November 19, 2008 -- We know that US business and the US economy is in bad shape. But how is the rest of the world doing? In two words -- not good. Below we see a weekly chart of the Baltic Dry Index, which has collapsed an incredible 90% over recent weeks. This Index traces the changing cost of shipping dry goods such as coal, wheat, cement, etc. The Baltic is telling us that international commerce is dying or close to dead. Count the number of weeks that Baltic Dry has been down!
Another barometer of international business activity is "Dr. Copper," so called because copper is used in almost all manufacturing. For this reason, the trend of copper has always been an excellent barometer of global commerce. The weekly chart of copper below looks ominously like the chart above of the Baltic Dry Index.
Below we see a weekly chart of the Dow Jones World stock index. This index is almost a copy of the two charts above. Conclusion -- the world economy is heading into the basement. When America sneezes, the rest of the world doesn't just catch a cold, it catches a bad case of pneumonia.
Big money is now so worried when investing about the return of its cash that it's been pouring money into various Treasury debt. This has driven the yield on the basic 91-day Treasury bill to almost zero, well, to be exact the yield is .11%, almost nothing. But how safe is Treasury paper or the dollar? That's the question that is so hot that no one dares talk about it.
One who dares to talk about it is Jim Grant of "Grant's Interest Rate Observer." Writes James, "We are bullish on well-secured debt obligations, bearish on the scrip with which borrowers will service and discharge them."
What, James Grant is bearish on the almighty Yankee dollar? Writes Grant. "At the moment, the Fed is engaged in the most radical reflationary campaign in its history. It's balance sheet would be unrecognizable to any central banker of the gold standard era. It would, indeed, be unrecognizable to a senior Federal Reserve official who happened to return today from a six or nine month sabbatical to the Blackberry-deprived ends of the earth."
In other words, growth in Federal Reserve bank credit is now heading for the moon due to the Fed's frantic effort to ward off the global forces of deflation. The Fed's all-out creation of dollars is laying the groundwork for future hyper-inflation, a process which (my guess) could arrive within a few years. Once the stock market bottoms, the nation could start on the path to hyper-inflation. What would be the early indications? The bond market will be heading down, and gold will be spurting higher. Watch for these two symptoms.
Question -- Russell, how would gold fare in an all-out deflation?
Answer -- In a major deflation, any item which was backed by debt would head lower. Deflation renders debt increasingly dangerous, since in deflation debt becomes more and more difficult to carry. The only item of intrinsic wealth that is free of debt is gold. Thus, in a time of deflation one might see a panic for the safest item of undisputed wealth -- gold. Furthermore, if the government wants to inflate in a time of deflation, and the dollar's viability is under attack, the government could back the dollar with gold. The government could unilaterally raise the price of the gold it owns to say $5000 an ounce. The government could then say, the dollar is partly-backed by gold, every dollar is worth one five thousandth of an ounce of gold. In other words, if the dollar falls under suspicion, the US might find it expedient to return to a version of the gold standard.
What to do with dollars (the time-honored American way) from the current issue of Smart Money magazine: "Time To bury Your Cash -- The day the Dow fell 777 points, David Lathem, a 41 year-old Alabama cattle farmer and electrician, was busy doing errands. Driving his Chevy pickup into Mongomery, he dropped by the hardware store, then stopped into the bank, where he withdrew $8,000 from his CD account, all in 20s. Back home, he slipped the four inch-thick bundles into Ziploc bags, popped them into a water-proof PVC tube and set out for a remote location on his 300 acre property, where he dug a deep hole with a post digger. And then he buried his money.".
Is there an American alive who hasn't considered burying his savings -- or at least stashing it in the mattress -- as this financial crisis has deepened? Lathem assumes the Federal Deposit Insurance Corp., will step in if his bank collapses, but he figures that it might take a few weeks to get his money. "Now," he says, "I can get my hands on cold, hard cash any time I want." But beyond that, there's the nagging fear that the world isn't as secure as he'd like to believe. Lathem says his $8,000 is an insurance policy, against, well, who know? "I'm hedging my bets," he says.
Russell Comment -- And how are you hedging your bets against a collapse of the dollar, Mr. Lathem? You may find that you have buried a bundle of junk paper. Government fiat better work.
From the November 17 Christian Science Monitor main editorial.
Forget Bretton Woods II – We need a gold standard. Without the integrity and restraint a gold standard provides, America may be headed on a path to hyperinflation.
By Walker Todd Chagrin Falls, Ohio - Too much credit and easy money. Those were the biggest culprits behind this financial crisis. Yet, appallingly, the government's rescue attempt is built on more credit and even easier money. That's like giving a procrastinator a deadline extension. By choosing this course, Washington has steered us on to the "road to Weimar" – the road to runaway inflation.
It didn't have to come to this. And it still doesn't. But the proper remedy will take tremendous political courage: Bring back the gold standard. That, more than any Byzantine regulations that emerge from the Bretton Woods II conference this weekend, would provide stability and safety for nations and individuals around the world.
Sadly, current policy seems to reflect a desire to weaken the dollar as quickly as possible.
The Federal Reserve's own data tells the story. The headline is the doubling of Federal Reserve credit, the main component of the US monetary base. Since Labor Day 2008, it's risen from $894 billion to $2.2 trillion.
That's the greatest monetary expansion in the Fed's 95-year history. How the Fed is doing it matters almost as much. It has nearly abandoned its traditional instrument for monetary policy, open-market operations, which involves the purchasing and selling of full-faith-and-credit US Treasury securities. With increasing frequency and amounts, it has relied primarily on "discount window operations" – lending to specific institutions for specific purposes instead of general injections of funds into an open market – since August 2007. This shift may weaken its ability to "tighten" monetary conditions should inflation reach dangerous levels.
A gold standard offers exactly the kind of discipline that's missing from the Fed. But its impact would be wider: Both in substance and in symbolism, gold provides integrity to the entire global financial system. Governments, however, have historically bridled at the constraint and accountability a gold standard brings. After all, when currency can be exchanged for gold, it's harder for governments to inflate the money supply, which they're tempted to do in order to spend beyond their means or cheat on their debts.
Before 1933, you could, generally speaking, trade a US dollar for a set amount of gold. That gave the dollar strength and stability. During World War I, when European governments abandoned gold and inflated their currencies to pay for the war effort, the US maintained its gold backing.
In 1933, however, to enable the Treasury to finance massive new government spending hailed as an economic recovery package – sound familiar? – President Roosevelt suspended domestic transactions in gold, and reduced the dollar's gold value. Finally, in 1971, President Nixon officially abandoned the gold standard. The dollar – and inflation – has fluctuated wildly ever since.
Today's Fed thus faces virtually no constraints. Were a gold standard in place, it could not possibly have doubled its balance sheet in only seven weeks without triggering a wholesale flight from the dollar analogous to the summer of 1971.
Weimar Germany experienced one of the greatest inflations in modern history in 1922 and 1923. Eventually, the official exchange rate reached 4.2 trillion marks per dollar. Some Germans heated their homes by burning cash, since it was cheaper than buying wood. The inflation finally was tamed by government bonds promising repayment in gold, backed by land taxes also payable in gold.
Today, if the US price level responded directly with the Fed's current rate of expansion of its own credit, then the technical conditions for Weimar-style hyperinflation could be upon us. Fortunately, Fed credit expansion acts on the domestic price level with a significant time lag. But could it tighten monetary conditions if it had to, having shifted its reliance to the discount window and the specific projects being financed there?
That's why a conversation about a gold standard is needed. But could it realistically make a comeback? Anna J. Schwartz, who co-wrote with Milton Friedman the highly influential book, "A Monetary History of the United States: 1867-1960," suggested at a 2004 gold conference at the American Institute for Economic Research that only a crisis of sufficient depth and magnitude would provoke the public to demand the stability of gold or a gold-linked currency. Such a crisis, which appeared remote at the time, may soon be upon us.
There's another significant point that Ms. Schwartz raised in 2004: The size of government itself would have to shrink radically to permit a complete return to gold. Before 1933, the share of gross domestic product represented by government at all levels was about 10 percent. Today, the national average of that share is about 35 percent. Any adjustment to economic shocks has to be absorbed by a proportionately much smaller private sector than was the case 75 years ago.
Some critics worry that a return to gold would make credit harder to come by. It's true that the kind of ultra-loose credit that fuels housing bubbles would be marginalized, but normal credit in a gold system would tend to be cheaper because concerns about the future value of repayments are diminished.
America faces a stark choice. The path back to a gold standard is rocky and uphill. The current inflationary path is slippery and downhill. One leads to integrity and stability. The other could lead to financial ruin. Which will we choose?
• Walker Todd, an economic consultant with 20 years' experience at the Federal Reserve Banks of New York and Cleveland, is a research fellow and conference organizer for the American Institute for Economic Research in Great
Should the government put up the money and keep the incompetent US auto industry in business? I have mixed feelings about feeding money to industries that can't compete successfully in the capitalist system. The US auto industry has been almost a disgrace. First they couldn't make cars that could compete with Japan's and Germany's autos. Later they made the wrong cars as times changed.
Jim Rogers, former Soros partner, has his own opinion of the bailouts via this interview from the Financial Times -- "The problem is that people like Alan Greenspan would never let the market work... For 15 years, under Greenspan, and now Bernanke, they would not let the market work. Had they let Long-Term Capital Management fail back in 1998, we wouldn't have these problems now, I assure you. Lehman Brother's would have been smashed. Goldman Sachs, Bear Stearns, would have been smashed. We wouldn't have these problems now. That only happened because every time they turned around they propped these guys up, gave them more money, and that's why we have the problem... But now, of course, they're going to blame it on other people and cause more regulations... What they're doing is, they're taking the assets away from the competent people, giving them to the incompetent people and saying to the incompetent: 'OK, now you can compete with the competent people, with their money.' I mean, this is terrible economics, this is outrageous economics. "
Notes and quotes -- For years I've been using Investor's Business Daily Mutual Fund Index as a measure of how the typical individual investor has been doing. The Mutual Fund Index is a compendium of 26 growth funds. So far, for this year the Mutual Fund Index is down 46.4%. In other words, I assume that the typical US investor has lost roughly half his worth (not including his home) in 2008, so far.
Every business in the nation is trying to cut back on their overhead. The easiest and quickest way to do this is to fire as many employees as possible. These unemployed reduce their expenses by cutting back on shopping and anything they can do without. The vicious circle is on. As consumers cut back, industry suffers and in turn tries to eliminate more employees. This is the death spiral that can lead to depression. I think it's starting to happen.
The quest for physical gold continues. I was told this morning that some dealers are now adding an 80 dollar premium over the gold price for gold coins (if you can find any coins). Yet the hedge funds, who are receiving redemptions, continue to be sellers of "paper gold" (GLD) in order to raise cash, thus holding the price of gold down.
The Lowry's statistics look progressively worse. The Selling Pressure Index is at new highs for the bear market, and the Buying Power Index is at new lows. This is obviously a bearish combination,
Fear selling of muni bonds goes on. The best are being sold along with the worst. AAA- rated munis in some cases yield over 5%, this against 30-year taxable Treasury bonds that are yielding only 4.13%.
Dow Theory -- The October lows for the D-J Averages are as follows --
Industrials .....8175.77
Transports ......3364.98.
TODAY'S MARKET ACTION -- My PTI was down 6 to 5847. The moving average is 5896. The PTI is bearish by 49 points.
The Dow was down 427.50 to 7997.30.
Nov. crude was down 0.66 to 54.10.
Transports were down 275.70 to 3141.50.
Utilities were down 12.20 to 353.80.
There were 187 advances on the NYSE and 2998 declines.
There were 1 new highs and 941 new lows.
Total NYSE volume was 7.3 billion shares.
S&P was down 52.54 to 806.58.
NASDAQ was down 96.80 to 1386.40.
My Big Money Breadth Index was down 10 to 690.
Dollar Index was up 0.19 to 87.93. Euro was down 0.55 to 125.08. Yen was up 0.68 to 104.45. Currency prices as of 1 PM Pacific Time.
Bonds: Yield on the 10 year T-note was 3.39%. Yield on the long T-bond was 3.972%. Yield of the 91 day T-bill was 0.065%.
CRB Commodity Index was down 1.25 to 351.10.
Dec. gold was up 1.20 to 733.90. Dec. silver was down 0.26 to 9.29. Jan. platinum was down 13.30 to 823.70. Metal prices as of 1 PM Pacific Time.
GDX was down 0.87 to 18.69. HUI was down 9.27 to 168.99.
ABX was up 0.07, AEM down 4.97, ASA up 1.05 and NEM down 1.25.
My Most Active Stocks Index was down 13 to 69.
The VIX was up 6.81 to 74.45.
Late Notes--You may not realize it, but the Transports have already broken below their October lows -- up until today, the Industrials have not confirmed. Alas, the market has rendered its verdict-- today the Industrials closed below their October 27th low. The primary bear market was re-confirmed. The direction of the market is to lower levels, how much lower, the Dow Theory can not tell us.
The tragedy continues to play out, all that remains is the 50% principle level of 7470 and the 2002 low of 7286
