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The Daily Reckoning

Summer forecast: weak stocks and a big sell-off. Then QE3?

Stocks are falling and gold is rising. Is quantitative easing really helping the US recover?

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And here’s another thing. Seniors are supposed to be protected from inflation by COLA (cost of living) adjustments to their Social Security payments. But the feds compute the CPI as they choose. And they make their adjustments when it pleases them. The result is a big lag between the supposedly inflation-proof Social Security payments and the actual costs of living that old people face. According to a study done by a senior group, the post-65 population has suffered a real loss of purchasing power of 32% over the last decade.

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This is a serious situation. The average household is desperately trying to hold onto its standard of living. It has not had a real, substantial hourly wage gain in 40 years. Prices are now rising faster than income – both for people who are working and for people who are retired.

And those people who own a house are losing wealth, collectively, at the rate of about $200 billion a year.

In a way, of course, this is good news. The whole point of the Great Correction is to wipe out bad debt, eliminate bad investments, and reduce living standards to a level people can afford. The feds may be protecting investors and bailing out banks – but at least they’re letting the poor lumpen households get what is coming to them!

Notice that gold seems to have ended its correction. Way too early and with far too little losses to suit us.

Gold is doing its job. It’s acting as a monetary reserve – something you can hold onto when other forms of money go bad. As the Great Correction does its work, the financial authorities get to work too. They’ve already pumped so much paper money into the system – most of it still in reserves – that it will be hard to avoid a substantial increase in prices (that is, a drop in the value of the paper money). But the feds probably won’t give up. QE2 ends next month. As the Great Correction continues, and the economy slumps in the summer, the cries for the Fed to ‘do something’ will grow louder. But what can the Fed do? Interest rates are already at zero. And the federal government is already running the biggest program of counter-cyclical stimulus spending in history – with about $4.5 trillion of total deficits over the last 36 months.

What’s left to do? Only more ‘unconventional’ methods – such as QE3.

If it comes, QE3 will mean even more paper money and credit in the system…and the potential for even higher rates of inflation.

The Wall Street Journal reports that the Chinese have become the world’s largest gold buyers. Central banks, generally, have become buyers again. The smart money has been buying gold for 10 years.

The smart money knows it needs real reserves – not just phony paper money. If the Fed won’t back the dollar with real reserves, smart households know they have to stock up some reserves of their own.

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