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, California in September. Investors from around the world look to these summits as future road maps for investing pitfalls and opportunities.
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 has 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 people's 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 US 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 US government.
DC: Europe is a full cycle ahead of the US. 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 US. 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 US 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 US 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: As well as Thomas Barnett, there are some very impressive speakers at the Summit, Doug – 28 speakers at the event. Who should be there for this event?
DC: As we get closer to the day of reckoning, it becomes critical that those who have something to lose – meaning investors, savers, and homeowners – are aware of what's happening and also what they can do about it. We're heading into unchartered territory. I think this is so important that we are also recording the Summit and making it available for download as soon as possible after the summit.
TGR: You developed the concept of the "8 Ps" for stock evaluation. Typically, you say that the people are the number-one 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 practically 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 US 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 nonproductive.
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: We need to learn how to survive and profit in a market bogged down by crippling government regulations, billion-dollar bailouts, excessive money printing, and cronyism; that's what the Summit is all about.
But to be frank, 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 health care 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 US 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 speeches summits and 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.
Even if you can't attend the Navigating the Politicized Economy Summit, you can still benefit from the information the 28 experts have to impart in the Audio Collection. Right now you can save $100 when you pre-order the 20+ hours of audio.
"The problem with the medical industry is that it’s being nationalized. It’s very hard to do anything with the US Food and Drug Administration (FDA) as it is. It costs $1 billion to develop a new drug today"
This is way off base. If you look at who has the highest health care costs in the developed world, you see that #1 is the only country without Single Payer Healthcare. It literally costs $2 to get the same treatment here that you can get for $1 anywhere that Health Care costs are controlled at the national level. If you are recommending that we remove all restrictions on Monopoly power for the drug and pharmaceutical industries so that maybe by the time we hit $4 to get the same treatment here that you can get for $1 anywhere else we will have a better situation, then I think it is time to check your meds.
I would add that there is an important political component to the Weimar-like processes (the Fed buying most of the Treasury notes) going on with the US dollar. That is, the complete underwriting of the US Federal deficit, through the printing of trillions of US dollars, is being done essentially to prop up the US dollar, to maintain it as the global reserve currency, and to prevent interest rates from rising, which would destroy the bond market and ruin the banks that have assisted in this process. This is the part that has truly been hidden from public view, the creation of trillion$$ of interest-rate swaps (supported by LIBOR-fraud), which create the false demand for Treasuries -- trillion$$ of interest-rate swaps that are held by the Big Banks (e.g., Morgan Stanley, JPM, GS).
And yes, the governments are much more powerful these days than during the 1930s. Back then, the US did not have the Fascist Business Model in place, with the Treasury dept and Fed assisting/suppporting high-level criminal activities in the banking sector. And the US had an intact industrial base that could be reactivated to generate real jobs, not just government-created phony jobs based upon QE/hyperinflationary policies that debase the US currency, which is no longer backed by a promise to pay in silver.
I would also argue that the US is at the very least, equally as bad off as the European nations. Don't believe our own propaganda that *they* are the ones with the worst problems. In fact, don't believe *any* US government economic statistics. Think current unemployment = 18%, current/ongoing inflation = 7-9%, current/ongoing economic expansion = -3%. Think wages frozen for decades, think vanished middle class, think empty Fort Knox because of "legal" leasing/sale of US gold reserves.
Looking for a good investment? Find a place where you can grow a garden.
You have something there with a garden. Of course, if OB is re-elected, look at his "sustainable" land bill. If you live outside of the urban area, your land may be taken and you may be moved to the city. EPA is very strong.
Um, before you talk to much about the Weimar republic, you should know that it was not the hyper-inflation of the 20s caused by fixed debt in a foriegn currency (war repayments), but rather the following period of *deflation* that really destroyed german lives and livelihoods. Economists put into place by the rich carefully avoid mentioning the German Deflation because it doesn't forward their "free trade at all costs (and we do mean all)" agenda.
Regarding inflation. There are 4 types of inflation you should be aware of (or if you prefer, 4 different related processes related to monetary inflation):
1) Expansion of the money supply - This is a blanket term that could refer to increase in the monetary multiplier or to increase in base currency levels.
2) Price inflation - This has to do with the price of milk, gas, and rent.
3) Asset inflation - This has to do with the price of houses and stocks and can be seen in the ratio of Sale/Rent prices, P/E's, or the interest rate on bonds.
4) Production inflation - You have twice as many dollars, but you have twice as much stuff, so you have the same number of dollars per consumer item as before. Many would not include this as a type of inflation, but I include it just because it is necessary to complete the story of monetary expansion.
Most of the time, inflation of type 1 will eventually turn into inflation of one of the other 3 types, but in order to know which one you have to look deeper. There is no sense in my opinion in assuming that 1) always leads to 2) especially when you have a 30 year history of 1) and 2) going in opposite directions. A prognosticator may eventually be right, but it is too late because anybody who listened to him is already bankrupt.
The US has seen a boom in type 3 inflation since 1980 that has rivaled that of the Roaring 20s and has in fact surpassed where we were in 1929 in several important measures. Unfortunately, one of the key problems we had back then and have once again now, is a large contingent of people who despite massive evidence of type 3 inflation and very little evidence of type 2 inflation, are pushing strongly for policies that fight the non-existent type 2 inflation, risk type 2 deflation, and make the type 3 inflation even worse. (Type 4 expansion, the "good kind", happens fastest when type 2 and type 3 are relatively in balance, for reasons that are a bit too complicated to get into here). When type 2 inflation turns into deflation, this can trigger a situation where type 2 deflation and type 4 deflation feed into each other, which can get to be very destructive very quickly. For this reason, it is very important for people who don't understand the difference between price inflation and asset inflation to learn it quickly before they do a lot of damage to our country.
With respect to inflation of 7-9%, there is a very simple test. Take any consumer item that you buy. A gallon of milk, rent on a house, a book, etc. Look at the price in 1980 and the price today. That is 32 years. At a rate of 8% over that period, we should be at over 10 times what it was back then, (according to the rule of 72, we would have doubled 3 times in 27 years, which would be a multiplier of 8). So, a book which was 2.75 for 300 pages of paperback back then should be close to $30 today. A gallon of milk that was 2.95 back then should be around $30 as well. Rent that was $250 in a minor metro for a starting efficiency should by $2500. Of course, they shouldn't all go up at the same rate, but I get figures of about $7 for a small book, $4 for a gallon of milk, and $650 for a starting urban efficiency in a similarly non-high demand area. If you do a bit more math, this seems to be more in line with the official 3% estimates.
As to what will happen with type 1 inflation in the future? We need to look deeper into whose hands are holding the money to know that. We cannot pinpoint which bucket it will end up in until we can map out a chain of events that will put it there.
If you look at 1929 as inspiration for understanding this, you see a very similar situation:
* Extremely healthy Asset industries (eg. bucket shops on every corner and the joke about florida swampland flipping)
* Financial industries overall had grown to about 40% of the economy (about the same level as today)
* Spending has started to go up and down less with Wage changes and more with stock and housing prices as the latter formed an increasing percentage of the source of corporate sales.
* Overall growth has slowed by at least a third (the 1980 divide) as consumers have found it harder and harder to continually ratchet up their purchases with strong wage downward pressures.
* As moneyholders have held more and more dollars that have been chasing fewer and fewer consumer dollars, they have become increasingly desperate to make larger and larger loans for less and less returns. In the case of the 20's, this took the shape of 10% margin requirements for stocks and today it takes the form of exotic financial instruments.
* A large percentage of the workforce is now living very close to fixed costs just like in 1929. That means that contrary to the normal laws of supply and demand, decreasing wages are likely to cause an *increase* in labor supply. This means that the economic force and the "stabilizing" force are both pushing in the same direction. The only possible result is for wages to move *very* quickly once they start under these conditions. This is the real mechanism of hyperdeflation. (Ironically, the mechanism for hyperinflation is actually very similar. You have debts or fixed costs denominated in a foreign currency and increase in the price of that foreign currency actually increases demand for that currency (as measured in local dollars) in order to meet a fixed need. Obviously the problems of hyperdeflation are closer to what Americans are seeing every day.)
"People are living off their credit cards. I believe it’s the same in Europe." All the other statistics I see point to a reduction in private debt. As a matter of fact, we are seeing the fastest rate of decline in private debt since the 1950's. Casey, you are off the mark. Even you cannot get the underlying facts straight...how can you possibly get the analysis right?
Casey, you say this epic tug of war between inflation and deflation has been happening for 40 years. You would have us believe that it will be resolved soon. (2012? 13?) Sometimes, tug of wars never end. Both sides are equally strong and no one prevails. You won't even make a prediction. You "lean" towards inflation but warn deflation might happen too. Sheesh, I should become an analyst because I can make predictions like that! Let's walk both sides so we can never be wrong...problem is, you are never right either.
Excellent article. Thank you.