Taylor on us Markets & Gold

The Paper (Financial) Markets

November 26, 2002

Desperate Times Require Desperate Actions

One after another, Fed Reserve spokesmen trotted out to the public this week to say that deflation was about as likely as hell freezing over, but just in case it does happen there is no need to worry because the Fed has plenty of ammunition left with which to reflate. Chairman Greenspan noted that if short-term interest rates went to zero, as they have in Japan, the Fed could simply go out and buy longer term Treasuries and thereby pump money into the system. And they would not have to stop with Treasuries. They could buy private securities too and thereby pump more money into the system. And earlier this year you will recall that more talk from the Fed suggested that real estate and gold mines might be monetized in an extreme pinch!

These of course are extreme measures. So if you think for a minute the Fed isn't worried about deflation, I have a bridge to sell you about 2 ½ miles from my home here in Queens. The mere fact that the "D" word was mentioned time and time again right after the ½% rate cuts is proof that the people we have entrusted our monetary system to are really, really worried about deflation a.k.a "the Japanese disease." Indeed, Prudential's Greg Weldon called language like the following from Chairman Greenspan "mind-blowing in their mere mention."

"We have a whole set of Treasury bills, bonds and notes, that go out a very long number (sic) of years, that are yielding quite significant interest rate levels. We would just move out on the curve, and we would be functioning as indeed we have in the past. People don't remember that from 1942 through 1951, we essentially at the Fed, supported 25-year Treasury Bonds. We fixed them at 2.5%, so you can imagine how many Treasury Bonds we accumulated."

Why Fed Reflation Measures Will Not Work!

A surging stock market, rising CPI and PPI stats and one Fed governor after another telling us that there was no reason to worry about deflation, caused us to give pause to our resounding views that the U.S. is inexorably heading toward an deflationary abyss. Contributing to our doubts also were a rising CRB and Rogers Raw Material Index this past week.

Could we be wrong about deflation? The events this past week indeed reinforced a well taught truth from Richard Russell that there are no long term "gurus" in this business. Anyone who survives as long as Richard Russell (40+ years) or even Jay Taylor (25 years) is bound to have been humbeled on many, many occasions. Richard's humility and willingness to search for truth from the laws of nature as manifested through market behavior is a refreshing attitude that also is a reason I think he is so popular at a time when spinning, lies and arrogance are the standard, but much despised attitudes on Wall Street these days.

So I must ask myself this question. Could the entire deflation thesis be wrong? Might it indeed be possible that the Fed is still in control of our destiny? The willingness to keep an open mind with respect to that issue is evidenced in part by our willingness to include an inflation hedge like the Rogers Raw Materials Index in our Model Portfolio. But at the same time, we have to be careful not to let short term aberrations obscure the big picture. We are constantly being hit with day-to-day, month-to-month and quarter-to-quarter comparisons on CNBC that in fact really do obscure the multi-year and multi-decade pictures of the market. Moreover, we have never pretended to be market timers. Rather we try to pick major trends and invest for the longer term accordingly.

What I do believe about the recent pickup in the rate of inflation, which by the way is even more reflected in stock prices than in the CPI or PPI, is that the massive amounts of money created out of thin air and pumped into the system is finally beginning to have a small to moderate effect on prices and the economy. But that does not change underlying and longer term dynamics, a major part of which is addressed in Ian Gordon's quote noted at the beginning o this segment. We would suggest you visit www.miningstocks.com to read our August monthly issue that argues why we so strongly believe deflation is beyond the control of the Fed. But to sum up our reasons for believing the Fed is impotent to turn around the nature's powerful forces of deflation are the following:

  • Exponential rise in debt and the extraction of demand from the economy that the servicing of that debt imposes on the economy
  • The linear growth pattern of national income
  • Mal Investment that results from huge amounts of money that was pumped into the economy over the past decades results in bankrupt companies that produce no cash flow from which to service debt

With respect to mal investment, it is not difficult to recognize mal investment in what Greenspan called the "new economy." We have seen hundreds of billions of investor dollars go down the drain in dot com and telecommunication investments. But pumping huge amounts of money into the economy also has had a devastating effect on the "old economy." For example, last week at the semi-annual CMRE dinner in New York, William J Rochelle, III, Editor of "Daily Bankruptcy News" told the audience that there are hundreds of 747 aircraft that have been grounded since 9/11/01. These flying machines cost in the range of $32 million to $35 million when they are new. Guess what you can buy one of these perfectly capable flying machines for now? Answer: A mere $750,000. See why I am worried about deflation? What is this going to do to Boeing and other aircraft producers around the globe? What is it going to do to unemployment and mortgage payments?

But won't pumping more money into the economy help stimulate the economy? No it will not for the reasons noted above. Moreover, what banker would or should lend to companies that are not credit worthy? And what company, who, viewing its business prospects as dismal would or should borrow? So in addition to the emasculation of the demand side of the economy policy makers also face the "pushing on a string" dynamic. The fed can push money into the banking system by buying long term bonds as Mr. Greenspan suggested, but unless the banks and corporations are pulling on that string by lending and borrowing, not even the massive creation of money and debt used by Greenspan to bail out Mexico, Asia, Russia and Long Term Capital Management will any longer work. The magnitude of the pathology (debt) is now simply too great.

The problem we Americans have is that we have lived way beyond our means for a long, long time. Indeed, to keep the whole bankrupt American economy from falling apart, our policy makers are encouraging Americans to continue to live beyond our means and they engage in gold intervention aimed at a strong dollar to keep $1.5 billion of new credit flowing into the U.S. each day! Is the handwriting not on the wall? Is there any way you can view the U.S. as anything but a bankrupt country when its national solvency requires $1.5 billion of foreign credit flowing to the U.S. each day?

We think we see the handwriting on the wall so that now the only solution possible is to endure the Kondratieff winter which, as certainly as day follows night, must purge the excessive debt from the system through massive bankruptcies and forced savings at a time when politicians and corporate CEO's beg us not to save simply to keep the game of musical chairs playing until the next quarterly earnings statement or next election is held. The trouble is, attempts to stop the healthy deflationary purging process from running its coarse will be no more successful than trying to stop a tidal wave. Moreover, delays make the inevitable correction all the more harsh. Nature MUST, nature WILL run it's coarse. Deflation it will be!

GOLD

Gold remains encouraging given the strength in the dollar and equity markets. It rose this week to close at $320.60, above its 20-day moving average ($318.32), above its 50-day moving average ($317.38) and above its 200-day moving average ($309.30). We think gold will ultimately break out above the $325 to $330 resistance levels when the dollar takes another plunge which could happen when this leg of the bear market rally ends.To be sure, nothing is certain in equity markets or gold markets. Nothing is certain in life itself except death and taxes. And indeed, there are some gold bulls, like James Turk and others who are somewhat concerned that gold could take a dive in the near term. We shall see. But one person who remains extremely bullish on gold is James Sinclair.

Is the Gold Dinar for Real? James Sinclair Thinks so.

Several years ago, we wrote about a movement to create a new gold currency to be used by Islamic countries for trade among themselves. Quietly behind the scenes, this movement has been progressing. The western media has of course chosen to ignore it. But according to James Sinclair, it is real. Here is what James had to say last week about this topic.

" There is an Islamic currency coming. That is a fact. There is a high chance that this is it. The Dinar is a tactic nuclear monetary weapon of self-protection in the Islamic perspective. It is a statement by them of Islamic Self Consciousness and Islamic Self Esteem. It is an Islamic rally point for all 1.2 billion of that persuasion. It is coming soon and it is real. It may not be viewed objectively by the West, in the environment of a weak dollar now existing. That weak dollar situation looks to me as if it will get significantly worse before it gets significantly better. This is not low amplitude noise. This is a NOISE that may scream soon the unthinkable word, Remonetization. Here are the words of its architect. Pay close attention to the final point in the words of this Minister of finances own words (shown below). They need to be understood completely in order to understand what is coming."

As an American, I was terribly troubled by the attack on our country and on the city in which I live. And as a person who lives in Queens County, and who has an Islamic next door neighbor whom we love, this September 11, 2001 attack was especially nonsensical. When something so astoundingly tragic as 9/11/ happens in places and to people so close to home, it at best disconcerting. As I have said before, as a Christian and as an American in no way do I want to aid and abet Islamic radicals toward their goals of destroying the west.

So believing that a movement toward gold would strengthen the hands of radical elements within the Islamic community, I have recently avoided writing about the Gold Dinar, even though the establishment of this new sound currency is on the rise and is being officially supported by at least two Islamic governments, namely Malaysia and Iran who, from what I understand plan to commence trade between themselves using this new gold currency. With Iran being named as one of the "evil" countries by President Bush, one can't help but believe our enemies may now be focusing on what I believe is the real weakness of America, namely its financial structure. In fact, when America is brought to its knees, it may well not be due to outside force but simply from a crumbling economy.

So if the Islamic community has better sense and institutes a more moral monetary system than our own fiat currency system which is nothing more than legalized systemic theft orchestrated by the those who continue to control the Federal Reserve (please read "The Creature from Jekyll Island") how can we fault Islam. They are merely taking the high road that Western civilization, with its Christian foundation have neglected, but which is every bit as basic to our foundation as it is to Islam. Indeed theft is one of the ten commandments and in the Old Testament, God admonishes the Israel to conduct commerce with "honest weights and measures." The very foundation of our fiat monetary system is one in which the privileged few get to create dishonest weights and measures by allowing the money center banks to create money out of thin air and thus steal wealth from the honest hardworking and productive sector of our society.

I have chosen to publish what the legendary gold trader James Sinclair wrote this past because I believe it outlines both the seriousness of the gold dinar movement as well as the understanding that at least some serious Islamic leaders have about the vulnerability of our monetary system and the stability of a gold backed system. Indeed the west would do well to listen and learn from what a few of these Islamic intellectuals have to say. Incidentally, James Sinclair has been invited to speak at the official inauguration of the gold Dinar in Malaysia in early 2003. All this suggests that Prime Minister of Malaysia may be quite serious about going through with a planned initiation of the Dinar, which is undeniably gold monetization.

Following is what James Sinclair made public via GOLD-EAGLE.com this past week: "The Seriousness of the Gold Dinar"

The Federal Reserve Bank of New York holds the world's largest accumulation of monetary gold.

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