In the aftermath of the worst day for the stock market since last November, Federal Reserve Chairman Ben Bernanke is scheduled to testify before Congress on Tuesday and Wednesday of this week. Session woes on Monday have been blamed largely on Italian elections that saw a strong showing by candidates who are thought likely to reverse austerity measures – the fear being that the European debt mess could get messier. Gold, however, as represented by the SPDR Gold Trust (NYSEMKT:GLD) , was up nearly a percent as it braces for the next economic catalyst of the week.
In a speech at the University of Michigan in mid-January, the Fed Chair commented that the economy was "not out of the woods yet," and added that we are "approaching a number of other critical watersheds." The message of that speech is that more quantitative easing would be required and that the Fed would stick with its December decision to target a 6.5% unemployment rate before making any substantial changes to the base interest rate, as long as inflation stays in check. If this week's testimony is anywhere from neutral to bearish on the economy, I would expect gold to make a strong showing. The final piece of the puzzle, of course, is that Congress seems no closer to avoiding the sequestration cuts due at the end of this week; all of these factors are bullish for gold.
A new Italian golden age? While the issues surrounding the elections in Italy have not been put to rest, the uncertainty that is being created is a problem itself. The managing director of Wedbush Morgan, Stephan Massoca, said about the elections: "If someone gets elected who is simply not going to play by the rules, what are they going to do? It puts them in a real quandary here because their financial support, their monetary support is all stipulated by the fact that these austerity programs are going to be in place." Renewed unrest in the Italian economy could upset all of Europe and bring the debt crisis back to the forefront. This type of development is bullish for gold.
What about inflation? The central reason that gold bulls are such fans of QE3 is that they believe, as I do, that if you print enough money, eventually inflation shows up. Not to be too cynical, but the reported rate of inflation will remain in check for as long as the people who calculate it work for the people who need it to stay in check. Let me be clear that I have no desire to deride the dedicated men and women who work at the U.S. Bureau of Labor Statistics. The unfortunate reality of things, however, is that if you need evidence of inflation, go to the grocery store or the gas pump. Do you remember when $4 gas made news? Seeing that price at the gas station does not even raise eyebrows any more.
There is increasing evidence of dissension within the Federal Open Market Committee about the efficacy of the current course of quantitative easing. A recent piece in The New York Times reports: "An increasingly outspoken minority of Fed officials are concerned that monthly purchases of about $85 billion in Treasury securities and mortgage-backed securities are doing more harm than good. They argue the effort may need to end even before the nation's unemployment rate drops, because it is encouraging excessive risk-taking and could make it harder to control inflation." If Bernanke's testimony shows even a hint that the dissenters are gaining ground, gold may see some real pressure, although this is highly improbable.