Eric Sprott: "We Are Now Paying For The Funeral Of Keynesian Theory"

Tyler Durden's picture

Fooled by Stimulus, by Eric Sprott and David Franklin

Despite our firm’s history of investing primarily in equities, we’ve spent much of this past year writing about the government debt market. We’ve chosen to focus on government debt because we fear its impact on the equity markets as a whole. Government debt is an intrinsically important part of the financial landscape. It is the bellwether by which we measure risk, and we believe we have entered a new era where traditional "risk-free" assets are undergoing a tremendous shift in quality.

In studying the government debt market, we have inadvertently been led to question the economic theory that most fervently justified recent government spending programs: that of Keynesian economics. The so called "beautiful theory" of Keynesian economics is arguably the most influential economic theory of the 20th Century, shaping the way Western democracies approached the balance between free market capitalism and government initiatives. Like many beautiful theories, however, Keynesianism has ultimately succumbed to the ugly facts. We firmly believe the Keynesian miracle is dead. The stimulus programs are simply not producing their desired results, and the future debt costs associated with funding these programs may cause far greater strife in the future than the problems the stimulus was originally designed to address.

Keynesian economics was born with the publishing of John Maynard Keynes’ "The General Theory of Employment, Interest and Money" in February 1936. Keynesian theory advocates a mixed economy, predominantly driven by the private sector, but with significant intervention by government and the public sector. Keynes argued that private sector decisions often lead to inefficient macroeconomic outcomes, and advocated active public sector policy responses to stabilize output according to the business cycle. Keynesian economics served as the primary economic model from its birth to 1973. Although it did lose some influence following the stagflation of the 1970s, the advent of the global financial crisis in 2007 ignited a resurgence in Keynesian thought that resulted in the American Recovery and Reinvestment Act, TARP, TALF, Cash for Clunkers, Quantitative Easing, etc., all of which have been proven ineffective, ill-advised and whose benefits were surprisingly short-lived.

The economic historian, Niall Ferguson, recently described a 1981 paper by economist Thomas Sargent as the "epitaph for the Keynesian era".1 It may have been the epitaph in academic circles, but the politicians clearly never read it. Almost thirty years later, we now get to experience the fallout from the latest Keynesian stimulus binge, and the results are looking pretty dismal to say the least.

There are a number of studies we have come across that suggest stimulus is the wrong approach. The first is a 2005 Harvard study by Andrew Mountford and Harald Uhlig that discusses the effects of fiscal policy shocks on the underlying economy. Mountford and Uhlig explain that from the mid-1950’s to year 2000, the maximum economic impact of a two percent increase in government spending was an ensuing GDP growth of approximately three percent. A two percent spending increase inevitably requires an increase in taxes. Due to the nature of interest costs, however, the government would have to raise taxes by MORE than two percent in order to pay back the initial borrowing. According to their data, this increase in taxes would generally lead to a seven percent drop in GDP. As they state in their study: "This shows that when government spending is financed contemporaneously that the contractionary effects of the tax increases outweigh the expansionary effects of the increased expenditure after a very short time."2 Stated simply, ‘borrowing to stimulate’ has never worked as planned because the cost of paying back the borrowed funds surpassed the immediate benefits of the stimulus.

In a follow-on study, Harald Uhlig estimated that an approximate $3.40 of output is lost for every dollar spent on stimulus.3 Another study on the same subject by C’ordoba and Kehoe (2009) went so far as to say that, "massive public interventions in the economy to maintain employment and investment during a financial crisis can, if they distort incentives enough, lead to a great depression."4

If the conclusions of these studies are even close to being correct, we are now in quite a predicament – not just in the US, but across the Western world. Remember that the 2007-08 meltdown was only two years ago, and as we highlighted in April 2009 in "The Elephant in the Room", the US government has spent more on stimulus and bailouts, in percentage of GDP terms, than it did in the Gulf War, Operation Iraqi Freedom, the Vietnam War, the Korean War and World War I combined.5 All that spending was justified by the understanding that it would generate sustainable underlying growth. If it turns out that that assumption was wrong, have the governments made a fatal mistake?

Another recently published Harvard study looked at stimulus at a micro-economic level and derived some surprising conclusions. Entitled "Do Powerful Politicians Cause Corporate Downsizing?", the authors compiled 232 occasions over the past 42 years when either a Senator or a Representative was voted into a controlling position over a big-budget congressional committee. Unsurprisingly, the ascendancy of the politicians resulted in extra spending in their respective districts – typically in the form of an extra US$200 million per year in federal funds. The researchers examined the economic effects of this increase in spending and found "strong and widespread evidence of corporate retrenchment in response to government spending shocks." The average firm cut back on capital investment by 15 percent and significantly reduced its R&D spending.

Companies collectively operating in the affected state reduced capital investment by $39 million a year and R&D by $34 million per year. Other consequences included increases in unemployment and declines in sales growth.6,7 Yikes!! That is not the response we’re supposed to get from government spending!

The Canadian government’s experience with Keynesian-style stimulus has been no better. The Fraser Institute reviewed the impact of the Government of Canada’s "Economic Action Plan" and found that "the contributions from government spending and government investment to the improvement in GDP growth are negligible."8 They state that, of the 1.1% increase in economic growth between the second and third quarter of 2009, government consumption and government investment contributed a mere 0.1%. Of the 1% improvement in economic growth between the third and fourth quarter of 2009, government investment and consumption contributed almost nothing. In the end, it was actually net exports that were the largest contributor to Canada’s growth. No Keynesian miracle in this country.

Our own findings compare favourably to the academic studies cited above. We looked at government spending and current dollar GDP increases in our ‘Markets at a Glance’ entitled, "A Busted Formula". Our findings, using decidedly un-econometric techniques, showed similar results, and are presented in Table A below. We looked at current dollar increases in GDP as published by the Bureau of Economic Analysis (BEA) and current dollar expenditures and receipts for the US government taken from the Treasury. One current deficit dollar resulted in an increase in current dollar GDP of a mere 10 cents. Again - no miracle Keynesian multiplier here.

If we use the Fed’s own numbers, the impact of debt on GDP is even more dismal. In Chart B below, we present the marginal impact of debt on marginal GDP since 1966 using data from the Federal Reserve. Deficit spending, which has generated smaller and smaller increases in GDP over time, is now generating a negative impact on GDP due to the costs of servicing the debt. The chart suggests we have already entered what PIMCO refers to as the "Keynesian endpoint", where the government can no longer afford to increase debt levels.10 No debt = no stimulus. No stimulus = ???

A more timely epitaph for our Keynesian funeral comes from a recent op-ed piece by Jean-Claude Trichet, President of the European Central Bank, that was published in the Financial Times and entitled "Stimulate No More". In it Trichet states that, "…the standard economic models used to project the impact of fiscal restraint or fiscal stimuli may no longer be reliable."11 He explains that while debt in the euro zone has increased by more than 20 percent in only four years and by 35 to 40 percent over the same time period in the US and Japan, we have very little, if anything, to show for it. We agree. New housing sales are at all time lows, consumer intentions for auto purchases are at multi year lows, the University of Michigan consumer confidence index has turned negative, new jobless claims have started to increase, and the ECRI - a composite of leading indicators - is now forecasting a recession (see Chart C).

Since Keynesian economics is no longer relevant, some are now arguing that tax cuts will save the day. Two of the academic studies we reviewed suggest that tax relief is a much stronger stimulus to the economy than government spending, and under normal circumstances this is probably true. But we are not in a normal economic environment. Even if the tax cuts implemented by George Bush in 2006 are extended by the next Congress, the US will still face the ‘Keynesian Endpoint’. A Government Accountability Office (GAO) report published in January 2010 states the following: "In our Alternative simulation, which assumes expiring tax provisions are extended through 2020 and revenue is held constant at the 40-year historical average; roughly 93 cents of every dollar of federal revenue will be spent on the major entitlement programs and net interest costs by 2020."12 Extending tax cuts won’t solve anything.

In the end, Keynesian stimulus ultimately fooled us all. It roped in the politicians of the richest countries and set them on an unsustainable course of debt issuance. Recent Keynesian stimulus has even managed to fool the sophisticated economic models designed by central banks. The process of accounting for massive government spending ‘confuses’ the models into calculating a recovery trajectory when it doesn’t exist. The Bank of England confirmed this with its announced £3.5 million overhaul of its current model due to its inability to generate accurate inflation and recession forecasts.13

Keynesian stimulus can’t be blamed for all our problems, but it would have been nice if our politicians hadn’t relied on it so blindly. Debt is debt is debt, after all. It doesn’t matter if it’s owed by governments or individuals. It weighs on the institutions that issue too much of it, and the ensuing consequences of paying off the interest costs severely hinders governments’ ability to function properly. It suffices to say that we need a new economic plan – a plan that doesn’t invite governments to print their way out of economic turmoil. Keynesian theory enjoyed a tremendous run, but is now for all intents and purposes dead… and now it’s time to pay for it. Literally.

 


1 Ferguson, Niall (July 19th, 2010) "Today’s Keynesians have learnt nothing". Financial Times. Retrieved on August 10, 2010 from: http://www.ft.com/cms/s/0/270e1a6c-9334-11df-96d5-00144feab49a.html?ftcamp=rss
For those interested readers "The Ends of Four Big Inflations" by Thomas Sargent can be found at: http://www.minneapolisfed.org/research/WP/WP158.pdf
2 Mountford, Andrew and Uhlig, Harald (July 2005) "What are the Effects of Fiscal Policy Shocks" SFB 649 Discussion Paper Humboldt-Universität zu Berlin. Retrieved on August 10, 2010 from: http://citeseerx.ist.psu.edu/viewdoc/download?doi=10.1.1.88.592&rep=rep1&type=pdf, pg. 20
3 Boskin, Michael. (July 21, 2010) "Obama’s Economic Fish Stories" The Wall Street Journal. Retrieved on August 10, 2010 from: http://online.wsj.com/article/SB10001424052748703724104575378751776758256.html
4 Uhlig, Harald (May 15, 2009) "Some Fiscal Calculus" Unpublished. Pg 13. Retrieved on August 10, 2010 from: http://www.princeton.edu/economics/seminar-schedule-by-prog/macro-s09/monetary-fiscal-policy-co/schedule/pdfs/uhlig_FiscalCalculus_v2.pdf
5 Sprott Asset Management, Markets at a Glance April 2009. The Elephant in the Room.
6 Reynolds, Neil. (June 9, 2010) "The Hidden cost of Stimulus programs" The Globe and Mail. Retrieved on August 10, 2010 from: http://www.theglobeandmail.com/report-on-business/commentary/neil-reynolds/the-hidden-cost-of-stimulus-programs/article1596810/
7 Cohen, Lauren; Coval, Joshua; Malloy, Christopher. (March 16, 2010) "Do Powerful Politicians Cause Corporate Downsizing?" Unpublished. Retrieved on August 10, 2010 from: http://www.people.hbs.edu/cmalloy/pdffiles/envaloy.pdf
8 Amela Karabegovic, Charles Lammam, Niels Veldhuis (March 23, 2010) "Did Government Stimulus Fuel Economic Growth in Canada? An analysis of Statistics Canada Data" Fraser Institute. Retrieved on August 10, 2010 from: http://www.fraserinstitute.org/publicationdisplay.aspx?id=15912&terms=stimulus
9 We used current-dollar GDP numbers provided by the BEA to determine the marginal impact of deficit spending on GDP. There is no separate data set generated by the BEA, however the number is published in their news releases. It is also worth noting the divergence between reported numbers from the BEA. While the current dollar measurement of GDP decreased by $185.1 billion or 1.3% on 2009, real GDP was widely reported as increasing by 0.1%. This divergence is due to seasonality adjustments in real GDP and the percentage change reported is a blended increase over the 4 quarters in 2009.
10 Goodman, Wes and Reynolds, Garfield (June 8, 2010) "Pimco’s Crescenzi Sees ‘Endpoint’ in Devaluations (Update2)" Bloomberg. Retrieved on August 10, 2010 from: http://www.businessweek.com/news/2010-06-08/pimco-s-crescenzi-sees-endpoint-in-devaluations-update2-.html
11 Trichet, Jean-Claude. (July 22, 2010) "Stimulate no more – it is now time for all to tighten" Financial Times. Retrieved on August 10, 2010 from: http://www.ft.com/cms/s/0/1b3ae97e-95c6-11df-b5ad-00144feab49a.html
12 United States Government Accountability Office. The Federal Government’s Long-Term Fiscal Outlook January 2010 Update (GAO-10-468SP). Retrieved on August 10, 2010 from: http://www.gao.gov/new.items/d10468sp.pdf
13 Aldrick, Philip (August 10, 2010) "Bank of England overhauls forecast model after errors" Telegraph. Retrieved on August 11, 2010 from: http://www.telegraph.co.uk/finance/economics/7935732/Bank-of-England-overhauls-forecast-model-after-errors.html

 

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akak's picture

OK, that was officially the FUNNIEST comment on ZH today!

Apostate's picture

That's Hoenig... he's been off the reservation for a long time, as chronicled by ZH.

Amsterdammer's picture

Onubre Einz who surveys the U.S economy

for the French newsaper Le Monde, uses

this interesting angle:The US GDP grew by 151 billion $ in Q2. At the same time federal debt rose by 428 billion $, while budget defcit rose by 286 billion $.Thus, in order to produce a $ of growth, the federal government had to spend 2,83 $ on financial deficit and 1,88 $ of budget deficit...

http://www.criseusa.lemonde.fr

Chuck Mentzel's picture

Death of Keynesianism? What a joke!

I would say death of economics. If anyone still believed until two years ago that economics is a science that can produce predictability, now they have no excuse. No economist knows how to create value without looking at what hierarchy of basic needs there is and what culture a society has. Economics always makes assumptions about behaviour which can easily change quite fast without any warning. I would bet money that any past economic crisis had actually a deeper underlying moral crisis. Try to solve that using economics.

This is what is happening right now, only that the options available have narrowed to a degree of 'unusually uncertain'. That's what an economist would say: from the point of view of economics, this uncertainty is unusual, that is we have run out of textbook text on this.

DaveyJones's picture

profound but ultimately a chicken and egg issue. Moral systems and their failures can create economic realities but the reverse is also true. At least that's what our bedrooms, schoolyards, prisons and history books say

spinone's picture

I agree with Centerline above re:  debt backed currency.  Its a perpetual motion machine.  But by offshoring we allowed incomes to drop.  With securitization we allowed lower underwriting standards.  With our death embrace with China we kept interest rates down.

 

Falling income, falling employment, poor underwriting, low interest rates.  Bankers were allowed to debt saturate the economy.  They killed the goose that layed the golden egg.  Once you debt saturate a debt based, fractional reserve, fiat currency, you kill it.  The FRN is dead.  Trade them for things of permanent utility before the rest catch on.  Wells, solar panels, gold and silver, matches, toilet paper, canned and freeze-dried foods, firearms and ammunition.  The basics.  I'm not kidding, and I'm not a crackpot.

 

If you're going to panic, panic first.  Nows the time to panic.

Misean's picture

Keynsianism was called crackpot in the 19th century.  It took some 50 years of expanding bureauRATcy and infiltration of Academe by the monied elite to turn it into a gov't policy.

glenlloyd's picture

Problem was that when viewed from the ivory tower it appeared to work, but down on the ground in reality it failed miserably. I also thing a better word would be bureaucrappy.

Treeplanter's picture

We're going to get this sorted out again.  We have tried all the shortcuts, the free money, etc.  This totalitarian socialist model is getting more discredited daily.  Assuming we don't blow it from the get go, we have a chance to restore the rule of law based on equal justice, have impartial taxation, honest money, free market, dogma free education, and all that good stuff.  With the burden of debt gone through bankruptcy, I think we will prosper and grow at a decent rate.  On the other hand, we could totally blow it.  Makes it interesting.

TooBearish's picture

The "stimulus" was hardly a true Keynesian response - it was mostly political payoffs, transfer payments to bankrupt states, unemployment insurance and other transfer payments for consumptive purposes. I would like to know what percentage of the 800B actually went to infrastructure projects, which have some multipler effect....

Mark Beck's picture

From the article:

"Debt is debt is debt, after all. It doesn’t matter if it’s owed by governments or individuals."

Well no several counts:

Individuals need not tie themselves to the debt obligations of the US. When these get too high I know me and my capital will be long gone. 

Debt is backed by the ability of Government to impose tax. Debt retirement through tax requires growth to offset costs and still support wages. This is true of personal debt and government debt. The costs are clearly too high.

----------

Bad debt purchased using monetary inflation has a first use benefit. The debts of the US are payable by the US tax payers. The direct beneficiaries of QE probably do not even have the capital in any US bank, or denominated in USDs. I know I wouldn't.

The MBS buy was a thieft, and this money is long gone and converted. The debt (tax) this imposed, must be paid by the US taxpayers. The financial elite are not exposed or obligated to pay these debts.

----------

From the article:

"Keynesian stimulus ultimately fooled us all. It roped in the politicians of the richest countries and set them on an unsustainable course of debt issuance."

What? It did not fool us all, and fooling the politicians was nothing more than a threat from Paulson. Easy.

The politicians crumbled under his BS without blinking an eye. A lap dog would have at least snarlled somewhat.

So Lehman when bunkrupt and the market responded poorly, ya so what. If the FED and Treasury pledged to support them with debtor in possesion financing during bankruptcy then end of story. But, no. The problem was systemic and they knew it. The derivative exposure relative to capital reserves basically meant insolvency for the big banks.

----------

It was clear that the FED failed as systemic regulator and allowed leverage born of derivatives to create systemic insolvent interdependent risk in the BHCs. The banks were allowed to leverage up in order to make profits on fees generated from SIVs.

The banks and the GSEs should have been allowed to fail, and the FED offer liquidity directly as a stabilizing effect. However, that would be like the FED cutting off its own head. The big wall street banks are the FED. There is no real difference between Goldman and the FRBNY. Except Goldman now has much less bad debt.

Mark Beck

Thunder Dome's picture

GOD BLESS THE BANKSTERS!

braunagn's picture

Raise your hand if you love Paul Krugman and Joseph Stiglitz!

jomama's picture

Sprott takes a very diplomatic approach by saying: 

"In the end, Keynesian stimulus ultimately fooled us all."

When in reality, many of us were never fooled at all by the prospect of perpetual growth under the guise of creating more debt to pay off old debt.

Thus is the nature of man at this critical turning point of our modern civilization, where the unsustainable beast rears its ugly head.  

My main worry is how the nation's military industrial complex will react when default occurs.  And it eventually will, in either a peaceful or a non-peaceful manner.

Apostate's picture

I believe he means more that the stimulus distorted price signals, as it continues to do.

Price signals are totally meaningless in a ZIRP world. Money is just zipping around everywhere to respond to the random burps in price movements that are merely reactions to state intervention and Fed policy. 

Sunshine Down the Road's picture

Ok... so does this mean we breakout our science fiction books to look for a new way ahead?

Slartibartfast's picture

Blaming 'Keynesianism' today is like raiding a bootleg gambling joint and blaming it all on the coatcheck girl. It's disingenuous in the extreme...the 'Bush Tax Cuts' were one-sided gifts to the richest unproductive 1%; if they were Keynsian, they would have cut spending or increased taxes somewhere else before they were applied. And Keynesianism has nothing whatsoever to do with the a-regulation of markets. Bailing out the bad debts of banks was not keynsian, or Socialist, or Collectivist...it was the blatant inherent corruption in the US financial and political system acting the way it usually does, free from all ethical constraint or reasoned template.

NOTaREALmerican's picture

In a sociopathic society the sociopaths win.  

tom's picture

I see your point, but I disagree. The Bush tax cuts were mostly Reaganesque supply-side economics, but with a slop of Keynesian tax cuts for the middle class thrown on top. They were sold to voters in Keynesian anti-recession stimulus terms. Mankiw was chairman of Bush's council of economic advisors. Within the Greenspan Fed, Bernanke was already leading the New Keynesian revival, using its theories to justify the dumping of monetary stimulus on the burst dot.com bubble.

It's true that direct bailouts of banks aren't Keynesian, although they're in line with the spirit of Keynesian anti-deflation, which argues that companies that allowed their cost structures to inflate during a bubble and then face losses from post-bubble deflation should be bailed out by having the government deficit-spend to prop up general price levels. Keynesians are inclined to see failing businesses as victims of inactive government.

It's also true that the softening of reserve requirements and general lack of oversight of shadow banking, which have nothing to do with Keynesian economics, helped blow the bubble and cause the crash. But that doesn't remove the blame from Keynesian economics for its role in blowing the bubble. It was a huge f*-up, with plenty of blame to go around.

But when we're talking about the failure of Keynesian economics, we're not talking about who caused the 2007-2008 crash. We're talking about who in 2008-2010 refused to acknowledge that government spending was bloated by the bubble and needed to be cut, who insisted that additional stimulus was needed on top of the massive deficit already being run because revenues couldn't support bubble levels of government spending, who tried to sustain more than 10% of GDP of deficit spending, who sent debt-to-GDP on a course towards inevitable crash.

http://keynesianfailure.wordpress.com/

breezer1's picture

dated today, casey's dispatch on shortages.

 


The Best Gold Interview of 2010

Jeff Clark, Casey's Gold & Resource Report

Much of what passes for “insider” information these days is often conspiracy-edged or largely conjecture. True inside information is actually hard to come by. So what follows is the refreshingly candid and uncut version of my talk with a first-hand participant in the murky and little-understood world of gold bullion, mints, and bullion dealers.

Customarily, when considering a company for a potential recommendation, I hold a series of discussions with management. It was during one of these vetting procedures that I spoke with Andy Schectman of Miles Franklin – and heard some disturbing reports about supply that every investor should know. Andy is a bullion seller, so you’re welcome to take his comments with a grain of salt. On the other hand, what he sees week after week and what he hears from his high-level industry contacts might just make you pull back on that salt shaker and re-inventory the number of ounces you own...

Jeff Clark: Andy, tell us about the kinds of contacts you have in the industry and where you get your information.

Andy: I’m associated with two of the six primary mint distributors in the United States. There are only six primary precious metal distributors here because the qualifications are very difficult to meet. Aside from having $100 million in annual sales, you have to extend a $50 million line of credit to the U.S. Mint, and very few companies can do that. So in working with these companies, I’m privy to information that many others aren’t.

Jeff: So, what have you been hearing from them about supply for physical gold and silver?

Andy: I think in order to properly characterize what’s happening in the industry, it's important to start from a big-picture perspective, which is that by and large the masses in this country are not involved in precious metals. In my experience, the move we've seen in gold over the last decade has primarily been from international investment – sovereign wealth funds in the Orient, petrodollars in the Middle East, India buying from the IMF, Russia and Japan accumulating, etc.

Most U.S. investors have lived through nothing but prosperity and good times, where they perhaps didn’t think they needed to own gold – but I think the rest of the world isn't as optimistic about the future. So when you talk about supply, it's important to acknowledge that most people in this country don't own any gold and silver. To me, that's what should really alarm people.

Jeff: Tell us how you would characterize supply right now.

Andy: Fragile. Availability of product changes almost weekly.

But it’s worse than that. When the market plunged 1,000 points in one day last month, two German banks bought about 35,000 or 40,000 one-ounce coins and cleaned out the Royal Canadian Mint overnight. Think about that: two banks cleaned out one of the world’s preeminent mints in one day.

Then you have the Austrian Mint recently announcing they were running into supply issues. And the U.S. Mint has been the model of inefficiency for the last several years. They have been either reluctant or unable to meet demand when it comes to Gold Buffalos, Platinum Eagles, and fractional Gold Eagles. They issue dribs and drabs of them, but certainly not enough to meet demand.

Jeff: And they frequently run out.

Andy: They frequently run out, they frequently have delivery delays, and it's a situation where very quickly we could see major disruption in the supply chain.

Jeff: We saw supply constraint in 2008, where dealers were running out of product. Do you think we’re headed there again?

Andy: I do. In 2008, when gold dropped from $1,000 to $700 very quickly, all product worldwide disappeared. Within weeks the U.S. Mint was shut down. The Canadian, Austrian, and Australian Mints were all eight to 12 weeks back-ordered or shut down. The Australian Mint stopped taking any new orders in July or August for the rest of the year. The Rand Mint, for the first time ever, sold out of all its product. One wealthy Swiss businessman flew his own 747 there and cleaned them out.

So product was impossible to get, but not just from the primary mints; even the refiners that made 100-ounce silver bars couldn't get them. No one could get anything, and it was a very scary time if you owned a gold company. There were many days I sat at my desk wondering how I was going to get product tomorrow, and there were times we couldn't take orders whatsoever. And that comes from a company that’s done over $100 million in sales, is a member of the certified exchange, and that has contacts that run very deep in the industry – and I couldn’t get anything.

A friend of mine who owns a very prominent gold and silver company in Colorado has a store front, and back then he told me, "I want to put a sign on my window that says, ‘All we do is buy, we don’t sell,’ because one person will come in there and clean me out and there’s nothing to be had.”

So what I think is ahead comes from that experience. If you factor in that very, very few people in this country have even held a gold coin – let alone own any gold, or understand the reasons to own it, or will even accept the arguments for owning it – I think the primary distinguishing characteristic of this market will be that people won’t be able to get product when they want it. The rising price in and of itself will not be the main hurdle. For the most part, people will overcome price, because they’ll want to own it. The real issue will be getting product in a timely fashion, and that will become difficult for the average American.

Jeff: What about supply from those selling coins and bars who bought at lower levels? Doesn’t that increase the available supply?

Andy: This is what I believe is a distinguishing feature of this market: there is a total absence of a secondary market. There isn’t one. Period. In years past, we used to do a lot of business with people wanting to sell. Today, virtually no one is selling their coins back to us. In fact, for every 100 transactions we have, maybe one is a seller – the other 99 are buyers. Our largest supplier, who provides over 60% of all bullion to the U.S. market, told me earlier this month they have days without one single buy back. And this is from the largest supplier in the U.S.

Jeff: Why do you think no one’s selling?

Andy: People are afraid. They’re afraid of what's happening geopolitically, economically, fiscally, and want to hold on to their gold. As they should, because this is exactly the kind of circumstance gold is for.

So I would argue that as gold and silver creep higher, there will be more and more buying and less and less selling. And less selling means less product for buyers.

When you look at the fact that there is no secondary market, and then you throw into the mix that the mints are already running into production problems, and then add the troubles in Europe, which could easily spread, I think it’s easy to see how demand could outstrip supply. I assure you, there's an awful lot of gold acquisition going on in other countries – the Swiss and Germans, for example, see the handwriting on the wall. They were buying everything up when the European crisis broke. It was bedlam for awhile.

And if all of a sudden people here wake up and feel they really need to own gold but can’t get it, we’ll be right back where we were in 2008.

But to your point, yes, nobody is selling anything right now and almost anything you buy will be dated 2010. That’s because there are no backdatedcoins to be had virtually anywhere. Maybe 20 here or 50 there, but nothing on a meaningful basis.

Jeff: It sounds like regardless of what’s going on in America, global supply could be in jeopardy if this trend continues.

Andy: Absolutely, especially with the fact that there is no secondary market. Really, the people who enter the game late are going to be at the mercy of the mints. And if the mints run out of supply, or just stopped selling for whatever reason, it's “game over” for those who want to accumulate. Right now there's as good a supply as I've seen in a couple years, and that's at a time when we've already witnessed the Royal Canadian Mint running out of gold for a week or so, the Austrian Mint also running out of product, and the U.S. Mint rationing Silver Eagles for a short time.

Jeff: And you’re calling this a good supply market?

Andy: Yes. It’s as good as we've seen in a couple years.

Jeff: That's scary.

Andy: I don’t think you’re exaggerating by saying that. And the message is, “Buy now while it's still available.” I know it may sound like I'm trying to sensationalize it, but I'm really not. Based on what I know, it’s my opinion that if 5% of this country put 5% of their money into gold, there would be nothing left tomorrow morning. Supply is that small compared to the tremendous amount of money that's out there.

Here’s another example. I had a meeting with a money management company here in Minneapolis that manages some of the oldest money in the entire country, literally billions of dollars. And when I spoke with them, I discovered the principals of the firm had never held a gold coin. They asked me questions that were as rudimentary as what I would get from a complete novice. By the end of the conversation, they said they would start with a $5 million order. I later learned this was a small order for just one of their clients. It was just dipping a toe in the water for these people.

Well, it won’t take too many of these kinds of people waking up to gold to drain the supply chain. Most of the wealth in this country is driven through money managers, and at some point these people will tell their managers, "I don’t care what the price or premium is, get me gold." When they come knocking in large numbers like that, the supply chain will dry up overnight. I know this to be true. If we see an event that drives money managers to buy physical gold, the supply will be gone.

Jeff: Some of that money is already going into the ETFs.

Andy: Yes, but not when you consider the total capital that’s available. And keep in mind that the prospectus for GLD and SLV state that, more or less, you can’t take possession of the metal. So, do you “own” gold if you have shares in GLD or SLV, or any ETF, for that matter? If you can’t put the coin or bar in the palm of your hand, the answer is no.

Jeff: Are you seeing any difference between gold and silver? Is one more difficult to come by than the other?

Andy: We've seen a lot of demand for silver, probably more so than gold, and the U.S. Mint has already rationed Silver Eagles once this year. Junk silver bags are becoming much harder to get. And I think the higher gold goes, the faster silver will disappear. At some point the American public will realize they should have some gold and silver, and we could see a situation where the gold price could get out of reach for some investors. Those people will turn to silver and, as a result, it will probably be tougher to get than gold.

Jeff: If supply gets scarce, do you expect premiums to shoot up?

Andy: Absolutely. In 2008 the premiums were astronomical. Silver Eagles were $5.50 to $6 over spot. Gold Eagles were $100 to $150 over spot. The premiums went parabolic. That could easily happen again.

Jeff: And that was due to constrained supply.

Andy: Yes. When the price fell off the table, everything disappeared quickly. That’s counterintuitive, I know, because logic would dictate that as the price of something falls, demand is waning. But as the price fell, I think it became more attractive to large interests around the world, and everything got gobbled up fast.

Looking ahead, I can tell you that the only way you'll see premiums stay where they are is if the mints are able to keep up with demand, and based on what I see I would argue there is no way they can. They can’t even keep up now. On top of that, as I stated, people aren’t going to sell their gold this time unless they absolutely have to, so there won’t be any supply coming from sales.

Jeff: So your message to someone who owns little or no physical metal now is what?

Andy: Acquire as many gold and silver ounces as you can. In the end it’s not about price paid, it's about number of ounces. View the supply issue as critically as you would the price, because I believe that more than anything else, the lack of available supply will mark this industry.

Jeff: Excellent advice, Andy. Thanks for your input.

Do you own enough gold and silver? We made special arrangements with our new recommended dealer for some seriously discounted bullion, enough that the savings will cover your first year's subscription to Casey's Gold & Resource Report. The discounted price, available only to our readers, will remain open for only a short time. Check it out risk-free here.

And that, dear reader, is that for this week. Until next week, thank you for reading and for subscribing to a Casey Research service!

Chris Wood
Casey Research, LLC

 

 

blindman's picture

http://maxkeiser.com/

.

[KR68] Keiser Report – Markets! Finance! Tier Terra! August 12th, 2010 by stacyherbert
Respond

Stacy Summary: We look at Tier Terra and future crimes. In the second half of the show, Max talks to former banking regulator William K. Black about rackets and fraud in the financial sector.

.

 http://www.youtube.com/watch?v=ulTmmTIlM_o

ex VRWC's picture

 

Is this the blindman from RGE?

ex VRWC

Protest the crisis the old fashioned way at economicprotestproject.blogspot.com !

blindman's picture

e,

 one and the same yet slightly altered by

time and events.  not.  whereto-for obi one? o.b.,

and mark and.....?  i'll check the link.

BennyBoy's picture

KEYNES KRAP IS A FIG LEAF FOR OUR PRIVATE CENTRAL BANKERS.

Keynes, a simple belief system to keep everyone fooled. It almost works but never does.

Only economists with Phd's and Nobel Prizes believe that that religion works.

Atomizer's picture

No, no, no.  Keynesian will have a rebirth. It's only a matter of time when someones big toe crosses over a border.

The U.S. has remained relatively quiet following Russia's announcement that it had deployed S-300 strategic air defense batteries to the breakaway Georgian republic of Abkhazia. Analyst Marko Papic examines the issue.

http://www.youtube.com/user/STRATFORvideo#p/a

 

Atomizer's picture

Would like to open a discussion on Deflation vs. Hyperinflation.

Federal Reserve Debt Monetization Explained

http://www.youtube.com/watch?v=89pOwgCZJ7I

 

How will this be spun?

At GSEs, Undercapitalized May Not Mean 'Underreserved': KBW

http://www.housingwire.com/2010/08/12/at-gses-undercapitalized-may-not-mean-underreserved-kbw

The heavily weighted decisions Ben, Tim, GS and Obama have before them.

Mission of Burma - That's when I reach for

http://www.youtube.com/watch?v=gzMu6ugTNfA

Temporalist's picture

Rick Santelli and Ron Insana on Fed and Hoenig's dissent:

http://www.youtube.com/watch?v=9KV0ofR7c7o

kennard's picture

While I agree with Sprott's conclusions, he doesn't support them and misunderstands Keynes. Recently, the word "Keynesian" is being used as a fashionable perjorative by commentators who don't have a clue what it means.

Sudden Debt's picture

seven good years, seven bad years. 4 more bad ones to go so to speak.

And in these 4 years we'll get a world word 3, some more environment disasters and at the end a new economic system.

DirtySouth's picture

Just a little tip, for those who are not aware..

 

Fiscal spending in its present form, has absolutely nothing to do with John Keynes.  If you really wanted to lerner something, there are many other non-mainstream economists to turn to.    

New_Meat's picture

South-

"...there are many other non-mainstream economists to turn to."

I smell Columbia, Cloward, Piven.

- Ned

redpill's picture

Something tells me those names are going to be mentioned with increasing frequency.

mynhair's picture

Keynes never realized that you can't trust others with your own money.

blindman's picture

john dillinger never blamed keynes,  he was honest

concerning the nature of his occupation.  

a sociopathic thief and some people admired him.

do you see the problem?

mogul rider's picture

I thought I could corner the gold market 10 years ago. My wife thought I'd lost it, talking about the coming depression etc. 

 

I now realize I majorly screwed up, I should have started rounding up squirrels.

Damn it

mogul rider's picture

here's what I know, my local and provincial politicans quote Keynes like he's god. That's all I need to know that the guy is an idiot.

 

Short your politicians and be rich.........................

 

 

blindman's picture

" when you're born in this world you're given a ticket

to a freak show,  when you're born in america, you're given a front row seat."

george carlin.

.

http://www.youtube.com/watch?v=7f0GStBCeUU&NR=1

chrisina's picture

Keynes advocated that governments should build savings during good times so as to offset recessions by stimulating the economy spending those savings.

So we should have had

when  

change in GDP >0 (growth), change in govt debt <0 (govt savings)

and when

change in GDP<0 (recession), change in govt debt>0 (govt deficits)

 

What we've had is governments building debt during good times and even more debt during recessions. That's not Keynesianism, it's just irresponsibility...

 

If you want to blame someone, blame Milton Friedman and monetarism. Keynesianism has nothing to do with the mess we have today.

 

Also, Chart B is completely erroneous : there are many other episodes during the period of the chart when change in GDP was negative (recessions) and change in Govt debt was positive, ie when the quotient was negative.

 

This article is pure nonsense and lies.

Monk's picture

It's not just Keynesian Theory that we're paying for, especially given the fact that only 3 pct of total money supply consists of coins, paper money, and central bank notes, and that much of it--around $800 trillion--consists of unregulated derivatives, or that comercial banks can (and have) bypass any fractional reserve ratio by simply borrowing from other banks.

What we are seeing, in essence, is the failure of free market capitalism, built upon increasing production and consumption of goods, all of which necessitate increasing credit, eventually leading to credit bubbles bursting and resource shortages. And both are now taking place, as seen in the crash of '08 and oil production flat since '05.

 

 

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