Thursday, August 22, 2013

Shortage and Tightness in Gold Supply

A “shortage or tightness of supply” means that unless demand slackens or supply increases, the price must rise. Given the strong demand for physical gold at the moment, a decline in demand at current price levels seems unlikely.

In contrast to national currencies, the supply of which can be increased to any quantity by mere bookkeeping entries, physical gold comes from two sources – new mine production or the existing aboveground stock. But mine production is relatively fixed. As I explain in The Aboveground Gold Stock: Its Importance and Its Size, the aboveground stock of gold grows consistently year after year by 1.8% per annum, which is not rapid enough to satisfy current demand.

Consequently, the present “shortage or tightness of supply” of gold can only be relieved from its existing aboveground stock. The only way for that to happen is for the gold price to rise high enough to entice people to exchange their physical metal for dollars, which is what happened the last two times gold was backwardated.

In summary, when gold backwardated in 1999 and in 2008, it marked important lows and key turning points in the gold price, which thereafter began multi-year uptrends. I expect the same outcome to be repeated now given that gold is once again in backwardation.

- Source, Goldmoney: