 The Building Storm:
Gold, the Dollar and Inflation
David Galland
Managing Editor
The
Casey Report
Casey Research
Aug 22, 2008
One could hardly fail to notice
that gold investors have suffered a little more than a "bit
of pain" over the past month. More like a good kicking as
gold moved down by about 20% from its recent high of $986 on
July 15.
Making assumptions is often
a bad idea, but I am going to go out on a limb here and make
the assumption that those of you with an interest in gold are
concerned over the latest setback, the depth of which has surprised
even us.
Don't be.
The evidence to support that
statement would fill a telephone book at this point. Starting
with the latest U.S. inflation numbers which, even using the
government's own crooked calculations, rang in the last reporting
period at 5.6%. Quoting John Williams of ShadowStats.com from
a recent email I received from that organization...
"Reported consumer
inflation continued to surge on both a monthly and annual basis,
once again topping consensus expectations. The July CPI-U jumped
to a 17-year high of 5.6% in July, while annual inflation for
the narrower CPI-W - targeted at the wage-earners category where
gasoline takes a bigger proportionate bite out of spending -
annual inflation jumped to 6.2%. The CPI-W is used for making
the annual cost of living adjustments to Social Security payments.
The 2009 adjustment - based on the July to September 2008 period
- remains a good bet to top 5%, more than double last year's
2.3% adjustment for 2008. Such is not good news for federal budget
deficit projections."
Based on Williams' calculations,
which use the same CPI formula used by the Fed prior to the jiggering
of the Clinton years, the actual inflation rate is now running
at 13.64%.
And on August 19, we learned
that the U.S. Producer Price Index rang in at a month-over-month
increase of 1.2%, the third month in a row where that leading
indicator has topped the 1% mark. Meanwhile, in Europe, the latest
numbers put inflation at a 16 year high. And these are not anomalies,
but the norm as the inflation tide continues to rise literally
around the world.
Dark Clouds
A good analogy to the global
currency devaluation is a slow-moving hurricane that, once over
warm water, gains energy.
Right now the global inflation
is a huge storm, slowly circling off the proverbial coast where
it is gathering strength from the hundreds of billions of dollars
being fed into it by governments desperate to avoid economic
collapse... and from pricing decisions being made by everyone
from manufacturers to local shopkeepers looking to cover rising
costs.
At this point the skies are
dark, the wind is rising, and the torrential rains are beginning
to sweep in. The radio is broadcasting warnings to move to higher
ground, but the hurricane has yet to hit the shore.
But when it does, it will be
a Category 5 and maybe worse.
That's because, in addition
to the straight-up consequences of the government monetary prolificacy
and businesses raising prices to try and stay afloat, there is
something else feeding power to the storm... something we have
been warning about for years now: the rising odds that the global
fiat currency system will fail.
Let me add some nuance to that
remark.
In recent years, the global
financial community, reflexively looking for an alternative to
the obviously damaged U.S. dollar, has settled on the euro. But
the euro is equally flawed, and maybe even more so, than the
U.S. dollar. Now that the trading herd has also come to that
conclusion, they are rushing back toward the dollar.
They are doing so not because
the U.S. dollar is healthy, but rather because that is all that
they know... a heads-or-tails continuum running something along
the lines of "If the 'it's-not-the-dollar' play is over,
then it must be time to go back into the dollar."
The euro sinks, the dollar
goes up.
And so gold, viewed by these
same traders only in terms of its inverse relationship to the
dollar, gets hammered.
What they are missing, but
not for much longer, is that rushing back into the dollar is
akin to heading for the vulnerable coast, and not to the higher
ground now proscribed. They are also missing the point that gold's
monetary value is not limited to protecting only against
a failure in the U.S. dollar, but against any faltering fiat
currency... a moniker that the euro deserves in spades. Not only
is it backed by nothing, but it is also backed by no one.
I hope that the above point
is clear, because it is an important one. One way to think about
it is to think about Zimbabwe. If you lived in that blighted
country and a year ago you could have had an ounce of gold or
a wallet full of that country's failing currency, which would
have been the better bet?
The answer, while obvious,
is illustrative, because the wealth preservation role
that the ounce of gold would have played for a citizen of Mugabe's
paradise had zero connection with how well gold did, or didn't
do, against the U.S. dollar over the period.
A Return to Sound Money
Gold is viewed as tangible
money right around the world, and has been for millennia. When
the trading herd wakes up to the fact that neither the U.S. dollar
nor the euro, nor any other fiat currency, will protect them
against the monetary storm that will soon begin tearing the roofs
off their cozy offices, they'll fall all over themselves in the
rush for something that will: gold and other tangibles.
Those of you who have been
Casey Research subscribers for some time know that the scenario
just described is one that we have forecasted for some time.
If you think the thing through, precedent to the global monetary
crisis, the euro first had to stumble. Well, it now has. The
next stage - and given the volatility of the situation, I don't
think we'll have to wait long for it - will be the realization
that there is no safe fiat currency. It is at that point that
the massive hurricane, a crisis of confidence in the entire fiat
system, will begin ravaging the global economy in earnest.
The price action of gold and,
especially, gold-related investments over the last year, have
been frustrating, to say the least. But the scenario now unfolding
remains step-by-step in sync with our base case. As such, the
best way to view this latest correction in the price of gold
is as a temporary setback of no real consequence from an investment
perspective (unless you use it as a buying opportunity).
The failure of the euro, on
the other hand, is not just important... it is as monumental
as it was inevitable.
-David Galland
David Galland is Managing Editor of The
Casey Report, the flagship publication of Casey Research.
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