The stock market moved up and down over a hundred points several times over the last week or so. Interest rates have begun to fall again, and the dollar broke resistance moving above 85. Inflation and growth rates continue to weaken throughout the world and confusion is rattling the markets everywhere.


When we have confusion, markets rely on technicals for guidance. For me, when we have confusion I rely on fundamentals. The fundamentals have been turning negative for over 2 months, and as a result I sold much of my precious metal stock holdings as they deteriorated. And, I have been short at times hedging what little I have held.


Let me put this market in perspective. The gold market along with most other commodities has been falling for about 3 years. It is due to a recessionary/disinflationary bias that re-entered the world economy in 2011. China's growth peaked, India's growth peaked, and disinflation began to reassert itself. Then came the Eurozone problems this year as a near deflation took hold while instead of GDP increasing, it fell. Last quarter Japan’s GDP growth fell dramatically, caving 7%; and as of this month we are still hitting new lows in almost all commodity markets. Stock markets around the world have fallen, and interest rates have been yo-yoing up and down. The US GDP has bounced up 4.6 in the second quarter, but for the year we are running at a low 1.9% with the present quarter looking weaker than the last quarter. The direction of both growth and inflation rates has turned downward.


To me, the reason is the stagnant money supply here in the United States and around the world. Money is being hoarded by banks in the form of excess reserves and by individuals rather than spent. Money supply in checking and savings accounts has not grown normally for over 3 years along with the velocity of money which fell to the lowest level in history. It is not a coincidence that gold also started falling 3 years ago.


The amount of cash in individual checking accounts over the last few years is 6 thousand dollars, 3 times the normal amount historically. That's called hoarding. And excess reserves held by banks are among the highest in history – another form of hoarding.




I don't know when but the governments of the world will be forced to move drastically soon, lest we fall back into a world-wide recession and deflation. Europe needs to stimulate money growth within their society to fight deflation. China, the US, and Japan needs to do the same. For the first time, I'm beginning to hear commentators ask the question, "what if inflation and growth in America continue to fall rather than rise? What will the Fed do then -- QE 4?" When that was suggested on CNBC last week, everyone froze and looked blankly at the camera. No one expects a reversal in policy by the Fed. But that is exactly what happened a few months after they ended QE2.


The sad fact though is that QE3 didn’t work and QE4 wont work either. QE as practiced today is a failure; that’s why it’s being terminated. In order to combat the persistent return of deflationary forces, the Fed and all central bankers around the world need to target their nation’s money supplies rather than simply buying bonds. It is a stagnant money supply which leads to low velocity of money in a nation that leads to deflation. Purchasing bonds has been impotent. So, I would not be surprised to see the Fed change their monetary policy soon.


As QE3 ends, the Fed needs to target M2, and in fact M2 has just begun to increase for the first time this year. Perhaps the Fed finally has gotten the message and is already moving in that direction. This is a lesson the European Central Bank needs to learn and learn quickly.


However the easiest way to get money into the economy is not through the Fed or any central bank; it's by lowering taxes, leaving more money in the pockets of individuals and businesses. Rational governments would have taken that action long ago if they wanted to increase prosperity and prevent deflation. Unfortunately no rational government exists today; only politicians that want to take money from some people and give it to other people in order to buy votes to get re-elected.


It is not a coincidence that a moral monetary and fiscal policy is a practical monetary and fiscal policy. When a nation provides greater freedom and returns money it has taken from those that earn it, prosperity results. It isn't a secret -- it's been the case since economies have existed. Free market economies do better than those that are controlled, regulated, and taxed. Edicts, mandates, and laws that seek to control people and re-distribute wealth lead to stagnation and always have.


The world has gone about as far as it can go with this philosophy. It needs to make a change for the better or continue to slide further and further into stagnation and recession. A choice by governments is imminent. Japan is facing the possibility of falling into another recession. Europe is on the verge of a new deflationary downturn as unemployment remains above 11% and still it has not had the political will to do what’s necessary to change course. And China is faltering, which together with the US, Europe, and Japan, make up most of the world’s economy. The world has no idea how close it is to a new downturn -- but the markets have, and they are starting to telegraph it.


Gold has forecast this slide since summer, rising earlier in the year as world growth rose, and falling recently as world growth began to slide backwards. We are now teetering precariously on the precipice. Gold will either breakdown violently or it will stabilize and rise. A violent fall will most likely foreshadow a new world-wide recession.


A decision awaits the governments of the world and the markets are poised to move with them or against them. A major breakdown in gold will be about a lot more than profits and losses. If it occurs it will foreshadow the return of the deflationary/recessionary forces of the past.


Paul Nathan