According to figures release by the Bank of Jamaica (BOJ), the Net International Reserve (NIR) at the end of March 2006 stood at US$2,078.14m, this approximates to 28.26 weeks of goods imports based on FY 2005/2006. By any standard this is excessive, especially considering the source of that foreign exchange in that it was not earned by the country but garnered through borrowing. In addition there is as much hard currency in the local A and B accounts as there is in the NIR.

Three cards men

The Minister of Finance and his protégé the Governor of the Bank of Jamaica (BOJ) are at pains to explain that the NIR was not accumulated from loans.  The simple fact is that the NIR at the end of February 2006 represents 36% of the country’s external debt stock of US$5,621.88m.  It hardly matters which pocket its in, the bottom line is that Jamaica could significantly reduce the external debt from the NIR. 

Use of the NIR

Assuming that there is good justification to maintain the NIR at the present level, the question becomes how best to utilize it to maximize the benefits and simultaneously minimize its risk. In two previous articles we suggested some better uses of the NIR. The first was that the composition of the NIR is (http://www.paypereditor.com/artman/publish/article_27.shtml) weighted more in  Euros and in the second that 50% of the NIR be utilized to secure a years’ oil need through futures or options contracts on one of the major oil exchanges (http://www.paypereditor.com/artman/publish/article_46.shtml) . This being our third article on the subject we are suggesting another use in the short-term; position in gold.

Passing of the buck

There is nothing revolutionary or speculative about holding gold as part of the reserve of a central bank. Actually prior to 1946 reserves were only held in gold. It was the Bretton Woods system that ultimately gave the US dollar international stature and the world its first fiat currency. In 1975 the US dollar began to float freely on currency markets and became the standard unit of currency in international trade. The first real challenge to the dominance of the dollar came with the launch of the Euro in 2002.

The vulnerability of the dollar is better understood in the context that the US Treasury can print as much dollars as demanded without providing any goods or services in exchange. It has thereby been able to run trade deficits ad infinitum without any negative consequences to the US economy by a system of “print and pay”. As more countries move to price commodities like oil in Euros the demand for dollars will lessen and the US will have to earn-its-keep like the rest of us.

If that is not convincing enough, watch how the situation will play out with China. The renminbi was pegged to the dollar in the mid-1990s at Y8.28. Now the US is bawling “bloody murder” as it claims the Chinese currency is under-valued thus enabling it to flood the US with cheap goods; the problem it faces is that if China obliges it will inflate the US economy, cause upward movement in US interest rate and likely prick the housing bubble.

Gold comfort

Being diagnosed with cancer will not exactly tell how much longer a person will live; the same goes for the value of the dollar.  

Globally, central banks are diversifying their reserves out of the US dollar for good reasons. Why gold? In 1919 the price of gold was fixed at US$20.67 per troy ounce or US$224.67 in 2004 dollars. It closed that year at $438, a return in real terms of almost 95%.

Looking at the price of gold over the last 20 years, it is clear that it has not kept pace with inflation in the United States. This is exactly why we believe that there is some short-term gain for the taking by shifting some of the NIR to gold. With the price of gold just shy of the US$600 mark there is some upside to about US$845 to the crest.