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From
Economic Evolution to Economic Revolution
Just
as U.S. and European monetary systems were “evolving” into peacetime
economies, international terrorism may speedily reverse the process and
“revolve” us back into a military industrial philosophy with
profound implications. Timing
could not be more unusual. Declining
paper wealth and an obvious investment realignment have weakened Western
economies. The debate over various courses of action has been intense.
Suddenly, an instantaneous potential solution materializes as the
World Trade Center towers dematerialize.
We have a catalyst to return to a war-based economy. What does this mean?
For
those who remember the logic behind continuing actions in Korea and Viet
Nam, taxpayers transfer money to the military industrial complex that
builds our war machine. This
complex provides jobs while turning out the least productive products.
In fact, much of the product is simply destroyed.
Military product contributes nothing to the consumer economy.
However, jobs and raw material purchases have a significant
stimulative impact. Causal
correlations remain unclear because economics is as much an art as it is
a science. We really
don’t know how all the pieces fit together or interact. Thus, economic historians debate whether the Viet Nam War was
inflationary, deflationary, or neutral.
Reviews of government reports or “white papers” from the late
1960s and early 1970s suggest that U.S. consensus leaned towards
stimulating our economy through the military industrial complex.
We knew no other ways since modern economies were just
“evolving” from a post-war period.
The theory was that the consumer economy simply lacked the punch
to keep things running and growing.
This viewpoint was challenged as Japan and Germany emerged as
economic powerhouses… because they were prohibited from spending on a
military.
This
makes the distinction between “evolution” and “revolution”
extremely important since revolution is assuredly a misnomer in most
economic context. Historians
borrowed “revolution” from wars like the French Revolution or the
U.S. Revolutionary War. The
derivation came from “revolt” rather than “revolve,” yet there
is an association with “returning” to a prior condition or state.
The term was borrowed to describe other progressive human
movements like the Industrial Revolution.
Eventually, the term revolution became associated with
breakthroughs and advances rather than insurrection and rebellion.
Precise diction requires us to distinguish between revolving
backward toward an old standard or evolving forward with a completely
new paradigm. The modern
peacetime economy is exactly that… an evolution into a new system with
new rules and relationships. Japan,
Inc. was setting an example that stimulated and excited the entire
world. How did this
relatively small island nation emerge from total World War II
devastation to become an economic powerhouse? Equally curious, how did a
country with virtually no natural resources rocket ahead of the United
States in high-tech product and processing?
The
answer became apparent as Germany followed suit as Western Europe’s
economic cornerstone. What
did each of these nations have?…
Simply a military-free economy.
The proof of effectiveness came when the Cold War dissolved.
As Europe and the United States became able to realign toward
peacetime economies, deficits lost their growth hormone to surpluses.
This
process was not without new uncertainties.
After all, the massive speculative bubble of the 1990’s finally
burst without terrorist attacks. The
West and Japan were already picking up the pieces and trying to solve
new monetary and fiscal puzzles. Among
them were the completion of a 3-prong monetary standard based upon the
U.S. Dollar, Euro Currency, and Japanese Yen.
This experiment continues despite the new War on Terrorism.
The
problem we face as citizens and investors is that war was not in the
plan. There was an
assumption that we would be winding down military intervention. Hey! Doesn’t
anyone remember last year’s presidential candidates’ debates? The
“limited use” of our military forces as world “policemen” was a
major policy difference. Candidate
Bush unequivocally stated his position that the U.S. should not deploy
troops overseas “at great expense” for the limited purpose of
“protecting our interests.” Candidate Bush was intent on reducing
military spending by reducing deployment while his counterpart, Dick
Cheney emphasized “rebuilding” military confidence through higher
spending on salaries, benefits, living facilities, and technology.
Has
everything changed? Cleary,
the answer is, “yes.” We
will deploy troops, we will conduct worldwide policing actions and
military expenditures will soar. We
will also complete the Cheney proposal while upgrading the CIA, FBI,
NSA, Secret Service, and other enforcement agencies.
Succinctly put, good-bye surplus and hello deficits!
I cannot see any way around it.
This
requires us to rethink investment strategy.
In prior deficit producing military build-ups, inflation became
the paramount problem. This
is because money supply balloons while consumer productivity is replaced
by wasting war materials. Bombs
go boom while the economy goes bust…
Well, not exactly. Bombs
go boom and the economy can hum along.
Those who lost jobs to the Dot-Com implosion may find work
designing missile guidance systems.
But, the money that evaporates into bullets and bombs does not
build infrastructure at home. We do not improve highways, schools, subways, airports, the
environment, or any other domestic facilities with war product.
When
Gold Becomes Golden
It
is frightening to think that I would so rapidly change my outlook for
gold and silver. Frankly,
both metals are an anathema to investing logic since they do not
represent yield-bearing instruments and their only enhancement potential
comes from inflation or crisis. However,
precious metals have their strategic place.
The massive creation of funds through FED manipulation raises a
red flag. Are we about to
face a controlled monetary expansion similar to the exemplary recovery
from the January 1990 “mini-crash,” or are we plunging back to the
1970s stagflation.
There
is no indication of an inflationary threat now.
This is because money hasn’t been expanded.
It takes six to nine months for FED action to trickle into
consumer prices. Gold and silver have not exploded because investors remain
numb and paralyzed by recent events.
However, initial thrusts higher hint that more support is around
the corner… especially if
military intervention accelerates.
The
producer price index (PPI) edged higher than expected in August based
upon increases in energy and food. Normally, such news would spook interest rate markets, but
this first inflation indication was shrugged off in favor of a
continuing flight to quality and anticipation of further FED rate cuts. Still we should not ignore September’s price action that
will be reflected in October statistics.
As
U.S. and British jets begin taking out targets in Iraq, Middle East
tension mounts. All the
while, our focus has been on Afghanistan and the Taliban.
My sources as well as some media indicate that our objective is
to reduce retaliatory capability before moving forward with any
long-range incursion. If
this requires humbling Iraq and Iran, we are involved in a far broader
campaign than many analysts anticipated.
Indeed, this brings Middle East oil into question and the general
commitment by certain OPEC members to pump more may be curtailed by
necessity.
As
we discovered in the Gulf War, OPEC nations are not immune to a lack of
neighborly love. It was
Iraq… an OPEC
participant… that invaded
Kuwait, a fellow participant. Even
within the Islamic community, there are degrees of orthodoxy that create
significant friction. As
mentioned in my previous REPORT, Islamic Fundamentalists are also at war
with Islamic moderates who realize that the West represents economic
stability. Even Bin Laden has a need for Western banking and his vast
fortune valued in U.S. Dollars.
This
produces a harrowing image on the October gold chart.
After rallying on the anticipated pop in August price indices,
gold lost enthusiasm after making an August high.
Pressure of continuing central bank auctions coupled with renewed
Dollar strength discouraged a follow through.
In
prior interpretations, I called attention to the possibility some viewed
this August/September decline as a massive continuation flag.
However, when 27500 support was broken, this analysis seemed to
fail.
Surprisingly,
gold did not rally prior to the September 11th attack.
Usually, networks like Bin Laden’s attempt to take advantage of
crisis opportunities in advance. It
seems Bin Laden has been studying markets and determined there was
greater speculative potential selling stocks short!
Still,
reality hit by September 14th and October gold has formed a
tenuous island from 28200 to 29290.
With prices remaining under $300/ounce, I believe we have a
buying opportunity with moderate downside exposure.
Essentially, gold found support at 26600…approximately $24 from
the current level. While I expect high volatility, I do not see a dip below
support during this crisis. Thus,
a floor may be set with a $2,400 exposure.
On
the other hand, gold could easily make a run to $500/ounce if fighting
intensifies along with uncertainty.
Rest assured that investment liquidity is a problem.
People are still unwilling to flee paper in favor of gold.
It is not familiar to today’s average investor because gold was
discredited more than 20 years ago!
Anyone under 40 years old does not truly understand how gold or
silver work.
Yet,
it won’t take long to catch on. I
expect central banks to band together to hold gold in check and prevent
a stampede into quality. The
worst economic event would be a confidence crisis.
Interestingly, we have developed such an intricate “paper”
system that I am not sure our leaders or the masses have any idea how to
move back (“revolve”) to asset-backed currency.
No
Inflation, Yet
By
obvious indications, we are not seeing inflation.
Cattle, hogs, grains, copper, and even crude have dropped like
stones. This week’s
precipitous retail spending decline foretells price further price
cutting. Why should anyone
be interested in gold or silver?
Markets
are anticipatory. When
sophisticated investors piece monetary policy together they are likely
to protect with gold. As
the Dollar declines, gold’s dollar parity must rise. Even absent inflation, crisis can drive metals higher.
If gold sustains its rally, I doubt it will correlate to consumer
prices. If consumers stay
away from the malls this Christmas season, it will exacerbate the
economic slump. Do not be
surprised to see the DOW Industrials sink below 8,500 or even test
7,500. Before the disaster,
I predicted the NASDAQ 100 could test below 1,200.
The current rate of decline points to a test as low as 900!
Is
this doom and gloom? Of
course! Does this spell
opportunity for those who are prepared?
Absolutely! Although
I have avoided the short side of stock indices because of high
volatility and point values, I can say that we still see an apparent
cataclysmic decline in world stock values with massive volume.
Guess what!… The
first rally from that decline will be the next buy signal.
Notice
how the slope of the ascent is virtually the same as the decline in cash
S & P 500. The chart
indicates support potential at 900, however, a dip below 850 indicates
deterioration to the 1996 low of 600.
The
DOW Industrials have faired better than other stocks, but the trading
range has been breached. Support
is identified at 7500 and 5500. Hopefully, we won’t see this tested.
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