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Julian  D. W. Phillips

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Global Watch: The Gold Forecaster covers the global gold market. It specializes in Central Bank Sales and details, the Indian Bullion market [supported by a…

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Investing in Gold and Silver During Inflation, Stagflation and Deflation?

In this piece we are looking at some critical fundamental features of precious metals that are rarely considered or accepted in the developed world markets. Expert investors like Warren Buffet look at inactive, buried gold with amazement, because he is focused on companies that produce things and earn money. And most of us wish we had his skill and money behind us.

George Soros and the like invested in gold as an anti-deflationary measure. Most analysts appreciate the anti-inflationary value of gold and silver. The protection of gold and silver in stagflationary environments are a combination of both abilities.

But why are gold and silver capable of giving such protection in bad times as well as good times?

They have certain qualities that shine forward at times when other investments fail.

The Limitations of Cash

In times of monetary stability and soundness, safely-stored cash never fails. Most consider cash in the bank to be the safest conservative investment, and in the distant past, the days of our grandfathers, this was largely true.

But that horrible word, inflation, came into being where prices kept on rising and cash saved would buy less-and-less. Interest rates compensated for this inflation, but then interest rates stopped rising. When interest rates did rise, it was at a slower pace than inflation. Cash lost its buying power as time went by. Bank charges would eat away any gains that might be made. At first inflation would occur one country at a time, and the exchange rate on those currencies fell, hurting international buying power even more. Today inflation is a global phenomenon.

Investors would have to move out of cash and into businesses or other investments that offset the cost of inflation. This was not easy unless inflation happened while growth was vibrant. And this benefitted those middle classes that enjoyed such growth. The poor, whose income rises slower than inflation, feel the pinch.

Suddenly, booms turn into busts and businesses don't do well. The value of businesses and its shares fall, losing investors money. Even self-managed businesses fall in value, putting rich people into bankruptcy. This is deflation, a monetary mood that causes values to shrink. In deflation the value of cash grows as prices fall.

Those who believe they are skilled investors answer, sell, then cheaply buy back. We look at that timeless story of an investor who did that just before the Wall Street Crash. His friend did not do so well selling only when the fall was half way down. But our hero who sold at the top, overwhelmed by his own skill bought back in, when the fall was half way down. His friend did not buy back in, but stayed in cash. It's not so easy!

Then you get a situation when the bust happened and all of the markets plummet because forced selling drives investors out. Interest rates fall to negative levels. If cycles are consistent, there should have followed a boom period. But growth was so anemic that stagnation set in. Businesses and the economy struggle to find small amounts of growth and some cut back, turning over at survival level.

Suddenly, something that shouldn't happen in a downturn happened. It was inflation, driven by factors no government can control. It came from energy and food and became uncontrollable. This type of inflation is deflationary. Businesses covering expenses suddenly found their costs ate away at profits much the same as deflation and inflation would have done. This is 'stagflation', a climate where stress levels steadily eat away at sanity.

Surely bills and bonds are a way out of the hole, as they pay an interest rate, while being almost like cash?

The trouble with this thinking is that interest rates have fallen so low that the bill and bond markets are so high as to be heading for a fall, far worse than any Wall Street Crash.

Next interest rates rise to stop negative interest rates from rising higher. Then the prices of fixed interest securities have to fall, while their yield rises. Investors rush to exit those markets the moment that happens.

Surely there is no escape from these three economic ailments?

Well, there is....

For a long time, our Asian friends have suffered through poverty, hard times, government corruption and mismanagement. They have found refuge in good times and bad times. They want financial security and their investments to last for more than one generation. Correctly invested, their savings provide financial security for many generations.

You would have thought that Europe in particular would have learned the same lessons with their history of currency collapses and wars.

Why Precious Metals?

Gold (and to a lesser extent, silver) is more than a barbarous relic from yesteryear. Its rising price is telling us that it is a very modern investment preference because

It is both cash and an asset.

In the long term, it outperforms cash because of these qualities...

  • It has all the features that makes cash valuable, even capable of earning an income(when lent out).
  • It is an enhanced version of cash, in that it is not subject to the vagaries of interest rates solely dictated by central banks and banks.
  • It carries no national obligations. It does not rely on nations to supply collateral to honor payment. If you ask the Fed to honor the value of your dollar, they will simply exchange it for another.
  • It is not dependant on the creditworthiness of the nation issuing money.
  • It has the same value in Mongolia as it has in the U.S. or Europe.
  • It is collateral in any transaction and of greater value than the price it can be exchanged at.
  • It cannot be issued at will, with the intention of being withdrawn from the system later.
  • It does not decline when an individual currency declines (and does not rise when that currency rises in value). It is a 'counter to currencies'.
  • This century it has moved away from the control of the U.S. and Europe to global control. In the years to come, rising Asian demand will dwarf demand from the developed world, making it a fully internationally-valued asset again.
  • In a deflating global economy (just as cash is a national protection) gold is better than cash even when local currencies are not deflating.
  • In an inflating global economy, gold acts as an asset, when currencies are cheapening. There are no other currencies that are deemed as assets, like gold.
  • In a stagflationary economic environment, gold acts both as cash and an asset.


How will Gold and Silver Behave in the Dark Days Ahead?
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