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Basic theory: An epochal shift in the gold market started in 2001 and has continued, with periods of volatility, at more or less the same trend rate ever since. My theory since 2001 is that the rising gold price trend traces the gradual dissolution of the US$ Treasury system punctuated by crisis and temporary resolution. It will eventually end with a Sudden Stop crisis that I have since 1999 called Ka-Poom Theory, possibly mitigated by a re-opening of the gold window. The Argentina peso bond market crisis of 2001 and 2002 confirms the Ka-Poom Theory which is comprised of two phases, a deflationary phase driven by capital flight and an inflationary phase that results from a currency depreciation. See Argentina's Ka-Poom graph below.

See also, (VIDEO) Argentina's Economic Collapse. A U.S. version of the Ka-Poom theory, still a work in progress, is mapped below.

Notes from: The Next Ten Years--Part II. Over the coming two years (2011-2013), expect to see the economy continue to grow moderately in nominally between 2% and 3%, while it continues to shrink in real terms. However, at some point interest rates will begin to rise in response to inflation, even as the output gap continues to put a deflationary bias on consumer prices and wages. That will tend to open the gap even wider, as borrowing costs rise.

The recession of 2012-2013 will be created by the withdrawal of fiscal stimulus by the majority Republican 111th Congress. Under conditions of debt deflation, if stimulus is withdrawn before an output gap was closed, recession recurs. This second recession will open the output gap to 6% of GDP. The first recession was from 2007 to 2009. That recession opened the output gap to 4% of GDP. The monetary stimulus of dollar devaluation against oil plus the fiscal stimulus of the Bush and Obama administrations, together these measures closed the output gap from 4% to 2% of GDP between 2009 and 2011.

A recession event in 2012-2013 suggests only one policy option -- monetary inflation -- but several scenarios for achieving it with sufficient political cover to prevent foreign creditors from bolting. The output gap is likely to grow to 8% by 2014. At that point, inflation becomes the only option. We will continue to use public funds to grow the money supply as private sector borrowing remains too weak to do so and monetary policy is now ineffectual. For the next several years, the US will continue to claw its way through the output gap by moving private debt to public account as Japan has since 1992 until either the US runs out of public credit or an external global geopolitical event occurs that has the effect of producing a large spike of inflation.

Three factors will influence our investment decisions over the next ten years.

  • China's finance and export based state capitalist system will enter a severe crisis in 2012-2013 as its property bubble collapses.
  • The Euro will not end. The eurozone will shrink as weaker debtor economies such as Greece are jettisoned and creditors consolidate economic and political power.
  • The world will have three reserve currencies by the end of the decade: the dollar, the euro, and the yuan representing American, European, and Asian trade blocks.

2011 to 2020 Uncertainty Era Asset Allocation Rulebook

Rule #1: As long as the US economy remains in an output gap trap, the fiscal position will worsen. When the housing bubble collapsed the US fell into the output gap trap that consigns the US to ever-growing fiscal deficits, at least until the US runs out of public credit. If the US attempts the Japanese method of managing the output gap via fiscal stimulus at the same rate starting in 2000, the US public debt will reach 140% by 2015.

Rule #2: As long as the US fiscal position worsens, the dollar will weaken. The US cannot grow its public debt to 195% or 140% of GDP, and likely not even 100%, because of the US economy's dependence on imported capital and its gross external debt position. Invariably, for a net debtor, a fiscal deficit puts pressure on the currency.

Rule #3: Periods of high energy costs are periods of poor economic growth and stock market performance. The time to be in the stock market is when inflation is on a falling trend, as it was from 1980 to the year 2000. The worst time to be in stocks is at the beginning of a period of rising inflation. The Argentina peso bond market crisis of 2001 and 2002 confirms the Ka-Poom Theory which is comprised of two phases, a deflationary phase driven by capital flight and an inflationary phase that results from a currency depreciation. See here. A new administration will some day place the blame for the crisis on the previous administration and take no responsibility for the hardship that their decisions are about to visit upon us.

Rule #4: If the US fails to exit its output gap before the next recession, the US will experience a bond and currency crisis several years thereafter, as soon as after the 2012 presidential election or as late as the 2016 presidential election. See here for a US version of the event, still a work in progress.


The 1980 to 2007 credit bubble was an existential economic error akin to the 1920 to 1929 credit bubble. The credit bubble entered its first crisis in 2000. The Greenspan housing bubble was a credit-financed New Deal (akin to the 1930s) that rescued the economy in 2002. The next stock market correction will be driven by the pricing-in of the mid-gap recession (which may have begun in August, 2011). The 2008 to 2009 financial crisis and economic recession was the first phase of the process of debt deflation following the multi-decade credit bubble.

We are out of private credit needed to finance a next bubble. Within a few years we will be out of public credit needed to move private debt to public account to manage a persistent output gap, debt deflation, and Peak Cheap Oil all at once. Europe's, China's, and US sovereign crises will occur in rapid series over a period of months perhaps starting as soon as 2H 2012. Sovereign credit games in Europe, China, and the US will end in a cascade of sovereign debt defaults and a currency markets crisis that will eventually be resolved through the development of three currency blocks, American, European, and Asian by 2020.

Social relations among competing interest groups will escalate. Governments will respond to escalating domestic unrest with increasingly repressive surveillance and control. The primary investment challenge of the next ten years is economic and political uncertainty.

We will experience the greatest economic and social uncertainty in 100 years over the next ten.

Notes from: Illusion of Recovery; Global Panic into Gold--Part II.

The key thesis of Ka-Poom Theory is that the US will experience a debt and currency crisis if US creditor countries run into economic and political difficulties at home that lead them to calculate that they are better off focusing on domestic policy matters rather than applying resources to support the US in a bid to maintain the US as a viable export market.

Two ways The Deal (i.e. the arrangement of foreign investment in the US in exchange for US demand for exports) is off. One, the US cannot provide sufficient demand for Asian and European exports. Two, the US in its effort to reflate debt rather than take politically painful steps to write it off depreciates the dollar too far, too fast, exporting inflation abroad. As the US demand engine sputters and inflation rises world wide, foreign investment in the US dries up. This appears to have started in Q1 2010.

The rate of foreign purchases of all US securities, of which Treasury bonds are by far the largest part, began to decline in early 2010. Think of it as the slow stop before the sudden stop. Net purchases turned negative in June 2011, the last month reported. I do not think the correction we saw in the stock market starting in July was coincidental. If the trend since early 2010 continued in July and August and then into September, and is joined by sales of US stocks, we may see a good old fashioned autumn stock market crash.

The US$ Treasury based global monetary system began to break down in 2001. Since then, the process of breakdown has gone through several stages. When central banks became net buyers in Q1 2009 the breakdown entered a new stage. The reason for the price spike this summer could be as simple as rumors of new central bank purchases on the heels of purchases by the central banks of South Korea and Thailand. More likely a new major buyer has emerged, one that reveals a significant political shift in the system. The list of possible suspects is large and includes Japan at the top of the list. I expect many similar parabolic rises and corrections before the US$ Treasury epoch ends, as speculation about shifting alliances among players drive gold prices.

  1. The parabolic rise of the gold/10-Year Treasury bond yield ratio this summer backs up the notion that a new stage of the breakdown has started.
  2. The tumultuous recent history of currencies priced in gold is driving more and more governments to switch sides, reduce US$ Treasury bond reserve holdings and increase gold holdings.
  3. Gold purchases and sales by government and international banking institutions since Q1 2000 entered a new phase in Q1 2009. Rumors of new entrants and shifting alliances will drive gold price volatility for the duration of the epoch, and generally up.

The trend in the decline in the exchange rate value of currencies priced in gold is ten years old, and the severe decline is five years old. The trend of government net gold buying is two years old. The trend in the decline in US Treasury bond purchases is 18 months old.