After I finished reading The Dollar Crisis, I concluded this was the best account I have yet read that ties the catastrophic monetary policy of the Nixon Administration to the perilous state of our current financial system. Richard Duncan clearly outlines how the gold standard kept chronic and worsening trade imbalances, like that we are experiencing at present, from ever taking place.
Yet Mr. Duncan is not willing to prescribe a return to a fixed rate, gold backed global monetary system. Instead his prescription is totalitarian. It calls for a global government to regulate global wages. That suggests to this writer that Duncan is no friend of free market economics or personal liberty. But once you examine his background that is not surprising. Duncan has worked as a financial analyst in Asia for more than 16 years. At the height of the Asian crisis, he worked as a consultant for the IMF in Thailand. Subsequently, he joined the World Bank in Washington, D.C., as a Financial Sector Specialist focusing on issues related to the economic crisis in Asia. Working as a member of the elite, it would be unrealistic to expect this man to come clean on the real cause of the global financial market catastrophe that lies ahead of us. That would be like asking a hungry fox to guard the chicken coop.
Duncan suggests that trade imbalances are the cause for the multiple financial bubbles that have sprung up around the globe since the mid-1990s. Although he clearly understands that trade imbalances are caused by the endless printing of money that resulted from Nixon detaching the dollar from gold, rather than seeking to return to an honest monetary system like gold, his solution to the problem is not to return the free market monetary system that worked in the past, but to seek even more government control of people and markets. He would require higher wages be paid in developing countries so that the demand side of those economies would help stimulate domestic growth rather than depend so heavily on exports.
This is the kind of solution the statists are constantly resorting to. Any person educated in free market economics will understand immediately that this kind of intervention imposed on these developing economies would simply result in other economic dislocation. But this is the mindset of our ruling elite, especially those connected with institutions like the Federal Reserve, World Bank and IMF. These folks owe their total elitist position to an anti free-market mentality. They are in fact the curse of all that America stood for and what made America great.
But I have to give Duncan his due. He does a wonderful job of outlining the inevitable collapse of our monetary system and why the dollar as the world's reserve currency is doomed. He also explains very logically why both monetary and fiscal policy will not solve the cancerous growth of global trade imbalance. I had hoped to interview Duncan. However, after two e-mail requests to him were ignored, I chose instead to quote from the description published on the inside flap of his book, as follows:
"The World economy is sinking into the worst industrial and financial downturn since the 1930s. Stock markets are plunging, major corporations are going bankrupt, and governments are begging for bailouts from the IMF. In The Dollar Crisis, Richard Duncan explains the nature and the origin of the imbalances that have destabilized the global economy.
"The book's theme is that the global economy has been destabilized by the United States' enormous trade deficit which now exceeds US$50 million…AN HOUR-or 1.5% of Global GDP per annum. That trade imbalance, financed through debt, has created tremendous disequilibrium in the global economy and an economic bubble in the United States. When that bubble pops and the global economic disequilibrium unwinds, the world will not be able to avoid a very serious economic slump.
"The Dollar Crisis is divided into four parts: Part one describes how the U.S. trade deficits have destabilized the global economy by creating a worldwide credit bubble." This in fact is one area of the book where I have a slight disagreement with Mr. Duncan. He talks about how trade imbalances caused various bubbles. While chronic trade imbalances certainly played a role in determining which part of the world bubbles were first inflated, the ultimate cause of the trade imbalances and hence the bubbles was the explosion of fiat money after President Nixon defaulted on the U.S. obligation to exchange an ounce of gold for every $35 turned in to our Treasury by foreigners. But indeed Duncan does understand this concept as he points out how the enormous and chronic trade imbalances that now threaten to ultimately destroy the U.S. dollar could never have taken place with global currencies anchored in a gold standard.
The second part of the book explains why the gigantic deficits cannot persist and why a U.S. recession and a collapse in the value of the dollar are unavoidable. In a nutshell, the dollar will have to collapse in value given the huge amount of indebtedness in the U.S. and it will occur when foreigners finally discover that recycling trade surplus dollars back into U.S. is a horrible investment strategy. In Chapter 6 Duncan states, "The dollar is destined to collapse because the U.S. economy will soon no longer be able to generate a supply of secure U.S. dollar-denominated investment vehicles sufficiently large to enable the rest of the world to recycle its annual half a trillion dollar current account surplus."
In fact, as Duncan pointed out, one of the reasons the surplus countries are re-investing their money in the U.S. is so that their currencies do not increase in value and thus result in declining exports rather than because of the intrinsic value of U.S. investments. And so an overvalued dollar becomes even more overvalued, thus worsening an already out-of-whack balance of payments disequilibrium. This kind of beggar-thy-neighbor foreign currency policy smacks of the 1930s. But at some point in time as we have said many times in this letter, the horrendous debt of the Kondratieff cycle will overwhelm the system and trigger a cascading series of defaults. We think that will be when the dollar could "fall off the table" as the $1.5 billion per day U.S. balance of payments deficit stops being converted into $1.5 billion of daily demand for U.S. dollar-denominated assets. What we have to look forward to when that days arrives is a kind of great tsunami wave that washes the dollar and American investments out to sea.
Part Three of the book analyzes the extraordinarily harmful impact that the U.S. recession and the collapse of the dollar will have on the rest of the world. Duncan believes that the global economy may well suffer a decline the likes of which have not been seen since the 1930s. The logic here is that when the U.S. finally stops borrowing money with which to consume, global demand will decline very, very sharply. Certainly your editor buys this scenario and I believe that is exactly what will happen when the debt repudiation phase of the Kodnratieff winter gets underway. Duncan's view here is very much in tune with Ian Gordon's. Not only will the U.S. face a depression, but because the dollar is the world's reserve currency, and because the entire world is leveraged with U.S. dollar debt, the tsunami will not only destroy the U.S. economy, but the global economy as well.
When will the frigid arctic air take over and send the U.S. economy and then the global economy into the deep freeze? Duncan thinks it will happen when the real estate bubble in America is popped. And as we discussed in a recent hotline message, housing prices have risen to such heights that even with still extremely low mortgage rates, housing prices are becoming ever more unaffordable.
When interest rates begin to rise, mortgage default rates are likely to rise. It is noteworthy that the average home price in America is now more than 3 times higher than the average salary. Historically, when housing prices have exceeded this ratio, it has signaled a market top followed by a significant decline thereafter. Given the enormous amount of debt in this sector, a major decline in housing prices would devastate the U.S. economy. Thus we agree with Duncan that a housing decline, triggered by rising interest rates (no doubt triggered by a lessening of foreign demand for U.S. investments), could well be the trigger for the deflationary Kondratieff winter.
In this third part of the book, Duncan also explains why the current remedies, namely fiscal and monetary policy, will not be any more effective than they were in the U.S. during the 1930s and in Japan in the 1990s. The willingness of this mainstream character to condemn all that is holy among the economics profession by itself makes The Dollar Crisis a worthwhile read. Here is what Richard Duncan had to say about the use of monetary policy to fix our global economic and financial market malaise at this time in our history:
"Tightening the money supply is effective in battling inflation. However, increasing the money supply is no cure for the deflation that results when a credit bubble pops, because it is excessive money supply that causes economic bubbles in the first place. To think otherwise is like believing that consuming more alcohol is the cure for drunkenness. The consumption of more and more alcohol will eventually lead to death, just as the unlimited expansion of the money supply will end in the death of the currency system involved. As unpleasant as it may be, the hangover is the period during which the body purges the unnatural toxins that over-stimulated the nervous system during the binge. Similarly, the recession is the period during which equilibrium is restored to the economy after a long period of over stimulation due to excessive monetary stimulation through credit expansion.
"Booms involving periods of extraordinary asset price inflation are episodes of economic drunkenness, where credit is the drink. All those who believe that increasing the money supply in Japan would cure the long, ongoing recession there or that monetary expansion during the 1930s would have prevented the Great Depression, fail to understand, or at least refuse to admit, that the extraordinary booms that preceded those slumps were unnatural and unsustainable economic events that were responsible for the ensuing crises.
"This is very important to understand, because as the Great End-of-the-millennium Asset price bubble deflates in the United States in the years immediately ahead, deflationary pressures will intensify there, as will the calls for greater monetary stimulation. Unfortunately, there is little doubt that aggressive monetary stimulus cures will be attempted. Interest rates will fall close to zero, as in Japan, and efforts will be made to force the money supply to grow. Those attempts will fail, however. Money supply will not grow at a time when large parts of the economy are incapable of repaying the credit they borrowed during the bubble years.
"The failure of those attempts will be the death of monetarism, which claims that any economic difficulty can be overcome simply by adjusting the money supply up or down depending on the circumstances. It will be death through drowning. In this crisis, monetarism, as an economic ideology will sink under the waves of excess liquidity and drown in an inundation of credit."
So there you have it. A consultant to the IMF and an employee with a responsible position at the World Bank is telling you and me that the system is broken and that our policy wonks don't have any idea of how to fix it. Which brings me to my biggest disagreement with Mr. Duncan in his book and that is his suggestion that the remedy for a growing chronic trade imbalance is to have worldwide wage regulation. This kind of proposed remedy should make all Americans weep for our beloved country. The move toward a one-world government is gaining strength with intellectuals and elitist policy wonks like Mr. Duncan leading the way. And with these same institutions printing the money, they are firmly in control because they buy off politicians and control intellectual think tanks that indoctrinate us all on the major news shows.
Duncan Ignores Clinton's Role in the Crisis
As suggested above, given Duncan's cozy relationship with the institutions that rule the world, we are not surprised that he ignores the obvious solution to our global trade imbalances, namely a return to a gold based, fixed rate currency system. Duncan would not be in favor of that because a return to gold would render institutions of privilege (of which he is a part) irrelevant. A gold backed international monetary system would keep bubbles from developing. But it would also mean the bankers and politicians would not be able to rob the public and in the process continue to increase their own wealth and political power.
Given this background, we should not be surprised that Duncan does not discuss anywhere in his book how President Clinton's "Strong Dollar Policy," which was built by manipulating the gold price to lower and lower levels, helped accelerate the bubble and global trade disequilibrium.
No doubt Mr. Duncan has not yet discovered information posted at www.gata.org or at www.goldensextant.com providing mountains of evidence of gold market price fixing by the U.S. Treasury, the Federal Reserve Bank, the BIS, Goldman Sachs, J.P. Morgan, Chase, Deutsche Bank and the New York Fed. Nor does he seem to be aware of the overlapping evidence provided in a lawsuit against Barrick Gold and J.P. Morgan Chase for gold price rigging and anti-trust allegations. Or if he is aware of GATA, perhaps he has conveniently chosen to ignore it.
Duncan is quite correct in asserting that Nixon was the one responsible for the structural defects in our global monetary system that have led up to the huge imbalance we now find ourselves in. But he overlooked the brazen willingness to manipulate markets for short term political gain by the Clinton boys even though doing so sucked huge amounts of capital into the U.S. and in that process worsened the existing imbalance far beyond what would have happened if the Clinton Administration had allowed the price of gold to meet its market equilibrium price.
The real "credit" for this pathological economic strong dollar policy can be granted mostly to Lawrence Summers whose work on "Gibson's Paradox" in the late 1980's provided compelling evidence that in the midst of real interest rate declines, the price of gold had to be "capped." Otherwise, with gold rising, the dollar would have declined and the trade imbalance that Duncan rightly complains about would never have become nearly as great as it did from the mid-1990s onward. But again, why would we expect a proponent of collective, dictatorial solution to criticize the statist policies of President Clinton who was a darling among the one-world government proponents at the IMF, World Bank, and Federal Reserve? That the phony strong dollar policy would lead to huge global disequilibria in the longer run was of little concern if they thought about it at all. What they knew was that during Clinton's time things were booming and that was good for politics. Never mind if the boom was illegitimate and based on printing press money rather than real economic growth. The phony underpinning for the boom led to phony explanations like the "new paradigm" that everyone in Washington liked to take credit for.
So in fact, both Nixon and Clinton played a huge role in boosting the great financial bubbles of the late 1990s,which for the most part, have yet to be deflated. Notice the following rise in the U.S. dollar money supply bubble (M-3) following: (1) Nixon detaching gold from the dollar and (2) The Clinton gold market rigging that started in the 1994-95 time frame, that being the same time the Clinton administration began talking about its "Strong Dollar Policy."
Although Duncan ignored or perhaps is unaware of the role gold played in enabling the bubble, there is a growing awareness among insightful economists that the suppressed gold price of the 1990s was part of the problem. Economist Tim Lee made the following statement in an article he wrote for the "Financial Times" titled, "Look Beneath the Golden Gleam":
"The third period of low real gold prices, which continues today, can also be attributed to the actions of central banks and governments; but the forces at work are more complex. Beginning in the mid-1990s, central banks and governments not only sold gold heavily from reserves and lent gold to short-sellers but their wider activities also encouraged excessive speculation in financial assets that further discouraged investment in gold. In the bubble environment of the 1990s, this helped create many of the 'feedback loops' that sustained the financial bubble. For instance, low gold prices played a role in helping to suppress inflation expectations, which further encouraged the financial markets.
"Arguably, the downward trend in the price of gold also helped to cement the dominance of the dollar as the world's reserve currency and store of value. The strength of the dollar, in turn, was a further force in keeping U.S. inflation low even as the Federal Reserve implemented an increasingly loose policy. The weakness of gold until the end of the 1990s was therefore integral to the financial bubble environment, both as a cause and an effect of the inflation of financial asset prices.
Economist Lee concluded his article by stating, "When these conclusions are added together, they suggest an outlook for the global economy, and both bond and stock markets, that is much less benign than the optimists would have us believe. Investors would do well to look more closely at gold's steady rise."
In summary, the real reason the global financial system is in trouble is because in a very short period of time our policy makers have chosen to detach the world's currency system from a legitimate gold backed system, and then base our current monetary system on deceit and an outright lie. What is the lie? The lie is that you can print endless amounts of dollars, and their increased supply will not suppress the value of the dollar. Have you ever heard of a more blatant lie in all of economics? Not only is a very basic law of economics ignored (a rising supply means a declining price, all other things being equal), but the dollar and all fiat money systems are in fact liability monies. And therein is another reason, not spoken of by Richard Duncan, why the current monetary system is doomed. In the fractional reserve banking system that all the leaders of the world have now foolishly chosen to use, money is manufactured from debt. Trouble is, as the chart below demonstrates, debt is growing much, much more rapidly than income (GDP).
Hence, the handwriting is on the wall. It says that our liability or fiat money system is a delusional system that is heading for a disaster. As excessive amounts of debt used to create money begin to suffocate the global economy, a cascading debt default is all but assured.
That will lead to a collapse of our monetary system, such that fiat money will be exposed for the lie that it is. Trouble is, average folks like those who subscribe to this newsletter are going to pay a very severe price for the dishonest, self-serving monetary practices of our ruling elite. What we try to do in our newsletter is: (1) help you see what is coming (for that we thank Mr. Duncan along with many past contributors to this newsletter such as David Tice, Ian Gordon, and Dr. Ravi Batra); and (2) help find strategies to at least retain our financial resources if not increase them during the impending inflationary/deflationary collapse.
In shaping our model portfolio, we operate under the premise that manipulators of markets can only prevail for a time and that ultimately the forces of nature will prevail. Thus we know that the manipulation of the gold price to artificially low levels will, and already is, providing a major opportunity for investors who are able to think outside of the box and examine the evidence for this criminal act by our self-serving policy makers. Likewise, we know that a dollar, which is overvalued in large part because of the deception of strength enhanced by the rigging of the gold price by the Clinton boys, affords those who understand this fact a way to make money by taking short positions against the dollar. Furthermore, once you realize that the dollar's days as a viable currency are numbered, you begin to understand that the housing bubble, the bond bubble, and the equity bubbles will all soon implode. So what do we do to protect ourselves? We certainly don't go long on the dollar, real estate, and equities. What we will continue to do as long as we view the world in the manner noted above is pretty much what we have been doing since the bear market in equities began. That strategy is outlined below in our Model Portfolio as of September 30, 2003.
With regard to the inflation/deflation issue, we think we are pretty well protected with our existing portfolio. We think it is possible that we will continue to witness mild levels of inflation (as defined by rising prices) until the debt bubble bursts. Then we will begin experiencing a most painful part of the Kondratieff winter, that being when deflation by everyone's definition begins to lead to a liquidity panic that inevitably drives people to the most liquid asset of all. As the establishment will learn, most liquid assets will not be checking accounts, or T-Bills, or money market accounts, but rather gold. Why? Because when the Kondratieff winter debt-repudiation phase gets underway, nothing except gold, which is an asset money, not a liability money as is the dollar, will be the only acceptable medium of exchange and store of value to everyone-including Richard Duncan and Alan Greenspan.
The chart above displays the monthly average cash price for gold from 1995 to the present time. As a former credit analyst/bank lender, this is exactly the model that I used when my finance proposals were taken to the credit committee. What is really important about this chart is that it demonstrates a powerful secular bull market in gold is underway. The monthly average price of $379.47 is substantially above the 20-month moving average ($336.09) and the 40-month moving average ($304.57).
Of course, there is no guarantee that this trend will continue from this point onward; these major secular market moves do not change very frequently. Those of you who were my subscribers through the 20-year bear market in gold have seldom had it so good. And having suffered through those lean years, you will not be knocked out of the game if, as we expect, a major decline of gold in this new secular bull market is forthcoming. It is the newcomers to gold, the "weaker hands" if you will, that I am most concerned about. More recent investors in gold may be nothing more than momentum players who really do not understand that gold is not a commodity, but rather has been declared by nature to be the only really honest money man has ever known. Many of you newcomers may not be aware therefore that what is going on in gold is directly related to the phony economic policies being sold every day by our popular media that would try to sell you the big lie-namely, that paper money is superior to gold. I believe that lie is in the early stages of being exposed by the above-noted secular bull market in gold, which will rise as the dollar's weakness becomes widely accepted on a global basis.
It is difficult for all but the most die-hard gold bugs to stay bullish in this early stage of the bull market, for several reasons. First, the newcomers remember that gold has been a very bad investment for quite a few years. They also remember that stocks have performed extremely well. Those most recent memories are imbedded into the psyche of investors. But if possible, we want to step back from our recent emotional experiences and take a look at what history-long-term history-has to tell us about where we are going in the future. Your editor relies most heavily on the really long-term perspective (60+ year Kondratieff cycle), on my good friend Ian Gordon, and on a shorter-term but still longer-term "primary trend" perspective from Richard Russell. There are others also who are very helpful to me, but these are the most influential in shaping my views.
Regarding the current bull market in gold, I do anticipate the potential for a dramatic setback that will shake many of the new gold investors out of the market. It would be an abnormal bull market if that did not happen. But I will not become the least bit concerned unless we see a decline in the daily price of gold dramatically below the 20-month average of $336.09. I do admit that a decline substantially below the 40-month moving average of $304 would cause me to rethink my bull market thesis on gold. It could happen, but I do not anticipate it, which is why not even this die-hard gold bug puts everything into gold.
November 11, 2003
Jay Taylor, Editor of J Taylor's Gold & Technology Stocks
www.miningstocks.com