Market Thoughts: Commodities, U.S. Treasuries, Greece

According to the mainstream press, the reason behind the present sell-off in commodities – and in many so-called ‘risk-assets’ (stupid really, all assets are risky) – is weak growth, not tighter monetary policy. At least this is how I interpret the market commentary in the Financial Times and the Wall Street Journal. The mainstream media often gets it wrong – but let’s assume for a minute that they are right. What does it mean?

Super-easy money was supposed to ‘stimulate’ us into recovery. In fact, it is causing input prices to rise, which in turn squeezes profit margins and chokes off the recovery that easy money was supposed to bring. Now the faltering recovery in turn undermines commodity prices.

Again, we see that, two years after the US recession officially ended, nothing has been solved. Our problems are still with us. In the meantime, the trade-off between growth (even growth of the artificial and therefore short-term type) and inflation is getting progressively worse. The UK offers a powerful illustration of this: again the Bank of England had to revise inflation up and growth down. Her zero-interest rate policy is boosting prices with little lasting effect on growth. It goes to show that once your economy is out of whack because of distorted prices and misallocations of capital as a consequence of previous money injections and excessive indebtedness, you can’t easily get out of this mess by printing more money and keeping rates artificially low for even longer. Bottom-line: the global economy is still very weak. The ‘recovery’ is feeble or non-existent.

Commodities are now correcting because there was too much hot money in them, or because they ran too much ahead of other prices in this mega-trend of inflation that we now entered, thus undermining demand for them.

If this were purely a commodity phenomenon, equities should rally. Lower commodity prices mean lower input prices and higher profit margins. However, equities are presently correcting as well. This is further indication that what is behind this move is concern about the recovery. If that is true, and if it lasts, we won’t see the monetary tightening that is now being talked about. Instead we may see more easing – and then commodities will rally again.

Last week, Trichet already forgot to mention ‘vigilance’ in one of his speeches. If unemployment stays high in the US, and the equity market comes under pressure again, it is only a question of time until we get QE3. Remember, The Bernanke made it his declared goal to boost the economy via high asset prices, including equity prices, thus benefitting Wall Street and the upper echelons of US society whose paper gains would then trickle down to the regular folks – he may have put it somewhat differently. In any case, if the economy is weak, we will get more monetary stimulus – and thus higher commodity prices, in particular a higher gold price.

This is a correction, not a trend change. The major trend still points firmly in the direction of fiat money debasement – this means a much higher gold price over time. It also means higher nominal prices for other commodities – and for many other things as well. But it should be particularly good for gold, the ultimate self-defence asset in a paper money meltdown.

Remember, this view is not predicated on the Fed, or any other major central bank, making a tactical mistake and withdrawing the monetary stimulus too late, thus causing headline inflation to run a bit higher for a while. If that is your worry, you have no worries. Rather, it is based on an understanding of this crisis as the logical consequence of elastic money and of modern central banking. As long as politicians and central bankers believe that growth can be generated with easy money, and that they can postpone the unravelling of money-induced distortions forever, the drift of paper money towards its intrinsic value will continue.

Even if the reason behind this correction were the prospect of tighter monetary policy rather than weak growth – it wouldn’t last. Think about it, what have we had in terms of tightening? The ECB raised rates by 0.25 percent. The Fed hinted at an end to QE2 but not at rate hikes. A proper tightening cycle hasn’t even commenced yet -but: the recovery is already faltering?

Let’s face it – none of these central bankers has the stomach to withdraw the drug that made a fundamentally sick economy appear for a while if not healthy so at least slowly improving. Easy money is here to stay. They may not always say so – and it may not always appear so – but that is the scenario we are in.

I am bullish on gold and remain so for one reason: Since Lehman, central bankers around the world have created trillions of paper money in order to avoid the collapse of the overstretched credit edifice that the four-decade long diet of low rates and persistent money creation has helped erect. The dislocations, of which Lehman was only a symptom, are still with us – and the urge among the paper bureaucracy to delay their dissolution is as strong today as in 2008 or 2009. Ever more money will be created. A bear market in the nominal prices of commodities – and in particular gold – is inconceivable against this backdrop, in my view.

As I see no reason to sell gold, I see no reason to buy Treasury bonds. To buy them on the back of slow growth – whether as a result of an end to QE2 or whatever – strikes me as incredibly shortsighted. Slow growth means more government spending and lower tax receipts, which means larger deficits. Little reminder here: the US government is set to run $1.5 trillion annual deficits as far as the eye can see! Weak equities and slow growth will lead to more fiscal and monetary stimulus. Government bonds are a sell.

Greece: What a sad spectacle! Maybe David Cottle was right. We should feel sorry for the PIIGS. Now the Greeks get more bailout money but have to tighten their belts further. Getting all of this austerity dictated by the European bureaucracy and the German government can’t be healthy – socially and politically. It is clear to me that the preferred solution should be default: Greeks, just stop paying!! Embrace default! Then Merkel & Co. can decide if they want to bail out their Hessische Landesbanks or whoever was stupid enough to lend billions of good money to Greek politicians. Maybe this would not be that popular in Germany, as the Germans – at least those outside the political-financial-complex – begin to realize that a healthy economy does not need that many banks, many of which only seem to exit courtesy of the state and only for the benefit of the political class in Germany and other states that they fund so generously.

Many may say the Greeks had it coming. Why have they run such irresponsible policy for so long? That is true. But shouldn’t all those bankers and fund managers that happily lent to the Greek government for all these years (and thereby made all this crazy spending possible) not have seen this coming, too. Didn’t they have all those high-paid credit analysts who should have had a look at what the Greek government did with the money?

Decisions have consequences, and in a free market wrong investment decisions – such as funding a spendthrift government- lead to losses. But lucky for the bond investors and bankers that they have friends in high places: the other governments will try to avoid outright default by one of their own at all cost. They rather have the productive sector – whether in Germany or in Greece – pay higher taxes than make it apparent to everybody that states are not credit-worthy and can (and will) default.

I think it may be too late for that. Humpty-dumpty cannot be put together again.

Default would still mean that the Greek state would have to shrink drastically -good! – but now at least not under the dictate of foreign governments. And those sections of society that do not benefit from state hand-outs and do not fund the state – and thus have nothing to do with this mess, even if they happen to have a Greek passport – are not made to pay.

But word is that the ECB doesn’t want government defaults. That’s handy because I think it will only mean that the ECB will ultimately be ‘encouraged’ to help out in the crisis with further purchases of government bonds funded by the printing press.

The debasement of paper money continues.