Taylor On Gold and the Dollar
Does the Dollar Lead Gold?
Or, Does Gold Lead the Dollar?
We enjoyed interviewing Frank Holmes very much. We hope you did too. He was one of the most interesting interviews we have conducted and on most scores we agreed with him. The one area where I think I may have some disagreement, but one that I think is important from a policy point of view, is on the issue of cause & effect with respect to the dollar's strength and gold's weakness during the 1990's. As with most main stream folks, Frank believes that the dollar drives the price of gold rather than gold driving the price of the dollar. For example in our February 5th interview with Frank, he said the following:
" The most significant fundamental reason for the strong U.S. dollar between 1996 and 2001 was
- the budget deficit was shrinking and grew to a surplus and
- Fed funds and T-Bills were offering attractive rates 3 to 4 percent above the inflationary rate. Naturally, money flowed into the dollar, which led to the S&P outperforming the TSE Gold Index in 1996. Actually we have a presentation that points this out, that anyone can visit at www.usfunds.com/gold"
The positive correlation between a shrinking deficits and higher stock prices on the one hand and the negative correlation between a shrinking deficit and gold prices on the other is obvious enough from the chart above. But correlation does necessarily prove cause & effect. Does a shrinking deficit lead to a rising stock price? Or Does a rising stock price lead to a shrinking deficit?
One of the factors I have yet to see discussed with respect to the Clinton
surplus was the "Clinton bubble." One of the reasons for the Federal
Government's surplus during the Clinton Years was the bubble stock market
and the taxes collected with the absolutely enormous trading profits that
were generated during those years. The Federal government raked in huge
revenues from equity profits even though we know now that the equity prices upon which those profits were earned and taxes collected were based on little or no substance. Bubbles are after all generated with hot air an in
this instance it was the hot air energized by trillions of dollars of new money created out of thin air by the Greenspan Fed plus hot air directly from our Chairman's mount as well as most of our ruling elite who talked daily of a "new paradigm" mythology. So as stock market profits plunge so to do federal tax revenues. We don't mean to suggest that hot air equity gains were the only factor in the Clinton surplus, but there can be no doubt they played a huge role in reducing the deficit. Certainly, as trillions of dollars of equity value has disappeared into "money heaven," we see a very steep increase in the Federal deficit back to its much more normal deficit position.
But a rising stock market raises another question. How did the equity bubble and a series of other bubbles get started in the first instance? Frank Holmes is also right in identifying a correlation between rising real interest rates and rising stock prices. But we would like to ask a rhetorical question. "What led to those high interest rates?"
Gibson's Paradox Suggests Gold Drives the Dollar
Now here is where we think the ramifications of Bill Murphy and his Gold
Anti-Trust Action committee began to contribute a most important
understanding of how the enormous excesses of the second half of the 1990's were able to develop and also why they have set us up for one of the
largest credit/debt contraction periods perhaps in centuries.
Based on a paper co-authored by Lawrence Summers at Harvard in 1988, he
demonstrated an intimate understanding of what Keynes described as one of
the best documented relationships in all of economics, namely that as a
nation prints excessive amounts of money, the real interest rates in their
currency will inevitably decline… and as the real interest rates declined,
so too would that nation's currency in relation to gold. This natural economic relationship presented a political and economic problem for an interventionist Clinton Administration especially as various monetary
problems begun to spring up starting with Mexico in 1994-95. If the Fed
were to print enormous amounts of money to ensure Mexico did not collapse,
real rates of interest would decline for the dollar, and the dollar would
collapse, UNLESS the price of gold were to be capped. And so, through
coordinated efforts on the part of the Fed and the Rubin/Summers Treasury, cap the gold price they did. Thus was born the Clinton Strong Dollar policy.
Of course, Mexico was only the first country to be bailed on the Clinton
watch. It seems that Administration never found a bailout proposition it
did not like. So after Russia, we had Asia, Russia, Long Term Capital
Management and Y2K, all of which led Alan Greenspan to become the greatest monetary inflationist by far of any Fed Chairman in history.
It is imperative to appreciate that starting in 1995, the strong positive correlation between the price of gold and real interest rates broke down. Bear in mind that GATA was born because Bill Murphy noticed some highly irregular gold market behavior starting in about 1994-95. That factor combined with the work of Frank Veneroso convinced Bill Murphy that the bullion banks in concert with our policy makers were involved in a grand deception of the American people. It was not until the last couple of years that Reginald Howe, the plaintiff in the anti-gold price manipulating laws suit, discover the paper Summers co-authored at Harvard. It all seems to fit like a glove. The gold market started to behave in a very funny manner at about the same time the U.S. begin pumping up the global financial bubble with one bail out after another coinciding with a series of national bailouts. And as the chart above shows, Gibson's paradox was defied at that same moment in history.
Perhaps from an investors view-point, the difference between cause and
effect is not important. It may be sufficient to know as Frank Holmes
points out that gold is negatively correlated with stocks, and that as the
budget deficit widens and as real interest rates decline, that is bullish
for gold, and bearish for the dollar and dollar equities. We would argue
however, that realizing what was driving real interst rates higher was
providing us with some insight into the phony nature of the greatest stock
market bubble of all times. In other words, digging deeper toward the root
cause is always better if you can because that can increase your insight
into cause and effect and thus prepare well in advance of the next Tsunami
wave, or more appropriately, the Kondratieff winter as Ian Gordon has aptly
named the first emerging deflationary depression since the 1930's.
However, the question of the gold rigging has even greater repercussions
than its role in expanding the bubble to undreamed of excesses. The
terrible excesses that have taken place during the existing Kondratieff
winter are arguably worse then any other excesses in history by virtue of
the fact that the U.S. and England have led the entire world down the path
of fiat money. Virtually no currency anywhere in the world has been
anchored to reality by the discipline of gold. That is why some folks,
myself included, believe the current contraction phase of this Kondratieff
winter could be worse than any of the previous four pictured in Ian
Gordon's Kondratief wave chart that dates back to the late 1700's. A really
big question is, what will come of our democratic republic when the ravages
of the current debacle unfold?
At the hands of an arrogant Exchange Stabalization Fund and an equally
arrogant banking industry headed by the Federal Reserve Bank, Americans and indeed citizens around the world have been tricked by one of the grandest deceptions of all time. And now, one can only hope and pray that the freedoms and prosperity our beloved America has enjoyed can endure in spite of this abuse of our citizens by a ruling elite who managed to gain power of our electoral system via the establishment of the fed run printing
presses.
So what I am suggesting is that as much as I agree with Frank Holmes and as much as I agree with his views on the relationship between gold and other
assets, I believe the question as to whether the dollar leads gold or whether gold leads the dollar is not at all trivial. Not only did the insights provided by GATA allow us to get ahead of the crowd to understand that the price of gold was a lie, and thus due for a major reversal, but it also helps us understand how the ruling elite have used fiat money to disenfranchise the American people from representative government. It also allows us to see how the selfish policies of the ruling elite have potentially made worse than normal the extremes of the current Kondratieff cycle and thus increase the likelihood that this wonderful historical anomaly called America may now have its days numbered.
February 25, 2003
Jay Taylor, Editor of J Taylor's Gold & Technology Stocks
www.miningstocks.com
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