A Guns and Butter Mentality

by Doug Casey

Phinancing and Paper

A way to focus on the “paper” dimension of market conditions then and now is to look at how U.S. paper-Federal Reserve Notes-has fared. While inflationary policies and wasteful government programs dissipate wealth, they also tend to increase returns on commodities. While the U.S. government is busily manipulating the money supply, my guess is that inflation is not as far below the levels seen in the ’70s-the highest inflation figures of the last half-century and a trigger for the commodities spikes of 1980-as the Bureau of Labors statistics would have us believe.

Remember: cycles do repeat, but never exactly. The relatively low levels of inflation up to this point in the current cycle could mean we are in for a longer, less volatile run. Or they could mean that inflation is being masked by the U.S., not just through hedonic adjustments and other statistical sleights of hand, but also through the recent devaluation of the dollar. This, in essence, exports U.S. inflation to other countries. That could change-with a vengeance-if the foreigners holding trillions in expat dollars ever come to doubt the value of that paper (or, more accurately, to recognize its true value, which is zero).

Devaluation of the U.S. dollar followed inflationary policies in the U.S. in the ’70s. But this time around the dollar’s collapse has brought very little inflation, as measured by the CPI. If U.S. inflation is actually higher than reported and/or kicks in at higher rates due to dollars held overseas flooding home, the leverage to investments in precious metals companies working in the U.S. is likely to be spectacular. That’s because, as the dollar weakens and gold prices go up, companies with U.S. production will see their costs go down (in real terms) while their revenue improves. This is why I’m currently speculating on a several very prospective gold exploration juniors operating in Nevada-one of the world’s most pro-mining jurisdictions.

It’s also useful to look at U.S. equities during the last resource bull market. Many people believe the Dow, the S&P 500, and equities in general “traded sideways” during the period, but they forget to take inflation into account; the DJIA actually dropped during the ’70s, in real terms, as steeply as it rose during the ’80s and ’90s. Given the amount of money tied up in U.S. equities, even a modest flight of capital out of those markets and into resource stocks today would be like trying to squeeze Niagara Falls through a garden hose. It’s coming.


The equivalent here would be the market’s mass psychology or zeitgeist. This is not something I can quantify in numbers, but it is clear that we have not yet reached the mania stage we had at the end of the 1970s, when barbers and bartenders were telling their patrons about the gold coins they’d just bought. Or, when people lined up around the block to sell their grandmother’s silver. My sense is that we are beyond the early, contrarian phase when speculators can get in on the best opportunities for next to nothing. More and more people are waking up to the coming boom in commodities, and people like Jim Rogers are writing books about it for mainstream consumption


How high could gold and other commodities go in this cycle? Some people think I’m trying to be controversial when I talk about $1,000 gold, but to my mind, that’s a conservative estimate. Reversing the then and now price comparisons shown earlier, gold’s peak at $850 in January of 1980 would correspond to $2,015.66 today. $50 silver then would be $118.57 silver today. $42 uranium then would be $99.60 now. $1.44 copper would be $3.41. And $38 crude would be $90.11. Recent price increases are, at most, only the beginning. Silver, in particular, is still near a long-term historic low.


At the beginning of the ’70s bull market, we had just come through a long period of underinvestment in resources, post-depression, post-WWII. This was particularly true for gold, due to price controls. Today, the situation is eerily similar. The analogy includes, among other factors, a “guns and butter” mentality within the U.S. government that has the printing presses-weapons of mass devaluation-going flat-out around the clock, and the fact that we are coming out of a long period of under-investment in resources. Again, this is particularly so in gold, which hit near 25-year inflation-adjusted lows in 2001-a trend perhaps exacerbated by the misallocation of investment in the tech bubble.

When considering the recent correction in precious metals, it’s worth remembering that there was a massive slump in the middle of the ’70s, not just for the resource sector, but for all commodities and for the U.S. economy as a whole, including equities. This led to the highly inflationary “economic stimulus” policies of the late 1970s. One could certainly argue that these developments are similar to the low metals prices and bear market suffered by U.S. equities in 2001-2002 and the extremely loose Fed policies that followed.

Having said that, while it is interesting to compare the cycles then and now, it is important not to try too hard to find a perfect match. This time around, we aren’t coming out of a long period where the price of gold was officially fixed (though, according to GATA.org, the price may still be suppressed by government policy). And today, we have massive creation of wealth in countries such as China and India.

While only a guess, I suspect we are currently in about the 4th inning of the new resource bull market, a cycle that will surprise most investors with its strength and duration. However, the savvy investor should always remember that the market never runs out of surprises; there is no “sure thing”. As prices rise, the masses will tend to cut back and consume less, potentially just as operators are cranking up production (at least in those markets where they can). The market will go up, but it will also go down. Overall, though, I expect we’ll be looking at higher lows and higher highs for years to come.

The best way to play this cycle is to buy good companies on the dips, recover your initial investments on bounces that give you a double, and then sit tight and be right. In time, when commodities take off to the moon and Business Week starts running front-page stories about the great resource boom, we at Casey Research will be looking to make an orderly exit and move on to what’s next.

Editor’s Note:Doug Casey, legendary natural resource speculator and author of “Crisis Investing”, one of the best-selling investment books of all times, has helped tens of thousands of investors become a great deal richer. His monthly newsletter, the International Speculator, which is now in its 26th year, recommends almost solely companies that can be expected to generate a double- or triple-digit return within a year. For a limited time only, you can receive his latest subscriber-only report10 Best Values in Resources Stocks — risk-free! Click below to read.

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