Friday, November 18, 2011

Paradigm Shift for me on Economics 101

Talk about a paradigm shift for the econ 101 guy here. Man here is another reason to invest in commodities. Just this week the Japanese said they’re going to devalue their yen as it appreciated to record post World War II highs against the dollar.


GOLD AND THE ONGOING CURRENCY WARS

by Jeff Nielson of Bullion Bulls Canada

We live in a world almost entirely populated by economic charlatans. Nowhere is that indictment more blatantly apparent than in the world of international trade. For proof, look no further than the ongoing attempts by governments to win export market share by devaluing their currencies - also known as the "Currency Wars."

To see why these measures hurt all involved, the reader must understand why countries (and individuals) trade. It is elementary economics that profitable trade is founded upon a single principal: the doctrine of comparative advantage. It states that nations produce what they are especially adept at producing, and then trade those goods to other nations for the products which they can produce with greater efficiency.

Put another way, if Nation A can produce computers 10% cheaper than Nation B, but Nation B can produce automobiles 10% cheaper than Nation A, then both nations will be better off if they begin trading computers for automobiles. If we assume two equally-sized economies, and balanced trade, we essentially multiply our efficiencies by a factor of three: each nation produces twice as much of what it is good at, while also avoiding squandering resources by producing goods it is not efficient at producing.

Governments have throughout history attempted to interrupt this mutually beneficial arrangement in order to "protect" local industries from competition. While the old weapon was the tariff, the new weapon is competitive devaluation - and like the atom bomb, it's destructive power is orders of magnitude larger than the old weapons.

"Devaluation" means to drive the value of one's currency toward zero. "Competitive devaluation," then, is a race between governments to see which one can drive its currency toward zero the fastest.

As a result, instead of nations only producing goods which they are efficient at producing, and trading those goods for the efficiently produced goods of other nations, we have an entirely different paradigm. We have nations driving the wages of their workers toward zero in order to export goods at which they are entirely inefficient at producing.

And they're competing to see who can get to economic ruin first!

It gets worse. To maximize our losses on this inefficient trade, much of what is produced is heavily subsidized - meaning even before we factor in the damage of falling wages, we are selling these goods at an economic loss. We are totally impoverishing our own populations in order to inefficiently produce goods, which we then sell for a loss.

Among the infinite list of negative consequences from this economic folly are a steadily declining standard of living and vastly increased demand for government entitlements. Transforming the US middle class into the working-poor has resulted in close to 50 million Americans relying upon food stamps, and the numbers continue growing each month. Meanwhile, these subsidy-dependent, unprofitable businesses are very vulnerable to any downturn that might hurt their bottom line. There is no cushion of profitability to prevent massive layoffs at the first sign of trouble.

Meanwhile, with less and less real wealth off of which to leach, Western governments are making themselves more insolvent by the day. Thus, the only question which bond-holders should be asking themselves is: what will drive the value of government bonds to zero first, competitive devaluation or formal default? Yet, despite this very real and indisputable threat to investors, the media seems obsessed with speculating whether precious metals - perhaps the only constant in a world gone mad - are in a "bubble."

To understand the lunacy of the Currency Wars is to understand why gold and silver prices are skyrocketing. Driving the value of a currency down means exactly the same thing as driving-up the prices of real assets denominated in that currency. So, as governments engage in competitive devaluation, of course gold is going to rise in price. The new price just reflects that there is still the same amount of gold floating around while there are tons of new dollars/euros/yen.

Even absent competitive devaluation, there are a plethora of fundamental reasons for investors to hold a significant allocation of precious metals in their portfolios. With competitive devaluation, I find it difficult to get myself to hold anything other than gold or silver. And to the hordes of bond-lemmings out there, I can only say, "caveat emptor."

Jeff Nielson studied economics and law at the University of British Columbia, obtaining his degree in 1989. He came to the precious metals sector in the mid-'00s as an investor and quickly decided he wanted to make it the focus of his career. He is the co-founder of Bullion Bulls Canada, a precious metals website with a global audience which provides economic analysis, commentary on precious metals, and detailed information on more than 100 North American-listed mining companies.

Since starting Bullion Bulls Canada, Mr. Nielson's work has been widely published on sites such as Seeking Alpha and TheStreet, along with dozens of precious metals websites. For more of Jeff's insights and analysis, visit www.bullionbullscanada.com.

No comments:

Post a Comment