Perhaps you have heard that the Fed is printing money to get out of the crisis and that such actions cannot possibly end other than in even more money being printed and in the dollar losing its ability to buy you tangible assets. In our essay on gold and the dollar collapse we pointed out that since 1970 the debt numbers have gone up more than 40-fold (!). In 2002, future Fed chairman Ben Bernanke noted that “the U.S. government has a technology, called a printing press (or today, its electronic equivalent), that allows it to produce as many U.S. dollars as it wishes at no cost.” In keeping with these words, Bernanke has played an important role in the introduction of three rounds of what is known today as quantitative easing (QE) – programs expanding the money supply beyond the usual. The bill for QEs is $2.25 trillion and counting. As of January 17, 2013, U.S. debt totaled $16.4 trillion. These extraordinary numbers call for a deeper analysis and today we focus on what QE actually is.
The beginning of the economic crisis is usually linked with the date of September 15, 2008 when the U.S.-based investment bank Lehman Brother filled in for bankruptcy. Lehman Brothers went down with a bang, sending shockwaves through the financial markets and effectively beginning the global banking crisis. Lehman went bankrupt because of its bets on U.S. mortgages which had gone bad. When it became apparent that Lehman would not meet its obligations, everybody in the markets began to fear that everybody else could have excessive exposure to the housing market by holding assets linked to the performance of that market on their balance sheets. The market “dried up” – the lending between financial institutions effectively came to a halt and there was no liquidity in the market. In such an environment the financial markets ceased to channel funds to businesses and the credit market froze. Without credit, companies were not able to operate in a regular way. Such a disruption added to the problems stemming from the declining house prices. So, the lack of liquidity in the financial markets translated into a recession….
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…It is worth noting that inflation started off for good after the debt to GDP ratio peaked. So, the inflation does not have to be obvious until the end of the debt expansion process. Translating that into the current economic situation: the mere fact that there has been no QE-related inflation so far does not mean that there automatically will be no inflation in the future, after the QE has ended. And the inflationary scenario seems all the more plausible since the government has only a number of ways to decrese the debt pile: economic growth, taxes and inflation (to simplify a bit). Growth is hard to achieve only through policy decisions, the taxpayers strongly oppose any new taxes, so it seems that the easiest way is to inflate the debt away, since a rise in inflation is not easily recognized by the markets (at leas at the very beginning). Naturally, 1946-48 was very different from today but a hike in inflation after the end of QE is still possible. Now, imagine official inflation numbers reading 8% or even 15% just as they did in 1946-48. Such a scenario would be extremely bullish for gold.
To sum up, even if the economy gets back on track, there is still a high probability of a hike in inflation which would bring the real debt burden down but could be very bullish for precious metals. If the economy doesn’t improve decisively, there is still a risk of further increases in the money supply, which could fuel uncertainty and translate into higher gold prices. So, no matter if QE saved the economy or just burdened it, it may significantly contribute to the gold bull market. It seems that it already has.
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