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February 10, 2006
By:
Tom Szabo
SILVERAXIS.com
This
commentary seeks to provide a very high level overview
of the complex issues involved in assessing future silver
demand resulting from new technologies, whether in the
field of medicine, electronics, construction,
agriculture, commerce, science or otherwise.
Since the use of silver in all consumer
and commercial products, with the exception
of photography, is considered industrial
use, this commentary is really about future
industrial demand for silver.
Other silver commentators
who periodically discuss
exciting new technologies that utilize silver often
have failed
to address at least three critical factors: (1) the total amount
of silver that these new technologies will use, (2)
price elasticities and the ability to substitute other
materials or processes for those that utilize silver
and (3) the relative importance of future industrial
demand compared to photographic, ornamental, investment and
monetary demand. As a result, these experts paint
an incomplete, and even inaccurate, picture of
future silver demand fundamentals.
My
own preliminary conclusion at this point is that there
is much more hype than reality concerning many
potential future uses of silver including its use in batteries,
superconductors, wood preservatives and antibacterial
agents. On the other hand, solar panels, reflective
window coatings,
water purification and soldering alloys represent a
significant potential for growing industrial demand.
In
a subsequent series of commentaries, I will analyze
in greater detail each of the important factors contributing
to future industrial demand for silver.
How
Much Silver Will New Technologies Use?
Potential
silver usage in new
technologies is an extremely difficult subject to study
but perhaps we can simplify the effort by
focusing on some of the most important considerations including:
(a) the percentage of the total product cost represented
by silver, (b) the ability to substitute another material
or process and (c) the efficacy of silver's use in the
technology.
In
general, the cost of silver in most industrial
applications is a fraction of the total cost of production
because silver is used primarily as a coating, plating,
surfactant,
membrane, alloy or diffused catalyst instead of a
solid form. The absolute need to conserve silver by applying
it only as a coating or a micro ingredient is due
mostly to
its expense and limited availability compared to the
filler
materials that form the core of the coated application. In
some cases, silver's softness and interaction
with other metals can dictate the quantity
and manner in which silver is utilized in
a particular industrial application. It stands to reason, therefore, that the price of silver could increase by several multiples before input
costs would significantly alter the production
equation. As a result, silver's industrial use is not very price sensitive. Said
another way, substantially
higher silver prices would not curtail industrial
demand
significantly.
On the other hand,
the use of silver in new technologies must be looked
at more carefully since here the innovative silver-based application must
compete with both existing and alternate new technologies on the basis
of price and performance. Minute qualitative
or quantitative differences between
competing products
can make all the difference.
It
is important to realize that there
are actually only a few current and new technologies
in which silver is so critical and comparatively effective that it
cannot be substituted under any circumstance. Certain electronic, catalytic
and other applications simply have no reasonable or
safe substitutes,
including electric contacts that are subject to extreme heat, voltage
or performance tolerances, jet engine ball bearings
and other machine parts that are subject to extreme
heat and friction,
some catalytic applications, military or space use and scientific
research. In many other current and potential future applications
where silver might be the ideal material, it must be
remembered that aluminum has
over 95% of silver's reflectiveness
and copper has
around 97% of silver's conductivity. Also,
many silver alloys exhibit properties very
close, and in some cases superior,
to that of pure silver, permitting
the further dilution of the already low
quantity of silver used in certain applications.
The
point I am trying to make is that silver
is critical to industrial society in only
a somewhat narrow sense.
For
example, an
area where silver has clear alternatives
is in the field of medicine. Despite
rave reviews from some corners about silver's bactericidal properties
when internally consumed,
there is deafening silence from the medical community itself.
Perhaps this has to do with the fact that
ingested silver can be toxic
to humans and is unproven. In any case,
new deployments of silver in conventional
medicine will be done in moderation, if
at all,
which implies very little actual demand
as measured in ounces. Even topical applications,
such as the silver formulations used
in burn centers and in some bandages, do
not add substantially to silver demand for
medical use.
Furthermore,
silver does not appear to have clear advantages
over copper, boron or organic pesticides and wood
preservatives, uses which could result in substantial new
demand
for silver.
Silver
also has a niche role in battery technology.
Silver is used primarily in the silver-zinc button battery
and in certain military
applications.
These battery technologies, while very
important, use comparatively little silver.
Meanwhile, the amount of nickel, lead, mercury and
lithium used in batteries that power most
of the world's mobile and storage applications
such as cell phones, laptop computers, iPods,
backup generators, electric vehicles, etc.
reaches into the millions of pounds per
year. Clearly silver is too rare to ever
satisfy even a small fraction of the
world's battery needs (Note 1).
Several promising
technologies that will see gradually expanded
use in the future, including solar panels,
"Low E" window coatings and water
purification applications, are likely to
use a moderate amount of silver that will meaningfully
add to industrial demand only in the long
term.
Perhaps
the greatest impact on industrial demand
in the near future might be the increased
use of silver alloys for soldering due to
government mandates for lead-free potable
water systems and consumer electronics.
All
in all, it is very difficult to make a case
that new technologies will meaningfully
impact industrial silver demand over the
next few years. Instead, it is the proliferation
of existing technologies
in developing countries such as China and India that
will continue to provide the impetus. This,
of course, is a strong argument for
a continuing rise in the price of silver
as a component of the commodities complex.
Other
Sources of Silver Demand
Industrial
demand for silver is actually eclipsed by photographic
and ornamental (jewelry,
tableware, commemoratives, art, etc.) demand. But photographic demand has most likely
peaked (Note 2) whereas ornamental demand is likely to decline
at higher silver prices (Note 3). Yet there are two
other sources of demand that potentially
loom large.
The first, monetary demand,
is somewhat of an enigma. There is no economic
model for the scenario in which the world's
paper currencies are in such dire shape
that gold, and to a lesser extent silver.
start to be used once again as money. While
there are appealing aspects to a gold-silver
monetary system, that is not a world most
of us would want to live in, especially
during the prolonged adjustment period.
Monetary demand, should it emerge, would
likely eclipse all other forms of demand
and there is really no point talking about
industrial demand under such a scenario.
One
additional aspect of a gold-silver monetary
standard that is rarely discussed is that
gold and silver will no longer trade in
a free market once they are regulated (issued
as money) by governments. At least to me,
it seems quite hypocritical for many silver
and gold advocates to claim on one hand
to be fervently
anti-government while on the other hand
they wish for the return
to government control of our precious gold
and silver! I hope to write a series of
commentaries on this topic, which has many
ramifications not currently being addressed
by anyone within or outside the silver and
gold circles.
This
leaves investment demand, the so called
"X" factor in silver's future
price. Investment demand for silver is theoretically
limited only by the desire of individuals,
organizations and governments to convert
paper or physical wealth into silver. Considering
the amount of silver currently available
for investment compared to the notional
value of paper and other physical assets,
it appears that very little physical demand
for silver could be accommodated. In fact,
the demand from a single Exchange Traded
Fund (ETF) in silver could cause a major
rise in silver prices from current levels.
Yet, it is dangerous to get carried away
with a simplistic analysis of what incremental
investment demand might do to the price of silver.
The fact is that a fixed amount of dollars or
other currencies will buy less and less metal
as the price of silver rises, creating a
dampening effect to investment demand that
is often ignored by silver commentators
when they make future price predictions. This
dampening effect could be compounded by the
plunging value of paper and other non-precious
metal assets being liquidated during a
panic, resulting in less
and less purchasing power available to acquire silver
and gold.
My point is that prognosticating about the
future becomes much easier and less embarrassing
when you realize that there is some rational price at
which any given level of investment demand reaches equilibrium
with silver and gold supply (Note 4).
Conclusion
Please
don't get me wrong, I think silver has great potential
for price appreciation, but none of its new industrial
or fabrication uses appear to be the catalyst for soaring
prices in the short to medium term. Instead, we should look to investment
demand (namely, private speculation
and hoarding) to clear the current imbalances in the
silver market at substantially higher prices.
The problem with this outcome is that it
will create only a temporary source of demand,
although hopefully of much longer duration
than in previous bull markets.
Further
out in time, perhaps even a few decades
from now, we will begin to approach depletion
and production limits in the global natural
resource base. In such a world, land, agricultural,
energy and mineral resources and precious metals will probably
be the preeminent assets classes. Only
then will silver's widespread industrial
demand become a significant factor in its
rising price as a permanent war (both literal
and figurative) between silver users
and silver hoarders could break out. Similar wars
might be waged over other natural
and agricultural resources to the point
where governments will possibly begin restricting
private ownership. Ironically, gold might become
the only safe, direct way to play the natural
resource game in such a confiscatory environment.
But that is in the distant future. For now,
silver is one of the best speculative opportunities
available only to the little guys like you
and me.
____________________________
Note
1
The truth is
that silver has rather limited applications as
a battery technology due mostly to its price compared
to other suitable materials. Silver typically functions
as the cathode where a positive charge collects
ions, typically of zinc, corroded by the battery's alkaline
electrolyte. Since silver-zinc alkaline batteries aren't particularly
known for their recharging abilities or long operating lives,
they are used primarily in niche applications
such as button batteries that cannot be
recharged or by the military and space agencies
where cost considerations are not very important.
The power needs of hybrid vehicles,
mobile consumer electronics and generators
are
quite specific and different. Their power sources require a
rational price level, cycling capability
and long operating life, something for which a
silver
battery is not necessarily the best suited. This is not to say
that silver might not see limited use in new battery
designs
that could power mobile or storage applications. It's just that the battery—any battery—will probably
never be practical
for propelling vehicles or powering electricity hungry
devices, regardless of whether silver
or some other material turns out to be the basis of
the most efficient design.
Instead,
the future of mobile power and local energy
generation lies with
something called a fuel cell. A fuel cell uses a chemical reaction,
a replenishable energy source or other
means to generate power instead
of simply storing an electrical charge. For example,
the hydrogen fuel cell combines hydrogen gas and oxygen
in a chemical process that can generate an electric
current, heat or combustion
with the only by-product being water. While it is conceivable
that some as yet unidentified process in future fuel
cell technology will utilize silver, none of silver's
known qualities are currently viewed as critical to
the development of tomorrow's fuel cells.
Note
2
Please
don't e-mail me about that well-known fact
wherein every ounce of silver used in photography is
recycled resulting thusly in zero net demand. The truth
is, perhaps 75-80% is recovered, a high percentage but
one that still leaves a substantial net demand for silver
from photographic use. In addition, not every
recycled ounce goes back to the photographic industry.
This causes
a structural offset in supply and demand (for example,
silver from recycled photochemicals is often processed
into rolled stock for use in various industrial
applications), which can have an impact
on silver prices in the very short
term.
And no, the Chinese will not be rushing in droves
to buy film cameras as they join the middle class. After
all, their cell phones already come with digital cameras!
It is also interesting to note that the cell phone is
used as the home phone in many parts of China. It seems that most of the developing world is willing
to trade the cost and inconvenience that comes with
building an infrastructure to support old
technology
(wired telephone, film camera) for the instant cheap
gratification of joining modern society (cell phone
w/ digital camera). Go figure! When you factor in the
fact that digital
cameras keep improving as prices fall while film cameras
are a mature product with few possible improvements
in quality or functionality, it is not hard to see the
imminent future of photography.
Note
3
Not
only will traditional cultural buyers in India and elsewhere
largely disappear from a market where silver is spiraling
well above $10, but even the affluent in the developed world
may think twice about paying multiples of the current
price for sterling silver spoons, tea sets or jewelry. Many analyses
of future silver demand simply ignore this fact, resulting
in very poor and improbable conclusions. In fact, at
high enough silver prices, ornamental silver
could actually result in a net supply of silver to the
market.
Note
4
At
$550 per ounce, the world's current gold
wealth is measured at roughly $2.5 trillion
while silver at $9 per ounce results
in a combined silver-gold wealth of almost
$2.7 trillion (assuming 4.5 billion
ounces of gold and 20 billion
ounces of silver are held in various form
worldwide, which is the best estimate I
am able to come up with at this time). Were
prices to double from here, a very real
possibility, the figure would reach over
$5 trillion
which is a tremendous number keeping in
mind that real estate and other physical
assets (factories, farms, energy plants,
sources of water, mineral deposits, intellectual
property, military might, etc.) would retain
some real economic value. Many "self-educated
economists" dwell on the amount
of paper assets supposedly drowning the world's
economies while
ignoring the fact that most of that paper is collateralized
by physical assets. Another mistake we should
avoid when having this discussion is to
bring up the topic of derivatives, which
are nothing more than a global zero sum
game.
Sure, paper is overpriced
and therefore physical assets serving as
collateral could experience
severe declines in value compared to silver
and gold, but there is a finite limit to
this. For example, at $3,000 gold and $100
silver, the combined precious metals wealth
would climb to over $15 trillion (the entire
U.S. money supply, as measured by M3, currently
stands at $10 trillion). At some point,
it would become incrementally more difficult
and less effective to convert other assets
into gold and silver because there would
be few buyers for the assets and even fewer
sellers of gold and silver. In fact, there
would come a theoretical point when the
only buyers of other assets would be sellers
of gold and silver. I guess that's one way
to arrive at an equilibrium!
Let
me address another piece of faulty logic
that I have often read about but have never seen
challenged. This is the fallacy of what
happens to the silver market when a billionaire
wants to buy a billion dollars
worth of silver. The theory is that he or she
could not buy that much silver today because it
is simply not available. This, of course, is ridiculous.
Suppose the billionaire wanted to acquire
the silver relatively quickly which required
a large degree of transparency in the marketplace.
What you would see, as happened in 1979-80
with the Hunts and again in 1997 with Warren
Bufett, is an immediate and unsustainable
price rise resulting in an average acquisition
cost much higher then the market price immediately
before and after the buying spree. Depending
on the recklessness of the buyer, he or
she could theoretically pay an average of
$100 per ounce or more and therefore acquire only
10 million ounces of silver! In effect, this is sort
of what the Hunt brothers did on a larger
scale, and they lost their gambit because
the system turned out to be bigger and meaner
than they were. If I was a billionaire and I
wanted to buy a billion dollars worth of
silver today, I would first buy a stake in some
silver mines and take it easy on the physical
buying, accumulating a moderate position
in bullion over several years..
Bill Gates (Pan American) and George Soros
(Apex) seem to have gotten this at least
partially right.
The
so-called billionaire quandary does demonstrate
the limited size of the silver market. But
far from being a positive for silver, what
this does is prevent gains in the credibility,
financial muscle and transparency of the
silver market by precluding the entry of many
large sophisticated
positions on the long side. Which is just
as well since most billionaires don't
seem to be the type to chase a trend. I
would instead expect some of them to quietly
start acquiring the sources and means of the production
of mankind's basic needs (farmland, water
rights, energy reserves. etc) leaving the
clueless masses to chase an eventual bubble
in silver and gold. And what about those of us who
realize all this and have therefore established a
solid silver and gold position at current or
lower price levels?
We will have bested the billionaires at
their own game by taking the opportunity to properly
warm up for the real investment opportunity
of the millenium (buying silver and gold now, converting
to basic commodities later)!
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