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This morning, August 30, 2011, Charles Evans, the Chicago Fed President, told CNBC that we’re in a liquidity trap, and that more easing is necessary.

What I want to know is: how do I turn that slice of information into profit for myself? What’s the point of having a perfectly good liquidity trap if you can’t use it?

A liquidity trap, by definition, is the extreme case in which monetary policy, specifically a zero interest rate policy, has no direct effect on aggregate spending. In liquidity trap situations the demand for money is flat. So any "easing" of the quantitative type has zero influence on people’s demand for money.

The demand for money, given to us by Sir Keynes himself, encompasses the three reasons why one would hold money, transactions, precautionary, and speculative demands. But, this only tells one why you would hold money. It does not tell us how you get money, which is the actual demand for money.

There are four ways to get money, 1) earn it, 2) steal it, 3) borrow it, or 4) have someone give it to you as a gift. Note that earning it, stealing it, and having it given to you as a gift is not influenced by the interest rate. BUT – if you borrow it – that is influenced by the interest rate.

Now for a quick history lesson. do you remember why Keynes wrote, "The General Theory of Employment, Interest, and Money?" The answer is in the last chapter, Chapter 24, entitled “Concluding Notes on the Social Philosophy Towards Which the General Theory Might Lead,” wherein he casually and subtly implies that if a central bank is the sole owner of money supply, then you can control people’s lives via interest rates. Isn’t that a nifty trick? You need to know that because it allows you to see clearly the why behind the push for more easing.

Knowing that the reason for central bankers to be the monopolist owner of currency means that the only way the Federal Reserve can influence your behavior via interest rates is through the borrowing process. It means that in order to buy more stuff, you must be made to go borrow the money. Therefore, the more monies that are borrowed the better people are controlled. Look how the debt issue is making people in Greece and Italy jump!! This brings us to the liquidity trap.

The liquidity trap is only a trap when people are not borrowing money and instead are paying off debt. For example, when interest rates are zero, monetary theory tells economists that people will demand (i.e., borrow) more money and that will stimulate aggregate demand and thus GDP will grow. That works great if people are actually out there borrowing money to spend.

If, however, the interest rate is zero, and banks have increased the requirements for borrowing (thereby restricting the actual borrowing), and people/businesses are not actually asking to borrow money, then it doesn’t matter that the interest rate is the lowest in living memory, the demand for money falls (!!) – thereby causing aggregate demand to decline which in turn causes GDP to fall as well.

It’s really quite simple, actually. One need only think about 30 seconds to figure it out.

If money = debt, and people shun debt, then money demand declines and that impacts everything else.

So, since fall of 2008, people have been paying off debt. In droves people are shunning taking on more debt. I imagine Dr. Bernanke is probably perplexed why his monetary theories and policies haven’t stimulated the economy. Maybe he missed the actual definition of liquidity trap and money demand in his Principles of Economics 101 class. Or maybe he actually believed all that junk Keynes wrote about in his book in 1936 without actually bothering to think the theory through. Keynes was really good at pulling the wool over people’s eyes. This is the scenario I prefer to believe.

On the other hand, if my above scenario is really the opposite for Dr. Bernanke, then we’re all in big trouble. Why? Because it means that Dr. Bernanke really was paying attention in his Principles class, really did get why Keynes wrote his Seminal Thesis, and really does know why what’s happening in the economy is happening. It means that Bernanke is in on the secret of how to control people via their borrowing of money.

You want to make money in this, right? You don’t really want to spend $1,800/ounce on the spot market, do you? Why not buy your gold while it’s still in the ground? It’s less expensive that way. Bill Cara in May 2008 suggests that gold is just money in the ground. (Spot gold price was about $900/ounce –still a cheap buy compared to today’s price!) Adrian Day, on March 16, 2010 said basically the same thing. (Spot price of gold was right around $1100/ounce, $700 less than today.) And, more recently, The Gold Report lays out how gold should fit in your portfolio. As I write this, the spot price is just about $1,830/ounce.

I suppose you could go off and buy shares of Barrick Gold (NYSE:ABX) and Goldcorp (NYSE:GG), but if you are on a budget, you may want to consider something a bit less expensive, yet more risky. Junior gold miners like Paramount Gold and Silver Corp (NYSEMKT:PZG) and Great Panther Silver Limited (NYSEMKT:GPL) are still relatively inexpensive compared to the mainstream miners. Paramount announced on August 23rd that it had entered into an agreement to acquire 606 unpatented lode mining claims in northwestern Nevada. The claims are being purchased from ICN Resources in exchange for 400,000 shares of restricted common stock. These claims come with a large dataset of geophysical surveys and drilling information that will be used to target the gold for extraction.

On Thursday, August 25, 2011, Erick Bertsch, vice president of Corporate Development from Great Panther Silver, Ltd. gave a really nice overview of what’s happening at the company in recent months. The virtual conference was so impressive that on Friday, August 26, 2011, Motley Fool listed GPL as a stock to "carefully consider."

Gold bullion is stubbornly sticking to prices above $1800/ounce. Once the common folk figure out that political and monetary leaders really don’t know what to do, or — even worse do know what to do and won’t do it — the Thundering Herd will begin picking up speed buying the yellow rocks faster than we’ve ever seen before. That’s what you should do as well, before the rest of the herd figures it out.

Disclosure: I am long GPL, PZG.

Source: Beating The Liquidity Trap With Junior Gold Miners