gaining strength In recent years, the devaluing dollar has boosted US exports and economic growth; this has helped stave off a recession. In recent months the dollar has increased in value, because other countries are going into recession and the dollar began to look oversold. This makes US exports less competitive. Therefore, in 2009, there will be lower growth in US manufacturing and exports.

Tax Cuts Over.

In 2008, the economy avoided recession because of very generous tax cuts. This helped maintain consumer spending. However, the government's borrowing has increased significantly, leaving little room for further tax cuts and expansionary fiscal policy.

Interest rates.

Interest rates are 2%; this is already very low. With inflation at 5% (negative real interest rates) there is little scope for cutting rates further.

Will the UK ever Be a Member of the Euro?

Why Euro Membership would be a bad idea for the UK

The first problem with the Euro is that it involves a Common Monetary Policy. This involves interest rates being set by the ECB for the whole Euro area (at the moment 11 countries). However, the Euro area from Spain to Germany is quite diverse and may have different stages of the economic cycle. Therefore, the interest rates set by the ECB may not be helpful for the UK economy.

For example, if the UK entered recession before the other Eurozone members, the UK would need lower interest rates to stimulate the economy. However, the ECB may not cut interest rates because other countries were still growing and inflation is a problem. If the UK was in recession and interest rates were too high because of the ECB, it would make the UK recession deeper and more protracted - something very damaging for economy. This potential danger for the economy far outweighs the minor benefits of lower transaction costs and greater exchange rate stability.

The UK is particularly sensitive to interest rates. This is because of the nature of the UK housing market. British consumers have, typically, large variable mortgages. A small increase in interest rates can have a big impact on disposable income. Therefore, if interest rates are too high or too low, it would cause serious problems in the UK Housing market and UK economy. To join the Euro, the UK would need to reform its housing market, reducing impact of variable mortgages, but, this is unlikely to be achieved with fundamental supply shortages.

Gordon Brown devised 5 economic test to see whether membership of Euro is a good idea. But, this is generally a smoke screen to hide the real issues - UK will never benefit from having interest rates set in Brussels?

See also:

• Impact of not joining

Forecast for UK Economy 2009

The UK economy has experienced a long period of economic growth from 1993 - 2008. However, this unprecedented period of unbroken economic growth is coming to an end.

The UK economy is experiencing a number of problems

• Credit crunch leading to shortage of borrowing and lending
• Falling house prices, which is reducing consumer confidence and consumer spending.
• Record debt levels which leave little room for manoeuvre in a recession.
• Cost push inflation making it difficult for the MPC to cut rates. Inflation well above the government's target of 2%
• Increased government borrowing, as the cyclical downturn worsens the governments finances.
  
• Global economic downturn causing lower exports. e.g. even the devaluation in the pound has done little to boost growth.
• Persistent weakness in Manufacturing sector - contributing to persistent current account deficit.
  

In the next 12 months, growth will slow and the economy will enter recession. However, with the slowdown in growth and lower oil prices, inflation will fall enabling lower interest rates. This will help the economy to recover.

The housing market will struggle to recover whilst the shortage of mortgage finance persists. Also whilst house prices are falling people won't want to buy so the problem will be exacerbated.

Falling house prices will also continue to have a negative impact on the economy in 2009.

Finance system collapse