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An ABCs of Gold Investing Update

by Michael J. Kosares
Author, The ABCs of Gold Investing: How to Protect and Build Your Wealth with Gold
Founder, USAGOLD-Centennial Precious Metals, Inc.

October 7, 2008

(An addendum to my recent article: The chickens come home to roost)

The Big Bailout of 2008

bailout moneyThere has been a great deal of finger-pointing going on.

Who is to blame for this extraordinary crisis? Arguably, it is the most personal of the many crises visited upon us in my lifetime and probably the most far-reaching since, as of this morning, it had engulfed most of the world. Congress and the American people are looking for a "villain" or "villains" -- someone or some group that can be tagged with the blame for what has happened to the world economy. Wall Street's investment bankers rank high on that list. Driven by greed, they couldn't have cared less about the corporations which employed them and the customers who sustained them. Government, and central banks, come in a close second. Regulators failed to do their jobs and the central banks simply fed the credit bubble without regard to the consequences. Others tag individuals like Alan Greenspan, Ben Bernanke and George Bush. I could go on with the various candidates in the blame game but it diverts me from my point.

The fact of the matter is none of this really hits the mark. The real culprit is an idea -- a bad idea, one that has gripped the advanced societies since the introduction of Franklin Roosevelt's New Deal, the federal government's response to the Great Depression. The words which encompass that idea most closely are "moral hazard." When we hear those words we immediately think of the Wall Street financial houses and funds in their relationship with the government. What we do not generally compute is that moral hazard applies to the rest of us as well.

Moral hazard is the state of mind created by a belief that the government is going to bail us out if something goes wrong -- in our lives, in our economy. How many of us assessed the spreading damage of the credit crisis and said to ourselves, "the government will step in and take care of it"? How many of us believe that the government will somehow bail us out personally, or as a society, when things go bad?

The answer to that question is "almost all of us." And this goes for Wall Street's masters of the universe as well. It should not escape our notice that when the chairman of Lehman assigned blame in Congressional testimony yesterday, he noted that his firm did not get the same bailout that others did. In other words, if only the government had stepped in, Lehman wouldn't have collapsed and the hearings being conducted yesterday would have been unnecessary.

But you see, this whole idea of personal and public bailouts is what is behind the problem in the first place. As long as institutional man believes that the government stands behind him no matter what level of risk is taken, the level of risk will rise to the point failure is imminent. Why not swing for the fences? Win and you take home the prize. Lose and the government covers the losses. Such a philosophy makes for bad decisions. We have seen the net result of such thinking over the past several months, and it isn't pretty. It is what led millions to take on mortgages they couldn't afford; it is what drove Wall Street to take risks it couldn't possibly cover.

As for individuals, over the past few weeks, as the crisis went into high gear, in my daily travels I heard over and over again "How could this be happening? This is crazy. I have never seen anything like this." The prevailing attitude was one of disbelief. That somehow, someone, somewhere should have seen this coming and headed it off; that is, made sure it didn't affect the rest of us. When Congress failed the first time to pass the TARP legislation (which is probably the biggest underwriting of the moral hazard mindset since the Roosevelt administration,) most could not believe that they hadn't passed the legislation. After all wasn't "this sucker going down" if we didn't (as our president so succinctly put it)?

risk and moral hazardSo you see, my friends, it is an idea which got us here, not an individual or group of individuals. And it is this same idea which has driven this government to the next level of socialist engineering, and driven us deeper into the socialist embrace. In the end it comes down to a question of honor, morals and ethics -- our institutional approach to the human condition. As a society, we can encourage bad behavior or we can discourage it. We have chosen to encourage it. Politically, in our desperation to help, we only hurt, because we damage our own characters.

So the road to the big bailout of 2008 is paved with an idea -- the idea that we don't have to be 100% responsible for our lives, or our institutions, because a great safety net lies below us. It is a breeding ground for bad decisions, and it doesn't end here with the big bailout of 2008. As I said in my earlier essay, this is more of a beginning than it is an end.

I have hinted at this human aspect to the economic predicament over the years, and attempted to explain that there is no perfect economic system, just as there is no perfect human institution and, certainly, no perfect human being. And that is where gold comes into the picture.

Gold is the remedy when things go awry simply because it is the one primary asset that remains fundamentally detached from the political economy. At the same time, it still serves its holder as a usable, identifiable and valuable asset within that system. That sentiment has caught hold globally and in America over the years, and even moreso over the past year as the smoldering heat underneath the world economy achieved full combustion. Some have taken to heart my message on gold, and they have done well as a result. Better put, gold has done for them what it is billed as doing -- helped them ride out the storm.

There is a message in that which should be taken to heart by those who do not own gold. If you think that gold's best days are over, then you don't completely understand why gold should be owned in the first place. It is still, first and foremost, an insurance policy against events like the ones which have occured over the past several weeks. It is not, in the first instance, an investment.

America's chickens have indeed come home to roost, and with a nasty vengeance (as they have, we learn this morning, elsewhere). The government, in response, has gunned the engines of the money making machine, and created a new bureaucracy to deal with its toxic waste. Unfortunately, there are those who will be blinded by the bright lights of the government rescue and come to believe that the worst is over. They will make their financial plans accordingly. That, in my view is a mistake.

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The worst is not over, and it is not over because the ultimate causes of the problems which launched the meltdown have not been restrained. In fact they have been radically unleashed with perhaps even deeper consequences, including the looming possibility of a runaway stagflation.

If you take one thought with you from this short essay, let it be this: As long as the sort of thinking described above persists, gold will remain the asset for all seasons, all economies, all possible misadventures. Richard Nixon, upon detaching the dollar from gold and letting it float in 1971, famously proclaimed "we are all Keynesians now." He knew running deficits and underwriting what we have come to call "moral hazard" would now have no deterrent. Would he say, after these past ten days events, that "we are all Socialists now?"

If so, a stronger case could not be made for gold. As one astute London trader put it many years ago: "Gold is bedrock."

Michael J. Kosares


"Creepy Socialism"

The New York Times reports today that the Great Bailout of 2008 now stands at $5.1 trillion - a figure sure to concentrate the minds of many Americans if not our presidential candidates. Many of us wondered how deep a hole the government was digging. Now we know. . .and I caution: This is just the first number published. If the trend on this number is the same as other numbers throughout the financial crisis, it is likely to grow as we move along.

Simultaneously, a poll published in the same newspaper shows that 53% disapprove of the Big Bailout and only 23% approve. Both presidential candidates presumably would have landed in the 23% category since both voted in favor of it, not that their vote indicates much. (On the one hand the candidate admits he doesn't understand much about economics, while on the other, the candidate recently went to great lengths to cement his standing as little more than another tax-and-spend liberal in the mold of John Kerry and Al Gore.)

As for me, as I have tried to indicate at least in an indirect way, I am pretty much agnostic on the Big Bailout (as is 24% of the population if you extrapolate the polling numbers). In the political economy of our day, it was to be expected, as are further bailouts. At the same time, I know, and you know, that $5.1 trillion bailouts do not slide idly through the economy without consequences. The chief economist at Morgan Stanley recently suggested that the 2008-2009 federal government deficit could reach $2 trillion - up from the $500 billion (or so) deficit of this year. I should also point out that the figures bandied about here refer to the "political deficit" which is not the "real deficit." The real deficit is the actual addition to the national debt which last year approached $1 trillion. Such additions to the national debt could instigate a transition from crisis to disaster and I do not feel that I am exaggerating since we are talking about a 20%+ growth in the national debt. If the same doubling factor between the political and real deficits were applied, the 2008-2009 "real deficit" could be in the area of $4 trillion, though that seems a bit of a stretch. At the same time, when the $2 trillion figure first made its appearance, I had to blink to make sure I wasn't seeing things.

But back to the bailouts.

In a big-brotherish fashion President Bush proclaimed, "The government intervention is not a government takeover [of the banks]. Its purpose is not to weaken the free market. It is to preserve the free market." And hate is love, war-peace, etc. . . . After all is said and done and the present crisis has dissolved in a sea of paper money, what will be left standing is the bureaucracy created by Messrs. Paulson and Bush. The road to hell, they say, is paved with good intentions.

TARP is no more a temporary measure than Keynes famous view on government deficits which were sold to public in the Roosevelt years as 'temporary.' A more telling quote comes at the end of the article, and it has a chilling tone about it. "I think the government will be a risk manager extraordinaire," said the Brookings Institute's Robert Litan, "they're not going to tell the banks where to lend. But high risk kinds of things, they have the role of saying no, no, not there." If you will recall from an earlier essay, I have some misgivings about the Wall Street-Treasury Department merger.

There is a creepiness (and I am referring to the verb, not the adjective) about all this that kind of leaches to the top as you absorb what has gone on in Washington in recent weeks. The Litan quote above summarizes why many are ill-at-ease.
This time of year (and throughout this gold bull market), I have resurrected from time to time a piece of writing by Edgar Allan Poe which I have always thought of exceptional quality. It comes at the start of The Fall of the House of Usher (a title that has symbolic value in this context) and sets the tone for the rest of the novella. It both chills the temperature and draws the reader in:

"DURING the whole of a dull, dark, and soundless day in the autumn of the year, when the clouds hung oppressively low in the heavens, I had been passing alone, on horseback, through a singularly dreary tract of country ; and at length found myself, as the shades of the evening drew on, within view of the melancholy House of Usher. I know not how it was - but, with the first glimpse of the building, a sense of insufferable gloom pervaded my spirit. I say insufferable ; for the feeling was unrelieved by any of that half-pleasurable, because poetic, sentiment, with which the mind usually receives even the sternest natural images of the desolate or terrible. I looked upon the scene before me - upon the mere house, and the simple landscape features of the domain - upon the bleak walls - upon the vacant eye-like windows - upon a few rank sedges - and upon a few white trunks of decayed trees - with an utter depression of soul which I can compare to no earthly sensation more properly than to the after-dream of the reveller upon opium - the bitter lapse into everyday life - the hideous dropping off of the veil."

Creepy times.
Creepy socialism.
'Tis the season of the witch.
And don't forget . . . a time of year when things have been known to go bump in the night.

Michael J. Kosares

Michael Kosares has 35 years experience in the gold business and is the founder/owner of USAGOLD-Centennial Precious Metals. He is the author of The ABCs of Gold Investing: How to Protect and Build Your Wealth With Gold as well as numerous magazine and internet articles. He is frequently interviewed in the financial press and is well-known for his ongoing commentary on the gold market and its economic, political and financial underpinnings.


Coins & bullion since 1973

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