$1400 Gold: A Bullish Signal Amid a Bearish Presidency
Two years ago this April, I wrote that $1500 gold signaled a recession. The article argued that readers should forget about the near worthless calculation that is GDP, and instead consider what a rising gold price meant for the economy.
Rising gold on its face points to a falling dollar, and when the dollar declines in value investment in a relative sense migrates away from the stock and bond income streams that foster the creation of wealth that doesn't yet exist, and into the hard inflation hedges (think land, housing, art, rare stamps, commodities, etc.) of wealth that already exists.
Currency devaluation is a blast to the past, and that's why the economy always sags when the dollar is weakened. Just as the dollar's fall beginning in 2001 (and gold's rise) foretold a recessionary rush into housing, $1500 gold indicated more of the same. Stocks have certainly rallied since 2011, as has housing, but the unseen from 2011 to the present is how very much healthier the stock market would be if the dollar's fall had been reversed in 2011 on the way to a lower gold price.
Instead, the opposite occurred, and gold soared well beyond $1500. That the economy has continued to limp along since then shouldn't surprise anyone.
What's interesting about all this is that back in February of this year, rumblings came out of the Fed suggesting that at the very least there was growing pessimism about the effectiveness of quantitative easing (QE). Markets took a dive at the time, and even QE skeptics asserted that the presumed lack of ‘support' from the Fed was the driver.
This column argued the opposite, that there's no way QE could be the source of higher stock prices. For one, assuming an inflow of cheap money into the stock market, there would by definition have to be an outflow. For every buyer there's a seller, so gobs of cheap money couldn't be a source of market health.
More to the point, when investors purchase shares of companies they're buying future dollar income streams. QE is an abomination that cruelly perverts money's sole purpose as a measure of value, and more to the point as applied to the stock market, it's historically occurred in concert with devaluation of the unit of account - the dollar. In short, the notion that QE was propping up stocks made no logical sense precisely because QE's purpose is devaluation of the income streams desired by investors in the first place.
Happily today, it no longer even makes empirical sense. Though stocks as mentioned fell upon the initial leaking of internal Fed dissent about QE's continuation, since mid-February the Dow Jones Industrial Average has risen 5 percent, and the S&P 3 percent.
The numbers get better when we factor in the value of the dollar. Amid the rise of both stock indices the price of gold has fallen over 13%. In real terms, or in what Louis Woodhill refers to as the ‘Real Dow,' what was 8.68 (the DJIA divided by the gold price) in mid-February is now 10.5.
The mystery here is why the stronger dollar? One easy answer is that markets have perhaps priced rising skepticism about QE's efficacy within the Fed in terms of the dollar. It's also increasingly assumed that the author of this disastrous perversion of money, Ben Bernanke, will not be nominated for a third term.
Both are compelling, but then the dollar's exchange value is largely the preserve of the U.S. Treasury. On Friday Treasury ‘warned' Japan about the falling yen as my RealClearMarkets colleague Joseph Calhoun noted in his weekly client piece. Calhoun entertainingly exposed the staggering hypocrisy of a devaluationist U.S. calling out any other country for doing the same, and then beyond that, ‘warnings' like this have historically correlated with a falling greenback.
It's arguable that perhaps now the dollar is merely the best of a bunch of falling paper currencies, but if so, this would normally reveal itself through a rise in the dollar against the other major currencies amid a fall in each one - including the dollar- against gold. Instead, the opposite has occurred whereby a newly strong dollar has taken gold down to $1400, and as of this writing, below that.
One other possible driver of the dollar's renewed strength comes in the form of foreign policy. Bretton Woods chief economist Paul Hoffmeister has been writing for years that foreign policy developments play a big role in dollar movements. War itself has historically occurred in concert with devaluation, and with newspapers having revealed a desire within the Obama foreign policy team to engage in more dialogue with rogue nations (North Korea most notably), it's possible that the presumption of a less aggressive foreign policy from the U.S. is feeding into dollar strength.
About $1400 gold, to cheer it in isolation is to bring new meaning to the phrase "soft bigotry of low expectations." $1400 gold still speaks to a much debased dollar, and all the slow growth that comes with a weak currency. Economists almost to a man believe that growth causes inflation, but they get it backwards. It's when money is cheap, and investment is flowing into the inflation hedges of yesterday that economies sag.
Still, $1400 gold is an improvement, and as such it's a bullish one for the economy. It is because a stronger dollar signals more investment on the margin flowing into the stock and bond income streams set to create the wealth of tomorrow. That stocks have rallied amid a rising dollar shouldn't be a mystery.
Looking ahead, investors should perhaps curb their enthusiasm somewhat as Calhoun tells them. My argument for why is that a stronger dollar, though very bullish for the economy, will in the very near-term force a painful economic adjustment that will in the eyes of some flash recession signals.
Thinking about oil locales such as Pennsylvania, North Dakota and Texas, a rising dollar will make much of the investment there non-economic assuming the dollar's rise continues. The last time this occurred, in the ‘80s, Texas S&Ls heavily exposed to the oil patch fell insolvent and had to be bailed for their embrace of the 1970s money illusion economy that mirrors today's. Housing will also prove less attractive amid a rising dollar (particularly in the near term), and banks still exposed will take a hit.
The overall economy will once again boom assuming a rising dollar (probably not in GDP terms - at first), but unknown is whether the Obama administration, the U.S. Treasury, and a Federal Reserve still led by Bernanke will allow the dollar's rise to continue. Desperate to prop up housing, banks, and one of the economy's few (though to some degree illusory) bright spots in the form of the oil patch, it's easy to presume that the dollar's economy-enhancing rise will be arrested, and reversed.
But for now, the falling gold price is a big positive. If left alone it signals a migration of investment away from inflation hedges, and back into the economy of the mind that propelled the U.S. economy to major heights in the ‘80s and ‘90s. The Reagan and Clinton eras were boom eras, and the strong dollar was the source of much of that growth.
President Obama has a chance to reverse the economic failure that's been his presidency if he calls off a Treasury and Fed full of individuals who mistakenly see cheap money as the path to prosperity. I'm betting against the President and his monetary officials standing aside, but assuming he goes against type, he's got a chance to at least somewhat salvage the economic portion of his presidency.