It is a deal with the devil: Governments churn out more and more cash for the promise of continued prosperity. But the day of reckoning is near, according to Doug Casey, chairman of Casey Research and an expert on crisis investing. As the epic battle between inflation and deflation continues, Casey discusses his predictions for the new world market in this exclusive interview with The Gold Report.

The Gold Report: There will be a Casey Research Summit on "Navigating the Politicized Economy" in Carlsbad, Calif., in September. The thesis behind the summit is that governments have made a Faustian bargain, a pact with the devil, that saves the empire with overspending, but drives it to the brink of collapse by creating fiat currencies. Doug, where in that story is the economy currently?

Doug Casey: It's extremely late in the day. Since World War II, and especially since 1971 when the link between the dollar and gold was broken, governments around the world have accepted the Keynesian theory of economics, which boils down to a belief that printing money can stimulate the economy and create prosperity. The result has been to create huge amounts of individual and government debt. It's become insupportable. All it has done is purchase a few extra years of artificial prosperity, and we're heading deeper into a very real depression as a result.

"We have been consuming more than we have been producing and living above our means."

Let me define the word depression. It's a period of time when most peoples' standard of living declines significantly. It can also be defined as a time when distortions and misallocations of capital—things usually caused by government intervention—are liquidated.

We have been consuming more than we have been producing and living above our means. This has been made possible by 1) borrowing against projected future revenues and 2) using the savings of other people. The whole thing is going to fall apart. A new monetary system of some type is going to have to necessarily rise from the ashes. That's a major theme in the conference that's coming up.

TGR: Will more quantitative easing (QE) give us another couple years of artificial prosperity?

DC: Most unlikely. We're at the end of the story, not the beginning. More QE—I hate to call it that because it's really just printing money. I hate euphemisms, words that are intended to make something sound better than it really is. Euphemisms, like exaggerations, are the realm of politicians and comedians. Anyway, the next round of money printing is going to result in radical and rapid retail price rises. There is no prosperity possible from this, rather the opposite.

TGR: Last time we spoke, you said that we are entering into a depression greater than in 1933. Can you describe how it might be different?

DC: What we experienced in the 1930s was a deflationary depression where billions of dollars were wiped out with a stock market collapse, bond defaults and bank failures. Inflationary money that was created since the formation of the Federal Reserve in 1913 was wiped out. Prices went down. This depression will be different because governments have much more power. They'll try to keep uneconomic operations from collapse, they'll prop them up, as we saw with Fannie Mae and General Motors. They'll create more money to keep the dead men walking. They won't allow the defaults of money market instruments. They will make efforts to maintain the dollar mark on money market funds. They'll attempt to keep building the pyramid higher. It's foolish, indeed idiotic. But that's what they'll do.

TGR: Which they've been doing by printing money. The first rounds of money printing have gone into the banking system, but the banking system has not allowed it to trickle back out into bank loans. Does that open the possibility of deflation if money is not moving out into the general economy?

DC: That's right. The government created trillions in currency to bail out the banks. The banks have taken it in to shore up their balance sheets, but they haven't lent it out because they're afraid to lend and many people are afraid to borrow. That currency is basically in Treasury securities at this point. Although money has been created, it's not circulating.

"I believe that governments have the power to create enough new currency to keep prices from going down."

At some point, it's going to move out. One consequence of this is that interest rates have been artificially suppressed so that retail inflation is running much higher than interest rates are compensating for it. At some point, rather than sitting on hundreds of billions of dollars that are going to be inflated from under them, the banks are going to do something with that money. It will go out into the economy. Retail prices will start rising.

TGR: Do we need to see another round of money printing to put us over the brink into a collapse? Or will it happen even if they don't print more, because it's currently sitting in the banks?

DC: They actually don't have to create more money. It's just a question of whether the banks start lending it and people start borrowing it. Another possibility is that the foreigners holding about $7 trillion outside the U.S. get panicked and start dumping them. I don't see any way around much higher levels of inflation unless, of course, we have a catastrophic deflation, which we almost had with the real estate collapse.

TGR: How much will Europe play into this? It seems its governments are, at least according to the popular press, more exposed to bankruptcy than the U.S. government.

DC: Europe is a full cycle ahead of the U.S. Its governments and its banks are both bankrupt. It's a couple of drunks standing on the street corner holding each other up at this point. Europe is in much worse shape than the U.S. It's highly regulated, highly taxed and much more socially unstable.

Europe is going to be the epicenter of the coming storm. Japan is waiting in the wings, as is China. This is going to be a worldwide phenomenon. Of course, the U.S. will be in it, too. We're going to see this all over the world.

TGR: If Europe finally does go over the brink, where it's been headed for more than a year, would that also cause inflation in the U.S. or would you expect to get catastrophic deflation?

DC: This is an argument that's been going on for at least 40 years. How is this all going to end: catastrophic deflation or runaway inflation? The issue is still in doubt, although I definitely lean toward the inflationary scenario. But will it start in Europe? How will it start? These things only become obvious after they happen.

TGR: When you say "lean," are you pretty convinced it's going to be inflationary?

DC: I think it's going to be inflationary; in the 1930s, it was a deflationary collapse. Governments are vastly more powerful and much more involved in the economy now than they were then. I believe that they have the power to create enough new currency to keep prices from going down. Somehow, moronically, they've conflated higher prices with prosperity.

"Investors need to look for real, productive wealth and consistent growth."

If we had a completely free market economy, prices would constantly be dropping. That's a good thing, because as prices constantly drop, it means money becomes more valuable. That induces people to save money. When people save, it means that they are producing more than they are consuming—that's a good thing. The way governments have it structured today, however, prices are always going up. That discourages people from saving because their money is constantly worth less, which encourages them to borrow. Inflation induces people to try to consume more than they produce, which is unsustainable over the long run.

TGR: You are saying that if the current value of your money is higher than the future value, that encourages borrowing.

DC: Exactly. I don't see any possible happy ending to this. We're approaching the hour of reckoning.

TGR: You have said that the titanic forces of inflation and deflation are fighting an epic battle that leads to extreme market volatility. But I am looking out there this summer and thinking it's pretty calm. It seems like a very slow recovery. Gold is settling around $1,600/ounce. The S&P 500 index is testing the 1,400 mark. Is this just a pause in the epic battle?

DC: Nothing goes straight up or straight down. I just took a cross-country car trip from Florida, up the East Coast to New York, and then out to Colorado. It was actually rather shocking that many times I had trouble getting a motel room—even in the middle of nowhere. The restaurants were full. The highways were full of cars. It looked more like a boom than a depression. At the same time, our real unemployment, figured the way they used to figure it in the early 1980s, is about 16–20%. People are living off their credit cards. I believe it's the same in Europe.

TGR: It seems as if we haven't had much market volatility other than the technical glitch at Knight Capital this month. Do you expect market volatility to come back into play?

DC: On the one hand, some people are going to go into the stock market when inflation reasserts itself because at least it represents real value. They can invest in companies that actually produce things and have real assets. On the other hand, the stock market itself by any historic parameter is overvalued right now in terms of dividend yields, price-to-book value and price-to-earnings ratio.

I have no interest in being in the broad stock market. I feel very confident that the bond market, especially, is going to be very volatile. That's the one place where it seems that there's a real bubble, and it's one of the biggest bubbles in history. It's the worst possible place for capital right now. It's a triple threat—higher interest rates, default risk, and currency risk.

Even reading the popular press, you can see investors in a desperate reach for yield. They're only getting a fraction of a percent in their bank accounts. So, to get some income, they are buying all kinds of bonds, even those of low quality, just to get 2, 3, 4 or 5% in yield. The bond market is trading at insane levels as a result of the government having driven interest rates down close to zero in a vain effort to stimulate the economy.

The bond market is much bigger than the stock market. When interest rates start heading up, trillions in bond values will be wiped out, in addition to causing a lot of corporate bankruptcies—that's why deflation isn't completely out of the question. In addition, higher rates could really further devastate the real estate market, which has been making a mild recovery. And, of course, higher interest rates are the enemy of high stock prices.

TGR: One of the keynote speakers at the upcoming summit is Thomas Barnett, author of "The Pentagon's New Map: War and Peace in the Twenty-First Century." He's going to be talking about geopolitics today and tomorrow. From your viewpoint, in today's age of nationalism and conflicts among nations, is it important for investors to know about geopolitics in order to pick junior mining stocks?

DC: Most certainly. Very few investors are putting any money into the junior mining stocks right now, which tells me that it's a good time to start looking at them. However, investors need to have a grip on geopolitics in order to intelligently assess which companies to buy. There are 200 nation states in the world and they all have different policies. Investors have to avoid putting money into a location where a company will never be able to develop a mine even if it's lucky enough to find an economic deposit.

TGR: You developed the concept of the "8 Ps" for stock evaluation. Typically, you say that the people are the No. 1 thing that you look at. Is politics starting to move up in importance as a determining factor?

DC: People are still the most important because good people who are running a company will choose an intelligent jurisdiction to develop. It's also a question of whether the world at large is becoming more stable or less stable. I think it's becoming less stable, because all the governments in the Western world are really bankrupt and are, therefore, going to be looking for more tax revenue. Mining companies are going to be in its sights because mining companies can't move their assets; they are the easiest thing in the world to tax. The good news is that makes mining stocks very volatile, and sometimes extremely cheap. Volatility can be your best friend.

But economically, as things get tougher in the Western world, that will hurt the developing world, too, because it depends on marketing its raw materials. If the Western world is using fewer raw materials, it's going to put pressure on those developing countries.

TGR: Doug, you're talking a lot about geopolitical unrest. The world is becoming less stable. In 2010, I heard a lot of discussion about gold going into a mania stage, specifically for many of the reasons we're talking about now. As we approach 2013, will we run into that discussion of gold mania again?

DC: It's not likely to happen until we reach much higher levels of inflation and we have something approaching financial chaos—but that's exactly where we're headed, and soon. The mania is likely to be fear-driven much more than greed-driven. Gold is still in the climbing-the-wall-of-worry stage. Mania is still in the future. It's going to happen. I feel confident of that. There's going to be a rush to gold.

TGR: One of the people you like to quote quite often is Richard Russell. There's a specific quote I've heard you say a couple of times: "In a depression, everybody loses. The winner is the guy who loses the least." In order to be that guy who loses the least, is it a viable strategy to stay out of the markets?

DC: It's almost impossible to stay out of the markets because almost everybody has a pension program, an investment retirement account or something of that nature. You have to put the assets of that pension into something—the stock market, the bond market or cash. Most people own real estate or their home. If the real estate market gets hurt, you get hurt there. If you have wealth, what are you going to do with it? It's not a good option to put $100 bills under your bed. Even then, you're in the market for currency. That's one of the biggest problems with inflation: It forces people to direct their attention to gambling in the markets, as opposed to productive business.

There has been way too much concentration on the financial markets over the last 50 years. This is shown by the fact that roughly 22% of the U.S. economy is in financial services, which is basically just moving money around. The financial services business doesn't weave, spin or sew; it doesn't produce anything. In a sound economy, the financial services sector would be tiny, just big enough to facilitate transactions. It wouldn't be the mammoth that it is today. It seems as if everybody is in the business of moving money around, but the money they're moving around is just paper currency. It's quite non-productive.

TGR: They are producing new financial instruments. In a way, financial services companies are coming up with alternative methods to build wealth.

DC: I question that. Financial services don't actually build wealth. Real wealth is created by the production of new technologies, food, metal or products. Financial services serve a purpose, of course, but it isn't a real wealth creator. Today the sector is more of a moving-paper fantasy.

Even what I do, which is advising people on where to allocate their wealth, has always made me feel a little bit sheepish because I'm not actually building a bridge or creating a new engine or technology. I'm just telling people how to move things around. If the economy were sound, 90% of the people in my line of work would be doing something else. A speculator, basically, is someone who capitalizes on politically caused distortions in the market. If we had a sound economy, the government wouldn't be causing these distortions—and it would be much harder to be a speculator.

Anyway, the whole financial sector is bloated. By the time the bottom hits, the last thing that people are going to want to hear about is the stock market, the bond market or where to put their money. They're not going to want to read financial newsletters because they're going to be so sick at the very thought of those things. People won't ask how the markets are doing; they won't even care if they exist. They're going to get back to the basics. That is the foundation for the next boom. But that time is a good many years in the future.

TGR: But you are still in the business of helping investors move around assets. What would you say to investors now on how they can protect or grow their wealth through the next phase of volatility?

DC: First, it's very hard to be an investor in a highly politicized environment. Investors need to look for real, productive wealth and consistent growth. Speculators, on the other hand, try to capitalize on the chaos that is caused by the myriad of destructive government regulations, taxes, and, of course, currency inflation. That's why I look at all markets, in all countries. But right now there are very few bargains. At some point, for instance, real estate is going to be of interest again. Not right now because governments everywhere are going to raise taxes on it.

TGR: Would you put things like technology, pharmaceuticals and healthcare in the category of real wealth?

DC: Very definitely. That's why we have a technology letter. I've always been kind of a boy scientist; technology interests me from an intellectual, as well as a financial, point of view. Technology is the real mainspring of human progress. No question about that.

The problem with the medical industry is that it's being nationalized. It's very hard to do anything with the U.S. Food and Drug Administration (FDA) as it is. It costs $1 billion to develop a new drug today. Developing medical devices can be almost as expensive. Even if something is approved by the FDA, if something goes wrong, count on being sued by the plaintiff bar. It's a very high-risk business, which is a pity. Living longer and better physically is one of the most important things there is; medical businesses should be encouraged, not pilloried. I've always said that the FDA kills more people every year than the Defense Department does in the typical decade. But Boobus americanus still thinks it's protecting him… (Editor's note: Read more about investing in The Life Sciences Report.)

TGR: Are there other areas for real or productive wealth?

DC: I read science magazines all the time. There are more scientists and engineers alive today than in all the history of the world put together. Hopefully, with the continued blossoming of India and China—where students are generally going into science and engineering as opposed to things like gender studies, political science and English literature, which students idiotically are doing in the West—there will be even more scientists and engineers 20 years from now.

What areas are they going into? Nanotechnology, microbiology, robotics—these things will blossom the way computers have over the last few decades. The problem when it comes to investing in them is that they're increasingly highly specialized. Investors need at least a sound layman's knowledge in order to know if they're barking up the right tree or not, and that's hard. There's just not enough time in the day to gain enough expertise for this type of thing. Of course, that's the value of magazines and newsletters. The editors condense information for readers to give them an intelligent layman's opinion.

TGR: Now we're back to the importance of people. You do have to have some sense of the person who is doing that analysis for you. It needs to be someone who's credible.

DC: Absolutely. That's the advantage of having a newsletter over a magazine. In a magazine, you don't always know what's going into the sausage that that writer of an article is making. When you're dealing with a newsletter, you can get to know the editor, what he's thinking, how expert he really is and what is his psychology. You can learn if you can trust his opinion. Although I read both magazines and newsletters, newsletters are much more valuable.

TGR: To bring this full circle, I would imagine attending conferences where you meet these newsletter writers or analysts face to face is also beneficial.

DC: Yes, it gives you a smorgasbord of views. It's helpful in assessing the validity of the views to be able to assess the personality of the writer and have a better understanding of whether his views are actually credible. And it's a great opportunity to ask questions.

TGR: Doug, you've given us quite a bit of your time. I greatly appreciate it.

Read Doug Casey's thoughts on the energy sector in The Energy Report exclusive, "Doug Casey Uncovers the Real Price of Peak Oil."

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Doug Casey, chairman of Casey Research LLC, is the international investor personified. He's spent substantial time in more than 175 different countries so far in his lifetime, residing in 12 of them. And Casey literally wrote the book on crisis investing. In fact, he's done it twice. After "The International Man: The Complete Guidebook to the World's Last Frontiers" in 1976, he came out with "Crisis Investing: Opportunities and Profits in the Coming Great Depression" in 1979. His sequel to this groundbreaking book, which anticipated the collapse of the savings-and-loan industry and rewarded readers who followed his recommendations with spectacular returns, came in 1993, with "Crisis Investing for the Rest of the Nineties." In between, Casey's "Strategic Investing: How to Profit from the Coming Inflationary Depression" broke records for the largest advance ever paid for a financial book.

Casey has appeared on NBC News, CNN and National Public Radio. He's been a guest of David Letterman, Larry King, Merv Griffin, Charlie Rose, Phil Donahue, Regis Philbin and Maury Povich. He's been featured in periodicals such as Time, Forbes, People, US, Barron's and the Washington Post—not to mention countless articles he's written for his own websites, publications and subscribers. Casey Research currently produces 11 publications on a variety of investment sectors and maintains two websites.

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DISCLOSURE:

From time to time, Streetwise Reports LLC and its directors, officers, employees or members of their families, as well as persons interviewed for articles on the site, may have a long or short position in securities mentioned and may make purchases and/or sales of those securities in the open market or otherwise. Interviews are edited for clarity. Doug Casey was not paid by Streetwise Reports for participating in this interview.