The Bailout Plan - What does it mean? - Especially for gold and T Bonds...
Originally published September 20th, 2008.
Many investors in the Precious Metals sector are worried that the "bailout plan" announced yesterday will resolve the crisis with the effect that things will return to normal and gold and silver will as a result go into retreat once more. Nothing could be further than the truth. There are several important observations to make regarding the "bailout plan". The first is that it is obviously born out of desperation. The second is that it is Grand Larceny as its aim is to unload all of the debts and obligations accrued by banks, brokers and various other large corporations and institutions as a result of years of recklessness and incompetance and sheer greed off onto the taxpayer, the underlying reason for this being the extensive crony connections between Wall St and Washington and the associated enormous political clout Wall St exercises in Washington. The third observation is that as far as arresting the financial crisis is concerned, it simply can't work and won`t work - the proposed $1.2 trillion slush fund intended to fund this giant garbage dump is still peanuts compared to the towering $47 trillion debt market and the even larger derivatives time bomb.
Not only will the bailout plan not work, but it is set to spread the contagion to a crucial area that has so far been sacrosanct - the US T-bond market. There are several reasons for this. One is that continued government interference in the free market to defend wrongdoers from the consequences of their actions is rapidly destroying Wall Street`s credibility as a global financial center. A blatant example of this is the banning of short selling in the stocks of selected companies which amounts to nothing less than criminal interference in free market processes, which is what you would expect to see implemented in a Command Economy - this is the sort of thing the Commies used to do. The second is that the US government and the Fed are clearly treating international investors as idiots - does it seriously expect them to go on endlessly buying Treasury paper when they know that the proceeds are going to be used to bail out and prop up companies that have arrived at the brink of collapse due to mismanagement and incompetance? They are not going to and that is the reason for the collapse in T-bonds on Friday and when foreigners stop buying Treasury paper the US government has got itself a big, big problem - the result will be skyrocketing interest rates and an economic implosion.
Experienced gardeners know that if you want to maintain the health and vigor of a rose bush, you must on occasion make the sacrifice of cutting off the big, woody branches - endlessly cutting off small twigs simply does not work. In the same way periodic recessions within an economy serve to weed out inefficiency and excess, and create the conditions for renewed stable growth. However, in the "I want it all, I want it now" economic kindergarten of the United States of recent years, recession has come to be regarded as something gross and unacceptable, something to be avoided at all costs. This was why at a time when a recession would have been painful, but have had a necessary purging effect, the Greenspan Fed averted it by dropping real interest rates to near zero in the early years of this decade, thus sowing the seeds of the housing boom and the now unfolding disaster. Now the United States is like an old gnarled rose bush full of big woody branches and totally gone to seed - the only thing that will save it is to take an axe to it. The axeman is coming to the United States, and the desperate and pathetic attempts of politicians and corrupt business leaders, as displayed by their seedy and unwholesome display late last week, to prevent his arrival can only delay it a little, not prevent it. It's going to be painful folks, but as Mrs Thatcher, The Iron Lady of Great Britain used to say, "There is no alternative". Mrs Thatcher transformed Britain by taking painful but necessary steps to sweep away inefficiency and decay, which resulted in the relative prosperity of recent times, although that is now fading fast due to the UK having since followed the US down the debt path. Of course we can only make a limited comparison with Britain in the 1970's because the systemic problems now facing the United States are infinitely worse.
The big danger now is that the T-Bond "gravy train" will come to a screeching halt. If that happens the United States as we know it is finished. Having gutted its own manufacturing base, partly through outsourcing, and partly through simple lack of competitiveness, it is economically dependant on inflows of foreign capital and goods, a sizeable part of which is supplied by means of selling Treasury paper. If foreigners suddenly decide that they have better uses for their money, sales of T-bonds could collapse, leading to an immediate credit and funding crisis in the debt-wracked US economy and in order to attract buyers rates will have to be ramped up dramatically, which in the current fragile environment would lead swiftly to an economic implosion. The abuses of funds now being perpetrated by the government in order to bail out unworthy corporations and institutions are greatly increasing the risks of this happening.
Some investors in Precious Metals are worried that the government riding to the rescue with its bailout plan will "save the day", and restore relative normality to the markets so that people will go back to buying bank and financial stocks and dumping resource stocks, especially as gold reacted quite sharply yesterday. As stated in the opening paragraph of this article nothing could be further from the truth. The bailout plan is in itself hugely inflationary, as it requires massive amounts of money which, as it does not currently exist, will have to be conjured up out of thin air. As we can see on the 6-month gold chart, the reaction yesterday was actually modest compared to the rise that preceeded it, and reasonable given that gold had become so overbought after what was clearly a breakout move. Rather than worry about whether the bailout plan will spoil gold's party, gold and silver investors should consider that the huge surge in gold on Wednesday was actually caused by Smart Money getting wind of the bailout plan ahead of the public and piling in. Viewed from this perspective the outlook is clearly strongly bullish.
You were warned of an imminent collapse in US T-bonds in an article posted on the site on Wednesday, which was written following candelstick analysis of the 30-year T Bond chart. Bonds plummeted on Friday and this move is believed to mark the start of what is likely to turn into a savage and possibly unprecedented bearmarket in US bonds.