Gold, Bigamy & Elevators

March 12, 2010

What the alchemists could not achieve through chemistry, bankers have achieved through fiat money and credit creation. The resulting illusion stands for as long as the debt pyramid grows but once the loan exceeds the security and the interest payments stop flowing, the end is in sight. Interest payments are like service contracts on elevators. If elevators do not function then the penthouse suite on the 80th floor becomes virtually worthless. The same happens to asset prices in general.

The other culprit is the current system of credit creation which is like bigamy only many times over. A bigamist gets caught out when both wives want to sleep with him at the same time. It's the same with our banking system. It only survives for as long as the overwhelming bulk of the population does not try to access its money at the same time as well.

Now when a bigamist maintains a relationship with one woman on the first floor and another on the 80th floor, you can imagine what happens when the lift stops working. The game is well and truly over. This is what the system is going through despite the best efforts of governments to reverse the situation.

Gold is on the ground floor of a financial system with no working lift. It therefore suddenly becomes the most valued asset.

The world's financial and economic systems are clearly in a state of stress as individual insolvency brought on by an inability to service debt, has in turn severely impacted asset values. Credit creation in reverse manifests itself as deleveraging.

Since 2003 the United States Government's on-budget interest expenses have been met TOTALLY by additional borrowings. In other words, the interest expenses of the U.S. Government are being capitalized and responsibility for these expenses is being passed on to whoever is employed or solvent in the future. The worst part is that this situation is expected to continue. The table below of actual and forecasted figures paints the picture quite clearly.

The U.S. Government can neither pay the interest nor repay the debt and should therefore have been deleveraging itself of all its wasteful and unproductive activities. Instead it has sought to become the surrogate consumer to the economy (through housing, auto and other stimulus), surrogate depositor to the banking system (through 0% money and purchase of toxic debt) and surrogate "policeman" of the world (to Iraq, Afghanistan and Iran.) As a result it will end up being the mother of all catastrophes until it ceases to suffer from "Attention Deficit Disorder". In fact the USA reminds me of the following quotation by Richard Brinsley Sheridan who uttered these words over 200 years ago:

"You know it is not in my Interest to pay the Principal; nor is it my Principal to pay the Interest"

There is no doubt that a calamitous unwinding lies ahead and when the great unfolding takes place, gold, silver and other precious metals, will best serve as stores of value. All other assets, whether they be bonds, stocks, deposits, real estate etc are largely reliant on computers and ledgers. Furthermore, the institutions that record them or with whom they are deposited must remain open and willing to transact business. Gold however is universally acceptable, transportable and can exist and function outside of institutional bureaucracies.

Will there be a bank run? Probably not. They will either declare a bank holiday or your paper currency will be worthless. If anything, it will be the bankers of the world that will be on the run.

The USA and China are nothing more and nothing less than Siamese twins. Each would like to be rid of the other but they are both cautious about separation as it could prove fatal in the region of the trigger finger and the hip pocket nerve. In the meantime, they are both preparing for the inevitable spat to determine who achieves dominance without risking a split which could result in fatal haemorrhaging.

Oil, food and security will be the new requirements for national and individual well-being. These will no longer be sold or exchanged for paper promises that constantly leak value. The great unwind impacts mercilessly those assets that are underpinned by debt. Gold and silver have no debt attached and will therefore withstand the ravages of the long overdue liquidation that is bound to happen.

Whilst many people may be viewing the almost stagnant performance of gold and silver, with some disappointment, just remember that precious metals are subject to much more than the usual factors of supply and demand. Many commentators point to a fall-off in sales as well as an increase in mining activity, yet the reality is that these negatives will be far outweighed as soon as financial, and economic, upheaval strikes more deeply. At that time the unusual phenomenon of both exploding demand and shrinking supply will be observed. Holders of gold (and silver) will be reluctant to part with gold in exchange for paper of dubious value. This is counterintuitive as we have been trained to believe that supply expands with higher prices. That is when price will explode.

Governments worldwide will attempt one last massive reflation which will at least destroy the paper debt that is currently jamming the gears of commerce. The inevitable conclusion will perhaps be a pay-as-you-go world where leverage and fiat currencies are anchored to precise multiples of precious metal stocks. This will hopefully be accompanied by vastly reduced government where it is no longer the rapacious "custodian" of workers' retirement contributions, a little more" trickle up" economics as well as a world that is content in and intent on restoring peace, quality and value in all transactions.

In the meantime the cheerful herd is waxing lyrical about a US stock market that since last August has staged an amazing comeback of 15% despite the nation being swamped by unemployment, foreclosures and bankruptcies. At the same time the public herd fails to notice that the Chinese stock market has been literally flat since August last year despite China being the powerhouse of growth and activity. Is something going on? Maybe the Plunge Protection Team has not opened offices in China as yet. Or maybe China Inc is Dubai times a 1000 as Jim Chanos has said.

Time, against the backdrop of the universe, moves at a constant speed. The price of gold and calamity however, will outrun you if dollars are your running shoes.

Sydney Australia

Gold weighs 19.3 times as much as an equal volume of water.

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