There was an article the other day on LRC that talked about shorting bonds.  The author says that the bond market is the next big bubble.  He also has suggestions for mutual funds and ETFs that short bonds.  If you haven’t already, you should read the article.

Overall, there is not much to disagree with in the article.  The author makes a great case and lays out a number of true and relevant facts.  There is just one problem and that is the main problem for students of Austrian economics who invest.  The problem is timing.

There were libertarians/Austrians predicting a crash in the housing market or a crash in the stock market 5 years before they actually happened.  There were Austrians predicting that gold would spike up in price in the 1990’s.  These were accurate predictions, but far too early.

I can predict right now that China will have a major recession/depression.  They have a bubble economy.  Some of their growth has been real, but some of it is also artificial and illusory.  This is because of the Chinese central bank inflating.  They will eventually face a choice of hyperinflation or recession/depression.  They will choose the latter.  The Austrian business cycle theory tells us this.  It won’t be a surprise.  The problem is, again, timing.  Maybe the boom will last a few more years before we see the bust.

It is the same with government bonds.  It is likely there is a bubble.  It is likely we will see much higher interest rates in the future.  But we are also competing against the Fed with endless money.  The Fed can and will buy bonds.  In the long run, this will cause interest rates to rise due to the inflation premium.  In the short run though, it can actually drive rates down.

If you short bonds now, what will happen if it takes two or three years to play out?  What if rates go down?  Can you afford to wait it out?  Even if rates stay steady, you will be paying fees for a mutual fund or ETF.

If you are going to short bonds, I would suggest you do it carefully.  I don’t usually like to look for confirmation with investments because you miss out on the easy money.  In this case though, I would look for some confirmation.  At least wait until we see some substantial price inflation.  With an investment like gold, it is easy to buy and hold.  Shorting bonds is a little trickier and you should be cautious about doing it.

There was an article on LewRockwell.com today.  It is reprinted from the Economic Collapse Blog.  LewRockwell.com (LRC) is the best libertarian site there is (IMHO).  The second best site is the Mises Institute, which was founded by Lew Rockwell.  It is rare that I disagree with anything significant in the daily articles on the Mises Institute.  I find a little more disagreement at times on LRC.  Lew Rockwell will publish articles on his site if they are informative, even if they are not pure libertarian.

In reading this article today, I actually was wondering if the whole thing was sarcasm.  I was waiting for a punchline at the end saying, “just kidding”.  I think it is a serious article.  I will never take anything seriously written by the “Economic Collapse Blog”.  There are a few things right in the article.  Even a blind squirrel gets a nut once in a while.  Overall, it is horrible.  The person who wrote this piece just doesn’t know what he is talking about.

He says that a significant percentage of young Americans can’t tell you what a trade deficit is.  Yet, I’m not sure that whoever wrote this can define it.  He sure doesn’t understand it.

Then he quotes Warren Buffett, that free market capitalist (now that is sarcasm).  Buffett is quoted as saying that the trade deficit is a bigger threat than the federal budget deficit.  I presume the author agrees, or he wouldn’t have quoted it.  If he understood anything, he would understand that the trade deficit wouldn’t really matter if there were no budget deficit.  The Chinese wouldn’t be buying U.S. treasuries because the U.S. government wouldn’t be selling any if there were no budget deficit.  The only way a trade deficit would occur then is if the Chinese invested in the private sector.  Now why is that so bad?

Then the author (or maybe authors) goes on to sound like a pure leftist/socialist blaming China for the problems created by the U.S. government and Federal Reserve.  He says China doesn’t play fairly.  They keep their currency lower than it should be.  I guess it should be whatever this author determines it should be.  He says it is a subsidy to China’s exporters.  What he doesn’t mention is that it is also a subsidy to American consumers.

If the U.S. had a stable money (like gold) and the government was small with a balanced budget, then it wouldn’t really matter what China did.  This author doesn’t understand any of this.  Of course, he has to add in the typical leftist line that we need “fair trade”.  That is never defined.  It is whatever he thinks is fair.

This is a lesson.  LRC is a great site and very informative.  But you have to be careful what you read anywhere.  I will never trust anything written by the Economic Collapse Blog.  This piece is garbage.

Ben Bernanke (a.k.a. Helicopter Ben), chairman of the Federal Reserve, has been in the news quite a bit lately.  There is a lot of speculation on QE2 (quantitative easing 2).  QE1 occurred 2 years ago when the Fed more than doubled its balance sheet, mostly by buying toxic assets.

Bernanke is not being specific on what the Fed might do.  He says that he is worried about a lack of inflation.  I guess that means he thinks the average American should be paying higher prices for food and gas than what they are currently paying.

It is hard to imagine that Bernanke is a dumb guy.  Maybe he does or maybe he doesn’t understand Austrian economics.  He is certainly a political person, but anyone who gets to that position would be.  The president, congress, and bankers would not allow someone in that position who is not political.  They want somebody who is going to toe the establishment line.

I think Bernanke knows the threat of another major session of quantitative easing (money creation).  The Fed more than doubled the monetary base two years ago and this has not led to high price inflation because most of the money has remained on reserve.  The banks are not lending it out.  If the Fed creates even more money and triggers price inflation, it might lead to the money already created being lent out.  This could be doubly disastrous for price inflation.  I think he understands that the Fed has to be careful.

It seems that a better strategy, if the Fed wants to increase price inflation (whether they actually think it will help or whether it is for political reasons) would be to force the banks to lend.  At least this would more likely prevent a hyperinflation scenario.  We can’t be sure why Bernanke is not being specific.  We can’t be sure if he is dumb enough to start another round of money creation.  I just can’t imagine that he is dumb enough to completely jeopardize the dollar.  Hyperinflation would destroy him as much as every other American.

Right now, the Fed is not inflating.  The monetary base has gone down slightly.  We’ll continue to watch the charts more than what is being said.

There are protests currently going on in France because government officials want to raise the retirement age.  Of course, nobody seems to ask why the government determines the retirement age in the first place.  Shouldn’t it be up to each individual to determine at what age they will retire?  The problem, once again, is government.  In this case, it is government involved in the retirement/pension business.

It is actually kind of amusing watching these protests, as long as they aren’t too violent.  These people don’t understand TANSTAAFL – there ain’t no such thing as a free lunch.  They have been deceived into thinking that the government would take care of them and now the system is blowing up in their face.  They simply want to repeal the laws of economics.

It is comforting to know that there are no signs of protests like these in the U.S.  I would rather see tea party protests (even if some are uninformed) than protests asking for more government.  Maybe we’ll see protests when discussions get more serious about raising the age for Social Security and Medicare.  Still, let’s hope it isn’t anything like the welfare mentality in France and other parts of Europe.

It is not to say that we shouldn’t feel a little bit sorry for some of these people.  They have been forced to pay into the horrible system and they have continually been told, probably their whole life, that government would take care of them in their old age.  It is naive of people to believe this and perhaps irresponsible, but it is a shame.

It is fun to watch these struggling governments in some ways.  It is particularly fun when you have some leftist/socialist in power, whether in Europe or in a state like New York or California.  In California, why not hope that the Democrat will win.  That way, when budget cuts are the only choice left, it will have to be done by a leftist.  There is nothing better to see the unions, government workers, and welfare slugs out there protesting against a leftist governor that they put into office.  The governor is left with no choice (since there is no Federal Reserve at the state level), but the protesters expect him or her to repeal the laws of economics.

Enjoy the scenes over the next few years.  Governments will continue to be forced to cut back.  The day of reckoning has finally arrived.  Politicians can no longer promise the moon and the sun to everyone.

Being a libertarian, there is a lot to be pessimistic about.  The federal government is running a 1.5 trillion dollar yearly deficit.  This would have been unheard of even 3 years ago.  The unfunded liabilities (mainly Medicare and Social Security) are in the neighborhood of 100 trillion dollars, an amount so ridiculous there is no point on thinking about it.  The Fed more than doubled the monetary base in late 2008 and early 2009.  Politicians are as crooked as ever and government keeps getting bigger and bigger.

Understanding Austrian economics is an advantage in that we can understand that there is a lot more trouble on the horizon.  The economy tried to correct itself in 2008 by flushing out all of the bad investment that had previously occurred due to Fed policy and big government.  Instead of allowing the correction, the Fed and government have provided massive stimulus with bailouts and fresh money.  This not only prolongs the problem, but it makes it much worse.  The next correction, if allowed to happen, will be even worse.  Sometimes it seems that ignorance is bliss.

With all that said, there is reason for hope.  The biggest threat to the politicians and big government is the truth.  The truth shall set you free.  With today’s communication technology, particularly the internet, the truth is getting out there more and more.  Politicians can’t get away with as much as they did in the past.  People are starting to understand economics.  Not everyone believes the Keynesian lies.  Not everyone believes that more government spending and more debt will solve our problems.  In fact, we are almost at a point where even a majority of Americans don’t really believe it anymore.

There is going to be a lot of pain and turmoil in the coming years.  But there are a lot of reasons to be optimistic for the long-term.  It is hard to think that we will be worse off 20 years from now than we are today.  There are no guarantees, but human beings generally want to be free.  Get rid of the propaganda (which the internet is helping to do) and the seductiveness of socialism fades away.  People want to be able to own their own property and control it how they want.  People want to be able to keep the fruits of their labor.  If enough people feel this way, big government will not continue.  There are only 535 congressmen and 1 president.  There are over 300 million people living in the U.S.  If enough of those 300 million plus people feel strongly enough about freedom, then it won’t matter who is elected or how they try to govern.

There was an article posted today on LRC by Peter Schiff.  Schiff understands Austrian economics and can explain it simply to the average person.  The article talks about Fed inflation, but the most interesting part is near the end when he talks about bonds.

Schiff states: “A confounding factor is the strong performance of US dollar-denominated bonds. When the Fed creates inflation, that erodes the value of fixed-asset investments like bonds, which can’t adjust their returns to the new price level. So many commentators are pointing to the record-low bond yields as evidence that inflation is not a threat. But this is a misreading of the situation.

There is often talk of the trade deficit.  It is also referred to as the balance of payments.  This is not to be confused with the national debt.  While I don’t think the trade deficit is completely irrelevant, I believe there is misunderstanding.

There really is no problem with having a trade deficit if it occurs naturally.  The U.S. government has a trade deficit with China (to use one example).  China has a trade surplus.  China sells products to people in the U.S.  Instead of using the U.S. dollars to buy U.S. goods, the dollars are often used to buy U.S. treasury bonds.  This represents the trade deficit.

Again, there is nothing wrong with a trade deficit.  The Chinese (whether it’s the government or a businessman) could also put dollars into U.S. stocks.  They might prefer to invest there.  New York City runs a massive trade deficit.  Money flows to Wall Street, but Wall Street isn’t producing consumer goods.  Nobody seems to have a problem with that (although there’s probably someone).

One of the problems with the massive trade deficit is that much of it may be caused by excessive debt.  If the government weren’t running a huge deficit every year, then it wouldn’t need to sell treasury bonds.  If the U.S. government had no national debt, there would be no trade deficit to worry about.  If there were a trade deficit, it would be foreign countries (governments or people) investing their dollars in other things.

The only threat of a trade deficit is that a foreign government could decide to unload U.S. treasuries all at once and drive up interest rates quickly.  But again, we wouldn’t be in that predicament if there were no national debt.  But the same could happen if U.S. citizens decided to sell bonds also.

There are three main buyers of U.S. treasuries.  There is the Federal Reserve.  There are individual investors (U.S. or foreign).  And there are foreign governments/central banks.  These treasuries could be unloaded by any one of these parties.  The only one controlled at all by the U.S. government is the Fed.

Don’t get all worked up over the trade deficit.  We should get worked up over the massive national debt that causes the massive trade deficit.

The adjusted monetary base has been flat or even declining a little in the last several months.  The explosion in the monetary base occurred almost 2 years ago.  The chart is here:

http://research.stlouisfed.org/publications/usfd/page3.pdf

The excess reserves held by commercial banks has practically mimicked the monetary base.  The chart is here:

http://research.stlouisfed.org/fred2/graph/?chart_type=line&s[1][id]=EXCRESNS&s[1][range]=1yr

The rise in gold does not seem to be because of imminent price inflation.  Perhaps it is based on fear that there will be severe price inflation once the banks start to lend.  We’ll continue to look at these charts.  If the excess reserves start dropping rapidly without the monetary base falling, then we should look for price inflation to follow.  The same could be said if the monetary base increases but the excess reserves don’t.

It is important to pay attention to what is actually happening instead of what is being reported.  We had high monetary inflation 2 years ago, but the banks have kept that money out of the system.  The Fed is not inflating now.  Perhaps the Fed will start again soon, but we can’t be certain until it actually happens.

That is what an article from the Wall Street Journal says.  Of course, the article starts off wrong right out of the gate.  It says, “The Federal Reserve spent the past three decades getting inflation low and keeping it there.”  Sure, maybe if you compare it to the awful 1970’s or to Zimbabwe.  While price inflation rates were not in the double digits annually in the last 30 years, it was still significant.  And of course it is hard to completely trust the CPI.  While the CPI is not totally useless, it doesn’t fully account for all of the bubbles that have taken place in stocks, housing, and other things.

The rest of the article is still worth reading only to realize that Fed inflation is a real possibility in the near future.  The Fed and the government really are worried about the economy and the politicians don’t really know what to do about it.  While I think most of the politicians in DC are dishonest, along with Bernanke at the Fed, it wouldn’t matter much if they were honest.  They don’t understand Austrian economics.  They don’t understand the business cycle that is caused by fiat money creation.  Bernanke is probably not quite as dumb as the rest of them, but he is still somewhat clueless.  If anybody at all had a clue, it was Alan Greenspan.  But that just makes Greenspan evil because his policies were bad and he knew it, but did it anyway and continues to lie to this day.

The only solution the Fed has right now is more monetary inflation.  They like to call it quantitative easing now, but that is just word games.  If and when the economy shows signs of more weakening, the Fed will likely create more money out of thin air.  It doesn’t want to see a depression, so it will kick the can down the road and try to hold it off, even though it will just make things worse.

We’ll continue to pay attention to what the Fed says.  More importantly, we will pay attention to what the Fed actually does.  I don’t see a Paul Volcker moment coming soon.  I see more monetary inflation first.

Gold was up again today, hitting a new record at about $1,340 per ounce.  It is hard not to comment while running a blog called “Libertarian Investments”.  Gold represents sound money, everything that big government is against.  It is really amazing that gold is at all-time highs (at least in nominal terms) while mortgage rates are near all-time lows.

So what should we be doing right now in terms of gold and how it fits in with our investments?  If you don’t have any gold or gold related investments in your portfolio, do what you can to get some as soon as possible.  Every portfolio should have some exposure to gold at all times.

If you have some gold, let’s say 10 to 20 percent, then it would be wise to increase your exposure a little bit, but you should wait for dips to buy.  Needless to say, today would not be considered a dip.  But you shouldn’t sell with that amount, especially in today’s frightening environment.

If you have over 25% of your portfolio in gold and gold related investments, you might actually consider selling a little bit.  You might ask why a libertarian would sell his gold.  First, just because gold would be the most likely choice of the market in a free market for money, it doesn’t mean we are in that situation now.  Whether we like it or not, the U.S. dollar is the money we use in the U.S.  If you try to shop at Walmart or your local grocery store with gold coins, they will look at you like you’re nuts.  You still need U.S. dollars as that is what acts as money in our world today as it exists.

Second, you should consider selling a small amount of your gold investments (if you already have a lot) because it is good to take some profits off the table, even if those profits are denominated in dollars.  Think of it this way – if you sell a little gold and the price goes down, you will be able to buy back even more in the future.

Gold is making a good run (while the dollar declines) and it is not surprising.  At the same time, we shouldn’t be surprised if there is a pullback below where it is now.  The bond market doesn’t see price inflation right around the corner.  The gold market may be telling us something different.  Is it acting as the canary in the coal mine or is it a false alarm?  Only time will tell.