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Fed’s Open Ended Money Printing Will Destroy The Purchasing Power Of U.S. Dollar

September 14, 2012 by Leave a Comment

By Axel Merk

May we suggest a Twitter version of today’s FOMC statement: “Don’t worry, be happy! ” – No, the economic outlook hasn’t improved. In fact, the Fed may want you to take a valium to stomach the ride ahead. Alternatively, if you don’t get mollified by the Fed’s “communication strategy”, you may want to consider taking action to protect the purchasing power of your hard earned dollars.

Here’s the challenge: the Federal Reserve (Fed) wants to keep interest rates low across the yield curve (from short-term to long-term rates) to aid the economic recovery. But good economic data might send the bond market into a tailspin, i.e. raise long-term rates and thus cause massive headwinds to the economic recovery. We got a taste of how quickly the bond market can sell off earlier this year when the economy appeared to pick up some steam. Higher interest rates would further encourage the major deleveraging that market forces still warrant, not a desirable scenario from our understanding of Fed Chairman Bernanke’s thinking.

Engaging in further rounds of asset purchases (“Quantitative Easing”, “QE3”, “QEn+1”) may alleviate some of those upward pressures on interest rates, but the moment a program is announced, the market prices it in and looks ahead, threatening to mitigate any lasting impact of QEn+1. Picture the Fed as trying to hold a carrot in front of the donkey, well, market, to make us believe another stimulus is coming, without actually giving it. That way, the Fed can print less money to achieve its goals. The Fed calls it communication strategy.

Some have suggested a more open-ended approach to asset purchases. But that would likely come with some sort of guidance as to when to stop it, such as when a certain level of unemployment or nominal growth is reached. Given that everything Bernanke has done has been signaled well ahead of time (the blogosphere is full of the “best kept secret”, the likelihood of more QE), introducing a completely new concept is rather un-Bernanke-ish. You may not agree with Bernanke, but as an investor please don’t act surprised.

In recently released FOMC minutes, the Fed tells us that it might communicate to the market that rates may remain low even as the economy recovers. Bingo! We have long argued that Bernanke considered the early monetary tightening during the Great Depression as a grave mistake, as it undid all the “progress” that had been achieved. But more to the point, the Fed needs to get our attention away from the economy. By keeping the link to the economy, the Fed will always struggle to keep the upper hand on the bond market. So forget about the carrot: we need valium, not carrots. By communicating with the market that rates will remain low independent of how the economy might perform, the bond market just might not be selling off as aggressively as economic growth picks up.

That’s exactly the path we believe the Fed is going to go down. It will be interesting, however, to see what the Fed’s explanation will be. We doubt they will use the valium analogy. Some Fed watchers would like to see a nominal GDP target or something similar, but don’t bet your donkey on Bernanke going that far.

The basic challenge is – and we are interpreting here as we don’t think the Fed or any central banker in office would ever frame it this way: the Fed wants to have inflation, wants to move the price level higher to bail out home owners, wants to push up nominal wages, and wants to push up nominal GDP to make the debt burden more bearable. But the Fed doesn’t want the market to price in inflation, as that would push interest rates up.

That’s why we may be heading ever more into the “Land of Make-Believe.” But as investors enjoy their valium, the U.S. dollar is at risk of melting away under their feet. Drugged up, we are too busy laughing at Greece and doling out advice to Europe to notice that our “don’t worry, be happy” approach might lead to rather unhappy purchasing power. If you think you are above the fray, let me just ask whether you have watched the euro in recent months? As of late, that perceived weakling of a currency appears to be giving the greenback a run for its money. We are not suggesting that investors dump their U.S. dollars and exchange them all for euros. However, we would like to encourage investors to consider embracing currency risk, for example through a managed basket of currencies, as a way to manage the risk posed to the purchasing power of the U.S. dollar. Adding currency exposure to a portfolio may have valuable diversification benefits.

Some sympathize with the ever greater complexity of monetary activism around the world. But it’s really rather simple: there’s too much debt in the world. To deal with the debt, countries may deflate, default or inflate. In the US, we have what both Bernanke and his predecessor Greenspan have called the printing press; as such, so their argument goes, the U.S. dollar is safe – in nominal terms at least. Greece is not capable of procuring valium, which creates a different set of challenges. But stop pitying Greece and consider taking action to protect your purchasing power at home.

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Axel Merk
President and Chief Investment Officer, Merk Investments
Merk Investments, Manager of the Merk Funds

Filed Under: Bullion Sales, Currency debasement, Featured, Gold, US Debt Crisis Tagged With: , , , , , , , , , , ,

Why Gold Will Outperform Bonds

September 14, 2012 by 2 Comments

By Vin Maru

This past week was a major catalyst for the precious metals, as they closed the week up strongly based on strong fundamentals for the sector. We have been anticipating the next catalyst for the PM sector to start making a strong advance, and we got it with a coordinated effort from central banks around the world. They will print whatever is necessary to fight off deflation and another financial collapse. Here are a few headlines we saw from the media lately:

“Gold Prices Gain on German Ruling”, “ECB to launch ‘outright monetary transaction’ plan”, and “IMF’s Lagarde backs ECB-bond buying plan”

This afternoon, the FOMC meeting concluded and was followed by a press conference by Ben Bernanke. The precious metals market has been on a strong uptrend over the last month in anticipation of additional bond buying and stimulus (AKA Quantitative Easing).  Over the last month, the fed has hinted that they will stimulate if needed but never actually pulled the trigger. Precious metals still rose in anticipation of coming QE.  Well, he finally did it and the metal prices are up on this news, below is some commentary on what the fed announced. See Reuters article about this QE.

This looks to be stimulus like the original QE 1 and 2 and this is super bullish for gold, like it was back in 2009 and 2010.  This starts off another major uptrend for gold and it will be going to $3500 over the next few years.  Now is the time to be getting invested again, it’s almost an all in moment on any pullback and then its onwards and upwards from here.  We can expect this QE to last indefinitely just like we can expect a low interest rate environment for an extended period of time.  It’s QE to infinity and gold will definitely shine.

ECB Bond Buying Program

With headlines like these, the world markets are proven to be irrational in their approach to dealing with debts; the central banks around the world will print and by up bonds as needed. The West may have saved themselves for the moment, but this really opens up the door for moral hazard and the mindset that debts don’t matter has been rationalized around the world. The Western central planners rationalize their action by stating the bond buying program will be sterilized. The hazard is that other central bankers around the world will also engage in sterilized bond buying and supporting of governments, all of which is backed by nothing except faith. They claim the bond buying is sterilized because the central banks print money to buy bonds of the governments to keep yields low and then make up new bonds to sell to other central banks and all of this financial alchemy is based on buying and selling of foreign currency bonds. To learn more about currency intervention and how the bonds could be sterilized, you can read about it here.

They claim the net effect is there is no increase in the monetary base, but any rational human can see this is pure manipulation and gaming the system. With no new monetary base, the money supply in the system does not increase and it is very similar to Operation Twist. The net effect of the new bond buying program is there will be no direct stimulus to the economy and the governments will continue to be supported by the central banks. The new bonds issued by the government will carry lower interest rates, which will then be supposedly paid back to the CBs over an extended period of time. The old government debt will be rolled over and extended from this bond buying program and only small amounts of additional interest will be paid on these new bonds, which tax payers will eventually have to pay one way or another. The governments will then have to accommodate the additional interest payments on the new debt which could eat into budgets, so they will either tax more or reduce some of their spending. The paper currency Ponzi scheme will be allowed to continue and coup d’état over the financial system has been accomplished by the central bankers. The idea is that bad loans and debts do not matter anymore in an attempt to keep the system afloat, eventually that will fail and precious metals will prosper as a result.

With keeping interest rates low, bonds have virtually no upside from here since interest rates can’t go much lower from here.  Savers will be forced to speculate in order to create yield and precious metals will benefit over the next few years from a negative yield interest rate environment.  Business with tons of cash on the sidelines will be forced put that money to work in search of economic returns and banks with tons of cheap cash on hand will be loaning out more money to qualified people and businesses. Deflation and collapse is no longer an option, the system will be supported and soon the market will be talking about expansion and growth again. Money will be put to work even though the western economies may stagnate over the next decade. The market will soon look beyond the Euro and US mess and move forward in search of yield.  It may continue looking at emerging markets for growth and opportunities, but it definitely look to precious metals for safety from the depreciation of paper currencies.

Once we start seeing this money turning over in the system, the velocity of money will increase significantly which will then lead to higher inflation, this is when we can expect gold to really shine.  While the upside for bonds will be limited in a low interest rate environment, the upside for gold is unlimited from endless printing of fiat currencies and bonds by all central bankers and governments around the world.  The upside for the price of bonds is limited to interest rates going to zero and they can be printed to infinity.  The amount of gold available in the world is fixed to current inventory plus expected additional supply.  Because supply is limited, gold’s price could go to infinity to equally match the unlimited printing of bonds and currency units which are used to purchase them. So in the end, bond prices are limited on the upside while supply is infinite, while gold supply is limited and it’s price is limitless in a world based on fiat currencies—which would you rather own?

Gold Update

In the last 2 weeks, gold has made a great break out move above $1620 and then $1660-$1680. The price is now holding strong above $1720 as central bankers are planning on bond buying programs and additional stimulus in a coordinated effort to avoid a deflationary spiral. This opens up the door to QE to infinity, they will print since there is no other option and precious metals will benefit from this. Gold and silver are going much higher in the years to come, but it won’t be in a straight line. Expect volatile moves to the upside and swift corrections, but the general trend for the next few years is towards higher prices. Keep with the trend and buy the dips and sell into major strength if you plan on trading the paper markets. If you purchased the physical metals during this past summer, you may want to consider holding on to them, we may not see these prices again, ever.

The RSI is rising and starting to move above 80, which could be getting into overbought territory, however the MACD is in a slow steady trend higher over the last couple of months. Look for new support to be around $1680 (which would be a good opportunity to add to positions) and short term overhead resistance to be at $1780-1800 (sell trading positions currently open) which has been overhead resistance back in November and February, at which time we could see a significant correction. If the gold market clears $1800 and holds on a closing weekly basis, we could retest the previous highs and go on to make new highs .

The HUI Gold Miners Index

The HUI clearly broke the downtrend line by gapping up above it late last week. The RSI is still rising and so is the MACD. If gold makes a move to $1800, expect the HUI to rise towards 500 before taking a break and correction. This would be a great time to sell open trading position in the next few weeks, especially after any news from the Fed about stimulus and QE. The fact that gold and the HUI has risen so much in the last month based on expectations for QE and the indicators are getting close to  overbought territory.  We may see an initial jump in price for the HUI index after any announcement, then a minor correction as much of this news could be priced into the metals and the miners.  Watch the reaction of the metals and the HUI later this week and next, but if the advance higher starts stalling out, you may want to consider closing trading positions and book some profits.

More than likely towards the end of this month/early next month, we could start to see a minor correction going into October and November as election approach, the market may take a breather. We may also see some strong year end selling this year, especially coming from the US as their tax laws on capital gains are scheduled to change next year. It would be a good time to start new positions or add to current holdings during that correction.  We can expect the trend to continue higher as the metals go on to make higher highs and higher lows over the next 6 to 9 months.

If you enjoyed reading this article and are interested in protecting your wealth with precious metals, you can receive our free blog by visiting TDV Golden Trader.

Filed Under: Currency debasement, Featured, Gold, Gold Stocks, US Debt Crisis Tagged With: , , , , , , , , , ,

India’s Attempt To Curb Gold Purchases Will Ultimately Fail

September 5, 2012 by Leave a Comment

India may increase the import tax on gold for the third time this year in an attempt to shore up the weak rupee.  Purchases of gold and silver account for a huge 12.5% of all Indian imports and are contributing to a record current-account deficit according to Bloomberg.

“The government may look at increasing the duty to 7.5 percent,” Prithviraj Kothari, president of the Bombay Bullion Association, said in a phone interview. D.S. Malik, a finance ministry spokesman in New Delhi, declined to comment.

The tax on bars and coins was doubled to 4 percent in March after imports jumped to a record 969 metric tons in 2011. A further increase may deter jewelry buyers and investors during India’s festival season, which starts this month, as a decline in the rupee against the dollar boosts domestic gold prices to an all-time high. Imports plunged 42 percent to 340 tons in the first half, according to the producer-funded World Gold Council.

Curbing shipments of gold will help the country to narrow the current-account deficit as the drop in rupee boosts the cost of crude-oil purchases, according to the finance ministry. The shortfall widened to a record 4.2 percent of the gross domestic product in the year ended March from 2.7 percent in 2010-2011.

The rise in the deficit, the broadest measure of trade, was due to slower exports and so-called relatively inelastic imports of petroleum products, gold and silver amid a rally in global prices, Finance Minister P. Chidambaram said on Aug. 23.

Will India’s attempt to restrict import of precious metals be successful and what impact will this have on the price of gold and silver?  Let’s consider the following:

1.  The Indian government should know better.  In 1962, India passed the Gold Control Act which prohibited Indian citizens from owning gold bars and coins.  The result was the instant creation of a huge black market that continued to supply gold and silver throughout India.

The (Gold Act) legislation killed the official gold market and a large unofficial market sprung up dealing in cash only. The gold was smuggled in and sold through the unofficial channel wherein, many jewelers and bullian traders traded in smuggled gold. A huge black market developed for gold.

In 1990, India had a major foreign exchange problems and was on verge of default on external liabilities. The Indian Govt. pledged 40 tons gold from their reserves with the Bank of England and saved the day. Subsequently, India embarked upon the path of economic liberalization. The era of licencing was gradually dissolved. The gold market also benefited because the government abolished the 1962 Gold Control Act in 1992 and liberalized the gold import into India on payment of a duty of Rs.250 per ten grams. The government thought it more prudent to allow free imports and earn the taxes rather than to lose it all to unofficial channel.

2.  India should be more concerned with maintaining a currency that offers their population a stable store of value rather than depriving their citizens of viable alternate currencies such as gold and silver.

3.  The centuries old tradition in India of holding gold and silver as a source of liquidity and for capital preservation is unlikely to change.  The rupee, like most other paper currencies, has been systematically debased.  Inflation in India over the past decade has made holding rupees a losing proposition.

Courtesy: inflation.eu

4.  The reduction in gold demand during the first half of the year by both China and India has been widely touted in the mainstream press as a reason for a continued sell off in the precious metal markets.  Right.  Despite the reduction in gold demand by China and India, gold based out in the $1,600 range before rallying sharply to $1,697.   Gold is now $99 or 6.2%  higher than it was on the first trading day of 2012.

courtesy: stockcharts.com

5.  By attempting to restrict gold purchases, India has simply advertised the rupee’s intrinsic lack of value to their citizens which will ultimately create an even greater demand for gold and silver.

Filed Under: Currency debasement, Featured, Gold, Silver Tagged With: , , , , , , , , , , ,

Ron Paul – “The World Will Abandon The Dollar As The Global Reserve Currency”

September 3, 2012 by 4 Comments

In August Ron Paul accused the U.S. Treasury “guilty of counterfeiting dollars” by virtue of its monopoly power on money in America.  Paul noted that the expanding role of the Federal Reserve in monetizing government debt has resulted in a massive debasement of the purchasing power of the U.S. dollar.

Continued reckless money printing by the Federal Reserve and massive government deficits will ultimately result in the loss of confidence by holders of  U.S. dollars.  Ron Paul sees the U.S. dollar inexorably losing its status as global reserve currency unless the dollar is backed by precious metals or commodities.

Evidence of the horrendous loss of purchasing power by the U.S. dollar is not hard to understand.  The average citizen sees it everyday as higher prices and lower incomes relentlessly lower our standard of living.   The systematic destruction of the U.S. dollar’s purchasing power can be seen in a chart published by the Federal Reserve Bank of St. Louis.

How Long Will the Dollar Remain the World’s Reserve Currency?

By: Congressman Ron Paul

We frequently hear the financial press refer to the U.S. dollar as the “world’s reserve currency,” implying that our dollar will always retain its value in an ever shifting world economy.  But this is a dangerous and mistaken assumption.

Since August 15, 1971, when President Nixon closed the gold window and refused to pay out any of our remaining 280 million ounces of gold, the U.S. dollar has operated as a pure fiat currency.  This means the dollar became an article of faith in the continued stability and might of the U.S. government.

In essence, we declared our insolvency in 1971.   Everyone recognized some other monetary system had to be devised in order to bring stability to the markets.

Amazingly, a new system was devised which allowed the U.S. to operate the printing presses for the world reserve currency with no restraints placed on it– not even a pretense of gold convertibility! Realizing the world was embarking on something new and mind-boggling, elite money managers, with especially strong support from U.S. authorities, struck an agreement with OPEC in the 1970s to price oil in U.S. dollars exclusively for all worldwide transactions. This gave the dollar a special place among world currencies and in essence backed the dollar with oil.

In return, the U.S. promised to protect the various oil-rich kingdoms in the Persian Gulf against threat of invasion or domestic coup. This arrangement helped ignite radical Islamic movements among those who resented our influence in the region. The arrangement also gave the dollar artificial strength, with tremendous financial benefits for the United States. It allowed us to export our monetary inflation by buying oil and other goods at a great discount as the dollar flourished.

In 2003, however, Iran began pricing its oil exports in Euro for Asian and European buyers.  The Iranian government also opened an oil bourse in 2008 on the island of Kish in the Persian Gulf for the express purpose of trading oil in Euro and other currencies. In 2009 Iran completely ceased any oil transactions in U.S. dollars.  These actions by the second largest OPEC oil producer pose a direct threat to the continued status of our dollar as the world’s reserve currency, a threat which partially explains our ongoing hostility toward Tehran.

While the erosion of our petrodollar agreement with OPEC certainly threatens the dollar’s status in the Middle East, an even larger threat resides in the Far East.  Our greatest benefactors for the last twenty years– Asian central banks– have lost their appetite for holding U.S. dollars.  China, Japan, and Asia in general have been happy to hold U.S. debt instruments in recent decades, but they will not prop up our spending habits forever.  Foreign central banks understand that American leaders do not have the discipline to maintain a stable currency.

If we act now to replace the fiat system with a stable dollar backed by precious metals or commodities, the dollar can regain its status as the safest store of value among all government currencies.  If not, the rest of the world will abandon the dollar as the global reserve currency.

Both Congress and American consumers will then find borrowing a dramatically more expensive proposition. Remember, our entire consumption economy is based on the willingness of foreigners to hold U.S. debt.  We face a reordering of the entire world economy if the federal government cannot print, borrow, and spend money at a rate that satisfies its endless appetite for deficit spending.

Filed Under: Currency debasement, Featured, Gold, US Debt Crisis Tagged With: , , , , , , , , ,

Fed’s Easy Money Policies Will Continue – Why Bernanke Must Err On The Side Of Inflation

August 28, 2012 by Leave a Comment

By Axel Merk

To print or not to print? Odds are that Fed Chairman Bernanke has been contemplating this question while drafting his upcoming Jackson Hole speech. The one good thing about policy makers worldwide is that they may be fairly predictable. As such, we present our crystal ball as to what the Fed might be up to next, and what the implications may be for the U.S. dollar and gold.

First off, we may be exaggerating: on process rather than substance, though. That is, Bernanke isn’t just thinking about whether to print or not to print as he is sitting down to draft his speech. Instead, he considers himself a student of the Great Depression and has been pondering policy responses to a credit bust for some time. Consider the following:

  • Bernanke has argued that going off the gold standard during the Great Depression helped the U.S. recover faster from the Great Depression than countries that held on to the gold standard for longer.
    • Bernanke is correct: subject to many risks, debasing a currency (which going off the gold standard was) can boost nominal growth. Think of it this way: if the government takes your purchasing power away, you have a greater incentive to work. Not exactly the mandate of a central bank, though.
    • Note by the way that by implication, countries that hold on to the gold standard invite a lot of pain, but have stronger currencies. Fast forward to today and compare the U.S. to Europe. While neither country is on the gold standard, the Federal Reserve’s balance sheet has increased more in percentage terms than that of the European Central Bank since the onset of the financial crisis. Using a central bank’s balance sheet as a proxy for the amount of money that has been “printed”, it shouldn’t be all that surprising that the Eurozone experiences substantial pain, but the Euro has been comparatively resilient.
    • Possibly the most important implication: Bernanke considers the value of the U.S. dollar a monetary policy tool. When we have argued in the past that Bernanke might be actively working to weaken the U.S. dollar, it is because of comments such as this one. This is obviously our interpretation of his comments; a central banker rarely says that their currency is too strong, although such comments have increasingly been made by central bankers around the world as those pursuing sounder monetary policy have their economies suffer from competitive devaluations elsewhere.
  • Bernanke has argued that one of the biggest mistakes during the Great Depression was that monetary policy was tightened too early. Here’s the problem: in a credit bust, central banks try to stem against the flow. If market forces were to play out, the washout would be severe and swift. Those in favor of central bank intervention argue that it would be too painful and that more businesses than needed would fail, the hardship imposed on the people is too much. Those against central bank intervention point out that creative destruction is what makes capitalism work; the faster the adjustment is, even if extremely painful, the better, as the recovery is healthier and stronger.
    • If the policy choice is to react to a credit bust with accommodative monetary policy, fighting market forces, and then such accommodation is removed too early, the “progress” achieved may be rapidly undone.
    • We are faced with the same challenge today: if monetary accommodation were removed at this stage (interest rates raised, liquidity mopped up), there’s a risk that the economy plunges right back down into recession, if not a deflationary spiral. As such, when Bernanke claimed the Fed could raise rates in 15 minutes, we think it is a mere theoretical possibility. In fact, we believe that the framework in which the Fed is thinking, it must err on the side of inflation.

Of course no central banker in office would likely ever agree with the assessment that the Fed might want to err on the side of inflation. But consider the most recent FOMC minutes that read:

  • An extension [of a commitment to keep interest rates low] might be particularly effective if done in conjunction with a statement indicating that a highly accommodative stance of monetary policy was likely to be maintained even as the recovery progressed

As the FOMC minutes were released three weeks after the FOMC meeting, many pundits dismissed them as “stale”; after all, the economy had somewhat improved since the meeting. Indeed, it wasn’t just pundits: some more hawkish Fed officials promoted that view as well. But to make clear who is calling the shots, Bernanke wrote in a letter dated August 22 (the same date the FOMC minutes were released) to California Republican Darrell Issa, the chairman of the House Oversight and Government Reform Committee: “There is scope for further action by the Federal Reserve to ease financial conditions and strengthen the recovery.” Various news organizations credited the faltering of an incipient U.S. dollar rally on August 24 with the publication of this Bernanke letter.

For good order’s sake, we should clarify that the Fed doesn’t actually print money. Indeed, printing physical currency is not considered very effective; instead, liquidity is injected into the banking system: the Fed increases the credit balances of financial institutions in accounts held with the Fed in return for buying securities from them. Because of fractional reserve banking rules, the ‘liquidity’ provided through this action can lead to a high multiple in loans. In practice, one of the frustrations of the Fed has been that loan growth has not been boosted as much as the Fed would have hoped. When we, and Bernanke himself for that matter, have referred to the Fed’s “printing press” in this context, referring to money that has been “printed”, it’s the growth in the balance sheet at the Federal Reserve. That’s because the Fed’s resources are not constrained; it’s simply an accounting entry to pay for a security purchased; that security is now on the Fed’s balance sheet, hence the ‘growth’ in the Fed’s balance sheet.

Frankly, we are not too concerned about the environment we are in. At least not as concerned as we are about the environment we might be in down the road: that’s because we simply don’t see how all the liquidity can be mopped up in a timely manner when needed. At some point, some of this money is going to ‘stick’. Even if Bernanke wanted to, we very much doubt he could raise rates in 15 minutes. To us, it means the time for investors to act may be now. However, talking with both existing and former Fed officials, they don’t seem terribly concerned about this risk. Then again Fed officials have rarely been accused of being too far sighted. We are concerned because just a little bit of tightening has a much bigger effect in an economy that is highly leveraged. Importantly, we don’t need the Fed to tighten: as the sharp selloff in the bond market earlier this year (and the recent more benign selloff) have shown, as soon as the market prices in a recovery, headwinds to economic activity increase as bond yields are rising. That’s why Bernanke emphasizes “communication strategy”, amongst others, to tell investors not to worry, rates will stay low for an extended period. This dance might get ever more challenging.

In some ways, Bernanke is an open book. In his ‘helicopter Ben’ speech a decade ago, he laid out the tools he would employ when faced with a collapse in aggregate demand (the credit bust we have had). He has deployed just about all tools from his toolbox, except for the purchase of foreign government bonds; recently, he shed cold water on that politically dicey option. Then two years ago, in Jackson Hole, Bernanke provided an update, specifying three options:

  • To expand the Fed’s holdings of longer-term securities
  • To ease financial conditions through communications
  • To lower the interest rate the Fed pays on bank reserves to possibly 10 basis points or zero.

We have not seen the third option implemented, but the Fed might be discouraged from the experience at the European Central Bank: cutting rates too close to zero might discourage intra-bank lending and cause havoc in the money markets.

As such, expect Bernanke to give an update on his toolbox in Jackson Hole. The stakes are high as even doves at the Fed believe further easing might not be all that effective and could possibly cause more side effects (read: inflation). As such, we expect him to provide a framework as to why and how the Fed might be acting, and why we should trust the Fed that it won’t allow inflation to become a problem. For investors that aren’t quite as confident that the Fed can pull things off without inducing inflation, they may want to consider adding gold or a managed basket of currencies to mitigate the risk to the purchasing power of the U.S. dollar.

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Axel Merk
President and Chief Investment Officer, Merk Investments
Merk Investments, Manager of the Merk Funds

Filed Under: Currency debasement, Featured, Gold, US Debt Crisis Tagged With: , , , , , , , ,

Gold – The Escape From Slavery

August 22, 2012 by Leave a Comment

By Axel Merk

Vice President Joe Biden was accused of racism when suggesting a Romney administration would “unchain banks” that in turn might put the black audience he was talking to back into “shackles.” The political uproar overshadows a reality that knows no racial boundaries: a person in debt is not a free person; a nation in debt is not a free nation. Does it mean those with large bank accounts are free? Not so fast…

We don’t want to downplay the horrific crime of slavery, but want to provide food for thought: debt is often taken on voluntarily; once taken on, however, one is forced to work to pay off one’s debt. To be unshackled from banks and creditors, investors may want to consider living debt free and owning gold. Let us explain.

Chains and Dollar

Access to credit may fundamentally change one’s lifestyle. On the plus side, it opens the path to home ownership and access to capital goods, be that a car, or these days even a mattress or exercise machine. But it also makes the creditor, rather than oneself the boss. One symptom of the building credit bubble that caught my attention a decade ago was the rise of Spanish language billboards promoting mortgages. Proud immigrants in search of the American dream were lured into mortgages they could ill afford. Rather than focusing on feeding themselves and their family, the focus shifted to serving the bank. That shift only became apparent once the loan became too expensive to service, either because interest rates were resetting to higher levels or because someone lost their job and thus their income, but the debt remained.

Berkshire Hathaway CEO Warren Buffett famously discusses in his annual shareholder letters that the insurance business is a great business to be in, as policyholders pay him to hold money:

“Insurers receive premiums upfront and pay claims later. … This collect-now, pay-later model leaves us holding large sums — money we call ‘float’ — that will eventually go to others. Meanwhile, we get to invest this float for Berkshire’s benefit. …”

Indeed, Buffett has said that he would never allow his firm to be in a situation where he is at the mercy of banks. It doesn’t mean he will never borrow money. But it means that when borrowing money, he always wants to be in a situation where he could pay it back if needed. Consumers have seen all too often that they only qualify for a loan when they don’t really need it. Jamie Dimon, CEO of JPMorgan Chase has said responsible banks act like mothers: they will decline your loan request if it is too risky for you.

One cannot be a truly free person with debt. While bankruptcy may have been downgraded to a mere business transaction in the U.S., some countries continue to put those that can’t pay into prison. The neighborhood surrounding Dubai’s airport has seen thousands of abandoned cars, often Ferraris or other expensive vehicles, as the formerly rich fled the country after their fortunes turned to avoid debtors prison.

Anyone is likely to argue that a nice pile of cash in a bank account will make one feel financially secure – some place that pile at $100,000. Some at a million; as a million bucks isn’t what it used to be, the wealthy often say they are not comfortable if they don’t have $10,000,00 or more. We have met people with very modest means that feel that they are wealthy; and others that have lots of money, but don’t feel wealthy. Aside from the fact that some of them might simply have a distorted sense of reality, the wealthy often also carry a great deal of debt. Those able to manage their debt thrive in this low interest rate environment. But let even a wealthy person with debt hit a road bump, say lose a job (or face an obstacle in refinancing a loan) and such a person may quickly join the lower ranks of the 99%. In our assessment, highly accommodative monetary policy is a greater driver of an increasing wealth gap than the policies of either Democrats of Republicans.

But even with $100 in a bank account, what does one really hold? One owns a promise by the bank to pay $100. The $100 bill is a Federal Reserve Note; it’s a piece of paper issued by the Federal Reserve. That $100 bill could be returned to the Fed; in return the Fed would issue a credit balance to your account (you would have to go through a bank, as the Fed won’t open accounts for individuals). The “resources” of the Fed are without limit: through its various quantitative easing programs, the Fed has increased the credit balances of the financial institutions where it has purchased securities. The Fed literally creates money out of thin air, with the stroke of a keyboard. Even prudent central banks like to see a little bit of inflation; it means that the dollar bills you hold erode in purchasing power, giving you an incentive to put the money to work to make up for the shortfall.

Importantly, the $100 bill in your bank account is really someone else’s loan – the bank’s loan, the Fed’s loan. In fact, if you take out a loan from a bank, you will pay a merchant, who will in turn deposit the proceeds in his or her bank. As such, we talk about credit in a society. For simplicity’s sake, let the banks hold 10% in reserves; $100 in bank reserves with an offsetting $100 in demand deposit liabilities can thus be multiplied into $100 in bank reserves plus $900 in loan assets with an offsetting $1,000 demand deposit liabilities through the leverage of the fractional reserve banking system as banks lend and new deposits are made in a circular fashion. Between the Fed and the banks and the banks and their depositors the system can have a multiplier effect of about 100; that is, $100 created by the Fed can lead to $10,000 in credit. That’s why we sometimes call the credit created by the Fed (the monetary base) super credit. In the current environment, banks have not been aggressive in lending, and as such, we have not seen the “velocity” of money pick up. A key reason why many are concerned about the Fed’s increase in monetary base is because it has the potential to fuel inflation. Indeed, a key reason I personally hold a lot of gold is not because of the environment we are in, but because I am concerned about how all the liquidity that has been created might be mopped up one day. Federal Reserve Chairman Bernanke claims he can raise rates in 15 minutes; we think there may be too much leverage in the economy to have the flexibility when the time is needed; the political will to induce a severe recession to root out inflation may not be there.

It’s all about debt. So if one doesn’t want to have debt, what is one to do? The answer is real assets that are free of claims. Real estate held free and clear might be one answer, although keep in mind that governments tax real estate, thus making home owners tenants of the government. As the housing bust since 2008 has shown, the fact that many others owe a lot of money on their property changes the dynamics of this real asset.

The purest form of a debt free asset is gold. Gold is true money, the only form of money that isn’t someone else’s liability. While central banks might be able to lower the gold price by dumping their own reserves, central banks cannot print more gold – it’s very difficult to ramp up gold production. If your bank goes broke, if Greece goes broke, gold will still be there. Some call gold a relic from the past. To us, it’s the purest indicator of monetary policy, precisely because it has little industrial use. We created the cartoon below last year after CNBC’s Steve Liesman suggested to me on the air that gold might not be accepted in a store.

Cash vs. Gold

Mind you, we are not suggesting that everyone should sell all they own and buy gold instead. Everyone should consult with his or her financial adviser for specific investment advice. Specifically, one must be keenly aware of the volatility the price of gold can have relative to the U.S. dollar; given that we have a lot of our expenses in U.S. dollars, one has to be aware of the fluctuating value of the investment relative to the U.S. dollar. But we want to get investors to be keenly aware that we live in a credit driven society. We also believe that the developed world has made too many promises, too much debt has been issued.

Governments with too much debt may a) engage in austerity to pay off their debt; b) default outright; c) default though inflation. All scenarios suggest to us to hold assets that are debt free. We see gold playing a very important part in portfolios that take the risk into account that our policy makers continue to spend and “print” more money than is prudent. We don’t need actual money to be printed – credit creation through quantitative easing – is far more powerful.

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Axel Merk
President and Chief Investment Officer, Merk Investments
Merk Investments, Manager of the Merk Funds

Filed Under: Currency debasement, Featured, Gold, US Debt Crisis Tagged With: , , , , , , , , , , , , ,

“Gold and Silver Heading Lower” – Classic Sign Of A Market Bottom

August 22, 2012 by Leave a Comment

Yahoo Finance ran a story today entitled “Gold, Silver & Copper Are All Heading Lower.”  Nothing worth discussing about the specifics of the article – the real story here is that this a classic contrary headline seen at market bottoms, not tops.

What is the really smart money doing in the gold market as the mainstream press encourages John Q. Public to sell off his gold holdings?  Here’s a nice recap from The Economic Collapse:

When men like John Paulson and George Soros start pouring huge amounts of money into gold, it is time to start becoming alarmed about the state of the global financial system.

The amount of money that these men are investing in gold is staggering….

And the central banks of the world are certainly buying gold at an unprecedented rate as well.  According to the World Gold Council, the central banks of the world added 157.5 metric tons of gold last quarter.  That was the biggest move into gold by the central banks of the globe that we have seen in modern financial history.

But that might just be the beginning.

According to a recent Marketwatch article, there are persistent rumors that China has plans to buy thousands of metric tons of gold….

The gold bull market is far from over when two of the world’s most successful investors are increasing their gold holdings.  The price correction in gold since last summer has provided another excellent buying opportunity for long term investors.

More on this topic:

Why There Is No Upside Limit For Gold and Silver

Why Higher Inflation and $5,ooo Gold Are Inevitable

The Federal Reserve Can’t Produce Oil, Food or Jobs But They Will Continue To Produce Dollars

Ultimate Price of Gold Will Shock The World As Loss Of Global Confidence Leads To Economic Collapse

Gold Bull Market Could Last Another 20 Years With $12,000 Price Target

Filed Under: Currency debasement, Featured, Gold, Silver, US Debt Crisis Tagged With: , , , , , , , , ,

New Gold and Silver Baseball Commemorative Coins Highlight Lack Of Innovation By U.S. Mint

August 22, 2012 by 1 Comment

How Congress Stifles Innovative Coin Designs By U.S. Mint

Ever wonder why the U.S. Mint shows a lack of innovation in coin design compared to other world mints?  Here’s part of the reason as detailed by Mint News Blog:

Many coin related bills are introduced each year, but only a small number become law. In order for a bill to become law, it must be passed by both the House and Senate and then signed into law by the President. Under Congressional rules, two-thirds of each body must co-sponsor a bill before it is even put up to a vote, which is the hurdle that many bills cannot meet. Another rule limits the number of commemorative coin programs to only two per year.

The most recent bill to become law was the National Baseball Hall of Fame Commemorative Coin Act. The bill H.R. 2527 was introduced on July 14, 2011, passed in the House of Representatives on October 26, 2011, passed by the Senate on July 12, 2012, and signed by the President on August 3, 2012.

The program calls for the minting and issuance of up to 50,000 $5 gold coins, 400,000 silver dollars, and 750,000 clad half dollars in recognition and celebration of the National Baseball Hall of Fame. These coins will be issued only during the one-year period beginning on January 1, 2014.

Mint New Blog goes on to discuss how the coin design will be unique with the reverse of the coin made convex and the obverse concave to enhance the resemblance to a baseball.  The coin may resemble a recently produced dome shaped coin issued by the Royal Australian Mint as shown below.

The commemorative baseball coin would represent the first innovation in coin design by the U.S. Mint since 2000 when the Library of Congress $10 coin was produced, which was the first and only US Mint bimetallic coin.  While the new baseball coin will certainly increase public interest in precious metal coins, Congress should grant the U.S. Mint more latitude to produce a wide variety of innovative coins without an onerous legislative process.

Filed Under: Featured, Gold, Silver, US Mint Tagged With: , , , , , , , , ,

How To Avoid Financial Fraud In The Gold Market

August 21, 2012 by 1 Comment

By Vin Maru

Financial Alchemy and Fraud In Gold

The gold bull market is alive and well as the summer doldrums come to a close and gold accumulation and trading starts to heat up going into the fall.  As the gold bull market matures and it draws more attention from investors all around the world, it does open up the doors for fraud.  By now we have heard many stories and accusations about manipulations by central planners, bullion banks, short-sellers and futures traders.  The regulators in the West have largely ignored these accusations and have looked the other way when it comes to oversight and creating a fair and legal market place for precious metals.

Financial Fraud in the Gold Market

When it comes to opportunity for fraud, the East is not innocent either.  Last month, police in Central China rounded up 33 people suspected of illegal gold-futures trading.  The case involved 5,000 investors and at least 380 billion Yuan ($59.62 billion) in which the suspects claimed to be agents of overseas companies dealing in London gold with the promise of huge returns.  They promoted investments in Loco London gold and charged exorbitant consulting fees without warning investors of the risks of these transactions or having a signed detailed contract.  This had been going on since October 2008 in a low key operation using private bank accounts, mobile phones and online messaging services.  Several suspects were caught and detained since March 2, 2012 while more arrests are expected to be made across China as the investigation continues.

As observers of the precious metals market, we know that many Eastern central banks are accumulating physical gold.  It is in their best interest to accumulate the physical metal and diversify out of toxic Western paper assets that were sold to them by the western financial puppet masters.   It is obvious that Western cartels like Goldman Sacs and JP Morgan are great at creating and selling financial instruments of mass destruction.

One only has to look at the CDO market or the mortgage backed securities sold in the past decade.  These paper products were backed by mortgages from over inflated real estate bought by people who could not afford to buy property and were thus set up to fail.  Another example is the derivative market which is reportedly over $600T worth of contracts used for “hedging” all the toilet paper assets sold by Western institutions.  This includes derivatives and “insurance” products to protect from default or significant changes in valuation on assets such as government bonds, interest rates & credit default swaps and most other paper assets.  There is no way these contracts are backed by any real asset and when they are called to perform, the system will collapse.  This is most likely why they changed the name and structure of the recent Greek default on bonds; they cannot afford to trigger the derivative time bomb.

Any observer of the financial markets can see that the derivative market is just an insurance scam being sold as a hedging tool for paper products.  They cannot and will not every pay out on derivatives because the cascading effect would bring down the system.  Yet the paper pushers are still selling these “contract assurances” in volumes in order to create a “financial hedge” of the entire system.    When push comes to shove, planners may not let Goldman or JPM collapse because they are TOO connected to fail and they are the ringleaders in pushing paper products for the world to buy in their pump and dump scams.

Masters of Alchemy – Turning Paper in to GOLD

This past week, it was reported that George Soros was unloading investments in major financial stocks and started investing back in gold by way of GLD.  We always question the choice of investment vehicles used by large fund managers.  As a investor in the gold sector, why wouldn’t anyone stick with the physical metal vs. an ETF such as GLD which is supposedly backed by gold?  There have been lots of questions around GLD and its physical holdings, which was primarily sold by JP Morgan, one of the many bullion banks with a questionable short position in the precious metals market (Silver in particular).  If the past decade is any indication of paper manipulation (and they are known to have a track record for selling paper products which turn out to be fraudulent), why would anyone buy an ETF like GLD from these Masters of Financial Alchemy when they have the proven ability to turn paper into gold?

When looking at GLD and the many other “un-backed” gold trading vehicles being sold into the market, these products are very questionable on how much gold they have held on storage or available for delivery.  Even if there was significant amounts of gold, with the lack of good auditing practices, who knows how much is really owned by the fund.  Much of it could be used as collateral, hypothecated, leased out or swapped in contracts by the issuers of these products.  When called to perform and deliver the gold, expect questions of ownership and scandals much like MF Global or PFGBest.  This is the nature of products created by the Wall Street paper pushers; everything should be questioned eventually.  But for now and most of this bull market, GLD will not be questioned or audited.  It will be used as another tool for selling an ETF in a particular asset class, one that will become more and more in demand as the bull market for gold evolves.  This ETF will be used by the likes of all major trading houses, funds, sovereigns and investors because it is a trading vehicle and a proxy for gold, and it could be used for hedging purposes much like the derivative market.

Going back to why Soros would invents in such a fund:  Our suspicion is that Soros is reducing exposure in financials because they have structural problems and have many questions surrounding the assets they hold.  While a $50M withdrawal is not much for a fund his size, a purchase of $130M in GLD is significant.  His strategy is probably to take these funds and go long on GLD as a hedging tool for the exposure he still has remaining in financials.  Soros is just being smart and realizing that he must hedge using gold, even if it has to be with GLD.  He knows the paper pushers need GDL as a tool for hedging, so do not expect it to collapse anytime soon.   This means more than likely that the “Masters of Financial Alchemy” such as JPM Morgan and Goldman Sacs will continue to sell paper with promises of gold backing and it will get accepted by the market as “Good as Gold”. We at TDV, however, know better.

At this point, it is a very wise move for anyone who doesn’t have any exposure to gold to start getting exposure immediately.  If you have not taken this necessary step to protect your assets and hedge against any potential financial storm that may be brewing, you are placing yourself and any remaining assets at risk.  Owning the physical is always suggested as a private investor, but if need be look at GLD as a trading and hedging vehicle.

In a strange and ironic way, we need GLD to continue its paper scams as it still legitimizes gold as an investible asset class.  The more GLD grows and continues to gain attention, the stronger and longer this bull market will last in precious metal.   As much as we realize that GLD could be a scam and owning the physical is the prudent thing to do, we cannot discount the need for GLD as a tool for hedging.  There is no way the physical market for gold can absorb demand coming from central banks, pension funds, sovereigns and the general investing public all at the same time.  It would make gold reach sky high prices in very short order which would not be healthy for a strong and long gold bull market.  Unfortunately, we need GLD and more gold ETFs around the world.  There is way too much fiat paper floating around and much more coming, the physical market couldn’t absorb this amount of funny money coming into the physical sector.  As much as I hate to say this, GLD is a necessary evil for the longevity of this bull market.   There is many more reason why we need more gold backed ETFs and products such as GLD mentioned above, however using this ETF as a hedging tool is a very important one.

In the near future we will look at additional reasons for owning gold through the various ETFs as a tool for trading and hedging.  We will also explore the various options available for owning paper or physical gold in the numerous ETFs around the world.  This information will be made available on our blog to everyone interested in evaluating gold specific ETFs. If you enjoyed reading this article and are interested in protecting your wealth with precious metals, you can receive our free blog by visiting TDV Golden Trader.

Filed Under: Bullion Sales, Featured, Gold Tagged With: , , , , , , , , , , ,

Platinum Soars $78 On Week As Bodies Pile Up In South Africa

August 17, 2012 by 1 Comment

South Africa continues to be wracked by violence as striking platinum mine workers clash with police.   In a confrontation between police and striking mine workers, a gunbattle resulted in the shooting deaths of 34 miners.

The center of the violence is at the Lonmin mine which suspended most production earlier this week when violence between rival labor unions resulted in the deaths of 10 miners.  The Lonmin mine is the world’s third largest producer of platinum.  South Africa is virtually the world’s sole source of platinum accounting for over 75% of total production.

As discussed in a previous post, the initial strike and violence at the Lonmim mine had virtually no impact on the price of platinum.  The majority of demand for platinum comes from the automobile and jewelry industries, both of which have seen weak demand due to a slowing world economy and outright recession in most of Europe.   In addition, a surplus stockpile of 4.5 million ounces of platinum, representing almost a year’s worth of demand has served to depress prices.

The time to buy often comes when there is no apparent reason to buy.   In “Platinum Perspectives – Time to Buy or Will The Bears Win?“, we argued that the steep $500 per ounce price decline since last year had already discounted reduced demand for platinum as well as the surplus stockpiles. Despite the apparently worsening fundamentals, platinum refused to drop decisively below $1,400 and rallied every time the price dipped below $1,400.

courtesy stockcharts.com

Even more intriguing was the fact that hedge funds had established the largest short positions is history in the futures market.  The crowd was definitely leaning in one direction.  Any news of further supply disruptions or an increase in demand for platinum would force bearish shorts to cover, resulting in sharply higher prices.  That is exactly what happened this week as fears spread that the increasing violence between police and striking platinum miners would result in further mine shutdowns.

Platinum soared by $78 on the week to close in New York trading at $1,479.

Will the unrest in South Africa spiral out of control?  As the world economy continues to get worse, social unrest has spread from one country to another resulting in toppled leaders, bloodshed and civil wars.  South Africa is a potential hotbed for social unrest and violence with a 25% unemployment rate, 50% of the population living below the poverty line and 50% of those under the age of 35 unemployed.

Prior to the violence at the Lonmin mine, miners had been on strike earlier this year for six weeks at Impala Platinum mine resulting in lost production of 120,000 ounces of platinum.  Unless the authorities and mine management can quickly contain the violence at the platinum mines, unrest could quickly spread to other mining operations and throughout South Africa.

South Africa is also a major gold producer ranking 5th in the world.  Although South African gold production recently declined to a 90 year low, annual production during 2011 was 190 tonnes, representing almost 8% of total worldwide annual gold production of about 2,500 tonnes.  South Africa’s annual production of gold declined from 400 tonnes in 2001 to only 190 tonnes in 2011, due to lower grade ore deposits and depletion of existing mines.

Proof American Platinum Eagles can be purchased by consumers directly from the U.S. Mint.  The U.S. Mint recently announced that production of the 2012 Proof American Platinum Eagles will be set at 15,000 coins.  The Mint has been producing the proof platinum eagle coins since 2009.  Initial pricing per coin for the Proof American Platinum Eagles was set at $1,692.

Filed Under: Featured, Gold, Platinum, US Mint Tagged With: , , , , , , , , , ,