The gold price, in terms of U.S. dollars, hit another high today.  It seems that we are living in bizarro world.  It is quite strange that bonds are doing well and gold is doing well.  Bonds go up in value when interest rates go down.  Interest rates represent the price of money.  They also represent risk.  When it comes to buying U.S. government bonds, there is little risk (or at least that is the perception).

Right now, the bond market is saying that there is little threat of future inflation.  Gold is saying otherwise or else it is trying to price in other risk, such as a geopolitical event.  I don’t see this trend continuing for a long time.  Either bonds will fall or gold will fall (or at least not go much higher).  Gold could easily go to $1,300 or $1,400 an ounce.  But for gold to go to $2,000 and higher, it would seem that interest rates would go up significantly.

It is not that higher interest rates cause higher gold prices.  It is just that they tend to be correlated.  You could see gold go up in price and see interest rates follow behind it.  That is why you should have a substantial part of your portfolio (at least 20%) in gold and gold related investments.  You can’t predict when the price might take off.  Gold might be more of a signal for higher interest rates than the other way around.

The bond market and the gold market are in competition right now.  People are looking for safety and some are going to bonds and others are going to gold.  The people going to bonds might win out in the short term.  In the medium term (let’s say 5 years), gold could easily win out.  The bond market doesn’t see inflation as a threat yet, but I think it will eventually.

I am an advocate of reading and studying libertarianism and Austrian economics.  You can learn a lot and do your part in helping the fight for freedom.  As far as investments, you should be cautious what you listen to.  You can read some brilliant pieces by different authors who have a great grasp of the libertarian philosophy.  Unfortunately, you can also get some really bad investment advice from the same people.

That is why I really like Richard Maybury.  He is humble and he understands that he can’t time or even predict what the markets will do.  He is cautious and he tells his readers to be cautious.

It is amazing how many times I will read other libertarians who think they can make these forecasts and it is also amazing how sure they seem of themselves.  You will see predictions of a crash in bonds or predictions of $5,000 an ounce gold within the next year.  You will see predictions that real estate still has to fall 40% (or whatever number).  You will see some predict that hyperinflation of the U.S. dollar is right around the corner.  While it is possible that some of these predictions could come true, how can these people be so certain?  The number one rule of Austrian economics is that economics is not scientific.  It is the study of human action.  Therefore, it is virtually impossible to predict anything with complete accuracy and timing.

There were libertarians predicting a crash in bonds over 5 years ago.  If you had shorted bonds back then, you would be broke now.  It is not to say that it can’t happen now, but it may or may not.  I am inclined to think that interest rates will go up significantly, but even then it is very hard to time it.

This isn’t meant to be investment advice other than pointing out that all investments by themselves carry risk.  You should recognize that humans act freely, so while fundamentals may point to a higher gold price, it could just as easily go down tomorrow.  You should recognize that there are no guarantees when you are speculating.  Most of all, you should recognize that even highly intelligent libertarians can often be completely stupid when it comes to investing.  It is good to read different points of view, but make your own decisions and remember that Austrian economics is the study of human action.

Charles Goyette is the author of “The Dollar Meltdown”.  I highly recommend this book.  It has great explanations of economics and has very helpful tips on different types of investments you can make to prepare for the meltdown of the U.S. dollar.  One of my few criticisms of the book is that, while the economics are timeless, the actual investment advice is only good for current events.  In other words, you can’t necessarily follow the investment advice in 20 years and have it work.  I suppose the book was meant to be written this way.

My only advice to add to the advice in the book is to diversify better.  All of his investment strategies are betting on a meltdown of the U.S. dollar.  While I think this is a strong possibility, it is not definite and we also can’t predict the timing of it.  If you read the book when it first came out and shorted bonds (as suggested in the book), then you would have lost a good chunk of money by now.  It is not to say that it won’t work out in the long term, but again, it is a timing issue.

I just want to identify my criticisms of the book with my recommendation.  I think you should put at least half of your money in the permanent portfolio (as described by Harry Browne in “Fail Safe Investing”), but for the rest of your money, Charles Goyette’s book is wonderful to use for the money you will speculate with.

Again, he has a plethora of suggestions for different ETFs, mutual funds, and other investment vehicles.  His reasoning for a dollar meltdown is sound and he understands free market economics and the dangers of a fiat currency with a Federal Reserve that is out of control.  Read this book.  You will enjoy it and you will get some great advice.

Interest rates went up today and gold fell back a little.  You shouldn’t pay much attention to one-day moves as the markets can be volatile.  However, if rising interest rates were to become a trend, then you should start moving more of your investments toward gold, gold related investments, and other inflation hedges.  For the record, I think you should always have some of your investments in gold and other inflation hedges.  You should always keep at least 15% in your portfolio, but even more in times like this.

Gold has been hanging around its all-time high lately, but I’ve said that for gold to really explode, there has to be more fears of inflation.  With interest rates so incredibly low, it shows that there is fear out there, but the fear has little to do with inflation right now.  If rates start going up, this will show that the bond market is starting to get concerned about future inflation.  Bond holders want higher rates to compensate for the risk of being paid back in depreciated dollars.

Don’t pay too much attention to short-term moves, but if you see a trend that rates are going up, then look for at least the possibility of gold moving much higher.  We need to see an explosion of higher interest rates before we see another explosion in the price of gold.

The expiration of the tax cuts is in the news since they are set to expire at the end of the year.  The Obama administration has made it clear that they will not extend the tax cuts for the “wealthy”.  Of course, this use of the term wealthy is completely inaccurate.  The tax cuts are referring to income taxes.  It has little to do with wealth.  There may be a correlation, but it is not a wealth tax.

You could have somebody earning $500,000 per year and their tax rate would go up with an increase in the highest income tax rate.  Now you would think that someone making that much money is wealthy, but it is possible that the person spends every dollar they make and therefore has little wealth.

It is also possible for someone who makes $50,000 per year, yet has $1,000,000 in assets.  This person could be considered wealthy, but they would be part of the middle class tax cuts.

This move by the Obama administration is just more class warfare to try to appeal to the voters.  It will work with the typical leftist, but it doesn’t mean much to most others.  Some see right through the class warfare and it serves to hurt Obama even more.

But regardless of all of this, the extra money collected by the government (if there is any extra at all) will be little compared to the big picture.  Obama just said that he wants to spend another 50 billion dollars on roads and runways.  Even if you calculate the extra taxes collected on a static basis (which assumes that human behavior never changes), an increase in the highest tax rate will translate to a drop of water in a pool.

The government is running a deficit of about 1.5 trillion dollars per year.  This would have been unthinkable even 3 years ago.  The tax rates mean little at this point.  It just tells us how much more or less the government will inflate.  Either way, spending keeps going up and it is completely out of control.  No tax hike in the world could possibly balance the budget unless there is a decrease in spending.

Keep your eye on the ball.  The ball is government spending, not tax rates.

There seems to be a lot of confusion about the velocity of money.  It is even misunderstood by some from the Austrian school of economics.  Richard Maybury (writer of the Early Warning Report) has a good grasp on the subject.

The velocity of money is how fast money is changing hands.  Put another way, it is the demand for money.  When there is high velocity, the demand for money is low.  When there is low velocity (which is occurring in the U.S. now), the demand for money is high.  Low velocity means that money is changing hands more slowly.

Besides production and technology, there are generally two things that drive the overall price level of goods and services.  The first thing is the supply of money.  The second thing is the velocity or demand for money.  This is why price inflation does not correlate exactly to monetary inflation (ignoring excess reserves and fractional reserve banking).

Let’s say that the Federal Reserve is pumping money into the economy and causing monetary inflation of 20% per year.  However, the Fed announces that it will withdraw all of this money next year.  If people believe what the Fed is saying, then price inflation could go down (or even negative), just on the expectation that there will be monetary deflation in the future, even though there has been an increase in the money supply.

But velocity is not just about expectations of monetary inflation.  It just reflects the general mood of the public.  When the recession became apparent in the fall of 2008, the Fed more than doubled the monetary base.  However, most of this money ended up as excess reserves held by the banks.  But people have been scared and they started to save more and spend less.  High unemployment rates are scaring people and the future uncertainty is scaring people.  While the massive debt should be inflationary, the increase in demand for money has led to price stability.  People are more scared about their own debt and their own income than they are about future inflation.

Mises said that during the crack-up boom (hyperinflation), the rate at which prices increase can go much higher than the rate of increase of the money supply.  This is due to extremely high velocity.  People are desperately trying to get rid of their dollars for anything tangible because they expect an ever increasing rate of inflation.

You should understand that velocity exists and that it does affect prices.  Just because there is monetary inflation or deflation doesn’t mean that prices will necessarily follow.  Prices are likely to follow over time, but you should be careful in your speculations.  That is why investing is so difficult.  Not only do you have to read the minds of politicians and central bankers, but you have to read the mood of the public.

It looks like Obama is going to announce his plan for more “stimulus” spending.  The plan is to spend another 50 billion dollars on roads, railways, and runways.

There are a lot of people on the right who think that Obama is a communist and/or socialist.  This may or may not be true, but the bottom line is that Obama has surrounded himself with Keynesians.  Obama and his advisors believe that the key to economic growth is spending and in particular, government spending.

While this kind of spending may not be as wasteful as other spending, it will not help the economy.  It is more government spending which misallocates resources.  It may stimulate the economy in the short-term in the sense that it will appear that the economy is better than it is, but in the long-term, it is more malinvestment that will have to be shaken out of the system.

The government keeps making things worse, just as it did during the Great Depression and New Deal.  50 billion dollars is not huge in the grand scheme of things, but it is another straw on the camel’s back and it shows (as if we didn’t already know) that the government is incompetent and has no clue on what to do to fix the economy.

The government is basically doing the opposite of what it should be doing if the politicians really did want to fix the economy.  Hold on to your hat because it is going to be a bumpy ride until things shake out.

The lead article on LewRockwell.com this weekend is titled “How Hyperinflation Will Happen“.  I don’t really like to pick a fight with someone who is being published on Lew Rockwell’s website, but it is important that you understand some errors of the author.  I don’t know anything about the guy, but he is obviously very knowledgeable and he is probably a strong libertarian.

While I think hyperinflation is possible in this country, I don’t think it is the most likely outcome.  But the thing that amazes me most about this guy’s article is how nonchalant he is at the end of the article.  He expects hyperinflation to happen in the near future so he suggests investing in hard metals.  While this may be good advice, he is saying that it will just pass by, as if it is no big deal.

If we experience hyperinflation in this country, that is just about a worst case scenario.  It could mean a total breakdown of the division of labor.  It could mean riots and millions of people starving in poverty.  He doesn’t understand the implications of his prediction.

Now, let’s move on to his prediction of how we get there.  He basically says that there will be a crash in U.S. treasuries (please read the article yourself to see his full explanation).  Maybe I’m missing something here, but he may be getting his cause and effect mixed up.  High inflation rates is what causes high interest rates (and lower bond prices).  Investors demand a premium because they are expecting to be paid back in depreciated dollars.  An increase in interest rates isn’t what causes inflation or hyperinflation.

Inflation is a monetary phenomenon.  Individual prices can go up or down based on the supply and demand of the product.  Prices can go down due to increased technology and efficiency.  Prices can go up because of government taxes and regulations.  But the only things that can cause a general rise or decrease in the overall price level are velocity (demand for money) and the supply of money (you could include fractional reserve banking with this).

It is possible for velocity to cause hyperinflation.  If everyone turned into an Austrian economist tomorrow morning and decided that the U.S. dollar is a worthless fiat currency, then it is possible for everyone to start trying to get rid of their dollars by buying things, thus bidding up prices.  However, this scenario is highly unlikely.

The only likely thing to cause hyperinflation is a dramatic increase in the money supply.  It would also be expected by the market that the money supply would keep growing in the future.  As discussed in other posts, the monetary base has more than doubled in less than 2 years, but most of this money is sitting as excess reserves.  This has stopped massive price inflation.

While the author of this article raises some good points, his reasoning for hyperinflation fails.  Even Milton Friedman understood that inflation is a monetary phenomenon.  We will likely only see hyperinflation if we see a huge increase in the money supply on an on-going basis.

There was an article posted today on Yahoo Finance.  The title is “6 Ways Retirees Can Beat Inflation”.  It is amazing how ignorant some articles are.

The article talks about 6 ways to hedge against inflation.  They are all terrible ideas as far as the subject goes.  How can you have an article talking about ways to beat inflation and not mention gold, silver, oil, real estate, or other hard assets?  Most of the ideas revolve around depending on the government’s CPI calculation.  The only half decent idea is investing in stocks, but even this is not that good if you look at what happened in the 1970’s.

When you see an article like this, you can see the ignorance that is out there.  How can gold not be mentioned in such an article?

This blog is a supplement.  It is designed to give advice, but it is just a tiny portion of what you should know about Austrian economics and investing.  For paid subscriptions, Richard Maybury, who writes the Early Warning Report, is fantastic.  He understands Austrian economics and is very practical and down-to-earth with his advice.  He also believes in Harry Browne’s permanent portfolio.  He is humble, as he doesn’t predict that you will become a millionaire if you just follow his stock picks.  His newsletter is well worth the money if you enjoy reading this type of material.  You will learn a lot about geo-politics and monetary policy.

Gary North is also a good read.  You can subscribe to his website where he puts out a huge amount of material.  He is very knowledgeable on the Fed and monetary matters.  You will also just get your money’s worth from his other advice that doesn’t have to do with investments.  In addition, you can ask questions and communicate to others on his forums.  Give it a try and cancel if you don’t like it.

Again, this blog is not in competition with anyone.  It is meant as a supplement.

You should also learn as much as you can about Austrian economics, as well as what is going on in the political world.  For this, read LewRockwell.com and Mises.org.  Learn as much as you can.