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Don't Doubt Bernanke's Ability to Create Inflation
 
With the Dow Jones now down 11% nominally from its high last month, NIA has been getting hundreds of emails and phone calls asking if there is any way we could be wrong about the threat of hyperinflation in the U.S. and if indeed deflation is the real problem we need to be worried about. The names Nouriel Roubini, Robert Prechter, and Harry Dent get mentioned to us a lot, with many NIA members asking why these so-called "experts" believe deflation is in our future.
 
Roubini, Prechter and Dent have been wrong about the overwhelming majority of their economic forecasts over the past decade. When it comes to their latest predictions about deflation, they will actually be right to some extent. We will see deflation in some assets like stocks and Real Estate, but only when priced in terms of real money - gold and silver. In terms of dollars, prices for pretty much all goods and services are guaranteed to rise dramatically over the next few years. Creating inflation is the only thing in the world Federal Reserve Chairman Ben Bernanke knows how to do and is good at.
 
During the past week, the mainstream media has shifted from saying we are experiencing an "economy recovery" to now saying we are at risk of a "double dip recession". Nothing fundamentally has changed in our economy. The fact is, the U.S. economy has been in a recession since mid-2000. All government reported positive GDP growth since mid-2000 has been due to nothing but inflation. Our economy should have experienced a depression in 2001 and an even greater one in 2008, but the depression has been temporarily avoided at the expense of an inevitable Hyperinflationary Great Depression down the road.
 
NIA believes it is impossible for the U.S. to experience price deflation when the Federal Reserve has held interest rates at 0% for the past 17 months. Sure, there will probably be a second wave of mortgage defaults that could cause another round of forced liquidations on Wall Street, but during any future period of forced liquidations, we doubt the U.S. dollar will still be looked at as the "safe haven" it was in 2008/2009. Gold and silver will soon be looked at as the only real safe havens because they are the only assets that provide protection from both a deteriorating economy and massive inflation. Precious metals will decouple from the Dow Jones and we will begin to see gold and silver rise at the same time as the stock market falls.
 
Bernanke was questioned yesterday following a speech at the Bank of Japan about whether a 4% inflation target would be better than the Fed's current inflation target of 2%. Bernanke responded that "it would be a very risky transition" if the Fed changed their inflation target, claiming that U.S. inflation expectations are currently "very stable". (NIA estimates the real rate of U.S. price inflation is already north of 5%.)
 
Unfortunately, no policymaker in the world is smart enough to accurately control the rate of price inflation through the manipulation of interest rates, and certainly not Bernanke. It's mind-boggling to us how the mainstream media could believe anything Bernanke says about inflation after how wrong he has been about everything else. Maybe the press has already forgotten that it was Bernanke who in July of 2005 said, "it's a pretty unlikely possibility" that home prices will decline across the country, "house prices will slow, maybe stabilize but I don't think it's going to drive the economy too far from its full employment path". We are 100% sure that Bernanke will be proven wrong again when it comes to inflation.
 
The U.S. Dollar Index has rallied from 75 to 87 since December and is approaching its high from March of 2009 of 89. This has given Bernanke the cover to keep interest rates at a record low 0%, but NIA believes Bernanke is misreading these economic signals. When the U.S. Dollar Index reached its high last year of 89, gold was only $900 per ounce. Today, gold is approximately $1,200 per ounce. The fact that gold has held up so strong despite a rapidly rising U.S. Dollar Index, proves that our financial system is getting ready to overdose on excess liquidity. The U.S. Dollar Index has rallied only because it is heavily weighted against the Euro. The Euro is now overdue for a huge bounce, which we believe will send the U.S. dollar crashing while sending gold to new record highs.
 
It's not good for us to pay too much attention to short-term volatility in the financial markets. Short-term "noise" often causes investors to second guess what they know is true. In our new documentary 'Meltup' (which has now surpassed 441,000 views in 10 days) we said, "If stocks were to see a nominal decline one last time, we will likely see Bernanke shoot up his largest ever dose of quantitative easing, which could turn the current Meltup into hyperinflation."
 
We are seeing signs of this coming true already. Washington is now calling for another stimulus. Larry Summers, senior economic adviser to President Obama, has asked Congress to begin drafting a new stimulus bill in an attempt to prevent a "double dip recession". The proposed size of this new stimulus is so far only $200 billion, much smaller than the last $787 billion stimulus bill. However, we are sure Congress will increase the size of it, especially if stocks continue their nominal decline. The new stimulus bill will likely coincide with trillions of dollars in additional quantitative easing by the Federal Reserve.
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Interest in buying silver as the precious metal best suited to hedging against inflationary government debt levels around the world, and a consequent imminent bond crisis, is growing among investors.

Articles on ArabianMoney.net about investment in gold and silver typically receive ten times more page views than items about investment in UAE stocks, for example. This does not necessarily mean that precious metals are actually the better investment but it does say a lot about investor sentiment and likely future momentum.

Silver bulls

Besides the bulls have a good case, and are still not leaning on an extreme position to justify buying precious metals. There is none of the top-of-the-market distortions of US economic data as seen in the stock market right now.

If you look rationally at 10 years of rising precious metal prices then the story to date has been one of slow but sure growth, leaving gold prices four times higher and the actually the best performing asset class of the past decade, apart from silver which is up six-fold, albeit with far greater volatility along the way.

There is no 80 per cent price spike in the past 13 months like US stocks. When markets spike it is almost always the time to get out. Gold and silver just are not there yet or even close to it. Indeed, the fundamental drivers of gold and especially silver prices are still in place.

Consider inflation, is it really under control? In the UK inflation is running at around 3.5 per cent against GDP growth of 0.4 per cent, so in real terms the economy is contracting by three per cent. Then again we hear reports of 20 per cent salary hikes in Chinese coastal cities and a bubble in Chinese house prices.

US stock market and silver

And surely the biggest forward predictor of inflation has to be the surging US stock market. Share prices are being pushed up by a monetary bubble with very little real evidence to support a strong economic recovery (see previous article). Once this bubble pops, up will go bond prices again, but for how long can that last?

Not for long surely if the laws of supply and demand mean anything. All over the world governments face mounting deficits due to their bailout packages and a shortfall in taxation from the worst recession since the Second World War. This means a gigantic government borrowing program is in progress.

We know this much for a fact and do not have to speculate. Now what normally comes with increased government borrowing? Higher inflation is the answer. This slowly, or not so slowly, devalues the debt burden of high bond issuance over time. The bond owners get a haircut to pay for government excesses.

Higher interest rates lower bond prices

Of course, what happens is that bond buyers wise up and demand higher and higher rates of interest to fund government debt. So you end up like in the late 1970s with high interest rates and high inflation. That also means lower bond prices as interest rates rise.

So you get a lot more buyers for gold and silver which are very tight markets on the supply side. In the late 1970s the gold price rose eight-fold from 1976-1980, and silver rose a staggering 25-fold. Silver is in shorter supply than gold, and so does better as prices take off.

ArabianMoney editor Peter Cooper’s latest book predicts $5,000 an ounce gold and is flying off the shelves at Amazon.com. You can order from the link on this website.