We are likely now in an economic depression for the first time since the 1930’s. Big changes will be required to revive the economy.
Even before the coronavirus pandemic hit there were warning signals that were present behind the scenes in the financial markets. The repo crisis started in September of 2019. At the same time the stock market gains were thin in that they were largely attributable to only a small handful of stocks, specifically the FAANG stocks and a few others. The term FAANG stocks refers to Facebook, Apple, Amazon Netflix, Google, Alphabet (The G refers to Alphabet’s core company Google) plus a few others including Microsoft. The two most widely followed indexes that are used to gauge the health of the stock market are the Dow Jones Industrial Average and the S & P 500. The S&P 500 is a capitalization weighted index meaning the larger the market capitalization of an individual stock, the greater its’ impact on the index. So, a handful of large cap stocks such as the FAANGs can have a misleading impact on the relevance of the index itself. Further, much of the stock gains of recent years were courtesy of the Fed policy of historically ultra-low interest rates leaving investors with no other place to go for yield as well as facilitating company stock buybacks to boost the price of a stock made much easier by the artificially low borrowing costs of the funds used for the stock buybacks.
While the stock indexes marching higher since the economic collapse or 2007/2008, over the past few years, gold has increased in price substantially.
A number of analysts have been presenting a bullish case for gold prior to the coronavirus pandemic based on the aggressive money creation by the Fed under the not entirely accurate belief that money printing in and of itself creates inflation since supply and demand determines value i.e. the more money available in the system means money is less valuable due to the oversupply of dollars. Read on for more on that theory later.
The economic collapse of 2020 that we are currently living through is presenting economic statistics as bad or worse than we saw after the 1929 collapse and subsequent depression of the 1930’s. We are in a severe recession that will probably be a prolonged severe recession. In other words, we are in what is post-crisis likely be labeled an economic depression.
This economic depression manifests itself in a deflationary environment. Partially as a result of the massive injections of money supply into the system, not just by the United States but also by Europe and Asian countries, there is a strong likelihood this deflationary period will at some point turn into an inflationary period. Many are expecting a scenario similar to the 1970’s when we had stagflation i.e. a stagnant economy with stagnant wages coupled with high inflation. Those who were around in the 1970’s probably remember skyrocketing oil prices, rising real estate prices and more. Also during this period, gold and silver soared in price. Note that prior to this period, President Richard Nixon ended the convertibility of US Dollars into gold in August of 1971 freeing the price of gold from a fixed price of $35 per ounce enabling it to trade freely laying the groundwork for this inflationary period of the 1970’s.
This article will look at the analysis of two very different well-credentialed, respected economic thinkers and how their thinking coincides in many ways. One is Ray Dalio who is an American hedge fund billionaire and philanthropist who founded the financial firm Bridgewater Associates in 1975. As of 2013 Bridgewater was listed as the largest hedge fund in the world and, in 2020, Bloomberg ranked Ray Dalio as the 79th richest person in the world. In addition to being one of the world’s top money managers, Dalio has been a prolific writer. In 2017 he wrote the book ‘Principles: Life and Work.’ He has a new book coming out in September of 2020. In addition he has written a series of fascinating articles published on his Linkedin page about economic and political history and cycles where he attempts to explain the changing world order and its’ implications from an economic perspective. There are a number of Dalio quotes from those articles in this article.
The other persons’ views examined here are that of Jim Rickards. Rickards is an American layer, a graduate of Cape May Regional High School in Cape May, New Jersey who later graduated from Johns Hopkins University in 1973, then from the Paul H. Nitze School of Advanced International Studies in Washington, D.C. in 1974 with an M.A. in international economics. He later received his Juris Doctor from the University of Pennsylvania Law School and an LL.M in taxation from New York University School of Law.
Rickards has written a number of books including:
‘Currency Wars: The Making of the Next Global Crisis’ (2011)
‘The Death of Money: The Coming Collapse of the International Monetary System’ (2014)
‘The Big Drop: How To Grow Your Wealth During the Coming Collapse’ (2015)
‘The New Case for Gold’ (2016)
‘The Road to Ruin: The Global Elites’ Secret Plan for the Next Financial Crisis’ (2016)
‘Aftermath: Seven Secrets of Wealth Preservation in the Coming Chaos’ (2019)
Overview of Jim Rickards’ Economic Outlook
According to Rickards, we are either in, or about to be in, a deflationary environment. In deflation people spend less money. Incomes are falling so people have less money to spend and less money to pay off debts, so they hoard money and try to pay down debt. It becomes harder to service or pay off debt during deflationary periods because people have less money. So, not only do people try to pay down debt and save money, they are also reluctant to take on new debt. The psychology during deflation is that prices are going down so why buy now because if you wait until later to buy, the price may be cheaper. This causes the economy to experience a contraction.
The way to combat deflation is with inflation. Peoples expectations must be reversed. During inflationary periods prices are rising. When people expect prices to rise they are inclined to buy now instead of later because later the prices are expected to be higher. The buying power of the dollar (the value of your money) is going down so it is better to buy now when your dollars are worth more before the buying power of your money decreases. During inflation it also makes sense to borrow since the expectation is that you will be paying off those debts with devalued currency. This is the opposite psychology then is present in the deflationary scenario discussed above. So, during inflation people buy now with the expectation to pay off the debt with cheaper dollars and the economy expands instead of contracting.
The current expectation is for deflation. This deflationary situation is expected to be the scenario over the short term by a number of analysts. Jim Rickards says he expects deflation to be with us for 6 months to year, to be followed by inflation. Other prominent observers expect a similar situation i.e. deflation followed by inflation, although the expected time frames vary analyst to analyst as to when we go from one economic condition to the other.
Rickards expects the U.S. economy to be in bad shape 6 months out to a year out. His belief is that the only way to end deflation is with inflation. Rickards says history proves this by virtue of the examples of FDR in the 1930’s and Richard Nixon in 1971. He says inflation will happen when enough people think inflation is going to happen.
We know the government wants some level of inflation. We know that deflation is not only bad for citizens but bad for governments as well. Again, servicing debt is much more difficult and sometimes impossible, in a deflation.
According to Rickards, many economists believe that money printing alone will lead to inflation. But he explains that here in the U.S. we have had enormous money creation over the past 12 years, but not much inflation. In fact, the Fed has been unable to hit its inflation target of 2% over recent years. Rickards notes we also must have increased money ‘velocity’ in order to have inflation. He notes that since 1998 we had have decreasing money velocity in the United States, thus the low (below Fed target) inflation figures.
The value of money goes up in deflation so people save it instead of spending it. To get out of this so-called ‘liquidity trap’ the government must get people to spend. The way to do this, says Rickard, is to change their expectations from a deflationary expectation to an inflationary one. Again, recent history shows that near zero interest rates and massive money printing alone will not do the trick.
As stated, over recent years the Fed has been unable to hit their inflation target of 2%. Rickards says we will need inflation at 4% to 5% in the U.S. to get our impending debt problem under control. An inflation rate at this level would presumably stimulate spending.
Rickards says the only way to accomplish this is by getting the price of gold higher. He says a higher gold price gets peoples attention and would changes inflationary expectations and would have the desired effect of both stimulating spending and enabling the government to pay down its massive debt with cheaper (devalued) dollars.
He says higher gold prices would lead to the rise of other commodities and that would presumably filter through to consumer prices as well as consumer expectations for still higher prices going forward.
Rickards sees deflation continuing into 2021 to be supplanted by inflation with the net result being inflationary expectations by consumers and the resultant increased spending and stimulated economy. He notes that this worked under FDR in the 1930’s and was a result of Nixon decoupling the U.S. dollar from gold in 1971. Many of us remember the 1970’s with the decades rising gas prices, housing prices and other consumer prices while wages remained stagnant. This period of rising prices and stagnant wages become known as ‘stagflation.’
So, the Rickards point of view in a nutshell is temporary deflation, followed by inflation, triggered by a much higher gold price. Rickards says higher prices can be easily attained if the government simply announced their willingness to buy gold at significantly higher prices. (Editors Note: Some observers suggest gold would soar simply based on the current increased demand for physical gold c coupled with an end to the alleged gold price suppression schemes of Western central bankers.)
The coronavirus have caused a deflationary depression. In deflation, it becomes harder to pay down debt. In response to the economic collapse, the U.S. has greatly increased its debt. The only way this debt can ever be eliminated is through in default in the form of inflation. According to Jim Rickards, the only way to go from deflation to inflation is to raise the price of gold.
On May 27, 2020 Jim Rickards tweeted:
“…Yes, we have deflation now. But that increases the urgency of getting inflation. Only way to do that is raise the dollar price of gold.”
His bottom line for gold price is as follows: Rickards says the current bull market in gold started on December 16, 2015 from a gold price of $1050. He is forecasting for gold to reach $16,000 an ounce in the next 4 years saying it will be the best performing asset class in this period. He says we are in a new bull market for gold noting that the last two bull markets in gold, the one from 1971 to 1980 saw gold advance over 2000% while the gold bull market that followed, from 1999 to 2011, saw an advance of about 700%. So, Rickards is taking an average gain of the last two bull markets in gold to forecast a gain of 13X or 1,300% over the next 4 years. He also notes that there were bear markets in gold in between from 1980 to 1999, which produced a loss of 75% while the gold bear from 2011 to 2015 saw a loss of 50%.
Our Other Spotlight is on the Economic Outlook of Ray Dalio
Ray Dalio is a hedge fund billionaire who founded Bridgewater Associates and built it into the largest hedge fund in the world. In 2020, Bloomberg News ranked Dalio as the 79th wealthiest person in the world in 2020.
Dalio believes, among other things, that reserve currencies have a limited cyclical life span. Currently, the worlds’ reserve currency is the U.S. Dollar and history shows that this will not always be the case. Dalio says history demonstrates that the economic world order and political order tends to change on a cyclical basis about every 80 years or so. He suggests we are likely on the cusp of such a paradigm shift in the world order.
Dalio, the most successful hedge fund kingpin in the world says you should own gold saying…
“If you don’t own gold you know neither history nor economics”
“I think these are unlikely to be good real returning investments and that those that will most likely do best will be those that do well when the value of money is being depreciated and domestic and international conflicts are significant, such as gold …”
Dalio’s views on his expected impending changes to the world economic order are best explained in his own words from his articles on Dalio’s Linkedin page and his comments in recent interviews. Here are of his ideas from these sources:
Dalio recently said “…I believe that monetizations of debt and currency depreciations will eventually pick up, which will reduce the value of money and real returns for creditors and test how far creditors will let central banks go in providing negative real returns before moving into other assets.”
Dalio in January 2020… “What are [central banks] going to hold as reserves? What has been tried and true? They are going to hold gold. That is a reserve currency, and it has been a reserve currency for a thousand years,”
“Currently, the US Dollar is the primary reserve currency in the world accounting for about 55% of international transactions.”
“Having a reserve currency is great while it lasts because it gives the country exceptional borrowing and spending power but also sows the seeds of it ceasing to be a reserve currency, which is a terrible loss. That is because having a reserve currency allows the country to borrow a lot more than it could otherwise borrow which leads it to have too much debt that can’t be paid back which requires its central bank to create a lot of money and credit which devalues the currency so nobody wants to hold the reserve currency as a storehold of wealth”
“Printing and Devaluing Money Is the Easiest Way out of a Debt Crisis”
“Of the roughly 750 currencies that have existed since 1700, only about 20% remain, and of those that remain all have been devalued.”
WATCH VIDEO – Ray Dalio – Exploring Paradigm Shifts
WATCH VIDEO – Ray Dalio Interviewed at Davos – 2020
WATCH VIDEO – The Gold Chronicles with Jim Rickards and Alex Stanczyk – May 2020
Watch Video – Real Conversations: Defending Your Wealth During Global Crisis → McCullough & Rickards – April 1 2020