The Last Refuge

The good news is that there’s still a safe place to keep the purchasing power of your money. That was proven on Friday when the Fed announced interest rates charged banks would remain at 2%. Gold charged ahead at the news.

Most people still ask, “Isn’t gold a barbarous metal that history has thrown in the dust heap?” Nope. When a government does funny things to money, like make too much, gold reveals itself as a form of money that retains its value. Gold is not backed by debt. It is and has been money for thousands of years. It is divisible and it doesn’t rust or tarnish.

Franklin Roosevelt was the first abuser of the gold standard, but Jack Kennedy was the first President to announce that the U.S. would have no more recessions because the government would borrow money to spend our way out of economic slowdowns.
Along the way a nettlesome problem appeared. Recessions remove marginal operators and excess supply while quelling speculation. With no more recessions and more government borrowing we end up with an overcapacity of unwanted goods and services. Another nasty effect is that Enronic executives are allowed to go on bungling with their greed, while mountains of cheapening money look for a haven.

What do I mean by cheapening money? Put yourself in the shoes of China or Saudi Arabia. Say you’ve got a trillion U.S. dollars but three years later the value of that trillion has fallen by one third. With that kind of loss of purchasing power, it is understandable that the desire to hold more dollars would diminish.

If you had oil wells but the money your customer was paying with was going down in value in relation to oil, would you try to pump more oil or would you hold oil for your own account while it continues to climb in price in relation to the dollar?

This newest recession is the most dangerous of them all. During the Great Depression of the ‘30s, prices went down so those on dollar-fixed incomes actually saw their dollar savings increase in value.

This time, many will call our current economy “The Greater Depression” because prices will rise while the economy remains weak. Not only are we carrying the economic baggage of 40 years of denying recessions, but in 1998 President Clinton led the charge to rescind the Glass Steagal Act, which prevented retail banks and investment banks from comingling their financial products.
The reversal of this Depression-era regulation made the sale of Mortgage Backed Securities, Collateralized Debt Obligations and other toxic hybrids possible. Ratings agencies such as Fitch and Moody’s made big profits by rating these AAA so they could be sold to pension funds, insurance companies, hedge funds, and governments around the world.

Our biggest banks are holding these toxic investments that cost them billions. The Federal Reserve has given these banks $400 billion worth of Treasury Bills in exchange for these unsalable securities. The Fed has used half its Treasury assets and there are many more billions banks need to liquidate. Expect the Fed to “buy” the banks’ worthless assets to keep them in business.

Barack Obama and John McCain are not talking about the big white elephant in the room. That elephant is our monstrous deficits and debts. Americans are in no mood to hear that they must begin to save and pay off their debts. Therefore, the markets will have to force Americans to do it.

Interest rates have begun to go up even though the Fed rate remained at 2 percent on Friday. This rate is for the banks. It helps them hobble along.

Does all this mean the dollar is dead? Well, there are lots of people who suffer U.S.-exported inflation, but sometimes that inflation cools. This could happen. If business declines radically, dollars will cease to go to foreign countries in such large quantities.
This would reduce inflation in foreign countries that do not export energy. Stocks hate inflation because rising costs kill profits. If it happens that the U.S. dollar bottoms and begins a bullish move, China and Hong Kong stocks will soar.

If the U.S. dollar continues its descent to the 50s in the money index our prices here in the U.S. will leap. Prices in China and Hong Kong will leap too because China has had a giant current deficit relationship with us.

There is speculation that China may already be able to sustain its own economy with substantially fewer exports to the U.S., but this theory awaits historical proof.

There’s also the U.S. devotion to engaging Americans in non-productive activity. We have more than 3,000,000 in the military plus almost a million mercenaries; we have more than 2 million in prison; we have much more than a million in D.C. waiting for the next deal to buy or legislate; we have millions shuffling financial paper; we have millions of speculators; we have millions of TSA searches at the airport. No other country wants to buy any of the produce of these services.

Those countries that are borrowing money to buy machine tools for production of cars or refrigerators will prosper in the future because they’ll pay off their debt with the profits. Those countries that borrow money to buy tools to make weapons will not prosper in the future because after the bomb explodes there’s no contribution to profit for debt retirement.

The price of oil has shot up since the U.S. invaded oil-rich Iraq. Production in Iraq has been reduced since the invasion. Aircraft carriers, jet planes, bombers, missiles, and Humvees at 4 mpg all create competition for fuels. These influences are much more powerful than the traders who speculate prices up and down.

Gold has been difficult to hold on to in its bull market. Like Richard Russell says, “A bull market tries to shake everyone off, a bear market tries to bring everyone along.” As the value of all the world’s currencies decline and interest paid is below inflation rates, gold will be the last refuge.