Today the US stock market dropped 3 percent, bond yields plunged, commodities dropped, and deflationists declared victory in the ongoing debate over inflation vs deflation. There's just one small fly in the ointment. Gold rose $23 per ounce, to nearly $1200. This happened on a day when the US dollar trounced every other currency, including those of commodity exporters like Australia and Canada. But gold is now the strongest currency of all, and is threatening the US dollar hegemony as world's reserve currency.
Why is gold at or near new highs in practically every major global currency? Is it a "safehaven" due to market panic, as the mis-informationists at CNBC would have us believe? No, that's not the reason at all. The move in gold is perfectly logical, calculating and rational. Gold is predicting governments' response to widespread insolvency, and what gold investors see is hyperinflation in our future. Notably silver also rose today, and silver is generally an economically sensitive commodity that falls with the other industrials. Now silver is beginning to trade as money too, moving in opposition to the industrial metals.
So why would gold see inflation when the media and economic "experts" are screaming deflation? It's very simple, actually. The case of hyperinflation in the Weimar Republic, circa 1920 is a good illustrative example. At that time, Weimar Germany was severely over-indebted due to the costs of losing WWI. The extreme levels of debt led, as is extreme debt's wont, to deflation. Lack of confidence in the economy caused lenders to stop lending, and consumers to stop consuming. People began to hoard cash and the velocity of money dropped. Prices dropped. Then, the central bank decided, not unlike Ben Bernanke, that they had a shortcut way to thwart the economic reality of too much debt. They'd just print more money to add liquidity to the system; get the banks lending again and everything would be hunky dory.
But, it didn't seem to work. The more the central bankers printed, the more people and banks hoarded money, and prices dropped more. The mark actually appreciated dramatically against other world currencies, despite the economy's precarious condition. As debt levels piled up due to war reparations, the population began to lose confidence in the government's ability to pay down debt and, ultimately, in its curency. So they pulled out their savings and began to buy necessities. Instead of hoarding useless paper, they began hoarding hard assets. A massive outpouring of marks flowed from every quarter and the velocity of money soared. Prices skyrocketed and within a year the currency was worthless.
Note that declining velocity of money is cited by every modern deflationist as the reason why Bernanke's already excessive printing can't cause inflation. It will be cited in the near future as the reason why Bernanke must print more, to revive our "animal spirits" and get the economy flowing again. And all that money will accumulate on bank balance sheets, or in money market funds, savings accounts and short term treasuries. But, the loss of confidence is beginning to build. Gold is the telltale. It's an inert metal, with no industrial use, doesn't draw interest or pay a dividend. No use at all other than as hard money.
Gold is signalling a global loss of confidence in fiat currencies, and the wave is building at a rapid pace. Governments are bailing out an ever wider swath of bankrupt entities, from pension plans to companies to states to sovereign govenments. In the process, they are destroying confidence in their own ability to pay off debt in real terms, and thus destroying confidence in their own currencies. The money is beginning to flow into hard currency, gold and silver, but soon it will flow into other more important assets like oil and food. Economic fundamentals will no longer matter. Once confidence in money is lost, it's almost impossible to regain. Given our central bank's predilection towards easy money, they will not be up to the task of reigning in run away inflation.
If governments do not stop printing now, stop the bailouts now, stop the deficit spending, this has only one possible outcome. The price of hard assets will spiral out of control, and will eventually be impossible to buy using fiat currency. Global hyperinflation and ultimately war over natural resources will ensue. Tomorrow, Germany holds a vote on whether to bail out Greece. I hope the German public opposition carries the day and Greece is allowed to default. We don't have many more chances to stop this insanity