Before going to war against Saddam Hussein a year ago, George Bush told us he was certain that the Iraqi dictator possessed weapons of mass destruction. None were found. During the last election, Bush promised a balanced budget with billions in surpluses. Instead the President unveiled a whopping $12.4 trillion budget with lots of red ink, which included $400 billion of military spending that somehow excluded the cost of military operations in Iraq and Afghanistan. Mr. Bush continues to advocate a strong dollar policy. Instead the greenback has lost more than 25 percent of its value against the euro and hit a new low with the yen. Of concern, is that Senator John Kerry actually sounds more fiscally conservative than Bush.

After an anemic start, the US economy is growing largely due to the biggest and fiscal stimuli in history. That a new asset bubble is forming is lost amid the histrionics of an election year. The indebtedness of the last burst bubble has not even been repaid when a new burst of consumer borrowing and massive government spending plunged the government into a sea of red ink, pushing total US indebtedness to an alarming 10 percent of GDP. In our view, Bush's economic policies have mortgaged America, which will test that nation's spending and tax policies.

The increase in debt almost matches the increase in net financial claims by foreigners. TheUnited States needs to attract $1.5 billion a day to pay for its bills and has become overly reliant on foreign capital. Ironically, Asian central banks have financed a large part of America's deficit to stop their currencies from rising leaving the Europeans to shoulder much of the adjustment of the weakening dollar. To date, when Asian central banks buy US dollars most of that money went into US government bonds which ironically has pushed long-term interest rates to Japan-like levels despite exploding budget deficits and strong economic growth. Such an imbalance is clearly unsustainable and at some point, investors and central banks will be unwilling to finance these "outsourced" deficits. When that happens it will trigger yet another downward devaluation of the dollar and the inevitable flight will force interest rates and gold even higher.

The Sick Dollar Isn't The Issue: It's A Symptom

We are witnessing a complete breakdown of budgetary discipline before the presidential election. It appears that Washington has adopted a policy of benign neglect towards the budget and the dollar. The benign neglect of the dollar suits the Administration's needs in an election year, helping to spur economic growth by making its exports cheaper. Investors have largely ignored the collapsing US dollar. Indeed the dollar isn't even the real issue; it's a symptom.

With the CPI at its lowest level in forty years, Greenspan is unlikely to move on interest rates, particularly at the starting gate of an election year. Greenspan noted there was, "little evidence of stress pending US current account deficits". Indeed, the political calendar ensures the continuation of the main drivers for the stock market and gold, and that is the opiate of low interest rates. Ben Bernanke, the new Federal Reserve governor, echoed that the risk of a weakened US dollar is "quite low". Mr. Bernanke's reference to the slide of the dollar, not only reflects the benign neglect attitude toward the dollar but a naiveté when he said, "for now, I believe that the Federal Reserve has the luxury of being patient".

Guns And Butter

While the once mighty dollar lost over a third of its value from its peak against the euro, gold during the same two-year period skyrocketed more than seventy-five percent. To date, rhetoric has been the only line of defense of the dollar, and until the election is over, the Administration is unlikely to take serious concrete action. Bush's spendthrift ways has increased more rapidly than under any president since Lyndon Johnson. The savings-short consumer has an insatiable appetite aided by tax cuts, 50-year low interest rates and inflated housing prices, which has led to a record build-up of debt and the biggest credit bubble in history. So far, America's policymakers have been happy to accommodate this spending since it allows the United States to enjoy both "guns and butter".

Having run out of places to spend money on earth, President Bush is now looking towards the heavens. The White House's grandiose plan to put a man on Mars will add to an already bloated half trillion-dollar federal budget deficit. Two years ago, Bush inherited a surplus and forecasted a fiscal 2004 deficit of only $14 billion. But after massive tax cuts and huge spending increases, Bush now presides over a record and still climbing $520 billion deficit. Discretionary spending has risen by 12.8 percent in each of the last two years.

We have been here before. In the sixties, Lyndon Johnson, fought a controversial war in Vietnam and attempted to increase spending on his "Great Society" program. At that time the "guns and butter" deficit ran a meager 1.3% of GDP, which had economists crying alarm bells at the time. Of course the ensuing deficits resulted in the great inflation paving the way for Fed Chairman Volcker to bring inflation and a federal fund rate of 19% down. In the seventies, this debased the value of the dollar and gold went from $50 an ounce to $850, in gold's last real bull market. Today, Mr. Bush is following that same path.

America Is Dependant On Asia's Largesse

The US has become the biggest borrower in the world. The Asian countries have become the world's wealthiest lenders. These funds have become the economic lifeblood of America. Japan for example has spent a staggering $230 billion last year or more than 4 percent of Japan's GDP to preserve their export competitiveness but failed to hold the dollar. Intervention does not work and cannot continue forever. This breakdown of budgetary discipline not only undermines the dollar but as the economy booms, what little savings left erodes, making the Americans more dependant on Asia's largesse. Such profligacy increases Asia's leverage over America's economy and global policy decision making.

China's foreign trade is expected to top US$840 billion, up 35 percent from 2002 making it the world's fourth largest trading nation. The trade surplus with the United States has soared over $125 billion and the Chinese have accumulated more than $400 billion in foreign reserves. China, the new 800 pound gorilla, is not only a major exporter, taking advantage of its cheap labour, but its domestic market and role as the factory of the world makes it a huge consumer of resources. China's economy is expected to grow by 9 percent this year, becoming the world's fourth largest trading nation, behind the United States, Japan, and Germany. The Asians will reap an unintended benefit from the Fed's massive printing job. Export sensitive China and Japan have also been printing overtime in order to buy the dollars needed to stem the rise in their currencies. This flood of new money has inflated the Asian balloon. Alan Greenspan warned that China itself, "will be confronted with the choice of curtailing its purchase of dollar assets or face an overheated economy with associated economic instabilities " and that the Asian central banks may soon reduce their "extraordinary" US dollar purchases. In time however, this widespread global debasement of currencies will lead to unwelcome inflation, more volatility and even higher gold prices.

The Answer: When governments debase the dollar, gold is the only effective hedge Gold is a good to thing to have. Gold recently recorded a 15-year high, rising more than 70 percent from the low. We believe gold's historic role, as a superior asset class in a world of devalued currencies will emerge this year taking gold beyond $510 an ounce. Coincidently, Japanese Finance Minister, Sadakazu Tanigaki, stated the government will diversify its huge foreign exchange reserves and will "carefully consider whether it will change the composition of its US $673 billion foreign reserves, including its holdings in gold." At yearend, Japan's gold reserves totaled 765 tons or a meager 1.5% of total reserves. The Chinese, the new global juggernaut has only 600 tons of gold in reserves. That will change in a China-centric world. And, the Washington Agreement was renewed for another five years with the fifteen banks declaring, "Gold will remain an important element of global monetary reserves".

John R. Ing
Maison Placements Canada
130 Adelaide St. West - Suite 906
Toronto, Ont. M5H 3P5
(416) 947-6040

March 22, 2004

The information contained herein has been obtained from sources which we believe reliable but we cannot guarantee its accuracy or completeness. This report is not and under no circumstances is to be construed as an offer to sell for the solicitation of an offer to buy any securities. This report is furnished on the basis and understanding that Maison Placements Canada Inc. is to be under no responsibility whatsoever in respect thereof. Directors, shareholders or employees of this company may be beneficial owners of the securities referred to herein.