Bailouts, Inflation and a Golden Future

Why Can't Common Sense Be Applied to Bailouts?

We welcome President Obama's “basic common sense” announcement of a $500k salary cap for top executives at companies receiving substantial bailout funds. It’s a bit of welcome good news.

And the President's definitely right on the money when he states that the average person isn't at all pleased when executives apply for public money “hat in hand ... even as they paid themselves customary lavish bonuses.” In fact, these “executives being rewarded for failure” is the theme we harped upon last week.

We had to laugh at this apparent government revelation, though: the authorities are finally realizing that there's a consensus among ordinary Americans. According to commentators, seems Joe Average believes he’s bearing a greater financial burden from the disaster than the guys who helped create the mess in the first place.

Well, who would have guessed? It must have taken a genius to figure that one out.

Could it have anything to do with the mega-bailout funds being lobbed into the laps of these executives and their companies? Even as ordinary folk lose their jobs and watch their mortgage payments go into arrears?

After all, Obama's pet stimulus plan is going to cost another $800 billion (perhaps even $1 trillion) -- all of which will go to companies that basically doused themselves in oil while wandering around in the dark … and then lit a match to see what was going on.

Obama also stated that: “A failure to act, and act now, will turn crisis into catastrophe and guarantee a longer recession, a less robust recovery and a more uncertain future.” Hmm, that’s an interesting (if very popular with executives) viewpoint.

But funnily enough, most Austrian economists – these would be the guys that accurately foresaw the current disaster, if you were wondering – they have just the opposite view. They feel that excessive government intervention will only prolong the necessary wringing-out process needed to purge incompetence and mal-investments from the system. They’re probably right, given their historical track record.

We’d venture to suggest that limiting executive compensation is like re-arranging the deck chairs on the Titanic. Sure, the seating arrangement appears to be nicer, but that doesn’t do a whole lot about the gaping hole in the hull and the flood of ice water rushing inside.

The Empire Strikes Back: Return of Inflation

After all, can you really have faith in the sort of imperious management that's done this to the financial system? ((The Adjusted Monetary Base is the sum of currency in circulation outside Federal Reserve Banks and the U.S. Treasury. Graph courtesy of the St. Louis Fed)

With an explosion in free floating dollars like this (and a shrinking supply of goods and services as companies cut back on their operations) what do you think is going to happen to the costs of daily living?

Here's a hint: it will probably look something like the graph above. It's just a matter of time. And the propaganda is already preparing the sheep for the inevitable shearing of their savings.

Crispin Odey in the Financial Times: “In a world of debt and deflation, inflation is our friend.”

Martin Wolf in the Financial Times: “If central banks and governments are aggressive enough, they can generate inflation which will lower the debt burden ... But they will imperil – if not terminate the experiment with un-backed fiat (or man-made) money that started in 1971.”

It seems like inflation is coming back into style, and it will look about as good on your bank account as a string bikini on a bag of lard.

Of course, we could be wrong. Price inflation in day-to-day goods and services might look like the following graph instead: (Money of zero maturity (MZM) is a measure of the most liquid part of the money supply, e.g. financial assets redeemable at par on demand. Graph courtesy of the St. Louis Fed)

That graph doesn’t look very comforting either. But don’t worry. The mainstream media (and governments, and central banks) say it’s good for you.

A Golden Future

Could this be why UBS (UBS) has just upgraded five North American gold producers, including the world's largest gold miner Barrick Gold (ABX)? Upgrades (honest ones, anyway) are as rare as hen's teeth in a world of crashing earnings and investor expectations.

UBS is optimistic that the 2009 gold price should hit $1,000 per ounce (a dramatic reversal of its prior view of $700 per ounce). And so it's given the thumbs up to Agnico Eagle Mines (AEM), Barrick Gold (ABX), Eldorado Gold Corp (EGO), Newmont Mining (NEM) and Goldcorp Inc (GG).

This is not surprising, considering that gold has been one of the best-performing assets of late and that demand for gold as a safe store of value has recently surged. Check out our other commentary on gold here [link to the most recent B&B article on gold HERE.

There aren’t many other investments showing an upward trend lately, are there?

Base Metals In The Basement

But that doesn't mean that all miners are doing well. BHP Billiton (BHP), the world’s largest mining company, reported a first-half profit 57% less than the same period a year ago. This was a larger drop than expected after the company booked one-time charges totaling $2.7 billion to close mines and plants in response to falling metals prices.

BHP is not alone: Xstrata Plc (XSRAF.PK) and Rio Tinto Group (RTP) are also closing mines, cutting output and slashing jobs as the worldwide recession curbs demand for metals other than gold. Freeport-McMoRan Copper & Gold (FCX) has also posted recent net losses.

But is the bottom in? Given that BHP has a recent history of bottoming with volume spikes, that may be the case and we may see a near term upsurge in the share price.

However, that could very well be a false dawn and BHP could remain down for awhile yet. Right now the only bullish game in town is gold.

Having said that, we also believe there will be other commodities making big gains this year, but let’s discuss them next week.

Good investing.

Comments

[mr freddo:]

There should be a bull market in gold for some time to come, at least through 2009 to the point where someone can see a light at the end of the tunnel. There is no light right now.

The average investor does not have other risk balanced choices. Short term treasuries have no yield. Long term treasuries are the next bubble about to plunge in price. Corporate bonds look enticing but what about the coming bankruptcies? Stocks are beaten up but still have room to fall if you consider that Depression era stocks fell 85% from their highs and we are only down 40%. Gold will thrive in this environment as the safe haven investment.

My favorites are GDX and GLD. Good luck out there.

Feb 08 06:48 PM

[Steve in Gr...:]

Great article. I agree with your rationale and your conclusions. I look forward to your next note. You made me smile at your comment: "...seems Joe Average believes he’s bearing a greater financial burden from the disaster than the guys who helped create the mess in the first place..."

Who do you think created the mess? Here's a short list and they are all "public servants": Alan Greenspan, Jimmy Carter, Barney Frank, Chris Dodd. And we've got Ben Bernanke and Barack Obama working on the next mess.

John Thain is little people compared to real thugs, the politicians.

Feb 08 07:09 PM

[Lonestar1:]

I agree that Greenspan should take the most responsibility for the problem. He could have done differently by refusing to feed the sugar-hungry Wall Street, public and politicians.

In stead, he chose to become a hero, and indulged in the construction of modern day Barbelonian Tower of debt & derivatives. Now he looks like a big joke in the financial history.

Feb 08 08:32 PM

[Moon Kil Woong:]

Production is dropping in all commodities as their demand drops. Gold miners are cutting back too because they gauge their future prospects correctly on demand for stuff like jewelry not on people wanting to use it as big metal bricks.

That's what happens with it when there is not enough demand for a commodity: just like grain, steel, oil, etc. They become inventory and then become ripe for speculators.

On other aspects of the author, I agree the priming the pump is going way too far with little to no effect. Thus rising dollars and falling demand can only inevitably lead to a re-balancing of the dollar with respects to available goods and services in the long run.

But in the short term, I think de-leveraging due to lower credit usage and asset destruction will still rule. $800 billion does not make up for $ trillions lost.

Feb 08 11:03 PM

[Roger Knights:]

"Production is dropping in all commodities as their demand drops. Gold miners are cutting back too because they gauge their future prospects correctly on demand for stuff like jewelry not on people wanting to use it as big metal bricks."

Many of the majors are actually gearing up to increase production or acquire juniors, and have completed secondary offerings, or obtained financing, in order to do so. For instance, there have been stories to this effect on SA in the last two weeks mentioning Newmont, Barrick, Yamona, and Kinross. (Maybe AEM too--I forget.)

Feb 09 07:32 AM

[know nothing:]

It appears that Obama's support ratings are falling and falling fast, When the news of the bailout is in and final, it won't be good enough for the american people. Sell the news. ( stockmarket)

Feb 09 08:37 AM

[henarl:]

The government decision makers will always make said decisions primarily for the benefit of themselves and the elite 1% of Wall St and big business who have purchased their allegiance. Meanwhile their spin doctors will work overtime to convince the rest of the population that all of this is really for their benefit. When this doesn't turn out to be beneficial for the majority, the elite has always been able to find someone else to blame.
Gold is probably as good a place as any to hide, long term, in the upcoming financial disaster. Long GG, GFI, SLW, CDE.

Feb 09 11:16 AM

[kelm:]

The gold market is still focusing on jewelry not on individuals buying. At the moment there is good demand from individuals but I think there are far more people talking about buying gold than are doing it. Typically, those investors will wait till the rice really starts to move higher and then jump on. When that begins in earnest I think it will swamp the jewelry demand.

Feb 09 12:13 PM

[Kaleb22:]

Don't blame the people, blame the institution known as the Federal Reserve.

Feb 11 01:22 AM

[flowerguy:]

Print "double" the money supply...since Oct (dilute the currency)
Plan to print money in unlimited quanties ("helicopter drop")
Need to print money to fund your own treasuries (monetize the debt)

Don't tell anyone you owe 70 Trillion or so in total debt (when you include 50 Trillion in unfunded liabilities like Pensions, Medicade, Medicare... things that are pretty real to those expecting them starting now)

Don't remind anyone your currency is actually worthless since it's not tied to anything (since Nixon closed the gold window)

Frighten the crap out of the folks holding and buying your debt by debasing it faster than any time in recent history

Understate statistics like inflation, jobless index

Try to erect trade barriers in a global economy to further grind trade to a halt

Simply announce whatever spending programs you like...funds to bail-out Big Auto, Homeowners, etc etc

Good bye USD
Hello run-away inflation boys and girls...I can see it's head poking up at the supermarket and clothing store

The run up in gold, silver, and anything that folks figure has hard value is NOTHING compared to what is going to happen next ...Stay tuned

Feb 19 05:04 PM