Golden thoughts...

At a presentation by the IMF on their outlook for the world economy in Feb/ Mar this year, with wonderful charts and graphs that depicted their view of the world growing at a healthy 4.8% for 2007, I asked the presenter - one of the regional or executive directors - whether he could could compare the risks to the world economy (which he had touched upon briefly) to any other period in history or in his memory in terms of severity.

Background note - I was thinking 1929! With $400+ trillion in derivatives compared to global GDP of $50 trillion odd, everyone busy speculating, fortunes being made by trading......

He thought about it and said that, roughly, the risks were a little like (in order of magnitude/ scale) perhaps the mid-1990's. Wow! We did'nt have any of this craziness (huge derivatives positions, crazy imbalances) then and he thinks mid 90's!

So in the cocktails after that I got to talking with a couple of central bank (CB - for short) people (and fairly senior ones, guys 1 level below the chairman or governor of country's CBs) and they said that in the meetings attended by them with major CBs, the overall view was as sanguine and comfortable. Oh yes, there were risks and imbalances in the world but what the hell, the world economy was growing at a rapid clip......

Then all hell breaks loose with CDOs and sub-prime that seems to spread from Europe to Australia (after CBer Ben Bernanke and Paulson have repeatedly said that sub-prime will be contained!!) and suddenly the whole global financial system looks far more fragile.

A little more about those derivatives I spoke of - roughly $450 trillion (its gone up since Feb/ Mar), about 70% is in currency derivatives, 20% in debt/ bond derivatives, the rest 10% between equities, commodities etc.

So next week we will see Bernanke make a choice -

If he cuts the Fed Funds rate by 25bp, gold will continue to rocket, the dollar will continue its decline against major currencies - and most commodities will continue to rise. This path is a sure bet to financial armageddon - not only will it devalue the dollar, it runs the risk of triggering major losses on the large 70% of derivatives that are on currencies - it will make the CDO/ sub-prime problems look pedestrian.

If he does not cut, the stock markets will take a hit, the influential broker-dealers will not be happy since short term funds will not be cheaper. But guess what, if the Fed shows even the slightest sign of a spine in fighting inflation v/s a slowdown (which is a given, with the mess that is US housing), 10 and 30 year bond yeilds will actually drop or stabilize (they went up after the 50 bp cut!) and make home loans cheaper in the US.

I am still long gold, short base metals (though I have pared my long gold positions last week, to buy back in at lower levels, which I hope I get, no certainty).

The last decade or so has created quite a mess for the future - in the world of finance and in the environment.......

Must choose a more optimistic topic/ post next time.....