In the opening years of the last decade, most mainstream investors sat on the sidelines while "tin hat" goldbugs rode the bull market from below $300 to just over $1,000 per ounce. But following the 2008 financial crisis, when gold held up better than stocks during the decline and made new record highs long before the Dow Jones fully recovered, Wall Street finally sat up and took notice. The new devotees helped to push gold to nearly $1,900 by September of 2011. For the next year and a half it held relatively steady, trading mostly between $1,500 and $1,800 as more mainstream investors caught the fever. But now it appears that the brief love affair is at an end. It was really only a flirtation as the two were never a good match in the first place. Gold's new suitors never understood the fundamental case for gold and now they are turning their affection back to their true love: U.S. equities.
This is creating a brutal season for gold investors. The metal is in the midst of its largest pull back in nearly five years, and as the selling has gathered momentum powerful Wall Street voices as diverse as Goldman Sachs and George Soros have declared the end of its nearly fifteen year run of dominance.
The story line put out by most of these analysts is that gold shined as a safe haven during the Great Recession, but its allure has evaporated with the recent "improvements" in the global economy, particularly in the United States. Ironically, this ignores the fact that gold actually performed better in the years leading up to the 2008 financial crisis than it did during or following the crisis. That may be because the inflationary monetary policy that fueled the housing bubble also powered gold. Deflation fears led to gold's 35% decline in 2008, but once the Fed reopened the monetary spigots gold rallied to new highs. But in 2008 gold fell in concert with nearly every other asset class. This time, it's falling while other assets are rising. The negative spotlight makes the current decline potentially more meaningful.
Neither the new round of Keynesian expansion in Japan nor the recent fallout from the Cypriot solvency crisis produced gold rallies. Bears cite these failures as the signs that the bull is dead. The latest warning bell came late last week when the Bank of Cyprus announced that it would be selling its gold reserves in order to raise the cash to pay its debts. Concerns quickly spread that other heavily indebted Mediterranean countries with large gold reserves like Greece, Portugal, Italy and Spain would follow suit. The tidal wave of selling would be expected to be the coup de grace for gold's glory years. While this neat narrative may be sufficient to convince the financial media that an historic shift is underway, wiser minds will see more nuance.
While the vast majority of economists see gold as the "barbarous relic" described by Keynes, the sentiment has not stopped many central bankers from holding huge quantities as currency reserves. It is a curious phenomenon that the countries with the most daunting debt problems have the highest percentage of gold in their foreign exchange reserves. Many of these countries were formerly prosperous, and at various points in their histories had gold-backed currencies that required large reserves. These legacy assets now account for the bulk of their reserve wealth.
The United Stated leads the pack with both the largest amount of gold in reserve (8,133 tons) and one of the highest percentages (76%). Other heavily indebted developed countries are not far behind: Italy has 2,450 tons and 72% of reserves, France has 2,435 tons and 71% reserves, Portugal has 382 tons and 90% reserves, and Greece has 112 tons and 82% reserves. Tiny Cyprus, whose travails are creating global ripples, has just 14 tons (58% of reserves).
In contrast, the quickly developing emerging market economies are conspicuous for very small gold reserves, particularly in comparison to their much larger reserves of foreign currencies. Many of these countries have generated large amounts of U.S. dollar reserves as a result of ongoing trade surpluses. While China has more than 1,000 tons of gold, the cache only represents 2% of their enormous foreign exchange coffers. Even gold loving India has just 10%. Neither Russia, Taiwan, Thailand, Singapore, Mexico, South Korea, Indonesia, Malaysia, Saudi Arabia, nor Brazil has more than 10% (with most having far less than 5%). Bankers and political leaders in all of these countries, particularly India and China, have lamented publicly about the very high percentage of U.S. dollars in their reserves, and have even spoken fondly about the reliability and importance of gold.
The heavy debtors in the Eurozone have few pleasant options to deal with their insolvency. As illustrated by Cyprus, the choices may come down to painful austerity or raiding supposedly sacred bank deposits. The sale of gold reserves may provide a much more palatable option for politicians. After all, do voters really care how much gold sits in national vaults? For now at least, international central bank gold agreements limit the amount of gold that they can sell in a given year. But as these sovereign debt crises deepen for countries like Italy and Portugal, many justly question how long these paper agreements will keep the selling pressure at bay.
While I believe that they may indeed succumb to the temptation, such moves may not be disruptive, or even negative for gold. Large divestitures by some countries may lead to corresponding accumulations cash rich, but gold poor, creditor nations like India, China, Russia, and Indonesia. Such transactions would likely take place through private, direct, and tightly communicated sales. As a result, they would be far less disruptive than would be the case were they to occur in relatively thinly traded public markets as many now fear.
Such a transfer in gold holdings would be the logical result of the drift of the global economy over the past half century. Despite its current disfavor, gold is real wealth. Governments and bankers know this. As the emerging economies gain wealth, and the developed countries dissipate wealth through welfare-state debt accumulation, it is inevitable that the gold follows. It's not a question of if, but when.
While nations buying gold will pay for their purchases with dollars, the sellers will not re-invest the proceeds into Treasuries. Dollars raised through gold sales will be converted to local currency and used to repay debt. This will put downward pressure on both the U.S. dollar and Treasuries. In addition, emerging market central bankers will be more likely to hold onto gold for the long-term, thereby providing a bullish impact on the market. In essence, such a shift would flush out the weak hands who don't have the resources to protect their wealth in favor of stronger hands that do.
Creditor nations that buy gold cheap from bankrupt nations forced to sell at distressed prices will see the value of their reserves swell, thereby gaining the independence and confidence they need to finally break their reliance on the U.S. dollar as their principal reserve asset. When the reign of "king dollar" finally comes to a belated end, let's hope all the gold we allegedly have stored in Fort Knox is actually there. We're going to need every ounce of it.
Peter Schiff is the CEO and Chief Global Strategist of Euro Pacific Capital, best-selling author and host of syndicated Peter Schiff Show.
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The financial world was shocked this month by a demand from Germany's Bundesbank to repatriate a large portion of its gold reserves held abroad. By 2020, Germany wants 50% of its total gold reserves back in Frankfurt - including 300 tons from the Federal Reserve. The Bundesbank's announcement comes just three months after the Fed refused to submit to an audit of its holdings on Germany's behalf. One cannot help but wonder if the refusal triggered the demand.
Either way, Germany appears to be waking up to a reality for which central banks around the world have been preparing: the dollar is no longer the world's safe-haven asset and the US government is no longer a trustworthy banker for foreign nations. It looks like their fears are well-grounded, given the Fed's seeming inability to return what is legally Germany's gold in a timely manner. Germany is a developed and powerful nation with the second largest gold reserves in the world. If they can't rely on Washington to keep its promises, who can?
Where is Germany's Gold?
The impact of Germany's repatriation on the dollar revolves around an unanswered question: why will it take seven years to complete the transfer?
The popular explanation is that the Fed has already rehypothecated all of its gold holdings in the name of other countries. That is, the same mound of bullion is earmarked as collateral for a host of different lenders. Since the Fed depends on a fractional-reserve banking system for its very existence, it would not come as a surprise that it has become a fractional-reserve bank itself. If so, then perhaps Germany politely asked for a seven-year timeline in order to allow the Fed to save face, and to prevent other depositors from clamoring for their own gold back - a 'run' on the Fed.
Now, the Fed can always print more dollars and buy gold on the open market to make up for any shortfall, but such a move could substantially increase the price of gold. The last thing the Fed needs is another gold price spike reminding the world of the dollar's decline.
Speculation Aside
None of these theories are substantiated, but no matter how you slice it, Germany's request for its gold does not bode well for the future of the dollar. In fact, the Bundesbank's official statements are all you need to confirm the Germans' waning faith in the US.
Last October, after the Bundesbank had requested an audit of its Fed holdings, Executive Board Member Carl-Ludwig Thiele was asked in an interview why the bank kept so much of Germany's gold overseas. His response emphasized the importance of the dollar as the world's reserve currency:
"Gold stored in your home safe is not immediately available as collateral in case you need foreign currency. Take, for instance, the key role that the US dollar plays as a reserve currency in the global financial system. The gold held with the New York Fed can, in a crisis, be pledged with the Federal Reserve Bank as collateral against US dollar-denominated liquidity."
Thiele's statement can lead us to only one conclusion: by keeping fewer reserves in the US, Germany foresees less future need for "US dollar-denominated liquidity."
History Repeats
The whole situation mirrors the late 1960s, during a period that led up to the "Nixon Shock." Back then, the world was on the Bretton Woods System - an attempt on the part of Western central bankers to pin the dollar to gold at a fixed rate, while still allowing the metal to trade privately as a commodity. This led to a gap between the market price of gold as a commodity and the official price available from the Treasury.
As the true value of gold separated further and further from its official rate, the world began to realize the system was unsustainable, and many suspected the US was not serious about maintaining a strong dollar. West Germany moved first on these fears by redeeming its dollar reserves for gold, followed by France, Switzerland, and others. This eventually culminated in Nixon "closing the gold window" in 1971 by ending any link between the dollar and gold. This "Nixon Shock" spurred chronic inflation throughout the '70s and a concurrent rally in gold.
Perhaps the entire international community is thinking back to the '60s, because Germany isn't the only country maneuvering away from the dollar today. The Netherlands and Azerbaijan are also discussing repatriating their foreign gold holdings. And every month, we hear about central banks increasing gold reserves. The latest are Russia and Kazakhstan, but in the last year, countries from Brazil to Turkey have been adding to their gold holdings in order to diversify away from fiat currency reserves.
And don't forget China. Once the biggest purchaser of US bonds, it is now a net seller of Treasuries, while simultaneously gobbling up gold. Some sources even claim that China has unofficially surpassed Germany as the second largest holder of gold in the world.
Unlike the '60s, today there is no official gold window to close. There will be no reported "shock" indicator of a dollar flight. This demand by Germany may be the closest indicator we're going to get. Placing blame where it's due, let's call it the "Bernanke Shock."
It Takes One to Know One
In last month's Gold Letter, I wrote about the three pillars supporting the US Treasury's persistently low interest rates: the Fed, domestic investors, and foreign central banks - led by Japan. I examined how Japan's plans to radically devalue the yen may undermine that country's ability to continue buying Treasuries, which could cause the other pillars to become unstable as well.
While private investors and even the Fed might be deluding themselves into believing US bonds are still a viable investment, Germany's repatriation news makes it clear that foreign governments are no longer buying the propaganda. And why should they? If anyone should appreciate the real constraints the US government is facing, it is other governments.
Our sovereign creditors know that Ben Bernanke and Barack Obama are just regular men in fancy suits. They know the Fed isn't harboring some ingenious plan for raising interest rates while successfully selling back its worthless mortgage and government securities. Instead, the Fed is like a drug addict making any excuse to get its next fix. [See Bernanke's tell-all interview with Oprah where he confesses to economic doping!]
US investors should be as shocked as the Bundesbank about the Fed's deception. While we cannot redeem our dollars for gold with the Fed, we can still buy gold with them in the open market. As more investors and governments choose to save in precious metals, the dollar's value will go into steeper and steeper decline - thereby driving more investors into metals. That's when the virtuous circle upon which the dollar has coasted for a generation will quickly turn vicious.
Peter Schiff is CEO ofEuro Pacific Precious Metals, a gold and silver dealer selling reputable, well-known bullion coins and bars at competitive prices.
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This past Friday, as Fed Chairman Ben Bernanke delivered his annual address from Jackson Hole - the State of the Dollar, if you will - I couldn't help but hear it as an incumbent's campaign speech. While Wall Street was hoping for some concrete announcement, what we got was a mushy appraisal of the Fed's handling of the financial crisis so far and a suggestion that more 'help' is on the way.
It is important to remember that it's not just President Obama's job on the line in this election; in two years time, the next President will have the opportunity to either reappoint Bernanke or choose someone else. So we must understand what platform Bernanke is running on, as his office has an even greater effect on global markets than the President's.
Bernanke has been the perfect tag-team partner for George W. Bush and then Barack Obama as they have pursued an economic policy of deficits, bailouts, and stimulus. Without the Fed providing artificial support to housing and US debt, Washington would have already been shut out of foreign credit markets. In other words, they would have faced a debt ceiling that no amount of bipartisan support could raise. Fortunately for the politicians, Helicopter Ben was there to monetize the debts.
As far back as his time as an academic, Bernanke made clear that when the going got tough, he wouldn't hesitate to fire up the printing presses. He specialized in studying the Great Depression and, contrary to greater minds like Murray Rothbard, determined that the problem was too little money printing. He went on to propose several ways the central bank could create inflation even when interest rates had been dropped to zero through large-scale asset purchases (LSAPs). Sure enough, the credit crunch of 2008 gave the Fed Chairman an opportunity to test his theory.
All told, the Fed spent $2.35 trillion on LSAPs, including $1.25 trillion in mortgage-backed securities, $900 billion in Treasury debt, and $200 billion of other debt from federal agencies. That means the Fed printed the equivalent of 15% of US GDP in a couple of years. That's a lot of new dollars for the real economy to absorb, and a tremendous subsidy to the phony economy.
This has bought time for President Obama to enact an $800 billion stimulus program, an auto industry bailout, socialized medicine, and other economically damaging measures. In short, because of the Fed's interventions, Obama got the time and money needed to push the US further down the road to a centrally planned economy. It is also now much more unlikely that Washington will be able to manage a controlled descent to lower standards of living. Instead, we're going to head right off a fiscal cliff.
The Fed Chairman even admitted to this reality in his statement. Here are two choice quotes:
"As I noted, the Federal Reserve is limited by law mainly to the purchase of Treasury and agency securities. ... Conceivably, if the Federal Reserve became too dominant a buyer in certain segments of these markets, trading among private agents could dry up, degrading liquidity and price discovery." [emphasis added]
"...expansions of the balance sheet could reduce public confidence in the Fed's ability to exit smoothly from its accommodative policies at the appropriate time. ... such a reduction in confidence might increase the risk of a costly unanchoring of inflation expectations, leading in turn to financial and economic instability." [emphasis added]
So we all agree that the prospect of inflationary depression was made worse by the Fed's actions - but at least Ben Bernanke has pleased his boss. As a guaranteed monetary dove, Ben Bernanke appears to be a shoo-in if Obama is re-elected.
Meanwhile, Mitt Romney has pledged to fire Bernanke if elected. While I am not confident that Mr. Romney has the economic understanding to appoint a competent replacement - let alone pursue a policy of restoring the gold standard or legalizing competing currencies - he may well be seen as a threat not only to the Fed Chairman's self-interest, but also to his inflationary agenda.
Given this background, let's look at Bernanke's quotes that have been the focus of media speculation for the past week: the US economy is "far from satisfactory," unemployment is a "grave concern," and the Fed "will provide additional policy accommodation as needed." These comments seem designed to reassure markets (and Washington) that there will be no major shift toward austerity in the near future. The party can go on. But they also hint that Bernanke might be planning to double down again. I have long written that another round of quantitative easing is all but inevitable. It now seems to be imminent.
In reality, when the money drops may have more to do with politics than economics. The Fed may not want to appear to be directly interfering in the election by stimulating the economy this fall, but there are strong incentives for Bernanke to try to perk up the phony recovery before November and deliver the election to Obama. However, if Romney wins, Bernanke can at least fall back on his appeal as a team player as he lobbies for another term.
For gold and silver buyers, either scenario is likely to continue to stoke our market in the short- and medium-term. As the past week's rally indicates, there is no longer a fear that the Fed has had enough of money-printing - in fact, it looks prepared for much more.
Peter Schiff is CEO and Chief Global Strategist of Euro Pacific Precious Metals.
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Many people became convinced that data releases earlier this year indicated that "recovery" in the U.S. was imminent. But as I have been saying for months, this evidence would ultimately be shown to be as reliable as sightings of Bigfoot. Lots of people claim to say they have seen it, some even produce plaster footprints, but in the end all we have is a guy in an ape suit. The economic recovery, that has been discussed so loudly and often in recent months, will be shown to be similarly mythical.
A torrent of recent economic data now reveals weakness, and investors are beginning to take notice. Today's release of the May jobs report showed a paltry 69,000 jobs created during the month, far below consensus estimates. Not only did the current month disappoint, but the June numbers were also revised down by 49,000. This release follows yesterday's downward revisions of first quarter GDP growth from 2.2% to 1.9%. Also lost in the headlines was that the savings rate dropped to 3.4% in April, the lowest rate since December 2007. This shows that Americans may need to deplete their already meager savings just to keep their heads above water as the U.S. economy sinks back into recession.
The bad news sent stocks swooning. The latest sell off brings the S&P 500 down close to 10% from its levels in early April. On the other hand, bonds have reached record highs as investors seek safety in treasuries. However, I believe that treasuries will turn out to be the Facebook of safe havens. Before Facebook went public everyone wanted a piece of the action. But once the allure wore off, and people realized they owned shares of an overhyped company with unreliable earnings and a sky high valuation, the shares quickly lost a good deal of their appeal. Despite the best efforts of the media to declare the end of gold's appeal, the metal continues to shine. Today's reportalso sent gold up nearly 4 per cent. Gold is now down just 3 per cent from May 1, a period that has been horrific for other asset classes.
Oil prices continue to slide as traders brace for a fall-off in global demand that will come from the return of a global recession. What these traders fail to understand is that the recession will likely be resisted by central banks around the world with massive money printing. Such action will be much more likely to push oil prices back up to levels higher than those seen before the recent downturn. Yes recession means consumers will use a lot less oil, but inflation created by the central banks means that they will likely pay a lot more to purchase it.
In recent months as turmoil bubbled across the debt markets of Europe, the United States had beckoned as a safe haven. But in truth, the problems are as bad, if not worse, on this side of the Atlantic. Ironically, America has not had to deal with its day of reckoning because lesser problems surfaced first in Europe. But when Europe comes to some modest resolution of its problems, or when bond investors realize they have jumped from the frying pan into the fire, there will be no hiding from the unresolved problems here.
As the intoxicating effects of Fed stimulus wear off, the hangover is setting in. To delay the pain, I believe that there can be little doubt that the Fed will unleash its next round of stimulus, in the form of QE3. My guess is the Fed has always known more QE was needed but it has been waiting for the most politically palatable time to announce it. That "stunner" can't be far off with the data so bad and the elections so near.
Eventually more people will figure out just how precarious America's fiscal position truly remains. That's when interest rates will finally rise in the U.S. There is no way to justify record low interest rates in this country given our atrocious fiscal position. I believe interest rates here should approach levels comparable to the more indebted European countries. Once it becomes obvious just how many dollars the Fed is prepared to print to stave off recession, people running into treasuries today will likely suffer buyer's remorse. When they rethink their assumptions, as buyers of the Facebook IPO clearly have, the Fed will then become not just the buyer of last resort, but the buyer of only resort. Then the Real Crash may finally be upon us.
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I first came to national attention back in 2008 and 2009 when the housing and credit markets imploded. I became known as the guy that other market "experts" laughed at when I warned of trouble brewing in the seemingly indestructible American economy. After the wheels ground to a halt in mid-2008, people noticed that my book Crash Proof, originally released in early 2007, read like a detailed preview of many of the events that eventually unfolded.
Three years later I am now catching heat from many who assume that my predictions actually fell short. They argue that I was able to anticipate the crash but that I severely underestimated the resiliency of the American economy. They admit that we took an "unexpected" blow to the chin, and that it left a lingering bruise, but they argue that we never hit the canvas like I predicted we would.
However, they mistakenly assumed that the crash I was warning about was solely a housing led credit bubble. While that was part of it, I never saw it ending there. The crash that most concerned me was the one that would result from the government's response to the initial crisis. My concern was not that our economy would succumb to the disease that I had diagnosed, but instead would be taken down by the "cure" that the government unleashed to combat it.
When the government's delaying tactic, which involves continuous debt accumulation and money printing is no longer tenable, the dollar could collapse, borrowing costs and consumer prices could soar and the U.S. economy could implode. That's the real crash that I was warning about, and the one we all need to be worried about now.
This is the subject of my new book "The Real Crash: America's Coming Bankruptcy, How to Save Yourself and Your Country." For now it is just a prophecy but as with my first book, it soon may be regarded as history. Unfortunately, the policies of both the Bush and Obama administrations, and the Ben Bernanke led Federal Reserve, have vastly raised the chances that my catastrophic view will come to pass. However, it's not all gloom and doom - I devote a large majority of the book to solutions. The real crash may be inevitable, but what we do in response is not. We can follow on the path that I recommend back to prosperity, or we can continue on our current course which I believe will lead to economic ruin.
When looking back from a point in the future, I believe that the years immediately after the credit collapse of 2008 will stand out as a period of dangerous economic negligence. We have bought ourselves some time by sweeping enormous problems under the rug. Through a combination of political cowardice, economic ignorance, and false confidence, we are digging ourselves into a hole so deep that it may take generations to crawl out.
Most people assume that half way through 2012 we have made some important positive strides since flirting with the brink of economic catastrophe in the dark days of 2008. Although no one is wildly celebrating the below trend 2 to 3 percent GDP growth, we are continuously reminded that we have turned the corner and that our situation is better than many other regions around the world. But what has really changed?
Immediately prior to the crash, the United States economy was experiencing unprecedented consumer debt levels, persistently high trade deficits, historically large government budget deficits, high-energy prices, and a moribund manufacturing sector. Four years later, all of these problems have gotten worse. And unlike four years ago, we are now saddled with the highest unemployment rate in generations and levels of public debt that would have been unimaginable then. Yes we are no longer technically in recession. But I believe that is just an illusion created by perhaps the cheapest, and most obvious, trick ever devised.
I had argued that our economic growth prior to the crisis was largely a function of the real estate bubble. When that bubble popped, I knew that the economy would have to shrink. And that's just what happened. From 2008 to 2009 our national GDP (of around $14 trillion) contracted by $212 billion. To prevent any further dips, the government aggressively spent, borrowing heavily to do so. To the relief of just about everyone, these moves did stop the nominal contraction. From 2010 to 2011 the U.S. GDP expanded by $502 billion, and from 2011 to 2012 it added an additional $508 billion. All told, from the end of 2008 the U.S. economy added a cumulative $798 billion in GDP. But those gains came at a very high price.
The combined federal deficits for the same time frame come in at a staggering $4.2 trillion! In 2009 alone the feds chalked up a chart breaking $1.4 trillion in debt (the deficit was a mere $161 billion in 2007). In other words, we borrowed five times more than we grew. This "strategy" for growth is no different from an individual who loses half his income, but continues to spend by running up credit card debt. Could this be described as economic growth? But that's just how we are describing our current economy, and for the large part, expert economists, politicians, investors, and academics all agree.
I felt certain before writing Crash Proof that the government would never let the economy contract far enough to restore balance and sustainability. I knew the spending and deficits would head off the charts. I thought those realities would push down the dollar and cause foreign creditors to shun American government debt. However, I did not factor in the reprieve we have gotten from the false perception that Europe is in even worse shape than we.
As the curtain eventually falls on the drama unfolding in Europe, the world will refocus its attention on the more spectacular events in the U.S. The sovereign debt crisis that is now playing out in Europe will cross the Atlantic, and when it opens here the Real Crash may indeed finally begin. The average American will have a front row seat but will hardly enjoy the show.
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In an April speech in Berlin, Dr. Andreas Dombret, a member of the Executive Board of the Deutsche Bundesbank (the German central bank), offered a startlingly frank assessment of the current problems in Europe. Although his comments were meant to apply to the tensions and imbalances that exist between the northern and southern tier of the 17-member eurozone, they shed inadvertent light on the broader global economy.
Rebuffing calls that Germany do more to support the faltering southern economies, Dr. Dombret said:
...Exchange rate movements are usually an important channel through which unsustainable current account positions are corrected....In a monetary union, however, this is obviously no longer an option. Spain no longer has a peseta to devalue; Germany no longer has a deutsche mark to revalue. Other things must therefore give instead: prices, wages, employment and output.
The question now is which countries have to shoulder the adjustment burden. Naturally, this is where opinions start to differ. The German position could be described as follows: the deficit countries must adjust. They must address their structural problems, reduce domestic demand, become more competitive and increase their exports.
In economics it is axiomatic that positive and negative current account balances will ultimately be offset by changes in relative currency valuations. The currencies of surplus countries are supposed to rise and the currencies of the deficit countries are supposed to fall. But the current global political alignment has altered this process. Like many of his German and continental peers in government and finance, Dombret is likely in favor of maintaining a common currency at all costs. But as he outlines, when currencies fail to adjust something else has to give. He insists that the giving come from those who have been getting.
Given their weak economies and strained fiscal positions, it should be evident that citizens of Greece, Portugal, Spain and Italy have been living beyond their means. Their relative prosperity over the last decade has largely been maintained by the purchasing power of the euro which itself has been buoyed by the strong German economy. Rather than forcing Germans, whose savings rates and current account surplus results from years of fiscal prudence, to lend even more money and suffer higher inflation so that the southern tier can receive more monetary stimulus, Dombret argues the citizens of deficit economies must spend less while working, producing and saving more. In other words, their living standards must match their productivity.
Economic dynamics do not change with scale. And as it happens, there is a much bigger and equally flawed currency bloc in the world than the one Dr. Dombret is seeking to cure. In that larger bloc, the exact same dynamic of surplus and deficit nations is playing out within an inflexible monetary straightjacket.
In order to maintain exports and to manage economic expectations, many nations (most notably China) have instituted fixed exchange rates between their own currencies and the U.S. dollar. Although this system is not governed by a formal treaty like the one that binds the 17-nation eurozone, it has given rise to a virtual bloc of currencies that are unnaturally tethered, even while the underlying economics are drifting apart. And although there has been some recent flexibility from China on exchange rates, there is nearly universal consensus that these movements would be far more pronounced absent significant central bank manipulation.
Like the nations of southern Europe, the United States consumes far more than it produces. But rather than closing the gap by producing more and consuming less, both have followed a far less painful path. They have borrowed instead. Who can blame them? After all, it's far more enjoyable to consume than produce. And as we have seen in many financial arenas, a borrower will tend to borrow for as long as a lender is willing to lend, especially if there are no immediate adverse consequences.
Both Germany and China produce more than they consume. It is from these resulting surpluses that the deficit nations are borrowing. But these two creditor nations are currently showing different policy drifts with respect to their hard-earned savings. In Europe, German leaders are showing increasing reluctance to sacrifice the living standards of their own citizens to perpetuate an imbalanced economic system. The Chinese on the other hand appear to heartily encourage such a policy. This difference can be attributed to their respective political systems. In Germany, public opinion matters. In China, not so much.
The currency peg of the Yuan against the dollar, which China has enforced with varying degrees of exactitude over the past few decades, has helped the Chinese government exert greater influence over the growth and contours of its economy. But the policy has created hardships for Chinese citizens (such as disproportionately low rates of consumption and high rates of inflation). But lacking any means to overtly influence public policy, Chinese citizens have had little choice but to take it on the chin. German citizens on the other hand are much freer to voice their discontent. And in fact, fears of a voter backlash have been determinative in setting Berlin's agenda.
The question for the global economy is whether China will become more like Germany, or Germany more like China. From my perspective the answer is clear. German leaders are unlikely to risk the scorn of voters by repudiating their cultural aversion to overly accommodative monetary policy. In China, the decisions will be more pragmatic. Currently Beijing perceives advantages in the status quo. But ultimately the costs, in terms of increasing foreign exchange reserves and rising inflation, may force its hand. When that happens, the United States and Southern Europe will be in the same boat.
To many, the "Golden Rule" is an idea that underscores the value of civility and fair dealing. But there is another, less magnanimous definition: "He who has the gold makes the rules." In the current global economy, the surplus countries have the gold and sooner or later we will be living by their rules.
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For such a wonderful year for precious metals investors, the final calendar quarter left little to celebrate. Just as people now take for granted that their phones will also take pictures, play music, and surf the internet, many investors have come to expect gold and silver to move up in a straight line.
In fact, in a recent CNBC interview one analyst claimed that gold's recent correction proves that it is not really a safe haven. In truth, such a statement merely proves how little some analysts know about markets.
However much the fundamentals may be on your side, there are always mitigating factors that affect price movement. In the case of gold and silver, the temporary resurgence of the dollar versus other fiat currencies alternatives has been the dominant factor - but even that isn't the whole story.
STAMPEDE OUT OF EUROS
The critical factor that has been in play the past few months has been the European debt crisis going critical. I have said all along that the US is in worse shape than the EU overall because the EU has less will and capacity to resolve - or even temporarily paper over - its problems. The flip side is that, absent the massive stimulus the US has received, Europe has been forced to deal with its sovereign debt problems first.
Global investors have been spooked since the credit crunch of 2008. That means they are more likely to follow the herd rather than stick to the fundamentals. It takes a certain firmness of character to watch your investments sell off by double digits and not have a moment of self-doubt.
So, what we're seeing is big moves into and out of asset classes. But what is important to understand about these circumstances is not the scale of the moves but the direction of the trend.
Right now, the dollar is riding high. But it's still down over 30% over the last decade as measured by the generous US Dollar Index. Gold, by contrast, is up over 350% in that period. Of course, past performance does not guarantee future results, but the fundamentals have not changed. It's worth remembering that mainstream analysts chose the dollar over gold in almost every report over the last 10 years, based on a blind faith in the power of the US government to centrally plan the American economy. The market proved them wrong.
Once again, the mainstream narrative is that the real danger is in Europe and therefore the US offers a safe haven. This has caused a stampede out of euros and into dollars. But as we've seen over the last few years, the euro and dollar can decline simultaneously - and will continue to do so as more and more investors realize that the real safe haven is gold.
SHOOTING STRAIGHT UP
There is a reason assets don't move up in a straight line. Besides varying liquidity needs and risk appetites of investors, there are also built-in mechanisms to flush speculators out of a skyrocketing market.
As silver approached $50 this past April, the COMEX raised margin requirements for futures contracts on the metal, thereby pushing many speculators out of the market. While this practice presumably prevents speculators from overusing leverage, it also has the effect of crushing the short-term price of the metal. Both gold and silver have been subject to increased margin requirements this past year.
While we can now rest assured that future price increases are driven more by long-term investment than short-term speculation, it is not without costs. Speculators serve to reduce volatility in a market by buying in anticipation of future scarcity and vice versa. So, pushing out the speculators may increase volatility in the future. However, it's my feeling that in truth no gains have been lost at all - they have merely been postponed.
IS THIS THE TOP?
In order to determine whether the recent sideways movement of gold and silver is cause for concern, let's look at what lies ahead for 2012.
It is clear from 2011 that the new Tea Party members of Congress are not strong enough to stop the fiscal bleeding, and with the Occupy Wall Street movement in full swing, President Obama doesn't have a lot of room to compromise. Washington has been reduced to short-term measures to "pay" its bills, and the bills are mounting faster than ever.
Meanwhile, Ben Bernanke's Federal Reserve seems intent on pushing all the boundaries of monetary policy. In its most recent ploy, the Fed has engaged in a covert bailout of Europe through the use of currency swaps. From an investment perspective, this goes to show how deluded dollar investors are - they're buying into a currency that is being printed for any and all comers. This news should have caused the dollar to tank and gold and the euro to rise, but again, the fear trade is overriding all other considerations.
2012 should see more trouble from Europe, and therefore potentially more dollar buying. This might even be the year we see a few members exit the euro. However, there is no way to know how the euro will react in the short-term to such events, as such scenarios may already be priced into the market. In any event, long-term, the eurozone will be stronger without its weaker members. If they cannot mend their profligate ways, better to force them out now than compromise the solvency of the stronger members.
For smart investors, dollar strength caused by euro fears is simply an opportunity to buy contra-dollar assets on the cheap. Yes, I believe sub-$30 silver and sub-$1600 gold are still cheap for what's ahead. And with 2012 forecasts of $2,200 by Morgan Stanley, $2,050 by UBS, and $2,000 by Barclays, it appears I'm not alone.
Peter Schiff is CEO and Chief Global Strategist of Euro Pacific Precious Metals, a gold and silver coin and bullion dealer offering honest products at competitive prices.
If you would like more information about Euro Pacific Precious Metals, click here or go to our website, www.europacmetals.com. For the fastest service, call 1-888-GOLD-160.
I think I know some lab mice that have received less examination than the 2012 Republican primary candidates. It seems with each passing cycle, the campaigning starts earlier, there are more debates, and the media frenzy gets more intense. Yet, with all the pyrotechnics and pageantry, it becomes difficult to figure out what these tricksters actually think when they're behind the curtain. Since the gold price is inextricably linked to the long-term fate of the US dollar, it's rather important for gold investors to be able to forecast how each candidate, if elected, would conduct his/her monetary policy.
Monetary policy is not nearly discussed enough in debates or television appearances - partly because too few viewers care about it, and partly because most candidates simply don't understand the subject. The most common monetary policy platform amounts to little more than, "I'm opposed to China's currency manipulation, and America needs a strong dollar!" (Little do they know that these two goals are right now in opposition.)
As we examine three frontrunners, it's important to remember that their future policies can be difficult to distil, but that their past records are likely to be a more effective indicator than their present rhetoric.
HERMAN CAIN: THE FED CHAIRMAN
Cain's lucky he's known as "The Guy Who Makes Pizza" instead of "The Guy Who Prints Money."
Herman Cain was Chairman of the Federal Reserve Bank of Kansas City from '95 - '96, and held the positions of Deputy Chairman and Board Member during the preceding six years. This was the heyday of Alan Greenspan's bubble economy, and there is little record of Cain dissenting. While some have remarked that Cain knew little about economics when he joined the board, he has had ample time to learn. Yet, when challenged to name his favorite Fed Chairman at this year's debates, Cain still chose Greenspan!
Cain's flagship "9-9-9 Tax Plan" is drawing headlines, but it contains no in-depth discussion of monetary policy, other than brief allusions to a "strong dollar." No mention of quantitative easing or the money supply. No condemnation of artificially-low interest rates.
Even if Cain were able to reduce taxes considerably, the spending would continue. Like many Republicans, Cain talks generally about spending cuts, but does not specifically target any budget items. We can assume any actual cuts he gets through Congress would be of the "slow the growth of future spending" variety.
With continued spending and record of inflation tolerance, Cain will most likely turn to the Fed to monetize the extra debt. This means a Cain presidency is likely to be very bullish for gold - with the mitigating factor that if given free reign, Cain might at least try to move the country back on a sustainable path.
Cain Presidency:
Bullish for gold
Bearish for USD
MITT ROMNEY: THE CLOSET DEMOCRAT
Consider the following quote: "My experience tells me that we were on the precipice, and we could have had a complete meltdown of our entire financial system, wiping out all the savings of the American people. So action had to be taken."
It sounds like Tim Geithner, Ben Bernanke, or Paul Krugman. President Obama himself has said exactly the same thing countless times. Yet, this quote comes from Mitt Romney at a recent Republican debate.
Romney supported the TARP bailouts. Romney defends the Federal Reserve. Romney even implemented socialized medicine as Governor of Massachusetts. He says he would conduct monetary and fiscal policy "differently" than Obama, but when you're car is headed over a cliff, it doesn't much matter whether you drive on the right or left side of the road!
Just as with Cain, Romney still does not understand the terrible precedent set by the bailouts, and the devastating consequences loose monetary policy has on the US dollar and global economy. Worse yet, Romney hasn't even offered a credible plan to reduce government involvement in the economy. Romney's campaign slogan might as well be, "A New Face for the Status Quo." And the status quo is a collapsing dollar and skyrocketing gold.
Romney Presidency:
Very bullish for gold
Very bearish for USD
RON PAUL: THE GOLD STANDARD
If Ron Paul were elected President, he would immediately move to cut spending drastically. This is clear based on his 35-year record of acting on his promises, and his recent campaign pledge to cut $1 trillion from his first proposed budget. He would face stiff resistance from both parties, for sure, but such a move would change the entire direction of public discourse.
Now, it's important to remember that $1 trillion is only two-thirds of the 2011 deficit. So, even if President Paul got his entire budget approved, we still would be facing a growing debt of around $16 trillion at that point. While President Paul could order the Treasury to begin selling its toxic assets that are impeding economic recovery, he wouldn't have direct control over the Fed - which, under Bernanke, would likely announce even more money-printing to counteract the President's tough medicine.
But President Paul's real silver bullet would come two years into his term when he would get the opportunity to nominate a new Fed Chairman. As someone who entered public life in response to the end of the gold standard under Nixon, Paul is certain to appoint the most hawkish Fed Chairman the country has ever seen. This would immediately reverse the misfortunes of the US dollar and could impact gold's rise.
But remember, even in this pie-in-the-sky scenario, it will still take years for Bernanke's devaluation damage to fully circulate around the global economy. That means gold could still appreciate well into a Paul presidency.
Ultimately, a Paul presidency could also lead toward a gold standard monetary system. In such a case, gold is likely to carry an even higher value as the premium for serving as the international reserve asset.
Paul Presidency:
Bullish for gold
Bullish for USD
RICK PERRY: THE BIG SPENDER
Rick Perry is a career politician now in his 11th year as Governor of Texas. He claims to be a tax-fighter, but he has signed several tax increases as Governor. To the extent that he has held the line on taxes, he's overseen a more than doubling of Texas state debt. And not all of this money was going to pay for schools and roads. For instance, he created the $435 million Texas Enterprise Fund to subsidize politically connected businesses.
As a candidate, Perry has adopted Ron Paul's rhetoric being critical of the Fed's quantitative easing programs. He's even gone as far as accusing Bernanke of "treason." But he doesn't show a deep understanding of what makes the Fed's policies so destructive, and his campaign website makes no mention of monetary policy at all.
Still, Perry at least knows which way the wind is blowing, and he does have a record of vetoing expensive legislation. Overall, it's hard to tell what kind of President he would be - a lot like it was for the last Texas Governor that become President. In the latter case, President George W. Bush claimed to be for small government and a humble foreign policy, but went the exact opposite way once elected.
Perry might make an attempt to change Washington's direction, but he has neither the depth nor the steadfastness to really make it happen. Thus, the current gold/dollar dynamic would be likely to continue.
Perry Presidency:
Bullish for gold
Bearish for USD
NEWT GINGRICH: THE BENEDICT ARNOLD
In the mid-'90s, Newt Gingrich gained a reputation as a radical reformer after he led the Republicans to their first House majority in 40 years. He wrote a Contract with America, and made a good faith attempt to pass all of its provisions. This movement could be credited with stopping Hillarycare, enacting welfare reform, and reducing certain key taxes.
But in the years since, he has vocally supported programs like the costly Medicare Part D, teamed up with Hillary Clinton on healthcare, and supported mainstream Republican candidates over Tea Party challengers.
What happened? Clearly, Gingrich has been building bridges in order to be seen as a moderate candidate for his Presidential run.
If only he had kept to his original firebrand style, he might have had a shot at getting something done in the White House. Unfortunately, trying to become part of the establishment is a game with no end, and therefore Gingrich is likely to continue "reaching across the aisle" to author costly legislation. If he announces a Contract with Austerity, maybe I'll change my tune.
Gingrich Presidency:
Bullish for gold
Very bearish for USD
HOW IMPORTANT IS THE PRESIDENT?
Despite what the media would have you believe, the President is not all-powerful. In fact, a President only has limited powers compared to Congress. Without the support of Congress and the American People, a President can be rendered a lame duck early on - like Jimmy Carter was.
The direction of gold under most candidates is fairly easy to predict - it will continue appreciating against the falling US dollar. This is simply because these candidates will not even attempt to address the disastrous fiscal and monetary policies that have brought us to this point.
The price direction under Ron Paul (and also Gary Johnson), however, would be less predictable. I believe both men would try their best to reverse the US decline that my strategy is insulating against.
In any case, even an authentic campaigner who understood the calamities of money-printing would be hard-pressed to actually save the dollar at this point. The history of fiat currencies has few - if any - examples of monetary debasement being reversed before the currency falls apart - and many cases of gold proving the superior asset.
BARACK OBAMA: THE WORST-CASE SCENARIO
There is one candidate in 2012 that we can be sure won't even try to save the dollar, and that is President Obama. From his doubling down on the bailouts to his faithful support of Chairman Bernanke, Obama has done almost everything in a President's power to hasten the dollar's demise.
If he is re-elected, which still seems like a possibility, then you better put on your mining hats because the gold rush is on!
Although it was labeled and hyped as a "jobs plan," the new $447 billion initiative announced last night by President Obama is merely another government stimulus program in disguise. But semantics are of supreme importance in American politics...some could argue that word choice is the only thing that matters. As a result, despite the fact that this plan bears no substantive difference from previous stimulus bills, the President never once mentioned the word "stimulus" in his hour-long speech. But a rotten banana by any other name still stinks.
Like all previous stimuli, this round of borrowing and spending will act as an economic sedative rather than a stimulant. Running up the deficit in the short-run will not grow the economy, but will merely dig it into a deeper hole. A year from now there will be even more unemployed Americans than there are today, likely resulting in additional deficit financed stimulus that will again make the situation worse.
The President asserted that the spending in the plan will be "paid for" and will not add to the deficit. Conveniently, he offered no details about how this will be achieved. Most likely he will make non-binding suggestions to future congresses to "pay" for this spending by cutting budgets five to ten years in the future. History is absolutely clear on one point: politicians never pass cuts promised by prior politicians. In other words...the check is in the mail. So I will make the fairly riskless assumption that the plan will be financed by deficit spending. If so, the negatives associated with greater deficits will overwhelm any perceived benefit the spending will generate.
President Obama claims he wants to put money into the pockets of American consumers. The problem is the government's own pockets are empty. In order to put money in the pocket of one American, it must first pick the pocket of another. The problem is that it takes more from the pockets it picks than it puts into the pockets it fills.
In the meantime money to fund the stimulus has to come from somewhere. Either the government will borrow it legitimately, or the Federal Reserve will print. Either way, the adverse consequences will damage economic growth and job creation, and lower the living standards of Americans.
There can be no doubt that some jobs will in fact be created by this plan. However, it is much more difficult to identify the jobs that it destroys or prevents from coming into existence. Here's a case in point: the $4,000 tax credit for hiring new workers who have been unemployed for six months or more.
The subsidy may make little difference in effecting the high end of the job market. An employer will not pay a worker $50,000 per year simply to qualify for a one-time $4,000 credit. But the effects will be felt on minimum wage jobs where rather than expanding employment it will merely increase turnover.
Since an employer need only hire a worker for 6 months to get the credit, for a full time employee, the credit effectively reduces the $7.25 minimum wage (from the employer's perspective) to only $3.40 per hour for a six month hire. While minimum wage jobs would certainly offer no enticement to those collecting unemployment benefits, the lower effective rate may create some opportunities for teenagers and some low skilled individuals whose unemployment benefits have expired. However, most of these jobs will end after six months so employers can replace those workers with others to get an additional tax credit.
Of course the numbers get even more compelling for employers to provide returning veterans with temporary minimum wage jobs, as the higher $5,600 tax credit effectively reduces the minimum wage to only $1.87 per hour. If an employer hires a "wounded warrior" the tax credit is $9,600 which effectively reduces the six month minimum wage by $9.23 to negative $1.98 per hour. This will encourage employers to hire a "wounded warrior" even if there is nothing for the employee to do. Such an incentive may even encourage such individuals to acquire multiple no-show jobs from numerous employers. History has shown that when government creates incentives, the public will twist themselves into pretzels to qualify for the benefits.
The plan creates incentives for employers to replace current minimum wage workers with new workers just to get the tax credit. Low skill workers are the easiest to replace as training costs are minimal. The laid off workers can collect unemployment for six months and then be hired back in a manner that allows the employer to claim the credit. The only problem is that the former worker may prefer collecting extended unemployment benefits to working for the minimum wage!
The $4,000 credit for hiring the unemployed as well as the explicit penalties for discriminating against the long term unemployed will result in a situation where employers will be far more likely to interview and hire applicants who have been unemployed for just under six months. Under the law, employers would be wise to decline interviews with anyone who has been unemployed for more than six months, as any subsequent decision not to hire could be met with a lawsuit. However, to get the tax credit they would be incentivized to interview applicants who have been unemployed for just under six months. If they are never hired there can be no risk of a lawsuit, but if they are hired, the start date can be planned to qualify for the credit.
The result will simply create classes of winners (those unemployed for four or five months) and losers (the newly unemployed and the long term unemployed). Ironically, the law banning discrimination against long-term unemployed will make it much harder for those people to find jobs.
Another problem is the President's intention to help under-water homeowners refinance their mortgages with lower rates. While this will certainly be good for the borrowers, it will be horrific for the banks holding the loans. The borrower's gain is simultaneously offset by the bank's loss. This will further impair the solvency of our banking sector, exacerbating the losses and failures when rates rise, thereby increase the costs to taxpayers of the next round of bailouts.
Moving from the sublime to the ridiculous, the President claims his payroll tax cuts will not endanger the Social Security Trust Fund, as the government will replace the lost "contributions" with transfers from general revenue. In other words, the government will borrow money, put it in a phony trust fund, then borrow the same money back from the trust funds and spend it on the stimulus. It is amazing the theatrics the government will go through to maintain the illusion that trust funds actually exist. The tragedy is that Americans continue to buy the charade and even heap scorn on those, like Rick Perry, who has the temerity to point out that the emperor is naked.
The truth of course is that no real economic growth or job creation is going to occur until the failed policies of both Obama and Bush are reversed. In his speech the President mourned the death of the American dream. Obama should stop killing it. To revive that dream we need to revive the American spirit that produced it in the first place. That means returning to our traditional values of limited government and sound money. Unfortunately we are still headed in the wrong direction.
The markets are going through another sell-off phase, yet the traditional notions of a 'safe haven' are changing. No longer is the US dollar the default shelter; instead, gold, the Swiss franc, and the Japanese yen are the preferred assets.
All three of these havens - gold, francs, and yen - have been surging upward this month. Two of them, however, are being actively devalued by central banks desperately (and foolishly) trying to curtail appreciation. The Swiss and Japanese are enlisting both policy measures and all the banker-speak they can muster to stem the tide of investment flows into their currencies.
The game is Last Haven Standing, and Spielberg has already acquired the movie rights.
SWITZERLAND: FROM NEUTRALITY TO INTERVENTION
Looking to Europe, the Financial Times now has the awkward task of reporting that mighty European Union's currency is coming apart at the seams, while neighboring Switzerland has barely enough hotels to house the world's waterlogged financial refugees. The franc is up 5.41% against the euro this year and almost 14% against the dollar. One wonders if the only way to prevent a collapse of the these major debtor currencies is to back them with Swiss-made wristwatches. At least then they'd have a partial gold standard and there'd be no excuse to be late for an austerity protest!
Unfortunately, the Swiss National Bank is so afraid of the franc's rise that it has flooded the market with liquidity and cut interest rates to zero. The SNB even recently threatened to peg the franc to the euro. It's as if survivors on one of the Titanic's lifeboats were so confused and bewildered that they began tying their boat to the sinking behemoth out of a desire for a 'stable relationship.'
NOTE TO JAPAN: IT'S NOT THE SPECULATORS
Japan, ironically, has been blessed that while its debt problems are severe, they've been severe for so long that markets are willing to take that as a sign of stability. And, aside from the public debt problem, Japan does have fairly impressive fundamentals. They are still a productive economy with high personal savings and exposure to booming China. So, it's no wonder the Yen has risen 6.63% against the dollar so far this year.
Former Finance Minister, and now Prime Minister, Yoshihiko Noda stated recently that he would "take bold actions if necessary and won't rule out any possible options" to restrain the yen's appreciation. Yet, while Noda has said the ministry will study whether "speculation" is behind the yen's rise, he doesn't seem to understand that this is a permanent move away from dollars and euros and into anything which might be a better alternative. This is not driven by Wall Street gamblers, but rather by everyday investors seeking shelter.
CLEARLY SHIFTING SENTIMENTS
My readers know that I see these past years in the US markets as one ongoing crisis. We're not "facing a double-dip recession" as the media suggests; instead, we're really in the midst of a prolonged economic depression. The periodic market panics since 2007, both in the US and Europe, all stem from the same disease and, as such, ought to be properly understood as related symptoms, not as separate events.
And as one long, ugly narrative, these subsequent panics resemble a series of steps; sharp drops leading down either to a dismal "new normal" or - more likely - a collapse in both the fiat dollar and euro currencies and a widespread return to gold as money.
My brother, Andrew Schiff, wrote an article for my brokerage firm this month reviewing the market turmoil and how it compares to previous crises since '07. He found a steady shift in what investors perceive as a safe haven.
During the depths of the credit crunch, from October 2008 to March 2009, the S&P lost over a quarter of its value, as investors flocked to the US dollar, driving it up 8%. Foreign stock markets sold off and most foreign currencies fell substantially. The Swiss franc fell over 3%. Gold rose some 6.5% and the yen rose 5.75%, but neither kept pace with the US dollar, which rose 13.5%.
Then, during the dip between April 23, 2010 and July 2, 2010, the S&P dropped again by almost 15%. The dollar rallied barely more than 3%. The Swiss franc gained slightly instead of falling. And this time, both the yen and gold beat the dollar, gaining 4% and 5.5% respectively.
Now here we are in August, and what's happening?
In extreme volatility, the S&P fell over 13% before rebounding to its starting place. The dollar has remained essentially flat even with intensified fears in the euro zone. The yen is also flat, despite heavy intervention to push it down. The Swiss franc rose 8% before Switzerland's central bank threatened to peg the currency to the euro, and gold has surged almost 12%!
See the pattern? On each step of this multi-year downward spiral, global investors are slowly but coherently altering their preferred safe haven. Alternatives are being desperately sought, though actions first by the Japanese central bank and more recently by the Swiss have prevented their currencies from fully realizing potential gains as dollar-alternatives.
Fortunately, gold doesn't have a central bank, so it can rise as fast as the dollar falls.
THE FIAT DOWNGRADE
Whether it is in their interests or not - and I argue it is not - central bankers look set on continued competitive devaluation of their currencies so that their economies don't have to do the hard work of retooling for the new reality.
That is why gold is doing so phenomenally well, and why it should continue to do so. New gold comes into the market at a rate of about 2% per year. This number has been fairly steady over time, and reflects the ability of mining companies to locate, finance, purchase, and develop new gold mines. I invest in these companies, and trust me, it's not an easy job.
Contrast this with a paper currency - more dollars can be created by Bernanke simply printing extra zeros on his banknotes. See that $10 bill? Shazam, it's a $100!
The reason currencies like the yen and Swiss franc are considered safe is simply a longstanding habit of their central banks not to print too much. But a habit is much less reliable than a physical constraint.
Think of a dog that has been trained not to eat steak. If you put it in a room with a juicy ribeye, would you be more confident the steak would be there when you came back if the dog was in a kennel or just sitting there? Just like a dog always craves steak, and will grab a bite when no one's looking, central bankers always crave the printing press.
That's why we need to hold an asset for which scarcity is dictated by nature itself - gold.
As this realization becomes more commonplace, and as this depression accelerates, I expect gold to be the Last Haven Standing. This will not be a "new normal," but rather a return to thousands of years of economic tradition.
A NOTE ABOUT THE FUNDAMENTALS
Those who do not really understand the fundamentals, such as commodity trader Dennis Gartman, continue to look at gold's rise as a bubble. In fact, Gartman just called the top in gold, again, claiming that one of the "great bubbles of our time" had finally popped.
He cites as evidence the quick 200-point rise to over $1900/oz, which Gartman sees as a speculative blow-off top. He also cites the meaningless fact that one Gold ETF, GLD, has a larger market cap than one S&P 500 ETF. He absurdly compares this situation to the Japanese Emperor's palace eclipsing the value of the entire state of California at the top of Japan's real estate bubble. Those ETFs simply represent one way of owning assets, and do not, as Gartman contends, indicate that investors value gold higher than the entire US stock market. In fact, a true comparison of the two asset classes reveals gold's value is historically low relative to the value of US stocks.
Rather than the bursting of a bubble, the recent technical action in gold is more indicative of a break-out. In fact, the positive divergence of gold stock from bullion in this recent correction is evidence that a more powerful leg in this bull market is about to begin. Up until now, the market for gold stocks has been characterized by fear. However, it now appears to me that gold stocks will make a new high before the metal itself. If the stocks finally begin to lead the metal, it means traders are finally starting to believe in this rally. Rather than evidencing the end of the trend, such a shift in sentiment likely indicates an acceleration in that trend. Maybe when the last skeptic finally throws in the towel, we may finally get the blow-off top Gartman thinks already occurred - but that day is likely many years into the future.
In fact, all the talk about a gold bubble seems to be based on the fact that so many investors are now talking about gold. However, the problem with this argument is that despite all the talking, very few investors are actually buying. Bubbles are not formed by talk, but by action. Before we get a gold bubble, all those investors talking about gold actually have to buy an ounce. In fact, before a bubble pops, its not just investors, but the average man in the street who will have to be buying. Thus far, he has not even joined the conversation.
Nothing discussed on the show is an offer to buy or sell or a solicitation of an offer to buy or sell any security or instrument or to participate in any particular investing strategy. All securities involve varying amounts of risk, and their values will fluctuate, and the fluctuation of foreign currency exchange rates will also impact your investment returns if measured in U.S. Dollars. Dividend yields change as stock prices change, and companies may change or cancel dividend payments in the future. Investments may increase or decrease in value and you may lose money. International investing may not be suitable for all investors.
Bullish for gold
