Gold Says 'I Told You So'

The battle rages!

Unstoppable inflation on the one side; immoveable deflation on the other. And what’s in between?

You are, dear reader…keep your head down.

At least you know where you are. Most people have no idea. Most middle class Americans are caught in this no man’s land. Inflation is shooting holes in their family budgets. While deflation blows up their assets.

The headline inflation number for 2007, in the United States, was announced yesterday – at 4.1. Still manageable…but it was the biggest annual increase in 17 years.

But yesterday, deflation was on the offensive. The Dow edged down…and when we look at the charts of almost any market – France, England, Japan, tech stocks, shipping stocks (keep reading), retail stocks – we see bear markets.

And yesterday, we thought we saw the first signs of a bear market in commodities too. Oil dripped below $90…and materials and energy stocks suffered, as investors bet that a slowdown would mean less demand for primary products.

France’s Le Monde chose this for its leading story today: “The Menace of Recession in the U.S. Grows Clearer.”

And now, even the candidates for the White House are taking a page from Bill Clinton’s playbook, entitled: “It’s the Economy, Stupid.” As Ed Hadas puts it: now the candidates are saying stupid things about the economy.

Mitt Romney won in Michigan, largely by telling an outrageously stupid lie. According to Le Monde, which is our source for American political insight, Romney pledged $20 billion of taxpayers’ money to revive America’s auto industry. We take this readily from Le Monde, because the French know how these tricks work; they have more experience with them. You take the money from the people who earn it, pass it out to the unions, insiders and party supporters; the auto industry goes wherever it is going anyway…but the insiders travel in style.

The voters are ready to believe anything…especially if it sounds as though someone else’s money is headed their way. Besides, everyone feels entitled to a bailout…from the lowest assembly line worker to the richest Wall Street bank.

“The source of the problem is debt,” Lord Rees-Mogg explained at Wednesday’s lunch. “There’s too much of it. There’s so much that the financial authorities and Britain and America have no choice. They have to try to bail people out. They have to inflate the debt away.”

Too much debt is precisely what you’d expect to find at the end of any credit boom. When you give money away, you have to expect that people will take it. At least, as long as they believe they will be able to pay it back.

Presently, the yield on 10-year treasury notes is lower than the consumer price inflation figure. Which means, they’re giving money away. A shrewd investor would probably sell Treasuries and buy something with a higher return – say, gold.

Gold does not typically have any return at all. While its price was fixed to the dollar – it had a rate of return of zero. Which was a good reason not to own the stuff; you’d get a better yield from almost anything. But when the dollar was tied to gold, you didn’t need to own it.

Every dog has his day. And it looks to us that the mangy cur that sits at the number 79 slot on the periodic table is having his day at last. He is worthless at producing a profit, a dividend, or an interest coupon. Most of the time he just lies around, doing nothing…like a rich man’s pet. But there are times when he earns his keep…when he is worth every pound of meat you give him: he can be one mean junkyard pooch when he has to be.

If we are right, that stocks are in a bear market…and that the nation is headed for a slump…the wise Daily Reckoning reader will stop worrying about making money and begin to fret about keeping it. He will wish he had befriended gold when the price was around $300…or $500. He will think twice about taking it in at $900. He will think even a third time on the day after gold goes down $20…as it did yesterday. (Yes, deflation hit gold too…) Still, our guess is that this gold bull market has a lot further to go.

How many of your friends own gold? Probably not many. How often do you see articles in the mainstream press about buying gold coins…or gold stocks? Almost never.

The last time a major credit contraction and bear market came around, circumstances were different. A top in stock prices was reached in 1968. From there, stock prices fell while loose monetary policy goosed up consumer prices. In nominal terms, stocks held up fairly well. But in real terms, the losses were staggering – about 70% to 80%…from the top in ’68 to the bottom 14 years later. Meanwhile, gold soared…up to a high of $850. Gold and the Dow actually came within a few cents of each other in 1980 – when a single ounce of gold could have bought nearly the entire Dow.

Adjusting the gold peak to today’s dollar, it would be about $2,500. Adjusting the Dow to its ’82 low, it too would be about 2,500. Is that where the Dow is headed? Is that where the price of gold is going?

We don’t know. We don’t know the destination…but we suspect that’s the right direction.

*** “Shipping shares sink” says the London Telegraph. All of a sudden, investors are putting two and two together. A recession in the United States would be bad for the shipping business. Americans are the world’s champion consumers. One out of every five consumer sales on the globe is made to an American. It may begin as ore dug up in Western Australia…melted down in smelters fired by oil from the Mideast…or coal from Korea…and worked up into rolled steel in Guangzhou and assembled into a finished products in Shanghai. Which means, a lot of stuff has to move around in order to deliver the goods to New Jersey or Long Beach.

And if the American consumer decides he doesn’t really need a new gadget, there is suddenly a hole in a shipping container where formerly there had been paying freight.

China’s COSCO fell almost 10% on Tuesday. Pacific Basin a similar amount. And China Shipping Container Line was down 8%.

This sell-off followed two months of declines in the Baltic Dry Index, which registers freight rates for bulk commodities, mostly iron ore. The index has dropped a third from its high. And last Friday, it suffered its worst one-day fall since it was born in 1985.

*** In Britain, housing prices just showed their worst monthly decline in 17 years. “Returns plunge to all-time low,” says another headline in The Telegraph. The paper defines “returns” as capital values combined with rental income. Over the whole of ’07, returns went down 5.5%.

“Confidence in housing market drops to lowest level since 1992,” adds the Financial Times. The results come from real estate agents and have proved to be a reliable early indicator of trends. Agents report that many owners are rushing to sell property in order to avoid more losses.

*** We were telling you about our vacation. Not for any particular reason…just for the hell of it.

It all ended well…no one was seriously hurt. Your editor can walk without a crutch. As to paying off the other driver – after the accident – at the last minute, he came to his senses. He had signed a legal document, in Spanish…in a country whose legal system he did not fully understand…without the aid of counsel. In a near panic he called a trusted lawyer, who rushed to his aid.

“Bill, you really shouldn’t do this,” he said. “Let the insurance companies handle it.”

“I didn’t even know if the truck was insured…and the poor man…I didn’t see how insurance was going to do him much good. He was stuck in the middle of nowhere.”

There was really nothing wrong with the terms of the settlement. We had just forgotten to get all the parties to sign off.

“Look, you’re a foreigner. And to these people you’re a rich foreigner. They’re not from here. They’re from Buenos Aires. They’re from the big city. Up here, we say that when there’s an accident between two locals, there’s never a problem. But when a ‘porteno’ (someone from Buenos Aires) is involved, there’s always a problem.

“You got him to sign off that you had paid him for the damage to his car and that the two of you had settled up. But you didn’t get the woman to sign anything. She could come forward at any time and claim she had nightmares…or she couldn’t work anymore…or she had pains in her chest. You would have to settle with her. And the expense could be a lot more than fixing a fender-bender.”

In the end, it all worked out. The man and woman were actually very reasonable. Nobody seemed to want to take advantage of the situation. Our lawyer showed up with 26,000 in pesos…in cash, of course…and everyone left happily. And then, we were able to sell the damaged car for 21,000 pesos…which left us with a total cost of 5,000…or less than $2,000 US.

“Here,” said our helpful lawyer. “Take my card. Keep it with you. If you get into any more trouble in Argentina, call me.”

A few days later, we were on our way back to London (where your editor and his daughters live)…to Paris (where his wife and two boys live)…and to Los Angeles (where Jules is studying the film business).

“It was an eventful trip,” Elizabeth judged it. “But I liked it quite a bit. Argentina is a marvelous place. I’m looking forward to going back.

“The difference I notice between Argentina and Europe is that Paris and London – Paris particularly – seem dead, in comparison. All over Buenos Aires, people are setting up shops…selling things…hustling this or that on the street…fixing up old houses…building things. Things change so fast. In Paris, nothing ever seems to change. I guess people are right when they say it is a museum.

“And for young people, Buenos Aires seems like a much better place to live. If you don’t have money, you just can’t live very well in London or Paris. But you don’t need much money to live well in Buenos Aires. Everything is cheap. And lively. And the weather is nicer.”

Until tomorrow,

Bill Bonner
The Daily Reckoning
London, England
Thursday, January 17, 2008

P.S. Our friends at Agora Travel have a terrific way for you to see this bustling country up close and personal. They’ve set up a tour of Argentina that will show you just what South America has to offer – both as a vacation spot, and as an investment opportunity. Of course, the last tour of South America sold out, so we advise you to sign up now before someone else scoops your spot up.

The Daily Reckoning PRESENTS: In a few days, we will premier our documentary, I.O.U.S.A, which takes a good long look at our self-indulgent nation at the Sundance Film Festival. As we gear up for the festival, it seemed fitting that we reprint this article the Pat Buchanan recently posted on his site…read on and you’ll see why…

by Patrick J. Buchanan

Since it began to give credit ratings to nations in 1917, Moody’s has rated the United States triple-A. U.S. Treasury bonds have been seen as the most secure investment on earth. When crises erupt, nervous money seeks out the world’s great safe harbor, the United States. That reputation is now in peril.

Last week, Moody’s warned that if the United States fails to rein in the soaring cost of Social Security, Medicare and Medicaid, the nation’s credit rating will be down-graded within a decade.

Our political parties seem oblivious. Republicans, save Ron Paul, are all promising to expand the U.S. military and maintain all of our worldwide commitments to defend and subsidize scores of nations.

Democrats, with entitlement costs drowning the federal budget in red ink, are proposing a new entitlement – universal health coverage for the near 50 million who do not have it – another magnet for illegal aliens. Moody’s is telling America it needs a time of austerity, while the U.S. government is behaving like the governments we used to bail out.

California has already hit the wall. With an economy as large as a G-8 nation, the Golden State is looking at a $14 billion deficit in 2009 and a $3 billion shortfall in 2008. Gov. Schwarzenegger has called for slashing prison staff by 6,000, including 2,000 guards, early release of 22,000 inmates, closing four dozen state parks and a 10 percent across-the-board cut in all state agencies. The Democratic legislature is demanding tax hikes, which would drive more taxpayers back over the mountains whence their fathers came.

Meanwhile, Washington drifts mindlessly toward the maelstrom. With the dollar sinking, oil surging to $100 a barrel, the Dow having its worst January in memory, foreclosures mounting, credit card debt going rotten, and consumers and businesses unable or unwilling to borrow, we appear headed into recession.

If so, tax revenue will fall and spending on unemployment will surge. The price of the stimulus packages both parties are preparing will further add to the deficit and further imperil the U.S. credit rating. This all comes in the year that the first of the baby boomers, born in 1946, reach early retirement and eligibility for Social Security.

To stave off recession, the Fed appears anxious to slash interest rates another half-point, if not more. That will further weaken the dollar and raise the costs of the imports to which we have become addicted. While all this is bad news for the Republicans, it is worse news for the republic. As we save nothing, we must borrow both to pay for the imported oil and foreign manufactures upon which we have become dependent.

We are thus in the position of having to borrow from Europe to defend Europe, of having to borrow from China and Japan to defend Chinese and Japanese access to Gulf oil, and of having to borrow from Arab emirs, sultans and monarchs to make Iraq safe for democracy.

We borrow from the nations we defend so that we may continue to defend them. To question this is an unpardonable heresy called “isolationism.”

And the chickens of globalism are coming home to roost.

We let Europe to get away with imposing value-added taxes averaging 15 percent on our exports to them, while they rebate that value-added tax on their exports to us. Thus, the euro has almost doubled in value against the dollar in the Bush years, as NATO Europe begins to bail out on Iraq and Afghanistan.

We sat still as Japan protected her markets and dumped high quality goods into ours and China undervalued its currency to suck jobs, technology and factories out of the United States. Now, China and Japan have $2 trillion in cash reserves. The Arabs have an equal amount of petrodollars. Both are headed here to spend their depreciating dollars snapping up U.S. assets – banks, ports, highways, defense contractors.

America, to pay her bills, has begun to sell herself to the world.

Its balance sheet gutted by the subprime mortgage crisis, Citicorp got a $7.5 billion injection from Abu Dhabi and is now fishing for $1 billion from Kuwait and $9 billion from China. Beijing has put $5 billion into Morgan Stanley and bought heavily into Barclays Bank.

Merrill-Lynch, ravaged by subprime mortgage losses, sold part of itself to Singapore for $7.5 billion and is seeking another $3 billion to $4 billion from the Arabs. Swiss-based UBS, taking a near $15 billion write-down in subprime mortgages, has gotten an infusion of $10 billion from Singapore.

Bain Capital is partnering with China’s Huawei Technologies in a buyout of 3Com, the U.S. company that provides the technology that protects Pentagon computers from Chinese hackers.

This self-indulgent generation has borrowed itself into unpayable debt. Now the folks from whom we borrowed to buy all that oil and all those cars, electronics and clothes are coming to buy the country we inherited. We are prodigal sons, and the day of reckoning approaches.


Pat Buchanan
for The Daily Reckoning

Editor’s Note: Patrick J. Buchanan, America’s leading populist conservative, was a senior advisor to three American Presidents, ran twice for the Republican nomination in 1992 and 1996, and was the Reform Party’s Presidential candidate in 2000. The author of eight books, Mr. Buchanan is a syndicated columnist, a political analyst for MSNBC, and a founding member of three of America’s foremost public affairs shows, NBC’s The McLaughlin Group, and CNN’s The Capitol Gang and Crossfire. He is also Editor Emeritus of the political magazine, The American Conservative. His articles have appeared in magazines ranging from The Nation and Rolling Stone to Human Events and National Review. He lives in McLean, Virginia.

You can check out his blog here: