The dollar bubble

Most recently the gold bears are coming out bashing gold saying it's a bubble which is going to blow up in the gold bugs face. Wells Fargo came out this week claiming gold is in a bubble and that investors should look to "cashing" in their gains. On a technical basis sure gold looks very bubbly but fundamentals are at play in this specific situation. Quoting Doug Casey on Forbes:

I hate encouraging people to buy gold at $1,800 an ounce, because that level is already more than 700% above the bottom in 2001, and I’m a bottom fisher. I like bargains, and I can’t call gold a bargain today. But it’s plain as day that gold is going to go higher. There’s simply no other place for people to try to safeguard their wealth as the dollar, euro, and other currencies plummet toward their intrinsic values. What else could people buy as they get more and more afraid of paper currencies losing acceptance? What are corporations going to do with the billions of dollars in their treasuries when their management gets frightened? Where else can they go when they need to get rid of dollars, euro, yen, and yuan? Central banks, too – what will they do when they need to dump dollars in favor of something that will hold value?

This is why I see a bubble in gold still ahead. It has nothing to do with the supply and demand for gold in the jewelry trade, or whatever – it’s going to be a result of there being no viable alternatives when the paper-money con game is over. Gold is the ultimate cash, and that’s where people will go when there’s a global, total, panic to cash.

Mr. Casey says it best that gold is the ultimate cash while paper cash is simply trash. I agree with this assessment as dollars can be created by fiat while gold has to be mined. In the end its simply a store of value and nothing more.

Now what if the store of value that the world has relied on is in a bubble? Right now there is some crazy shit happening in the markets with gold and treasury bonds moving in the same direction. This week we saw record lows in the 10 year treasury AND a record high in the price of gold. Remember that bond prices and yields have an inverse relationship. This week the 10 year yield hit 1.97%, just as I had called a few weeks ago on this blog (that we would see sub 2% on the 10 yr). Now also recall that a good 10 trillion dollars worth of US government debt is in existence and the vast majority of these bonds have gone up in face value. While we are currently following Japan with its incredibly high level of government debt and low yields I believe this trend will reverse itself as over 8 trillion dollars are held overseas. The total cumulative trade deficit of the United States since 1975 totals over 8 trillion. With a 600 billion annual trade deficit this number will continue to grow. Throw in a massive 1.5 trillion dollar annual federal deficit and what we get is a recipe for a dollar catastrophe.

In 2008 when global stock markets cratered there was a knee jerk flight to safety in the US dollar as the US dollar index popped from 72 to 89. Fast forward to 2011; stock markets have fallen close to 30% globally and the dollar index languishes at all time lows of 73 while gold surges to 1850. Something has obviously changed. Bonds continue to rally with rates at historic lows. Eventually, gold or bonds will crash. I expect a volatile battle between the two as the powers that be obviously favor the strength of treasuries over the strength of that evil barbaric gold. I expect the authorities to implement a punitive capital gains tax on gold to bring down the price but in the end reality will win as it always does.

Gold and dollars are essentially the same thing: a store of value. Except you can't print gold at will. I refuse to put a timetable on when the dollar bubble will burst but when it does the American standard of living will crash and burn alongside the dollar. And this is when the real pain will begin. Not that it signifies the end of the world but it will signify the end of life in America as we knew it. As Americans have been afforded the opportunity to live above their means for the past three decades, we will be forced to live below our means, for possibly the same amount of time. One silver lining out of this mess will be a wealth transfer from creditors to debtors as a dollar devaluation will free millions of student loan borrowers from the chains of debt serfdom. Those who hold their wealth in paper dollars have been put on sufficient notice of the risks involved with holding paper dollars. Fuck it, let the wealth adjustment begin. The sooner the better.