Looking Beyond The Euro Crisis & Understanding The Big Picture

Chris Martensen released an excellent piece this week where he discussed how people behaved in Weimar Germany between 1918 - 1922, the period of time just before hyper-inflation took hold.

This was documented most famously in the book "When Money Dies" by Adam Fergusson. During that period of time Germany was swept with intense bouts of deflation. The government continued to step in during the process and provide printed currency.

Over the years it appeared as if this currency was having very little effect on the price of goods. Just as things would begin to pick up in terms of prices there would be another major downfall creating the specter of massive deflation ahead.

Under the surface, just as today, there was an enormous amount of new money being created. The major difference today which is argued (correctly) from the deflationists is that we live in a credit based economy that relies far less on paper money. This credit has the natural tendency to contract, like gravity, when it becomes to large to be supported by the income levels of the society holding the debt.

This is the exact situation we find the world in today. We are in the process of one of the greatest monetary experiments in history. Never in history has the world been encumbered with so much debt at the consumer, banking, business, and government level. On the opposite side of the ledger, the world has never seen a global central bank response (money printing) with the size and scope we are witnessing today from every country around the world.

The unstoppable force has met the immovable object.

The only sure prediction I have of the future is that the outcome will be a complete disaster. The important, and far more difficult to determine, prediction of the future is how it will play out before we reach that ultimate point of "reset" or annihilation of the current monetary structure.

My long term (5 year) blue print of how the process would unfold, that I have reviewed an updated for well over two years running, is that the global economy and financial markets would experience one more massive deflationary shock; similar to the Lehman experience.

The reason why I feel deflation will occur first is because the sovereign debt crisis has begun first in Europe. Europe, unlike every other major developed country, does not have a central bank with an unlimited ability to print paper currency and purchase debt. The ECB has had to, and will continue to have to, play defense as Europe continues to implode.

It will take a crisis in order for the politicians to come together and beg for printed money. The actual origin of this crisis is unknown. It could be the failure of a bank in Spain, Italy defaulting on its government debt, or Greece finally leaving the Eurozone.

Once this event takes place there will be a serious bout of deflation spread across the financial system. With the global economy rapidly slowing down, discussed in detail in Europe's Virus Is Now Global Contagion, there could possibly be a "perfect storm" ahead for the markets. This topic was discussed this week in an interview with Nouriel Roubini.

My contention has been that during this coming "perfect storm" it will provide a tremendous buying opportunity for assets that will perform well during an inflationary response. I have discussed my personal favorites in the past.

Why do I think this will be a strong buying opportunity?

Once we move past the European disaster and subsequent response we will move on to the larger countries in the sovereign debt crisis; Japan, the UK, the United States. All three of these countries face no such central bank "limitations" that the European central bank faces (they have unlimited and unconstrained ability to print money).

Politicians and economists will look at the European experiment as the incorrect way to handle a sovereign debt crisis. They will try and front run any market moves out of their sovereign debt with a massive QE policy response. This may occur in coordinated fashion from Japan, the UK, and the United States with support from the IMF through the use of SDR's (global currency units that can be printed with unlimited capacity).

Those betting on another deflationary downturn during this coming chapter of the financial crisis will be caught on the wrong side of the trade. You will see gold and silver enter the mania stage of their bull market. The price of commodities, and in some areas real estate, will surge globally. Currencies and well managed government debt markets will see capital flood onto their shores as it flees the debasement of the "Big 3."

Most likely when things spiral out of control there will be price controls and trade wars; possibly followed by real wars. Then there will be a complete "reset" of the current monetary system. The monetary system has "reset" on average through history every 40 years. The current monetary structure was created in August of 1971. The reserve currency of the world, the US dollar which people assume will be in place forever, will also come under pressure.

Back to Martensen's article, where he provides a chart that many of us have seen many times, only he has highlighted certain points of time. The following shows the price of gold during the collapse of the German currency in the early 1920's. You can see during the bull market run as the currency was being debased that there we periods of massive corrections in the paper gold price. During every one of these pull backs the people were told by their government that the situation was under control. Most of the people that purchased some gold as insurance to protect their life savings sold their gold during the pull backs.

What happened next is the story that has been told numerous times. After the third major decline in gold and stabilization in the currency, complacency set in and most German citizens sold their gold for good. By the time the final round of inflation set in it was too late. A life savings in paper investments (stocks, bonds, cash) disappeared almost overnight.

Those that were not tracking the "paper" price of gold but continued to focus on the paper money printing became the new wealthy of Germany.

The following chart shows the current bull market in gold beginning in 2000 and running through July 2012. It shows multiple periods of massive pull backs and extended consolidation (we are currently in one of the periods).

This is when people become afraid to both purchase precious metals and they sell their current positions. They are lulled to sleep and no longer focus on the paper money creation taking place around the world.

Where do we go from here? I think gold can possibly fall to $1200 and silver can possibly fall below $22 during the coming storm in the financial markets. Am I personally waiting to for those possible targets to purchase precious metals? No, I am a buyer today and I will be a buyer if we reach those levels.

I do not focus on the "paper" price of precious metals. I watch the money creation. Do I think we will enter a hyper-inflationary period similar to Germany in 1923? Very unlikely. I think the global "reset" will occur before we get there. A new monetary system will be put in place with gold involved in some fashion. Jim Rickards discussed this topic in detail in his incredible book Currency Wars. With a gold price somewhere above $55,000 you could realistically back a significant portion of the money and credit in existence and immediately halt an inflationary paper money run (this number rises by the hour with global QE taking place).


  1. I like your perspective.
    To my mind too many PM bulls don't hedge in other sectors and the thought of going all in just PMs makes me uneasy (I just don't trust the government/central banks in that area).

    Your suggestions about picking up stocks based in commodity currencies sounds like a good hedge to a primary PM stance. Please add detail as you & the situation move along.

  2. I am certainly not recommending going 100% into precious metals. The purpose of most of these discussions is to get the majority of people (who have 0% precious metals exposure) to think about adding some insurance to their portfolio.

    I will continue to update with market moves. Thanks for you comment.


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