Is it always a good time to own gold?
Absolutely not. A portfolio in the S&P 500 or Treasuries in 1973 has returned a much higher rate than gold bought that year — even if gold raced ahead up ’til 1980, and is racing ahead again now. We know that throughout history gold has sustained its purchasing power, and fiat currency has lost its purchasing power. But we also know that stocks have grown their purchasing power.
But gold continues to rise — so what makes gold different right now? Well, from a technical perspective, America and the West are in a secular bear market:
In my view, it is a combination of things.
We are at a unique moment in history:
- Bailout economy; ever since the failure of Long Term Capital Management (a hedge fund) in 1998, governments in the West have felt increasingly happy to declare parts of the economy infrastructural and bail them out if they fall into trouble. Simply, that just isn’t capitalism, and it means that zombie banks that have failed can blunder and bumble on parasitising the taxpayer while giving back zero growth, and zero new jobs. Zombies fill holes in the economy that would otherwise be filled by new smaller higher-growth companies and industries that tend to create more employment.
- Industrial Revolutions and the Information Age; more technology means more automation, which means more cost-saving layoffs, which means less jobs, which means less consumption, which means less demand. The information revolution has created the circumstances for soaring corporate profits, and stagnant real incomes and employment. Stagnating labour forces lose skills, strength and productivity, sapping the national productive capacity. This was a situation predicted by Marx and Engels following earlier industrial revolutions. What staved off communist revolution? All of that wealth eventually trickled down through the economic food chain.
- Globalisation; a global economy means job migration to the centres of high population that can offer the lowest wages. This means less employment in the West, creating similar problems to those of industrial revolutions. Eventually, capital also migrates to the productive centres — which is why both China and Arabia have built up humungous dollar hoards, why China has such a high national savings rate, and why America has such a low one.
- Higher Global Population; more people means more demand for goods and services and resources, which means higher prices, which generally means less disposable income for individuals and households, less saving, and less investment.
We have been through many similar social, technological, agricultural, organisational and financial transformations before, and have usually come out of them quite well. Global wars, famines, droughts, etc, have been shrugged off by new eras of growth, confounding the cynics. But this time the system is not only poorly prepared. It is extremely entrenched, and a lot of powerful people have a lot to lose from sweeping change. Why?
- Western Political Turmoil ; the Eurozone is a failed and incoherent monetary union. America’s Congress struggles to agree on a budget. Governments’ attempts to interfere in markets and picks winners are often costly and ineffective.
- The Free Lunch Mentality; America took advantage of the hard work, productivity and resources of the rest of the world through possessing the global reserve currency that it could freely print and distribute in return for goods, services, resources, etc. Subsequently it became the world’s consumer, enjoying huge quantities of foreign oil and goods in exchange for nothing but paper and treasuries. Its factories, domestic supply chains and industrial labour force became surplus to requirements, and subsequently deteriorated.
Worse, there are specific structural problems with the Western and international financial systems that are effectively constraining any future prospects of new organic growth:
- Deleveraging Trap; the West continued consuming and consuming through massive debt acquisition. Western consumers remortgaged their homes to buy cars and boats and televisions that they often neither needed nor could afford once the house-price bubble burst. After the bubble burst, private spending has been depressed by deleveraging — something Japanese individuals and business have been doing for the past 20 years — while governments have misguidedly attempted austerity measures. This has depressed growth.
- Counterparty risk; institutions created a multi-quadrillion dollar huge web of bets and counter bets so sprawling and complex that a single bank or institutional failure like Lehman can lead to a tidal wave of defaults so massive as to suck the entire system into a black hole.
I believe that in order to restore growth, what the system needs, and what it is driving toward is restructuring. This can either be accomplished intentionally through explicit haircuts or defaults, through high inflation, through a slow painful private deleveraging process or through strong organic growth.
I don’t know how debt reduction will take place. It could be three months or years away, or it could be another grinding, unemployed and depressed ten years, full of false dawns. Certainly that is what has happened to Japan since its stock market and real estate bubbles burst twenty years ago. Maybe the West will perform better than Japan in the deleveraging trap — maybe new technological innovations like cheap decentralised solar energy will provide the necessary organic growth to overcome the debt problem. Or maybe not.
Until the private debt load is significantly reduced, it will act as a huge weight tying down economic growth, tying down employment, and structurally weakening both the financial system and society. High debt loads require low interest rates to sustain — which with a little inflation means negative real interest rates. Gold has traditionally done very well in low real rate environments.
Once the deleveraging trap has been left behind, it will be the time to ditch gold and plough all of that purchasing power into productive assets: industrial stocks, real estate, farm land, inventory, and labour force.
And gold will once again settle into significantly under-performing stocks.