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Defending the Old Paradigm

-- Posted Friday, 20 March 2009 | | Source:

By Adam Brochert


Almost everyone in the seats of wealth and power wants to maintain the status quo, especially when it comes to their own wealth and power. In the end, aren’t most of us selfish beings? Some are so entwined in what used to be that they refuse to see what is taking place in relatively slow motion in front of their eyes.


The economic and manufacturing base of America has been hollowed out and much of what hasn’t been shipped away has become rotten due to excessive leverage, deceit and complacency. As a native of Detroit, I feel this process is best exemplified by the downward spiral of the American auto industry. It is hardly necessary to point out the managerial incompetence and unrealistic expectation of U.S. labor over the past two decades at the “Big Three” auto firms. These corporations are so deep into their death spiral that they can no longer run without government assistance.


The housing market is an absolutely burst bubble that will not come back for 10-20 years. Those hoping otherwise are heading for disappointment. Wall Street has been devastated and our capital markets are no longer seen as a beacon to the rest of the world. Insurance companies are overleveraged and undercapitalized and can no longer be trusted. And our bankers, well, I’m not even going to go there.


However, we have a determined “federal” reserve (neither federal nor a reserve and the irony of the name, which I refuse to capitalize, is becoming apparent to a greater number of Americans every day). Ben Bernanke is on record as calling for the end of the recession in 2009 after calling the bottom of the housing market in 2007-2008 and informing us that subprime would be “contained” and not a problem. Clearly, he is someone who is intentionally misleading the public, horribly misinformed and/or miseducated.


Meanwhile, our federal government promises hope, change and stimulation. President Obama has promised jobs, bailouts, healthcare, and maybe even a cure for cancer. So, our government and its central bank are on the case. All we have to do is keep stimulating and bailing out bankrupt corporations and all will be right again with America.


There’s only one problem with this theory, though, and it’s a doozie. Printing money out of thin air once a credit and housing bubble have burst has never restored prosperity in any economy. The defenders of the current paradigm would like to get back to a “healthy,” steady rate of inflation. To combat a deflation brought on by too much private debt, they have been willing to take on staggering amounts of public debt in the name of American citizens. The latest move by the federal reserve to buy U.S. long-term bonds is what is known as “monetizing” the U.S. debt, or more simply, really “printing money out of thin air” (as opposed to the convoluted, less conspicuous, debt-based printing money out of thin air that occurs with all fiat currencies backed by nothing tangible).


So what does this all depressing news mean to an investor in the United States? Well, there are a few key themes that can keep any investor out of trouble. First, the stock market is in a generational bear market that will devastate all bullish accounts. It ain’t over yet – not even close. Real estate is toast and should not be purchased on a speculative basis for the next 5-10 years.


But the real question talked about in the precious metals circles is how will gold and silver do in this environment? I like to focus on gold, as I think it is the dog that wags the tail and not the other way around, despite the more bullish supply-demand potential of silver. The truth of the matter is that gold will either do well or do astronomically well. The only real question is how high will the bull go, not will things continue to be bullish.


Gold is the easiest no-brainer investment out there for the retail investor. I am talking about physical gold with no custodian. I am not talking about the GLD ETF, which will prove to be fraudulent at some point in the not-so-distant future. While the deflationary storm continues, gold will rise modestly while everything else falls in price, including silver if history is a guide.


But a standard “cash is king” deflation is not a guarantee. Our status as the reserve currency of the world hangs in precarious balance at the edge of the cliff. When the rest of the world finally decides to diversify away from the dollar, which it will, a currency crisis is in the cards for our country. I do not know when it will happen, but I know it almost has to now given the path those in power have chosen.


The argument that the U.S. is the “best of a bad bunch” of fiat currencies is readily stated but no longer an infallible argument. Though it is too soon for China or Russia to become global leaders, it is also too late for us to tell the rest of the world what happens next and expect them to listen and acquiesce to our wishes. Our economic plight has reduced our military might, as has happened many times throughout history, thus the threat of force is no longer a viable option to maintain our reserve currency status.


We have record debt, rapidly dwindling tax revenues, rapidly escalating entitlements to be paid, rapidly escalating unemployment levels, little in the way of savings, reckless military entanglements with imaginary enemies that have destroyed an ungodly number of real lives, and our paper wealth has evaporated by 50% over the past 18 months. In other words, we are no longer head and shoulders above other countries in the eyes of the rest of the world and thus, the reasons to have the U.S. Dollar as the world’s reserve currency are fading quickly.


When defending the old paradigm means sacrificing the currency yet again, the consequences can be difficult to predict. Attempting to reflate burst bubbles, however, is a lost cause. It doesn’t work and has never worked. The inflation created by successful currency debasement or even its anticipation goes to new and, at times, unpredictable areas. At this point in the business and economic cycle, however, there aren’t many choices. Some believe alternative energy firms will become the next bubble. Perhaps. But gold is a natural and more logical choice using history as a guide. The retail public and many institutional investors are just starting to realize the opportunity gold presents.


Because a deflationary credit contraction is underway, gold miners will outperform the metal in percentage terms during the current cyclical bull market in gold (which began in October of 2008) and may well rise to fulfill the need for a speculative frenzy in the years ahead. Those looking to speculate will be pleased by the rewards the gold mining sector offers. Gold itself, on the other hand, is a safe haven that has proved itself over and over again during the past few thousand years and this cycle will be no exception. It is no accident that governments and their central banks own more gold than anyone while asking their citizens to hold paper promises instead. Gold is the go to cash equivalent and cash not backed by debt is a good thing to hold onto during a deflationary bear market, especially when a game-changing currency crisis is no longer a negligible risk.


Adam Brochert

-- Posted Friday, 20 March 2009 | Digg This Article | Source:


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