The Greater Depression - an Update
By Doug Casey
Jun 5, 2006
I recently shared some updated thoughts on the prospects for
a Greater Depression with readers of our International
Speculator newsletter. Given the increasing levels of volatility
sweeping global markets, I decided to give those thoughts a broader
airing, below, if for no other reason than to help those of you
in a position to rig for stormy weather get a sense of the gathering
Hopefully, I'll be wrong about what's coming. But the way I see
it, being aware and prepared follows the same basic logic as
personal gun ownership: better to have one and not need it, than
to need one and not have it. You get the idea.
It's been said that if you spend 15 minutes a year thinking about
the economy, you're wasting 13 minutes. That's generally true.
But as an amateur historian, I can't help myself. And I'm forced
to believe that this is a time when the subject is worth some
My view is that the longest, and certainly most important, trend
in history is the ascent of man. I have little doubt that it
will not only continue but accelerate. But that doesn't mean
there won't be nasty setbacks along the way. As I have said before,
possibly the best definition of a depression is a period when
most people's standard of living drops significantly. You can
also define it as a period when distortions in the economy and
misallocations of capital are liquidated. The distortions are
almost always the result of government intervention in the economy,
through things like taxes, regulation and currency inflation.
Those are the factors that caused the unpleasantness that began
in 1929. Since the government is exponentially more powerful
and invasive today than it was in either the 1920s or the 1970s,
I expect the consequences will be much worse this time around.
Things could have come unglued, and almost did, back in the 1970s.
I don't see how we'll dodge the bullet this time. Although that's
not really a good analogy, in that, for reasons we don't have
time to explore in depth, a depression is probably inevitable
The only serious question in my mind is whether it will be essentially
deflationary in nature, as it was the case in the U.S. in the
1930s, or inflationary like in Germany in the 1920s. My guess
is the latter because the government is so much more powerful
today. Or it could actually be both at once, in different sectors
of the economy.
Inflation could drive interest rates to 20%. This would collapse
the bond and real estate markets, wiping out trillions of dollars
of purchasing power - which is deflationary. Meanwhile, that
same inflation doubles the cost of food and fuel. In other words,
the opposite of what we've mostly had for the last generation,
when we had "good" inflation in stocks, bonds and property,
but stable or dropping prices in "cost of living" items.
This time the pattern could reverse, which would be a nightmare
for most people.
And as people become more focused on speculation in a generally
futile attempt to stay ahead of financial chaos, they inevitably
divert effort from economic production. Which will decrease the
general standard of living even more.
The situation isn't made easier by the possibility that we're
facing Peak Oil - the start of a secular decline in world oil
production. Or the fact that Americans, both individually and
collectively, are deeply in debt and living on the kindness of
strangers. The problem with debt is that it artificially increases
our standard of living. But when we pay it off, especially with
interest, it reduces our standard of living in a very real way.
Wrap this economic environment around the so-called War on Terror,
which is rapidly morphing into the War on Islam, which could
easily turn into World War III, and you're looking at the perfect
storm. The odds of a major conflagration are very high, and it's
not being adequately discounted. If Bush starts a war against
Iran, or if another incident like that of 9/11 occurs, or even
if the trend of the last five years accelerates, the U.S. is
going to be locked down like one of its numerous new federal
penitentiaries. And that will be accompanied, and compounded,
by mass hysteria among Boobus americanus.
At that point, your investment portfolio will be among your lesser
concerns. People forget that, in every country and time, there's
a standard distribution of sociopaths and misdirected losers.
In normal times, they seem like normal people. But when the time
is right, they show their colors, and they love to get jobs with
the government, where they can lord it over their betters.
Is the Greater Depression really inevitable? How bad will
it be? Is there another side to the argument? Can it be avoided?
I suppose it's not absolutely inevitable. Perhaps friendly aliens
will land on the roof of the White House and present the government
with a magic technology that can undo all the damage it's done.
But we live in a world of cause and effect where actions have
consequences. That being the case, I expect truly serious financial
and economic trouble. And the government will make it vastly
worse by trying to "do something" instead of recognizing
itself as the cause and backing off. I don't see any way out.
How bad will it be? In historical terms, the last depression
was relatively short and mild. The longest depression on record
was the Dark Ages. Residents of the old USSR and Mao's China
suffered through a depression that lasted decades. I'm not predicting
it will be that bad, if only because the U.S. has basically much
sounder traditions and institutions and vastly more accumulated
capital. But it's hard to overestimate how serious this could
be. I sometimes joke that it will likely be worse than even I
think it will be.
Getting back to whether it's truly inevitable, it's a question
of degree. The recession of the late 1970s and early 1980s involved
a terrible stock market, 15% inflation with interest rates to
match, 10% unemployment and a near war with the USSR. But the
country not only hung together, it went on to a tremendous rebound.
My guess is, however, that the last 20 years of good times will
later be viewed as an economic Indian Summer before a harsh winter.
The good news, of course, is that no matter what the economic
conditions, technology - which is the mainspring of human progress
- will keep advancing. And many individuals will continue innovating,
saving and improving conditions for themselves and their associates.
Also, it's entirely possible to go through even the worst of
times and not get hurt. Indeed to profit from them. If the price
of a house you want now but can't afford falls 75% (as outrageous
as that may sound at the moment) while your own investments in
the high-quality gold stocks we follow in our International
Speculator quadruple, you're much better off. That house
now really only costs you one-sixteenth of what it did before.
Of course it's a problem for the guy who has to sell his house
but I always prefer to look at the bright side of the equation.
There's time now to structure your affairs so that you're on
the right side of the trade.
What indicators should we watch for that might tell us
it's about to get ugly?
Well, one obvious indicator is how the price of gold is running.
Gold is the only financial asset left in the world that's either
safe or cheap. It's also under owned and largely unrecognized,
which is why the smart money has been moving into it.
Then there's the CPI itself - although I don't think it's very
accurate, in that all the adjustments, exclusions, weightings
and what-nots the government has insinuated into it over the
years makes the CPI as much of a floating abstraction as the
dollar itself. It's funny how the government plays with figures
for fear of hurting confidence. They believe the economy rests
mainly on confidence, which, ironically, in today's world, is
true. Unfortunately, confidence can blow away like a pile of
feathers in a windstorm - and we have a class-5 hurricane coming.
If the economy were sound and people for some reason lost confidence,
the currency and the banks would be unhurt, and the next day
things would go back to normal. But that's not the world we live
in. So, higher CPI numbers are another thing that could destroy
confidence and supercharge the gold price. They're coming.
Higher interest rates, which we're already seeing, will inevitably
burst the real estate bubble, which is floating on a sea of mostly
adjustable-rate debt, a lot of it interest-only or even with
negative amortization. Higher rates will also crush bonds and
probably stocks. And they'll devastate the economy since everybody
is deeply in debt. However, I feel the Fed will keep short-term
rates - which are really the only ones they control - as low
as possible for as long as possible. For one thing, they don't
want a recession, which this time could snowball into the Greater
Depression. For another, my guess is that they want to gradually
depreciate the dollar against other currencies, in part to decrease
the chronic, massive trade deficit. And because increasing the
number of dollars makes people think they're richer than they
really are, it can stimulate some additional spending but these
days that spending is mostly done on credit, so it is only illusionary.
The biggest single problem, however, is that there are trillions
of U.S. dollars outside of the U.S. Unlike Americans, foreigners
have no reason to hold them. And at some point very soon, perhaps
when the Fed finally hits the wall on its ability to raise rates,
these overseas dollars are going to start flooding back home,
while the products and titles to real wealth flow out of America.
Therefore, when the trade deficit starts turning around - which
most people will think is a good thing - that will be the real
tip-off the game is over. Trillions coming back to the U.S. will
skyrocket long-term interest rates and inflation. The dollar
will go into freefall.
But although I think these are the things to watch, to my way
of thinking it makes no sense to wait until the stampede starts
to try to get out the door. If you haven't done so already, take
advantage of the current correction in gold to begin repositioning
your portfolio for what's next.
For information on the International Speculator,
DOUG CASEY is the author of Crisis Investing which was
#1 on the New York Times Best-Seller list for 26 weeks. He is
also editor and publisher of the International Speculator, one
of the nation's most established and highly respected publications
on gold, silver and other natural resource investments.
The International Speculator