4 Reasons to Expect More QE and Higher Prices for Gold and Silver

Includes: GLD, SLV
by: Doug Eberhardt

There has been talk of late that the Fed could put an end to quantitative easing (QE) early. This article will address the probability of future QE and list four problem areas where the Fed may have to see just how many quantitative easing rabbits can still be pulled from its hat in order to fool the investing public into thinking the recovery is real. But first some questions to ponder.

Has the economy really recovered? If so, how?

Are you wealthier than you were 10 years ago? Which asset class returned more than gold or silver during this time?

Why have gold and silver kept going up the last 10 years? Why haven't you invested in these metals?

If you could create money out of thin air with no current consequences, wouldn't you keep doing it?

What would eventually be the consequences of you doing so?

Reason #1

States Are Cash Strapped Today and Things Will Just Get Worse For Them (States Can't Print Their Own Currency)

Since states can't print their own money like Congress does to pay for their spending programs (via the Treasury, Bureau of Engraving and Fed), they do the next best thing and get funds via government handouts like the American Recovery and Reinvestment Act (ARRA). Most of this money is in the form of increased Medicaid funding and a “State Fiscal Stabilization Fund.”

The government funding means that states don't necessarily have to change too much from the status quo; meaning they don't have to take the necessary steps to cut programs and reign in the budget. They kind of act like the nation’s top banks, knowing full well that Congress will be there (via Fed printing) as their savior. They are basically relying on the government saying they are "Too Big to Fail" as well.

44 states and the District of Columbia are projecting budget shortfalls totaling $112 billion for fiscal year 2012. How can the District of Columbia be projecting shortfalls with all the fat cats spending money there?

26 states are projecting shortfalls totaling $75 billion for FY 2013.

(Click charts to expand)

According to the Center On Budget and Policy Priorities, where these statistics are computed, "the roughly $106 billion shortfall that states are facing for fiscal year 2012, after taking federal assistance into account, equals about 0.71 percent of GDP. Assuming that economic activity declines by one dollar for every dollar that states cut spending or raise taxes, and based on a rule of thumb that a one percentage point loss of GDP costs the economy 1 million jobs, state shortfalls could cost the economy 710,000 jobs next year.

There will be a future need for additional ARRA.

Which leads us to reason #2

Reason #2

Jobs Are Still Disappearing

I pointed out in a recent article that the number of unemployed 27 weeks or longer has been rising every single month. There is no recovery that can occur when the jobs aren't there. As mentioned above, state shortfalls mean even more job losses, to the tune of 710,000 could come next year. But what cost is there to a nation’s currency as this game of government funding - with programs like ARRA - continues? The tax payer is paying for it through either higher taxes or inflation (lower purchasing power) of the dollar.

Congress somehow thinks that as long as we keep things going, the economy will rebound. But the employment picture isn't cooperating. When the economy begins its next leg down, what will that do to the retail sector? What will it do to the travel and leisure sector? What about the housing sector? In fact, it will be some of the high paying government related jobs that will also have to come to an end. If the money isn't there, the states have to cut somewhere and this will be the first place they look.

According to last Thursday's report, first time claims for unemployment clicked up for the reporting period to over 400,000 again. Consider this a sign of what is still to come. If fewer people are working, it means less money for the government to fund its bloated programs.

Reason #3

Treasury Demand Has Declined

What if the U.S. Treasuries throw a party and no one comes? This is exactly what is beginning to occur.

Japan has been a perennial buyer of U.S. Treasuries. With the most recent disasters, Japan may become net sellers. Pimco's Bill Gross is also betting against U.S. Treasuries because of his concern about a "lack of buyers." The Fed can talk all it wants about ending QE, but if no one comes to the Treasury party (auction), the Fed will be forced to at some point step in and become the buyers of last resort.

According to a Marketwatch report recently, "Indirect bidders (of Treasuries), a group that includes foreign central banks, bought 42.4%, the lowest since October and versus a recent average of 48.1%. Analysts regard the statistics, imperfect as they are, as a snapshot of foreign investors’ appetite for U.S. debt. Direct bidders — which includes domestic money managers — purchased another 5.9%, compared to 9.2% on average."

Is Bill Gross right in betting against U.S. Treasuries? Pimco's assets under management didn't get to over $1.2 trillion by him being wrong over the years.

#4 Medicare

Medicare is slated to gain 7,000 new baby boomers per day in 2011. Let’s take a closer look at Medicare and Medicaid expenditures and see if the projections for the years to come make sense "if" the economy were to experience some sort of a set back similar to Japan's deflationary episode the last 15 years or so.

The following data in the tables below is derived from (pdf) the U.S. Department of Health & Human Services and the Center for Medicare & Medicaid Services. It is from the last data made available to the public. The last Ombudsmen Report to Congress I could find was for 2007-2008 as it seems they are looking for a Medicare Expert Writer whose primary task to perform will include "the development, writing and editing the full detailed annual report to Congress."

You can see from the projections heading into 2009 that it was short in the GDP numbers by $163 billion.

But the most interesting speculation from the data in the chart we have that shows the projections made in 2008 through 2019 assume that Medicare will grow to 19.3% of GDP. What makes this interesting? It assumes that GDP will grow to $23,283 trillion by 2019. The 2009 projection was already short by $163 billion as noted. What if we are indeed going the route of deflation ala Japan? The only way to make up for that type of shortfall is to print more money. But could money just be raised to cover this shortfall by selling the Fed more Treasuries? Who else but the Fed would take on this debt?

Political Hot Air

While Republicans and Democrats argue over cutting funding to Planned Parenthood and raising taxes on the rich, just know that Congress won't go far enough to do what's necessary today in order to pay for programs tomorrow. Remember, Congress lives for today.

If there are any more rabbits left in the hat, will they fool the investing public enough to go along with the game? If you stick your finger in a light socket that just shocked you the first time you did it, will you have a different result the second time? The real question is, how many people actually expect a positive result?

The ones who aren't foolish enough to get shocked buy gold and silver. They buy it as insurance against the inevitable. They buy bullion gold and silver coins and bars at the lowest cost to spot. They live for tomorrow, not just for today.

Disclosure: Long Physical Gold and Silver