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The U.S. economy can, at best, be
described as in an “L”-shaped recovery. It is anemic,
faced with unyieldingly high unemployment and overburdened with debt, but
worst of all, the average consumer that has little to no confidence in the
economy or housing for the next couple of years.
The Fed Chairman, Mr. Ben S. Bernanke tells us the future of the
U.S. economy is “unusually uncertain”, sapping confidence
further. In such a climate a slight push to the negative will see
the economy slip back into a recession. Like,
‘depression’, ‘recession’ has become an unacceptable
word, because its use would drain confidence even more heavily.
The housing market is already tipping into another negative slide with new
house sales falling and mortgage rates at record lows. What can
be done? We, like most other qualified commentators, free of
political bias, see more quantitative easing as being unavoidable within three
months, if the bad news continues. But this time, we have to
ask, can it be managed without frightening side effects?
The
U.S. Debt Crisis
 Forty-eight
U.S. states will be in deficit this year and the combined shortfall will
probably exceed $300 billion. That puts Greece's expected 2010 budget
shortfall of around $28 billion and the Eurozone crisis into
perspective. Greece's shortfall is put at around 13.6% of G.D.P.,
whereas there are a good number of U.S. states anticipating deficits of more
than 20% this year, including some, like California [that has already
declared an emergency], New York, Florida and Illinois, with far bigger
economies than Spain, Greece and Portugal lumped together. There
are around a dozen U.S. states with bigger economies than Greece and most of
these anticipate 2010 deficits at this kind of level! The result
is going to have to be massive Federal Government bailouts in the midst of
quantitative easing.
Deflation
attacked by Inflation
The
net effect is the threat of default and massive deflation.
The word ‘depression’ will be heard if there is no, almost
unlimited, quantitative easing. While such measures may stave off
the worst economically, the impact on confidence will be remarkable, but not
in a good way. We believe that the Fed and government will accept
that inflation is the lesser of two evils and overall, will lessen the threat
of deflation, recession and bad debts. When all else fails, and a
crisis demands extreme measures, extreme measures and consequences will
come. Look back at the early eighties after inflation had run
towards 25%, Volker emasculated it with interest rates of 25% leading to the
next 20+ years of boom times. Can’t this be done
again? [The author was working for Chase Manhatten at the time
and pointed out that interest rates and inflation in terms of Technical
forecasts pointed to this level a year before it happened. Senior
management ridiculed the prospect at that time.]
 Certainly,
it will result in the devaluation of the U.S. Dollar both internally and
externally. But the rescue of the U.S. economy will be the top
priority of the Fed and the government, irrespective of external
consequences.
Consequences
Inside
the U.S. the current thriftiness of the consumer will turn to spending as he
realizes that his savings are also being devalued, as is his
debt. This will speed the velocity of money again as well as
stimulate retail sales, inventory building, investment in capital goods and
growth. Wonderful! Just what is wanted!
Should inflation run amok, they always have the Volker solution.
Such consequences will be seen as more than justifying the debilitation of
the Dollar.
International
Consequences
Outside
the U.S. the scene will be different. Externally the Dollar will
be devalued too.
Trade-dependent
satellite nations will have to follow suit to keep exports at constant
levels. Competitive devaluations of these currencies will become
rampant. Even the Swiss Franc will devalue to keep in line with
the Dollar [to keep international trade competitiveness], just as it did a
couple of years ago, when it lowered interest rates for that reason.
Europe
will be very unhappy to see the Euro hold value while the Dollar devalues and
will attempt to follow suit. We do not believe any other
currencies will be safe havens from U.S. Dollar devaluation.
Indeed, we would not be surprised to see international cooperation to make
currency devaluations act in synch.
But that’s not the worst of it. Foreign
surplus holders who form the backbone of U.S. Treasury Bills and Bond holders
will be very unhappy with such devaluation after being castigated by the U.S.
for holding their currencies down.
 The Chinese have, in the past, sought reassurances that their
holdings were safe from such devaluations. What recourse do they
have? Very little, but they may simply not invest or acquire new
Dollar holdings, thereafter. If that or part of that happens the
Treasury markets will suffer badly. These nations will prefer to
price their exports in other currencies. No matter what happens
to exchange rates, the lowering of the demand for the Dollar from these
sources will hit the U.S. very hard. After that rising interest
rates alongside runaway inflation will be forced onto the U.S.
public.
The real danger
But this is not where the real danger lies. It lies
with the potential for runaway inflation and interest rates. The
careful balancing act needed to manage such an environment may be too much
for the Fed with its limited tools. If it acts too early to slow
inflation, deflation resurges. If they act too late, inflation
will be rocketing, so subsequent cooling of inflation will once again have a
devastating effect on the economy, bringing much heavier deflation and an
environment of mortally wounded confidence, back again. Letting
these forces loose will catch the tiger by the tail and they may not be able
to let go.
The consequences for gold in and outside the States
Subscribers only
Julian
D. W. Phillips
Gold/Silver
Forecaster – Global Watch
GoldForecaster.com
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wealth effectively structured to avoid the pernicious effects of the
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to do so professionally and within the law. Please contact us for any help
regarding this at: gold-authenticmoney@iafrica.com.
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