Since the feds can’t grow their way out of debt…they’ll have to try to inflate their way out.
Trouble is, first…central bankers don’t have that good a grasp of inflation. They can control the amount of money in the monetary base at the Fed. But they don’t really control what happens to it next. For a long time, prices don’t necessarily react…because, in a depression, the velocity of money slows down to a crawl. The banks don’t lend; the money doesn’t get around…and it doesn’t feed into consumer prices. Then, all of a sudden, people realize that there dollars are losing value…suddenly, they are eager to send them on their way. Velocity increases – fast. It is as if they had put cash in a particle accelerator. Instead of 6% inflation, the CPI goes to 12%…or 25%…or 100%.
The other problem is the ‘bond vigilantes.’ You remember them. They’re the ones who so impressed Bill Clinton that he said that if he died, he wanted to be reincarnated as a bond trader. Because those guys are the ones with the real power, he noticed.
America is going to need to borrow an additional $1.6 trillion this year. And then keep borrowing $1 trillion-plus for years and years to come. There are no surpluses – ever again – in any plausible budget forecasts.
But what will the bond vigilantes make of this? What if they see inflation increasing? What if they no longer want to lend? What if yields on the 10-year notes (which go up when bond prices go down) rise to 5%, or to more than 15%, as they did in the early ’80s?
Then, instead of a deflationary depression we will have an inflationary depression. How it will play out exactly is beyond the scope of today’s Daily Reckoning. Besides, we don’t know. But one thing is almost certain – that gold will go up.
Gold is what people buy when they fear a crack-up in the monetary system. As the day of reckoning draws near, gold will shift from being a means of storing wealth…to a hedge against inflation and/or a monetary crisis…to a speculative play.
Currently, you see ads for companies that offer to buy your gold – in exchange for paper dollars. The public still has no idea; if they knew what was coming they’d want to hold onto every piece of gold they own.
Sometime in the future you’ll see ads with the opposite message. Companies will want to sell you gold – at prices far higher than those today. Then, cab drivers will give you tips on which is the best penny mining share to own…and hair dressers will opine on their favorite gold coins.
When that happens, we will have to remember to sell. But that is still way in the future…
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