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A Green Light for Gold?
Posted by Peter Schiff on 10/21/2013 at 7:34 PM

It is rare that investors are given a road map. It is rarer still that the vast majority of those who get it are unable to understand the clear signs and directions it contains. When this happens the few who can actually read the map find themselves in an enviable position. Such is currently the case with gold and gold-related investments. 

The common wisdom on Wall Street is that gold has seen the moment of its greatness flicker. This confidence has been fueled by three beliefs:  A) the Fed will soon begin trimming its monthly purchases of Treasury and Mortgage Backed Securities (commonly called the "taper"), B) the growing strength of the U.S. economy is creating investment opportunities that will cause people to dump defensive assets like gold, and C) the renewed confidence in the U.S. economy will shore up the dollar and severely diminish gold's allure as a safe haven. All three of these assumptions are false. (Our new edition of the Global Investor Newsletter explores how the attraction never dimmed in India).  

Recent developments suggest the opposite, that: A) the Fed has no exit strategy and is more likely to expand its QE program than diminish it, B) the U. S. economy is stuck in below-trend growth and possibly headed for another recession C) America's refusal to deal with its fiscal problems will undermine international faith in the dollar.

Parallel confusion can be found in Wall Street's reaction to the debt ceiling drama (for more on this see my prior commentary on the Debt Ceiling Delusions). Many had concluded that the danger was that Congress would fail to raise the ceiling. But the real peril was that it would be raised without any mitigating effort to get in front of our debt problems. Of course, that is just what happened.

These errors can be seen most clearly in the gold market. Last week, Goldman Sachs, the 800-pound gorilla of Wall Street, issued a research report that many read as gold's obituary.The report declared that any kind of agreement in Washington that would forestall an immediate debt default, and defuse the crisis, would be a "slam dunk sell" for gold. Given that most people never believed Congress would really force the issue, the Goldman final note to its report initiated a panic selling in gold. Of course, just as I stated on numerous radio and television appearances in the day or so following the Goldman report, the "smartest guys in the room" turned out to be wrong. As soon as Congress agreed to kick the can, gold futures climbed $40 in one day.

Experts also warned that the dollar would decline if the debt ceiling was not raised. But when it was raised (actually it was suspended completely until February 2014) the dollar immediately sold off to a 8 ½ month low against the euro. Ironically many feared that failing to raise the debt ceiling would threaten the dollar's role as the world's reserve currency. In reality, it's the continued lifting of that ceiling that is undermining its credibility.

The markets were similarly wrong-footed last month when the "The Taper That Wasn't" caught everyone by surprise. The shock stemmed from Wall Street's belief in the Fed's false bravado and the conclusions of mainstream economists that the economy was improving. I countered by saying that the signs of improvement (most notably rising stock and real estate prices) were simply the direct results of the QE itself and that a removal of the QE would stop the "recovery" dead in its tracks. Despite the Fed surprise, most people still believe that it is itching to pull the taper trigger and that it will do so at its earliest opportunity (although many now concede that it may have to wait until this political mess is resolved). In contrast, I believe we are now stuck in a trap of infinite QE (which is the theme of my Newsletterissued last week).

The reality is that Washington has now committed itself to a policy of permanent debt increase and QE infinity that can only possibly end in one way: a currency crisis. While the dollar's status as reserve currency, and America's position as both the world's largest economy and its largest debtor, will create a difficult and unpredictable path towards that destination, the ultimate arrival can't be doubted. The fact that few investors are drawing these conclusions has allowed gold, and precious metal mining stocks, to remain close to multi year lows, even while these recent developments should be signaling otherwise. This creates an opportunity.

Gold moved from $300 to $1,800 not because investors believed the government would hold the line on debt, but because they believed that the U.S. fiscal position would get progressively worse. That is what happened this week. By deciding to once again kick the can down the road, Washington did not avoid a debt crisis. They simply delayed it. That is why I tried to inform investors that gold should rally if the debt limit were raised.Instead most investors put their faith in Goldman Sachs. 

Investors should be concluding that America will never deal with its fiscal problems on its own terms. In fact, since we have now redefined the problem as the debt ceiling, rather than the debt itself, all efforts to solve the real problem may be cast aside. It now falls on our nation's creditors to provide the badly needed financial discipline that our own elected leaders lack the courage to face. That discipline will take the form of a dollar crisis, which will morph into a sovereign debt crisis. This would send U.S. consumer prices soaring, push the economy deeper into recession, and exert massive upward pressure on U.S. interest rates. At that point the Fed will have a very difficult decision to make: vastly expand QE to buy up all the bonds that the world is trying to unload (which could crash the dollar), or to allow bonds to fall and interest rates to soar (thereby crashing the economy instead).

The hard choices that our leaders have just avoided will have to be made someday under far more burdensome circumstances. It will have to choose which promises to keep and which to break. Much of the government will be shut down, this time for real. If the Fed does the wrong thing and expands QE to keep rates low, the ensuing dollar collapse will be even more damaging to our economy and our creditors. Sure, none of the promises will be technically broken, but they will be rendered meaningless, as the bills will be paid with nearly worthless money. 

In fact, the Chinese may finally be getting the message. Late last week, as the debt ceiling farce gathered steam in Washington, China's state-run news agency issued perhaps its most dire warning to date on the subject: "it is perhaps a good time for the befuddled world to start considering building a de-Americanized world." Sometimes maps can be very easy to read. If the dollar is doomed, gold should rise. 

Peter Schiff is the CEO and Chief Global Strategist of Euro Pacific Capital, best-selling author and host of syndicated Peter Schiff Show. 

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Tags:  debt ceilingdollargold
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Treasury's Last Pillar Crumbles
Posted by Peter Schiff on 01/03/2013 at 7:20 AM
With the return of Shinzo Abe and his Liberal Democratic Party to power in Japan, the market for US Treasuries may be losing its last external pillar of support. Re-elected on September 26th, Abe has quickly set a course for limitless inflation, saying Japan must "free itself from deflation and the strong yen." This is significant to the global economy as Japan is the largest foreign power left with a strong appetite for US Treasuries. If this demand falters, the Fed may be the only remaining buyer of new Treasury issuance.
 
Abe's Plan
 
This election marks Abe's second turn in the premier's seat. He first held the position from 2006 to 2007, when he abruptly resigned as the first of a string of unpopular one-year premierships. Notably, in the intervening time, the LDP lost its lower house majority to an opposition party for the first time since its formation in 1955. The victors, the Democratic Party of Japan, had been formed in 1998 on a platform of reducing corruption and making Japan more progressive.
 
Unfortunately, as we know from our past century of experience in America, progressivism is not the cure for an ailing economy. The DPJ was predictably unsuccessful at reining in the bureaucracy, but did manage to push through a damaging doubling of the national sales tax and additional entitlement spending.
 
Similarly to President Obama's 2008 election, the Japanese people were sold a lot of rhetoric about hope and change and, lacking any sincere alternatives, decided to give the new guys a shot. The results were equally disappointing on both sides of the Pacific. 
 
While American voters decided to throw good votes after bad in 2012, the Japanese preferred to return to the devil they know. The only problem is, he's still a devil.
 
Abe has essentially promised to return to the failed but feel-good policies of LDP government for the last 3 decades; namely, he will prop up failing industrial giants and attempt to print his way out of an economic slump.
 
Saving Grace or Pain in the $%&?
 
The yen hit a post-war high against the US dollar in 2011 and has remained strong. For sound-money enthusiasts, this has been cause for celebration. But for Keynesian demand-siders, it's a crisis.
 
Rather than attribute decades of sluggish growth to an interventionist industrial policy, Abe and his cadres are blaming the strong yen. In response, Abe has called for the Bank of Japan to target at least 3% inflation.
 
For some time, the only saving grace for Japanese citizens who are unable to find jobs or secure financing has been that prices have been stable or falling. Abe intends to rob them of that salve while doing nothing to address the underlying infection.
 
While some Americans may feel a self-interested sense of relief that one of the major dollar-alternatives is being undermined from within, they are misunderstanding the knock-on consequences of this move.
 
The Last Major Pillar
 
For the Treasury to continuing having successful auctions at current rock-bottom interest rates, someone has to be purchasing. A lot. 
 
Before 2008, most of the demand came from foreign central banks - especially China. Since the financial crisis began, China and many emerging market banks have dramatically reduced their purchases and even become net sellers. 
 
The deficit has been made up by the Federal Reserve, domestic personal and institutional investors, and a few foreign holdouts led by Japan. In fact, Japan is about to overtake China as the largest foreign holder of US government debt.
 
This is significant in that the other two sources of funding - Fed and US domestic - are essentially intertwined. The more Treasuries the Fed purchases, the higher inflation becomes, which harms the US economy even further, which leaves domestic funds less wealth to invest in Treasuries. In my view, the foreign influx of capital has been the key third pillar that has kept this vicious domestic cycle from playing out in full.
 
How It Crumbles
 
Prime Minister Abe's plan to devalue the yen could thus be disastrous for both US and Japanese government finances. As the yen devalues, Japanese domestic investors - who make up the bulk of owners of Japanese Government Bonds (JGBs) - will be under intense pressure to sell out and find higher yields elsewhere. 
 
This flight of capital will threaten Tokyo with default, so the likelihood is that the Bank of Japan will begin directly buying JGBs on an even larger scale (as our Fed has done since the financial crisis) instead of buying US Treasuries. They may even become net sellers of Treasuries in order to finance their bailout of Tokyo while controlling inflation.
 
This will, in turn, put tremendous pressure on US Treasury investors. As the outflows mount, the Fed will no doubt announce another program to buy Treasuries under the guise of promoting economic stability. If the Fed becomes the permanent crutch of the Treasury, we can expect inflation to get higher and higher - driving more and more investors out of Treasuries.
 
Decoupling Continues
 
It is clear that Washington and Tokyo are but two sides of the same coin. Japan's debt-to-GDP is about 212%, while the US has just crossed 100%. Both are highly dependent on domestic investor interest in government debt to keep the charade going, and neither have prospects of paying their debts without real write-downs for investors. 
 
Unfortunately, neither government is using the time before this real crash strikes to even attempt to shore up their positions. The platform of Shinzo Abe seems poised to undermine Japan's ability to continue subsidizing US government debt. Left without any significant external supports, Treasuries will be in an extremely weak position when attention shifts from the EU sovereign debt crisis to the our own tattered finances.
 
Fortunately, there are ways for investors to escape Abe and Obama's tandem cliff-dive. Recent data shows that China continues to build a viable alternative. The South Korean won and Taiwan dollar are now significantly more correlated to the movements of the yuan than the yen or the US dollar. These booming economies will sustain demand for commodities as they build real wealth. With the old statesmen of sovereign debt compromised, I expect the up-and-comers to continue to turn to gold and silver in droves.

Peter Schiff is CEO of Euro Pacific Precious Metals, a gold and silver dealer selling reputable, well-known bullion coins and bars at competitive prices. 

Click here for a free subscription to Peter Schiff's Gold Letter, a monthly newsletter featuring the latest gold and silver market analysis from Peter Schiff, Casey Research, and other leading experts. 

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Tags:  ChinadollarinflationJapantreasuriesyen
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The QE Debate
Posted by Peter Schiff on 09/04/2012 at 2:28 PM

There is an ongoing three way debate between those who believe the Fed should do more to strengthen the recovery, those who believe that the recovery is strong enough to continue on its own, and those who believe that the economy has been so fundamentally altered by the recession that no amount of stimulus can succeed in pushing unemployment down to pre-crash levels. As usual, they all have it wrong (although some are more wrong than others).

The false conclusions are being made by the likes of bond king Bill Gross, who has suggested that the economic fundamentals have changed. They argue that a "new normal" is now in place that sets an 8% unemployment rate as a floor below which we will never fall. This is absurd. America can once again prosper if we put our trust in first principles and let the free markets work. Unfortunately, that is not happening. Government is taking an ever greater role in our economy where its efforts will continue to stifle economic growth. A close second in cluelessness comes from those who believe that we are currently on the road to a real recovery. I'm not sure what economy they are looking at, but in just about every important metric, we continue to be essentially comatose.

More accurate are the opinions of those who believe that without a more serious intervention from the Fed, which can only mean another round of quantitative easing (QE III), the current quasi-recovery will soon fade and the tides of recession will overtake us once again. They are correct. And even though this time the water will be rougher and deeper than it was four years ago, it does not mean that the Fed will do the economy any good by breaking out its heavy artillery once again. 

In his widely anticipated speech at Jackson Hole last week, Fed Chairman Ben Bernanke sounded a supremely optimistic note:  "It seems clear, based on this experience, that such (easing) policies can be effective, and that, in their absence, the 2007-09 recession would have been deeper and the current recovery would have been slower than has actually occurred."

The simple truth however, is that our economy has a disease that all the quantitative easing in the world can't cure. And while the wrong medicine may make us appear healthier in the short term, we will continue to deteriorate beneath the surface. Not only should the Fed not provide additional QE, but it should remove the accommodation currently in place. Although these moves would most certainly send us back into recession, it would simultaneously provide a needed course correction that would put us finally on the road to a sustainable recovery.

The recession the Fed is trying so desperately to prevent must be allowed to run its course so that the economy that we have developed over the last decade, the one that is overly reliant on low interest rates, borrowing and consumer spending, can finally restructure itself into something healthier. By enabling this diseased economy to overstay its welcome, QE does more harm than good. To recover for the long haul, the market must be allowed to correct the misallocations of resources that resulted from prior stimulus. Additional stimulus inhibits this process, and exacerbates the size of the misallocations the markets must eventually correct.

In the interim, any GDP growth or employment gains that result from stimulus actually compounds the difficulty in restructuring the economy. Any jobs created as a result of cheap monetary stimulus are jobs that won't be able to survive absent that support. They will require a continual misallocation of resources in order to survive. Unfortunately, these jobs must ultimately be lost before a real recovery can actually begin.

Holding rates of interest far below market levels (which is the goal of stimulus) alters patterns of consumption, savings, and investment. Fed intervention short-circuits the market driven process that resolves misallocations. The more stimulus that is provided, the harder market forces must work to try to restore equilibrium. As the misallocations grow over time, the efficacy of monetary measures diminishes. In the end, the market will overwhelm the Fed. The only question is how long it will take.

The Fed is trying to build skyscrapers on a bad foundation. Each subsequent structure it builds not only collapses, but also weakens the foundation that much more. The result is that subsequent structures collapse at increasingly lower heights and require more effort to build. Instead of trying to build, the Fed could concentrate on repairing the underlying foundation. That might delay construction, but in the end the buildings will be much sturdier. 

Because the Fed has kept interest rates too low for too long, Americans have saved too little and borrowed too much; consumed too much and produced too little; and imported too much and exported too little.  Too much of our labor is devoted to the service sectors and not enough to goods production.  Too much capital goes to Wall Street speculators and not enough to Main Street entrepreneurs.  We built too many homes but not enough factories. We have developed too many shopping centers, and not enough natural resources. The list of Fed induced misallocations goes on.

By trying to preserve the jobs associated with this old economy, the Fed prevents the market from creating the ones we actually need. Unfortunately no one seems to understand that, and we continue to chase blindly after failed economic models. Look for such misunderstanding to be on high display this week in Charlotte as Democrats gather to call for even greater intervention to perpetuate a failed economic model.   



Tags:  Ben Bernankedollarfedquantitative easing
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The Gold Standard Gets Another Look
Posted by Peter Schiff on 08/28/2012 at 10:12 AM

As Republicans convene in Tampa to nominate Mitt Romney and hammer out their party platform, one of the planks that could attract the most attention is the Party's official position on the gold standard. As it is now being considered, the platform stops short of recommending a return to the gold standard, but does advocate a commission to consider the possibility. However, judging by the reaction with which many Republicans have greeted the idea, one would think that the platform might as well have called for the return of slavery.

The fact that so many supposed conservatives liken a belief in a gold standard as the monetary equivalent of membership in the Flat Earth Society shows just how far the American public has come from a true understanding of how money works within an economy. But, if there were a parallel to be made between gold enthusiasts and flat earthers, then it should strike many as curious that the world's top central bankers, who can be seen as the equivalent to the most advanced astronomers, continue to hold so much gold in their vaults. If gold were so obsolete, why would these bankers hedge their positions?

The general idea among most economists is that gold would be a step backward for our modern monetary system -- the equivalent of trading in an automobile for a horse and buggy. However, paper money is not new. It's been around for centuries, and has been tried many times, on many continents. But every time it has been used, it has led ultimately to economic disaster.

At the time of America's founding, the uses and abuses of paper money were well understood. The Founding Fathers could have empowered the Federal Government to print paper money, a power enjoyed by the Continental Congress under the Articles of Confederation. However, the Constitution represented an improvement on that system. The framers, having just experienced the horrors of the Continental currency (which had been used to finance the War of Independence) opted to limit Federal monetary powers to coining money, which for legal tender purposes they defined as gold and silver.

As a result of that wise choice, our national economy thrived, and eventually became the richest on earth. In contrast, since the time that the standard was abandoned in 1971, America has become the world's largest debtor nation and is now teetering on the brink of financial ruin. It's ironic that gold standard critics look back to Nixon's decision to close the gold window as proof that the standard does not work. In reality, it was precisely because the gold standard was working so well that Nixon felt he had no choice but to abandon it.

In 1971, adherence to the gold standard meant the Nixon administration faced a politically difficult decision. Big increases in government spending associated with the Great Society programs, the war on poverty, the Vietnam War, and the Space Race, resulted in large deficits (by 1971 standards of course). This led the government to print lots of money, thereby hitting Americans with large doses of inflation. As a result, general prices had by then tripled from the levels seen in 1932. But the price of gold had been held at 35 dollars per ounce. This led America's foreign creditors to exchange their paper dollars for gold (It was illegal for American citizens to do likewise). This created a drain on our gold reserves, and if something were not done, it was likely that the U.S. would lose all of its reserves.

Staying on the gold standard left the government with only two options. One was to devalue the dollar and raise the price of gold consistent with the increase in the CPI. That would have required a gold price of over 100 dollars per ounce. Alternatively, the government could have removed the excess dollars from circulation, bringing consumer prices back in line with 35 dollar gold. In other words, the choice was devaluation or deflation. Neither was politically appealing, and both would have brought deficit spending to a halt. 

The gold standard forced the government to responsibly confront irresponsible fiscal policy. At first Nixon tried devaluation, but the amounts were far too small to stop the gold drain. As an escape hatch, he instead abandoned the gold standard (although he said that the move was temporary). Without this "relic", government could continue to finance its spending with ever larger deficits without losing any more gold. So instead of devaluation or deflation, we chose inflation instead. Many consider the impossibility of running perpetual deficits under the gold standard as proof of its unsuitability to the modern economy. As I see it, this is precisely why the gold standard is so desirable and so badly needed today.

Proponents of the centrally planned pump-priming, deficit-spending welfare state see the gold standard as the enemy of a healthy economy. However, if you believe in individual liberty and limited government, then the gold standard is your best ally. Had Nixon made a more responsible decision, the initial pain might have been worse, but we would have ended the decade in much better shape. And had we stayed that course, our nation would be far wealthier today as a result. We would not have been enabled to bleed away our wealth through two generations of deficit spending.

Many people also look badly on the gold standard because it prevents central banks from using monetary policy to manage the economy. This, of course, may be its greatest attribute. Under a gold standard, the free market determines money supply and interest rates. Under our current system of paper money a few politically connected bankers make those determinations. The results have been disastrous, with the recent housing bubble and financial crisis being just the latest iterations.

In a market economy, prices must be discovered by supply and demand. Interest rates, which can be described as the price of money, are arguably the most important prices of all. The only way to get it right is to let the market do its work. Empowering politically motivated central bankers to fix the price instead is a recipe for disaster. Unfortunately, we have now all had a good taste, and a return to the gold standard is the only way to refresh the palate. I hope the Republicans have the stomach to see it through.  



Tags:  dollargold standardMitt Romneyrepublicans
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Waist Deep in the Big Muddy
Posted by Peter Schiff on 01/27/2012 at 1:51 PM

With its announcement this week that it will keep interest rates near zero until at least late 2014, the Federal Reserve has put another large crack into the foundations underlying the US dollar. In a misguided attempt to provide clarity and transparency, Ben Bernanke has instead laid out a simple road map for economists and investors to follow. The signposts are easily understood: the Fed will stop at nothing in pursuing its goals of creating phantom GDP growth, holding down unemployment, propping up stock and housing prices, and monetizing government debt. To do so, it will continue to pursue a policy of negative interest rates, while ignoring the collateral damage of unsustainable debt, virulent inflation, misallocated resources and credit, suffering yield-dependent retirees, and a devalued U.S. currency.  

 

Not surprisingly, precious metals and foreign currencies rallied strongly on the news - with gold up more than 4.3% and the Dollar Index down nearly 1.6% in the days following the announcement. The Dollar Index is now down more than 3.5% from its highs in mid-January.

 

In coming to the momentous decision to extend the Fed's prior low-rate promises by another 18 months, Bernanke and his cohorts relied on a somber view of the economy that is at odds with the sunnier view presented the night before by President Obama in his State of the Union address. To justify holding rates so low for so long, the Fed is choosing to ignore the fact that CPI inflation is currently running north of 3%. Instead, it has conveniently chosen to look at a hand-picked alternative measure, the chain-weighted core PCE, which comes in just a shade below the Fed's arbitrary 2% target. How convenient.

 

After some changes in key membership at the Federal Reserve's policy-setting Open Markets Committee, in which a few long-time hawks were put out to pasture, the Fed has now established itself at the extreme dovish end of the policy spectrum. Among other central banks around the world, it may now be outflanked only by some very profligate ones in South America and sub-Saharan Africa. Unfortunately, the FOMC has its hands on the wheel of the world's reserve currency, and therefore its decisions may lead the planet into financial chaos as long as other nations are content to follow the Fed farther and farther into a swamp of liquidity. To paraphrase Pete Seeger's protest of the escalation of the war in Vietnam, "we are waist deep in the Big Muddy and the damn fool yells 'press on.'"

 

The only bright side of the announcement is that it provides precious-metal and foreign-equity investors a fairly good sense that they are on the right side of history. In order to keep rates low, especially at the long end of the yield curve where it matters most, the Fed must continually print money to buy U.S. Treasuries. This will likely push more investors into gold and away from dollar-denominated assets.

 

As a testament to their own faith in themselves to forecast economic conditions, 6 of the 17 voting FOMC members indicated that they would have preferred to keep rates close to zero at least through 2015. Some even had the audacity to prefer no change until 2016! This comes from the body that couldn't predict the 2008 financial crisis, even while it stared at them from point-blank range. To look into a completely uncertain future and determine that negative interest rates can persist for another four years without igniting inflation is to me the height of economic insanity. Sadly, the inmates have the keys to the institution.

 

The lunacy persists in the rest of the government as well, with Congress and the White House still failing to address our nation's long-term debt issues. The Fed's commitment gives these politicians a "Get Out of Jail Free" card to continue avoiding responsibility. The deficits will be monetized, so no real efforts need be made to cut spending or raise taxes on middle-class Americans. Central to these plans is the assumption that the rest of the world will happily park their savings in U.S. dollars forever. If the latest announcement does not disabuse the world of this notion, I don't know what will.

    

As long as interest rates remain far below the rate of inflation, the U.S. economy will fail to equitably restructure itself for a lasting recovery. As a secondary effect, U.S. savers will likely continue to suffer from a lack of yield and a weakening currency.  In the end, the collapse of the U.S. economy will be that much more spectacular due to the great lengths we have gone to postpone it.  


Tags:  Ben Bernankedollarfedinterest ratesprecious metals
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The Dollar's Lucky Streak
Posted by Peter Schiff on 01/10/2012 at 10:19 AM

Recent U.S. economic data, such as the modest drop in the unemployment rate and the massive expansion of consumer credit, have suggested that the American economy is finally recovering. Opposite conclusions are being thrown at Europe, where many are convinced that recession is returning. Not surprisingly then, the dollar is currently hitting a multi-year high against the euro. The strength of the dollar itself is often held up as one of the major proof points that the U.S. economy is “improving.” But the data points that I believe really matter continue to suggest an economy on life support. I believe that the dollar is rising for reasons that have nothing to do with America’s economic health. 

The ongoing sovereign debt crisis in Europe is unquestionably the center ring in the current economic circus. Given the difficulty of setting policy across borders and national interests, the negotiations in Europe have been messy, acrimonious, inconclusive, and conducted under the glaring lights of global media scrutiny. The action has diverted attention away from America’s problems, which in many ways are even greater than those in Europe. In contrast, America’s ability to print the world’s currency at will, and the nearly seamless agreement of policy between the Administration and the Federal Reserve, means that the United States has been able to virtually ignore the issues that Europe has been forced to confront. This relative calm has been mistaken for strength, and the dollar has beckoned as the ultimate safe haven currency.

The fact that the dollar is perceived as a safe haven acts as a self–fulfilling prophesy. Investors flee the euro and pile into dollars. The dollar then rises to reflect the demand. The increase validates the decision to buy in the first place, and the rising dollar then attracts even more buyers looking to profit from its appreciation. It’s a nice ride while it lasts.

Most “safe haven” dollar purchases are directed toward U.S. Treasuries. As a result U.S. interest rates are far lower than they would otherwise be without this inflow of spooked liquidity. But objectively speaking, the U.S. and Italy, for instance, have very similar national debt profiles. Yet interest rates in Washington are currently 600 basis points lower than they are in Rome. This means that Americans can borrow and spend much more. The result of all this extra debt financed consumption is a boost in employment and GDP. The positive economic impact makes the dollar even more attractive, thereby perpetuating the cycle.

If rates in Italy (or Spain for that matter) were as low now as they were two years ago, those countries would not be experiencing the problems they are today. Their borrowing costs would never have risen and their budgets would still be manageable. Similarly, higher interest rates in the U.S. would completely take the shine out of our economy. Imagine what would happen here if rates were just 200 basis points higher, let alone 600? U.S. consumers, homeowners, corporations, and governments are particularly dependent on cheap financing. As bad as things are in Europe, they would be even worse here. 

In other words, contrary to popular belief, the problems in Europe are helping, not hindering, the U.S economy – at least in the short-term. Over the long term, borrowing and spending more money to finance consumption and government red ink will not help the U.S. economy achieve a sustainable balance. If safe haven flows were to reverse (which could result from an improvement in Europe), the dollar would fall, interest rates and consumer prices would rise, and the U.S. economy would be right back in recession. The only “good news” is that such a positive development in Europe appears unlikely in the short-run.

All self-perpetuating virtuous cycles are vulnerable to a sudden break in the positive feedback loop. When reality rears its ugly head, and the spell breaks, the reverses can be vicious. It happened with dot com stocks, it happened with real estate, and I believe it will happen with the dollar and Treasuries. Even if Europe does not resolve its problems, the day of reckoning will still eventually arrive. The unfortunate truth is that the longer it takes, the worse it will be, as we will have that much more debt to reckon with.



Tags:  currencydollareurofederal reserve
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WAS 2011 THE END OF THE GOLD RUSH?
Posted by Peter Schiff on 01/04/2012 at 4:28 PM

For such a wonderful year for precious metals investors, the final calendar quarter left little to celebrate. Just as people now take for granted that their phones will also take pictures, play music, and surf the internet, many investors have come to expect gold and silver to move up in a straight line.

In fact, in a recent CNBC interview one analyst claimed that gold's recent correction proves that it is not really a safe haven. In truth, such a statement merely proves how little some analysts know about markets.

However much the fundamentals may be on your side, there are always mitigating factors that affect price movement. In the case of gold and silver, the temporary resurgence of the dollar versus other fiat currencies alternatives has been the dominant factor - but even that isn't the whole story.

STAMPEDE OUT OF EUROS

The critical factor that has been in play the past few months has been the European debt crisis going critical. I have said all along that the US is in worse shape than the EU overall because the EU has less will and capacity to resolve - or even temporarily paper over - its problems. The flip side is that, absent the massive stimulus the US has received, Europe has been forced to deal with its sovereign debt problems first.

Global investors have been spooked since the credit crunch of 2008. That means they are more likely to follow the herd rather than stick to the fundamentals. It takes a certain firmness of character to watch your investments sell off by double digits and not have a moment of self-doubt.

So, what we're seeing is big moves into and out of asset classes. But what is important to understand about these circumstances is not the scale of the moves but the direction of the trend.

Right now, the dollar is riding high. But it's still down over 30% over the last decade as measured by the generous US Dollar Index. Gold, by contrast, is up over 350% in that period. Of course, past performance does not guarantee future results, but the fundamentals have not changed. It's worth remembering that mainstream analysts chose the dollar over gold in almost every report over the last 10 years, based on a blind faith in the power of the US government to centrally plan the American economy. The market proved them wrong.

Once again, the mainstream narrative is that the real danger is in Europe and therefore the US offers a safe haven. This has caused a stampede out of euros and into dollars. But as we've seen over the last few years, the euro and dollar can decline simultaneously - and will continue to do so as more and more investors realize that the real safe haven is gold.

SHOOTING STRAIGHT UP

There is a reason assets don't move up in a straight line. Besides varying liquidity needs and risk appetites of investors, there are also built-in mechanisms to flush speculators out of a skyrocketing market.

As silver approached $50 this past April, the COMEX raised margin requirements for futures contracts on the metal, thereby pushing many speculators out of the market. While this practice presumably prevents speculators from overusing leverage, it also has the effect of crushing the short-term price of the metal. Both gold and silver have been subject to increased margin requirements this past year.

While we can now rest assured that future price increases are driven more by long-term investment than short-term speculation, it is not without costs. Speculators serve to reduce volatility in a market by buying in anticipation of future scarcity and vice versa. So, pushing out the speculators may increase volatility in the future. However, it's my feeling that in truth no gains have been lost at all - they have merely been postponed.

IS THIS THE TOP?

In order to determine whether the recent sideways movement of gold and silver is cause for concern, let's look at what lies ahead for 2012.

It is clear from 2011 that the new Tea Party members of Congress are not strong enough to stop the fiscal bleeding, and with the Occupy Wall Street movement in full swing, President Obama doesn't have a lot of room to compromise. Washington has been reduced to short-term measures to "pay" its bills, and the bills are mounting faster than ever.

Meanwhile, Ben Bernanke's Federal Reserve seems intent on pushing all the boundaries of monetary policy. In its most recent ploy, the Fed has engaged in a covert bailout of Europe through the use of currency swaps. From an investment perspective, this goes to show how deluded dollar investors are - they're buying into a currency that is being printed for any and all comers. This news should have caused the dollar to tank and gold and the euro to rise, but again, the fear trade is overriding all other considerations.

2012 should see more trouble from Europe, and therefore potentially more dollar buying. This might even be the year we see a few members exit the euro. However, there is no way to know how the euro will react in the short-term to such events, as such scenarios may already be priced into the market. In any event, long-term, the eurozone will be stronger without its weaker members. If they cannot mend their profligate ways, better to force them out now than compromise the solvency of the stronger members.

For smart investors, dollar strength caused by euro fears is simply an opportunity to buy contra-dollar assets on the cheap. Yes, I believe sub-$30 silver and sub-$1600 gold are still cheap for what's ahead. And with 2012 forecasts of $2,200 by Morgan Stanley, $2,050 by UBS, and $2,000 by Barclays, it appears I'm not alone.

Peter Schiff is CEO and Chief Global Strategist of Euro Pacific Precious Metals, a gold and silver coin and bullion dealer offering honest products at competitive prices.  

 

If you would like more information about Euro Pacific Precious Metals, click here or go to our website, www.europacmetals.com. For the fastest service, call 1-888-GOLD-160


Tags:  currencydollareurogoldprecious metalssilver
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The Great Western Crackup
Posted by Peter Schiff on 12/02/2011 at 1:09 PM

From World War II until very recently, the West - specifically Europe and the United States - was on a course for greater centralization, greater integration, and greater economic intervention. But this consensus is breaking down. In Europe, the euro has gone from steadily adding new members to now facing the prospect of having its weaker members quit. In America, the US Congressional Supercommittee has now officially failed in its mandate to bring even meager cuts to the bleeding US deficit.  

This is the beginning of the end. Both the EU and US are politically paralyzed, seeming only to be able to make compromises that involve more spending, more debt, and more central planning. The results are all too predictable to free-market thinkers: bailouts leading to moral hazard, low interest rates leading to ballooning debt, and eventually a cascade of systemic failures - leading to more bailouts.

This was confirmed yet again on Wednesday when central bankers on both sides of the Atlantic announced a coordinated tidal wave of new money to bailout the Western banking system yet again. Now, we're left with a world where the only thing you can trust is the gold and silver in your pocket.

LIKE LEMMINGS OFF A CLIFF

The poison of Keynesianism has left the politicians unable to even listen to free-market solutions. Personally, I have found it nearly impossible to find a Keynesian professor or official to debate me - even though (or perhaps because) I have a track record of accurate economic predictions. You would think at least one of them would want to tell me why I'm wrong... to offer some excuses for their failure to predict the dot-com bubble, the housing bubble, or anything that has come after that.

This is just an illustration of what we, as investors and citizens, are facing. The halls of power, the media, and academia are completely closed off from reality. They're clutching their theories and hoping that they don't end up having to work for a living like the rest of us.

EUROPE

I have repeatedly stated that the fact that Germany has been resistant to printing more euros is the main argument in favor of the euro. Of course, the mainstream consensus is the opposite. The same people who pushed for entitlement programs that Western nations couldn't afford are now arguing that the EU must use the power of the printing press to "help" bankrupt Greece, Italy, Spain, and others. Really, this is just a secret tax on those who chose to save for a rainy day, and it will lead the euro on the road to ruin just like the US dollar.

If Greece, Italy, et al, can't take the austerity that comes with staying in the euro, they should withdraw and see how the bond markets treat them without the implicit backing of Northern Europe. Either way, they must be made to face the market consequences of their previous spending.

Unfortunately, with this past Tuesday's announcement that the EU would provide another $10.7 billion bailout to Greece and Wednesday's bank bailout announcement, there is no sign that Europe's politicians are going to allow market forces to play out. Instead, repeated bailouts will ensure that other ailing economies, like Italy or Portugal, do not make the necessary cuts in time to avoid needing their own bailouts. And no one, save perhaps China, can afford to bail out the likes of Italy.

Thus, like pulling off a bandaid, the politicians have made the euro crisis more painful by drawing it out. This means more risk and more volatility for investors, causing them to abandon the supranational currency in droves.

AMERICA

Abandoning the euro looks like a wise course of action, but it becomes extremely unwise when you buy dollars instead. Remember, my concern with Europe is that they have started down a path that may lead them to the sorry state of the US. If you're worried that your refrigerator doesn't get as cold as it used to, you don't move your perishables to another fridge that won't even turn on!

The current state of the dollar is the nightmare scenario for the euro: no significant member-states are thriving, bailouts are assumed and given without significant debate, and the money supply is growing rapidly to cover the debts. At worst, the EU could be facing a rump euro comprised of the healthier Northern economies or years of debt monetization to try to "save" the PIIGS. But the US has already spent decades monetizing its debt and is now facing a 'game over' scenario. Remember, the EU might be going along with the latest bank bailout scheme, but the US Fed spearheaded it and the swaps are denominated in dollars.

The failure of the Congressional Supercommittee shows how laughable Washington - and, by extension, the dollar - has become. The Federal Reserve is frantically buying Treasuries at auction to make up for wilting demand from foreign creditors, such that it may soon hold 20% of all outstanding Treasury debt. Meanwhile, the Supercommittee failed in its meager mandate to slow the growth of new spending by $100 billion a year, barely a dent in an annual deficit that runs over $1 trillion a year - not to mention the $15 trillion in debt already accumulated. The failure caused ratings agency Fitch to downgrade its outlook on US credit, potentially joining S&P soon in stripping the US of its AAA. Perhaps the analysts at Fitch realize that if the Fed were to stop buying Treasuries, say because consumer prices started rising too quickly to ignore, then rising interest rates would add additional trillions to the debt problem, making default inevitable. Or maybe they're starting to realize that getting paid back the whole coupon in worthless dollars is just another form of default.

In short, the US is going to be mired in economic depression for the foreseeable future, with no reform efforts likely, and so the Fed will continue printing as much as it can to paper over the problem. This is tremendously bearish for the dollar, even moreso than a euro facing the loss of a few weak member-states.

THE BUCK STOPS HERE

The knee-jerk buying of US dollars, which has sent metals prices on a roller coaster this fall, represents pure market manipulation by the Fed. Private buyers and foreign governments were selling dollars and Treasuries before this recent market action sent confusing signals. We saw a short rally, but on Wednesday's bank bailout news, dollar selling resumed. Overall, the trend remains: the Fed will continue to buy a greater and greater share of US debt until all the new money it's printing sends inflation into the double digits.

So, in a world where the two major reserve currencies are both faltering, where is global capital going to find safety?

A look at history sees periods of monetary debasement and market mania followed by a return to more fundamental values. Every successful civilization in history has relied on sound money to grow, always in the form of precious metals. With globalization, we live in a world where investors don't have to live with their governments' bad choices. Allocating a portion of your portfolio to precious metals means being able to sit on the sidelines and laugh at the comedy of the sovereign debt crisis. It means that when new dollars or euros are printed, your metals simply go up in price.

That is the ultimate resolution to this crisis. More banks, institutions, and individual investors will simply withdraw from the fiat money system and rely on precious metals as their reserve asset. As they do so, the fiat system will be all the weaker for the those left behind. After this period of uncertainty, a new consensus is sure to form, and the 24% run up this year alone indicates that gold may play a central role.



Tags:  dollarEUEurosupercomittee
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Currency: The Hidden Portfolio Risk
Posted by Peter Schiff on 10/03/2011 at 1:56 PM

In today's investment landscape, risk can come in all shapes and sizes. When structuring a stock portfolio most investors try to gauge the risk in buying particular stocks. Savvier investors also factor in sector risk, business cycle risk, and recession risk. Cautious investors may try to mitigate these risks by favoring bonds over stocks. But even then they must contend with default risk, interest rate risk, and in the case of sovereign debt, political risk. 


However, with central bank monetary policy now an increasing driver of economic outcomes around the world, there is one risk factor that deserves more attention: currency risk. No investment, whether it be in stocks, bonds, real estate, or lemonade stands, can hold up well if the currency in which it is valued takes a tumble. It always surprises me that most US investors still fail to take currency into account, and in particular their potentially overweight exposure to the US dollar.

Many market watchers have justifiably concluded that the spiraling debt crisis that is now underway could develop into a major currency crisis that starkly alters exchange rates. Rather than rising above the fray, the US dollar could be in the center of the storm - especially if its valuable reserve currency status becomes threatened. The dollar, which many now regard as the ultimate "safe haven," may prove to be a trap for those investors who lack adequate currency diversification.

In the spirit of sharing our favorite dollar-alternatives, I recently sat down with Axel Merk, founder and president of Merk Investments, who is a well-known authority in the international currency arena today. That conversation resulted in a new report, entitled Peter Schiff's and Axel Merk's Five Favorite Currencies for the Next Five Years, which is now available for free public download at www.newcurrencyreport.com
 
For years, both Axel and I have raised the issue of currency risk, and we both continue to educate investors on the value of currency diversification. Although we agree on the big issues, there are differences in how we see the strengths and weaknesses of various world currencies.
 
In the report, we contrast our views on such potential safe haven currencies as the Swiss Franc, Norwegian krone, and Australian dollar. We discuss in detail the potential collapse, or possible resurgence, of the embattled euro. And we also spend time evaluating the future prospects for the Chinese renminbi - a currency that both of us agree will play a dominant role in the 21st century global economy.

Since the fiat currency game is in the hands of governments, many of our most interesting disagreements stem from the different odds Axel and I place on government reform. Have the Swedes had enough of the welfare state? Will Hong Kong switch from a US dollar peg to a yuan peg - or will the Hong Kong dollar one day float on its own? Are left-wing parties more likely to pass punitive taxes in Australia or New Zealand, and if so, how will those issues affect their economies? No one knows for sure how these events will play out, but as investors, we have to act on the data as we see it - and sometimes even like-minds see it differently.
 
Fortunately, Axel and I have drawn similar conclusions about the macroeconomic picture. We fundamentally agree on the absurdity of the status quo, which sees the US offering IOUs to the rest of the world in return for real products. After the dust settles from what could be a global currency realignment, we believe that a new faith in sound monetary policy may emerge, which could then lead to the reestablishment of gold as the ultimate international reserve asset. But since we believe one's assets should be invested, not simply kept "under the mattress," Axel and I will continue to invest in countries with strong national balance sheets, prudent central bankers, and better-performing economies. We generally agree as to which countries qualify for such laurels... but narrowing it down to our top five favorites can result in some interesting discussion.

Go to www.newcurrencyreport.com to download the report for free. It is fun reading, but it also contains our latest thinking on the currencies we consider worth exploring. In a world where gold is in the quadruple-digits and the S&P has downgraded US debt, we both feel it's high time every American consider diversifying his or her portfolio to mitigate currency risk. We hope this discussion gets your gears turning.
 

 



Tags:  currenciesdollaryuan
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More of the Same
Posted by Peter Schiff on 09/11/2011 at 7:22 PM

Although it was labeled and hyped as a "jobs plan," the new $447 billion initiative announced last night by President Obama is merely another government stimulus program in disguise. But semantics are of supreme importance in American politics...some could argue that word choice is the only thing that matters. As a result, despite the fact that this plan bears no substantive difference from previous stimulus bills, the President never once mentioned the word "stimulus" in his hour-long speech. But a rotten banana by any other name still stinks.

 

Like all previous stimuli, this round of borrowing and spending will act as an economic sedative rather than a stimulant. Running up the deficit in the short-run will not grow the economy, but will merely dig it into a deeper hole. A year from now there will be even more unemployed Americans than there are today, likely resulting in additional deficit financed stimulus that will again make the situation worse.

 

The President asserted that the spending in the plan will be "paid for" and will not add to the deficit. Conveniently, he offered no details about how this will be achieved. Most likely he will make non-binding suggestions to future congresses to "pay" for this spending by cutting budgets five to ten years in the future. History is absolutely clear on one point: politicians never pass cuts promised by prior politicians. In other words...the check is in the mail. So I will make the fairly riskless assumption that the plan will be financed by deficit spending. If so, the negatives associated with greater deficits will overwhelm any perceived benefit the spending will generate.

 

President Obama claims he wants to put money into the pockets of American consumers. The problem is the government's own pockets are empty. In order to put money in the pocket of one American, it must first pick the pocket of another. The problem is that it takes more from the pockets it picks than it puts into the pockets it fills. 

 

In the meantime money to fund the stimulus has to come from somewhere. Either the government will borrow it legitimately, or the Federal Reserve will print. Either way, the adverse consequences will damage economic growth and job creation, and lower the living standards of Americans.

 

There can be no doubt that some jobs will in fact be created by this plan. However, it is much more difficult to identify the jobs that it destroys or prevents from coming into existence. Here's a case in point: the $4,000 tax credit for hiring new workers who have been unemployed for six months or more.

 

The subsidy may make little difference in effecting the high end of the job market. An employer will not pay a worker $50,000 per year simply to qualify for a one-time $4,000 credit. But the effects will be felt on minimum wage jobs where rather than expanding employment it will merely increase turnover.

 

Since an employer need only hire a worker for 6 months to get the credit, for a full time employee, the credit effectively reduces the $7.25 minimum wage (from the employer's perspective) to only $3.40 per hour for a six month hire. While minimum wage jobs would certainly offer no enticement to those collecting unemployment benefits, the lower effective rate may create some opportunities for teenagers and some low skilled individuals whose unemployment benefits have expired. However, most of these jobs will end after six months so employers can replace those workers with others to get an additional tax credit.

 

Of course the numbers get even more compelling for employers to provide returning veterans with temporary minimum wage jobs, as the higher $5,600 tax credit effectively reduces the minimum wage to only $1.87 per hour. If an employer hires a "wounded warrior" the tax credit is $9,600 which effectively reduces the six month minimum wage by $9.23 to negative $1.98 per hour. This will encourage employers to hire a "wounded warrior" even if there is nothing for the employee to do. Such an incentive may even encourage such individuals to acquire multiple no-show jobs from numerous employers. History has shown that when government creates incentives, the public will twist themselves into pretzels to qualify for the benefits.

 

The plan creates incentives for employers to replace current minimum wage workers with new workers just to get the tax credit. Low skill workers are the easiest to replace as training costs are minimal. The laid off workers can collect unemployment for six months and then be hired back in a manner that allows the employer to claim the credit. The only problem is that the former worker may prefer collecting extended unemployment benefits to working for the minimum wage!

 

The $4,000 credit for hiring the unemployed as well as the explicit penalties for discriminating against the long term unemployed will result in a situation where employers will be far more likely to interview and hire applicants who have been unemployed for just under six months. Under the law, employers would be wise to decline interviews with anyone who has been unemployed for more than six months, as any subsequent decision not to hire could be met with a lawsuit. However, to get the tax credit they would be incentivized to interview applicants who have been unemployed for just under six months. If they are never hired there can be no risk of a lawsuit, but if they are hired, the start date can be planned to qualify for the credit.

 

The result will simply create classes of winners (those unemployed for four or five months) and losers (the newly unemployed and the long term unemployed). Ironically, the law banning discrimination against long-term unemployed will make it much harder for those people to find jobs. 

 

Another problem is the President's intention to help under-water homeowners refinance their mortgages with lower rates. While this will certainly be good for the borrowers, it will be horrific for the banks holding the loans. The borrower's gain is simultaneously offset by the bank's loss. This will further impair the solvency of our banking sector, exacerbating the losses and failures when rates rise, thereby increase the costs to taxpayers of the next round of bailouts.

 

Moving from the sublime to the ridiculous, the President claims his payroll tax cuts will not endanger the Social Security Trust Fund, as the government will replace the lost "contributions" with transfers from general revenue. In other words, the government will borrow money, put it in a phony trust fund, then borrow the same money back from the trust funds and spend it on the stimulus. It is amazing the theatrics the government will go through to maintain the illusion that trust funds actually exist. The tragedy is that Americans continue to buy the charade and even heap scorn on those, like Rick Perry, who has the temerity to point out that the emperor is naked.

 

The truth of course is that no real economic growth or job creation is going to occur until the failed policies of both Obama and Bush are reversed. In his speech the President mourned the death of the American dream. Obama should stop killing it. To revive that dream we need to revive the American spirit that produced it in the first place. That means returning to our traditional values of limited government and sound money. Unfortunately we are still headed in the wrong direction.

 


Tags:  bailoutdollargoldjobsobamaqestimulus
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