Now this is a correction. In the space of three days gold is off 10% and silver 25%.

What's happening? Two things:

First, you don't get this kind of run without this kind of correction. When something soars, the number of people with huge embedded profits eventually reaches a tipping point where, for a while, selling necessarily overwhelms buying. So regardless of what's happening in the world, gold running from $300 to $1,900 and silver from $4 to $49 would create exactly this kind of volatility.

Second, all the borrowing we did to stave off the 2008 debt crisis has created a new one, with Greece on the verge of default and the US in trillion-dollar-deficit gridlock -- and a realization that the people nominally in charge have no idea what they're doing. Where new plans to create jobs or lower long term interest rates used to be met with enthusiasm, they're now being met with disdain. This is huge. In the space of a few months the dominant financial fear has shifted from inflation back to deflation.

In other words, it's 2008 again, but with much bigger debt numbers. Which takes us back to precious metals: Notice on the chart below that gold got whacked the last time conditions were deflationary. Between early and late 2008 it lost about 25%.

Then recall how the world's governments reacted back then and note that they're all still armed with printing presses and terrified of upcoming elections. If a Greek default produces panic rather than relief, expect QE3 in the US and something similar in Europe, where the ECB is already becoming a clone of the US Fed:

ECB Policy Makers Signal Readiness to Act in October as Debt Woes Deepen

The European Central Bank may step up efforts to boost growth and ease financial-market tensions as early as next month, Governing Council members said.

Austria's Ewald Nowotny and Belgium's Luc Coene said in Washington that potential measures include the reintroduction of 12-month loans to banks. Asked if an interest-rate cut is warranted, Coene said while that wouldn't help to bring down longer-term borrowing costs, "the ECB has never ruled out things beforehand."

"If the data in early October shows that things are worse than we anticipated we will look at the kind of decisions we have to take for that," he said in an interview late yesterday.

European policy makers are under pressure from counterparts around the globe as their failure to contain the region's sovereign-debt crisis stokes concern the world is on the brink of another recession. Their comments come as European officials debate how to increase the size of their bailout fund to restore confidence in its firepower.

With money-market tensions increasing, the ECB has already reintroduced a six-month loan and continues to offer banks as much cash as they want at its benchmark rate in weekly, monthly and three-month refinancing operations. It last conducted a 12- month loan in December 2009.

"The ECB will probably discuss reintroducing a 12-month tender," Nowotny told reporters in Washington today. "We could perfectly do that when we feel there is an urgent need for that -- I don't think so for the moment, but it could be in two weeks," Coene said. The ECB council next convenes on Oct. 6.

Economists at Barclays Capital, JPMorgan Chase & Co. and Royal Bank of Scotland Plc predict the ECB will also be forced to reverse course on interest rates after raising them twice this year to curb inflation. The benchmark rate is currently 1.5 percent, compared with near-zero for the U.S. Federal Reserve and Bank of Japan, and the Bank of England's 0.5 percent.

G-20 Pledge

Finance chiefs from the Group of 20 yesterday pledged a "strong and coordinated international response to address the renewed challenges facing the global economy."

Many G-20 members pressed Europeans to follow through on a July plan to expand the powers of the region's rescue fund, Japanese Finance Minister Jun Azumi told reporters.

European parliaments are focused on approving the July agreement to expand the scope of the 440 billion-euro ($594 billion) European Financial Stability Facility to allow it to buy the debt of stressed euro-area governments, aid troubled banks and offer credit lines. Its current role is to sell bonds to fund rescue loans for cash-strapped governments.

'Problematic Discussions'

"We really, really hope that it will be up and running by mid-October, but you know yourself how problematic the discussions in some countries are," Nowotny said. After legal ratification, it may take another six to eight weeks for the EFSF to start intervening, he added.

The ratification process has drawn fire from some investors for being protracted and failing to provide the fund with enough cash to prevent the crisis leaking beyond Greece. Curbing the scope of policy makers to do more is the suspicion taxpayers in AAA-rated countries such as Germany and Finland would balk at stumping up even more rescue cash.

That has fanned speculation Europe may eventually ratchet up the fund's spending power, perhaps by using the bonds it sells as collateral to borrow more cash from the ECB. Another proposal is to mimic a U.S. program established following the 2008 collapse of Lehman Brothers Holdings Inc. by allowing the fund to offer the ECB credit protection for buying more sovereign bonds.

EFSF Firepower

"It is very important that we look at the possibility of leveraging the EFSF resources and funding to have a stronger impact and make it more effective," European Union Monetary Affairs Commissioner Olli Rehn said in Washington yesterday. French Finance Minister Francois Baroin said separately that policy makers "need the right firewall to prevent contagion" and can discuss giving the fund "the necessary strength."

Weidmann has said he opposes turning the EFSF into a bank that can refinance itself at the ECB as it would amount to "monetizing state debt." Coene also said he's "not sure that will be a good idea."

Coene signaled reluctance to step up the central bank's government bond purchase program even after the IMF said Sept. 20 the ECB "must continue to intervene strongly" in European debt markets to "maintain orderly conditions."

Some thoughts:

It's impossible to overstate the panic that the world's politicians and central bankers are experiencing. They have no idea what's happening now that the magic power of easy money seems to have failed. And because easy money is all they know, they will absolutely, without the slightest doubt, double down in coming months, flooding the US and Europe with credit.

Ironically, Europe's troubles actually make it easier for the US to keep easing, because credit creation depends on the willingness of the rest of the world to accept dollars. As long as dollars are in demand -- as they are now, as capital flees the euro in favor of US Treasury bonds -- the Fed can create more dollars and Washington can continue to issue more debt. Expect them to ramp it up big-time in the near future.

And politics doesn't matter. The idea that president Mitt Romney or Rick Perry would accept a 1930s style depression in order to balance the budget is laughable. Faced with the prospect of becoming their generation's Herbert Hoover, they'll open the monetary floodgates just as certainly as would a second-term Barack Obama. In Germany, the recent bailouts may soon cost Chancellor Angela Merkel her job, but as a reader commented on a recent DollarCollapse article:

Merkel is effectively losing one election after another but she loses to the left. The German left is pro integration and pro bailouts. In this weekend elections in Berlin, the minority party of the current coalition, that can be compared to the tea party, lost even the 5% quorum to have a representation to congress. They campaigned against Europe.

In other words, the next generation of European leaders will be hired by voters sick of austerity and will therefore be even more favorably disposed to bailing out everyone in sight.

This is profoundly positive for precious metals. As stomach-churning as this correction seems, a decade from now it will look like just another squiggle in a long, steep uptrend.