I was wrong: Gold's going to crash

The government’s been bailing out entire industries left and right. The Fed’s got their Fed Fund rates at 0%, giving banks the ability to borrow taxpayer money at no cost in this country. The Fed’s guaranteed trillions in worthless debt at the world’s biggest investment banks. You’d think the money supply in this country would be exploding right now. Certainly, that’s what I’d been expecting to see as the overpowering macroeconomic trend in this country for the next two to five years.

Alas the money supply, especially if you reconstruct the M3 money supply which the government used to publish as the most complete measure of how much liquid money is sloshing around this country, is collapsing. It stood to reason that if the Fed and Treasury are willing to print worthless dollars to send to the corrupt and insolvent banks, that a bunch of those worthless dollars would gush their way into the economy and increase the money supply. That increased money supply would devalue the existing money supply. That devaluation of the dollar would then likely translate into a bull market for gold.

But something happened on the way from the pump. See, all those same insolvent banks don’t just have all those trillions of worthless debt that they’ve stupidly risked their depositors’ savings on. No, those same banks decided to take their customer’s monies and risk them in secondary, derivative markets that were initially created to “insure” all those trillions in worthless loans the stupid banks made. Like a poker player on a losing streak, they started betting ten times as much on the derivative markets as they had in the actual lending markets. You know who they thought would pay them and make those insurance payments if those bets were to work out? Mostly AIG. And other insolvent banks.

They did this ten times over, dwarfing their initial bets that they’d already made ten times over on their depositors’ money, eventually gambling on tens of trillions of dollars on insurance on that worthless debt.

And now that the cows have come home and real estate et al is collapsing in this country, these same insolvent banks have to make their balance sheets look better even as they have tens of trillions of dollars of losses that they’re pretending don’t exist.  That's because even after the government has made these corrupt banks whole on about $200 billion of worthless insurance they bought from AIG, $200 billion is a small fraction of what the banks have actually pretended they’ve got on their balance sheets and that they’ve now got to “mark to market” slowly but surely.

And as those trillions of dollars of losses are brought back onto their balance sheets and recognized for the reality they are, the banks find themselves ever more insolvent. And so they have to hoard every dollar they can get their hands on to try to build up their reserves. And that means that despite all that taxpayer money being given hand over fist to these insolvent banks that the money supply keeps shrinking. In the US economy, debt creation equaled money creation which meant the money supply was increasing. Debt is being destroyed now and that means money is being destroyed. And that means money supply is decreasing.

And this trend isn’t about to reverse itself magically. The money will keep being sopped up by these insolvent banks’ balance sheets until they are forced to recapitalize entirely – washing their shareholders who foolishly bet on bad management (and often dishonest, fraudulent management such as at Bank of America and Goldman Sachs where the executives in charge always deny their need for capital even when they are desperate for capital), hurting the people who risked their money lending the company money (bondholders, that is) and ensuring that every depositor is made whole.

The preceding sentence is what the government is supposed to do now since Timothy Geithner, Mary Shapiro, Sheila Bair and the rest of the bureaucrats at the SEC and the FED and the FDIC completely failed at their jobs of protecting depositors’ money and policing for ponzi schemes and making sure the banks didn’t lever themselves up recklessly.

Until the FDIC, the FED and the SEC start doing their job and while they continue to redistribute trillions of working people’s money to the shareholders and counterparties of these corrupt, insolvent banks, we’re going to see wealth in this country destroyed and the money supply decline.

And that’s why gold ain’t going higher any longer. Gold can be a great hedge when the money supply is exploding. I’m still convinced that we’ll see inflation in many commodities that we “need”, such as food and milk. But betting on gold to go higher in a situation where dollars are actually being eaten out of the system isn’t the bet I want to make. Indeed, because of this new analysis, I expect we’ll see gold below $500 an ounce sometime in the next year or two.

Best bet for the next two to five years – higher interest rates. Regardless of where the FED keeps its FED Funds Rate (they can keep it at 0% forever if they want) the cost of capital in this country and around the world is going higher. The money supply is dropping and people are going to want more interest on the money they lend the US government, the private sector and anybody else. I’m open to ideas on what the best strategy for betting on higher market rates over the next two to five years is. Anybody out there think they got the best play on higher rates?