Your Gold Coins vs. the Federal Reserve and the Mainstream Media

If you did what Bill Bonner and I have been recommending for a decade, you own gold. Bonner began promoting the purchase of gold in the year 2000. I strongly promoted this for my subscribers after September 11, 2001, when the Federal Reserve began pumping up the monetary base in earnest. Neither of us has ever stopped recommending holding money in gold.

I have stressed holding coins, especially tenth-ounce American gold eagles.

I am writing this for those who did what I recommended, have quadrupled their money (on paper and in digits), but who may be getting cold feet.

There are good reasons for buying gold. But you should have an exit strategy in mind.

We are told by the mainstream financial media, which never told investors to buy gold over the last decade, that gold is in the final phase of a bubble market. But how can any market be a bubble market when the mainstream financial media are not running report after report on the bubble, telling readers and viewers about how much money people are making.

What mainstream financial outlet warned investors loud and clear, issue after issue, in 1999 that the market was a bubble? I told my subscribers in February and March of 2000 that it was, and that they should get out. But I published a newsletter. I was not mainstream.

What major outlet warned people in 2006-2007 that the real estate market was a bubble, that wise investors were getting out? I did in November 2005.

Bubbles always continue for months or even years after old timers say they will pop. Old timers have trouble estimating the fear of the buyers at being left out and the fear of lenders at being left out. The two sides — debtors and lenders — keep the dance of doom going much longer than old timers can imagine possible. But eventually the dance ends.

I spoke at Lew Rockwell’s conference. One of the speakers is a banker. He lives in Las Vegas. He was taught by Austrian School economist Murray Rothbard. He earned a masters degree in economics. Then he went into banking.

As an Austrian School economist, he understands the business cycle. He understands that the Federal Reserve system has pumped money into the economy, creating a housing bubble since 1996. He knows this boom will bust.

He has no illusions about this housing market. Compared to him, I have been Pollyanna. He spoke of the mental outlook of the builders in Las Vegas. They all know it can’t go on, but they are determined to party until it does. “Then they will declare bankruptcy and start over,” he said. This is their exit strategy.

He was correct. It happened. He lost his job as a Las Vegas banker. He is now the president at the Mises Institute.

I went on to write the following:

I think a squeeze is coming that will affect the entire banking system. The madness of bankers has become unprecedented. They have forgotten about loan diversification. They have been caught up in Greenspan’s counter-cyclical policy of lowering the federal funds rate. Now this policy is being reversed. Rates are climbing. This will contract the loan market. Banks will wind up sitting on top of bad loans of all kinds because the American economy is now housing-sale driven.

But I was on the fringes of the investment community. The bubble was about to burst, but the media attracted viewers and readers by staying on the bandwagon. To call attention to what should have been obvious would have reduced the audience. The editors knew better.

So, when I read articles about gold in a true bubble market, I know it isn’t. The salaried reporters with no savings, underwater in their homes, and in a dying industry are merely writing what their editors think will sell.

What sells? Articles that confirm what conventional viewers and readers want to hear, namely, that they were not really losers by staying out of the gold market (they were), and that those who buy good now will lose everything (they won’t), and that now is a good time to buy stocks and bonds (it hasn’t been ever since March 2000).

Mark Faber, who recommends owning gold as a hedge against a declining dollar, recently wrote this: “In my opinion the Fed funds rate should be at 5% . . . That will provide real interest rates. I don’t think the Fed will increase interest rates to a positive real rate. So, I’d say to an investor, he should have at least 20 to 30 percent of his money in precious metals.”

When asked about his opinion about renewed fears of a bubble forming in the gold market, the student of the Austrian School of economics theory scoffed at the pundits who say the gold trade has become crowded.

Faber said he routinely sees less than 5% of attendees at his speaking engagements raise their hands during his casual sentiment polls regarding the precious metals. Sometimes he sees no hands raised, he said.

There are many ways to own gold. The ones that most investors choose, and which most investors will rush into during the final phase of the bubble, is in fact not gold. It is a promise to invest in gold. It could be an ETF, which is a form of derivative. It may be a commodity futures contract — another promise.

But what about gold, in contrast to a promise — “cross my leveraged heart and hope to die” — to invest in gold on your behalf?

Gold coins are gold.

Why Gold Coins?

The problem with today’s economy is that it is built on promises and trust. It is therefore built on debt.

In the United States, the financial promises always come back to these:

1.    The Federal Reserve System will remain the lender of last resort.

2.    The Federal Deposit Insurance Corporation (FDIC) will pay off all bank accounts up to $250,000.

3.    The U.S government stands behind the FDIC’s promise with a $600 billion line of credit.

4.    The government can get this money from the Federal Reserve System, if necessary.

The problem with these promises is this: the ultimate insurer — the FED — can fulfill its obligations in a deflationary crisis only by hyperinflation. That means that the only sure guarantee against the systemic failure of the American banking system is the destruction of the dollar.

If we get the latter, do you want promises to pay gold, which can be settled legally by the payment of digital dollars? Or do you want coins where you can get your hands on them?

On the other hand, if the FED ever refuses to create money, and if the banking system then begins to implode, do you want promises to pay that were issued by a limited liability corporation, such as a futures exchange?

In between hyperinflation and a deflationary banking collapse, people can buy and sell promises to pay gold. They can pay 28% on all profits (no capital gains protection). They can become self-conscious speculators. There is nothing wrong with this.

But what if you are speculating against long-term price deflation? Then you want paper money. But paper money leaves you at the mercy of the Federal Reserve System and the commercial banking system. Mass inflation could appear rapidly (up to 20% price increases), followed by hyperinflation (anything from 20% to infinity).

What if you want an asset that will do well in mass inflation or hyperinflation, but which will not do as badly as most other leveraged capital assets in a banking collapse?

I keep getting this answer: gold coins.

Procrastinators Pay Premiums

Most people listen to a story for years before taking action. This has surely been true of the story of gold. When Gordon Brown, as Chancellor of the Exchequer, sold off half of Britain’s gold, 1999-2002, he depressed the world price. He sold it at an average price of $276 per ounce.

This was a massive transfer of wealth from the British government to other central banks, which bought most of the gold. This kept down the market price, as central banks shifted demand from the private markets to the Bank of England’s bars of gold.

This was the last chance for gold speculators to get in on the deal cheap. Not many people did, of course, because not many people ever buy close to the bottom of any market.

So, gold has steadily moved higher over the last decade. Still, the procrastinators procrastinate.

I don’t mean Joe Lunchbucket and Tom Temp. The vast majority of Americans have no liquid savings above a few thousand dollars in the bank. Fewer than 50% have pensions of any size, and the money in these tax-deferred accounts are not at their disposal. The funds they can invest in are not related to gold. They are categories that will keep the fund managers from a lawsuit when markets collapse: American stocks, American bonds, and Treasury debt.

Gold is an investment asset. It therefore will not become popular short of an economic collapse — hyperinflation followed by a depression. The average person owns no gold coins, nor will he anytime soon.

Where would he buy them? How could 100 million households buy a single gold coin per household? This would be impossible. There are only a few small coin stores in any community. They are mostly mom-and-pop outfits. The U.S. Mint could not meet the demand.

When Wal-Mart has a gold coin section in the jewelry department, then we can start talking about a possible bubble in gold. Not until then.

As more people on the fringe of the Tea Party find out about American gold eagles, they will start buying. This will force up the coins’ premiums.

As word gets out about the scarcity of small-weight gold coins, there will be more interest in owning them.

As word gets out that the Federal Reserve’s exit plan is a myth, they will start looking for hedges. Gold is a hedge against serious price inflation.

The government is working hard for existing gold coin owners. The government clearly cannot bring the budget deficit under control. Congress has no intention of doing so. When the government can borrow $1.6 trillion a year at rates as low as four-one-hundredths of a percent (90-day) to under 3% (7 years), why should we expect Congress to cut spending?


If you have yet to buy a single gold coin, buy a tenth-ounce American eagle to get started. That will not bankrupt you. It will get you over the hump.

Most Americans will never take this initial step. Those who procrastinate will pay a high premium when they at last think: “Maybe I really do need some gold.”

Gary North
Whiskey & Gunpowder

April 13, 2011

The Daily Reckoning