Is gold the new dollar?

11/04/2009 9:21 am EST

Focus: STOCKS

Jim Jubak

Founder and Editor, JubakPicks.com

News on November 3 that the Reserve Bank of India, the country's central bank, had purchased 200 metric tons of gold between October 19 and 30 from the International Monetary Fund sent gold soaring to a new all-time high. The yellow metal closed at $1090 an ounce.

And it set loose speculation that could easily push gold to $1300 an ounce on the current trend.

What's set tongues wagging?

The idea that the buy by the Reserve Bank of India could be a signal that the world's central banks are buying serious amounts of gold to hedge against a further decline in the U.S. dollar.

If India's buying, the thinking goes, can China be far behind?

China has been quietly buying gold for years, doubling its holdings over the last six years. But the country still holds only 2% of its reserves in gold. That’s short of India’s 6.2% of reserves in gold after this buy. But both figures are far short of the 60% average in Europe or the 77% of reserves that the U.S. holds in gold. The global average for the percentage of reserves held in gold peaked at 32.7% in 1989. In 2008, after 20 years of selling by the world’s central banks, the global average was down to just 10.3%

There's enough logic to this theory to make it a powerful force in pushing up the price of gold. The U.S. dollar does, indeed, seem to be in a long-term decline. Many of the countries with large currency reserves such as China are heavily over-weighted toward the dollar and are known to be looking for alternatives. The currency alternatives to the dollar have their own problems ranging from low trading volumes to fiscal deficits at home.

Gold, in contrast, looks like a stable store of value for the long term.

Which may explain why it is rising not only against the U.S. dollar but against all of the world's major trading currencies. Since the beginning of September gold has outperformed even such "strong" currencies as the euro and the Australian dollar.

I don't see the rally in gold ending soon. If you ran one of the world central banks, could you think of a good reason to put your faith in th U.S. dollar?

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