SEMI-MONTHLY FISCAL MONETARY UPDATE –

CASH IN/CASH OUT – KINDERGARTEN ECONOMICS

INTRODUCTION:

Our continuing coverage of macro-economic trends and the related performance of precious metal related investments, is based on a  conviction that a strong economy must be supported by a credible currency. If workers don’t have confidence in the exchange value (represented by the currency paid to them) they will expend less effort toward that end. Gold bullion has protected consumer purchasing power for literally thousands of years. In the history of the planet, there has been no “fiat” currency (unbacked) that has not been destroyed over time by politicians too eager to please their voters. Since 1913, when our Federal Reserve Bank was created to control inflation, a dollar has become worth less than three cents. Today’s politicians, all over the world, obviously show no “political will” to do otherwise. While we continue to invest in consumer related situations, a major portion of the investment partnership we manage is invested in gold related securities. We believe that the modestly higher price of gold, and the mining stocks, in 2016 and 2017 represents just the beginning of a new leg in the long term upward trend that started in 2000. We further believe that gold is as cheap today, relative to other currencies outstanding, as it was in 1971, at $35.00 per ounce before it ran to $850 per ounce in 1979. We provide to our subscribers, as a gift, the classic book, written by Harry Browne in 1970, which concisely and accurately rationalized and predicted the enormous rise int he price of gold. While we don’t expect to see gold more than 20x higher anytime soon, as in the 1970s, we believe the price of gold could be many times its current price sometime during the next 3-5 years. We suggest that readers interested in this subject read our previous updates on this website.. 

SEMI-MONTHLY FISCAL/MONETARY UPDATE -KINDERGARTEN ECONOMICS

The general stock market was up modestly in September, since there was no perceived day to day need for gold, as the presumed “safe haven” investment. Gold bullion was down 3.4% and the gold mining stocks were down about 7.0%, though both are still up modestly for the year. Posssibly the largest perceived negative for gold was the Fed’s inclination to begin selling off their $4 trillion bond portfolio which would also be a form of tightening. As we have previously discussed, we don’t think either effort can go very far before the already sluggish economy rolls over and the politicians scream “enough, do something”. As discussed below, the current deficit in Y/E 9/30/18 will rise sharply once again. Nor will a reduction in the cumulative deficit or the Fed balance sheet bring a graceful end to the monetary folly of the last ten years. Gold, as the best long term currency, will play its historical role.

Increasing governmental annual operating deficits & cumulative debt, as well as a slow economy accompanied by ongoing very low interest rates, are supportive of an increasing price of gold. This is not necessarily true over a month or two, or even a number of years but over a longer period of time it is predictable. Since 2000, when all of the above trends became well established, the price of gold has gone from $300/oz. to over $1300/oz., outperforming almost every other asset class.

The economy continues to be sluggish, even though a phalanx of optimistic economists predict that GDP growth is just about to improve. We doubt it, and the revisions for the current September quarter are coming through lower rather than higher. GDP growth in the fiscal year ending 9/30/17 will no doubt be much closer to 2% than 3%. This has been the case for almost a decade, it continues to be the case, and we believe will be reality in the foreseeable future, with an economy burdened by an oppressive debt load.  The recent Fed announcement of the initial steps to unwind the $4 trillion balance sheet (which backstopped the financial crisis ten years ago, but has not jump started the economy) amounts to a form of tightening, and is modest in any case. If the Fed sticks to the program outlined, it will only reduce the Fed balance sheet by about 10% by the end of calendar ’18.

Meanwhile, the cumulative U.S. debt is now comfortably over $20 trillion, with the 9/30/17 yearly deficit about to exceed by a still undetermined amount over $700 billion. There is no question that the deficit in Y/E 9/30/18 will be higher, at least close to $1 trillion, possibly materially higher, especially with higher defense spending, health insurance subsidies, and the start of infrastructure spending. (Can’t forget “The Wall”) There have unfortunately been a large number of “shovel ready” projects created by the recent storms, likely to cost over $100B.

Some observers suggest that higher GDP growth, propelled by lower tax rates, will quickly solve the debt problem. The U.S. federal budget for Y/E 9/30/18, still in the formative stage, will no doubt involve a higher short term deficit, but would hopefully ignite the growth, reduce or eliminate the annual deficits, even pay down the cumulative debt. This “dynamic scoring” is a complex subject, but Steve Mnuchin, Treasury Secretary, recently provided guidance. He said that 3% growth, up from the current 2%, would generate $2 trillion of extra federal tax revenues over 10 years. Unfortunately, that is only an average of $200B annually, only a modest down payment on the apparent current $1T run rate. Conclusion: The debt and deficit Beat Goes On, which in turn burdens the economy’s opportunity for a higher growth rate.

As a sign of the ongoing absurdity, and danger, taking place in the monetary world: a Wall Street Journal article last week talked about China based Alibaba Group Holding, Ltd having created the world’s largest money market fund, now at $218B, up from $124B only six months earlier. The rapid growth is no doubt a function of the very attractive seven day yield of 4.02%, up from 2.3% a year earlier. The disconnect is that one-year Chinese bank deposits only yield 1.5% and even 10 year Chinese bonds earn only 3.6%. The extraordinary 4.02% yield has been generated by investing in “financial instruments with longer maturities”, no doubt of lesser quality and less liquid than a “money market” model would suggest.  It was a big deal ten years ago when a US money market fund couldn’t redeem deposits at $1.00 per share, which has always been the model. In China today, and around the world, investors continue to “reach for yield”, which inevitably ends badly.

Roger Lipton