Prediction: The Day of Economic Reckoning is NearDoug Casey The Gold Report: There will be a Casey Research Summit on Navigating the Politicized Economy in Carlsbad, California in September. Investors from around the world look to these summits as future road maps for investing pitfalls and opportunities. The thesis behind the Summit is that governments have made a Faustian bargain a pact with the devil that saves the empire with overspending, but drives it to the brink of collapse by creating fiat currencies. Doug, where in that story is the economy currently? Doug Casey: Its extremely late in the day. Since World War II, and especially since 1971 when the link between the dollar and gold was broken, governments around the world have accepted the Keynesian theory of economics, which boils down to a belief that printing money can stimulate the economy and create prosperity. The result has been to create huge amounts of individual and government debt. It has become insupportable. All it has done is purchase a few extra years of artificial prosperity, and were heading deeper into a very real depression as a result. We have been consuming more than we have been producing and living above our means. Let me define the word depression. Its a period of time when most peoples standard of living declines significantly. It can also be defined as a time when distortions and misallocations of capital things usually caused by government intervention are liquidated. TGR: Will more quantitative easing (QE) give us another couple years of artificial prosperity? DC: Most unlikely. Were at the end of the story, not the beginning. More QE I hate to call it that because its really just printing money. I hate euphemisms, words that are intended to make something sound better than it really is. Euphemisms, like exaggerations, are the realm of politicians and comedians. Anyway, the next round of money printing is going to result in radical and rapid retail price rises. There is no prosperity possible from this; rather the opposite. TGR: Last time we spoke, you said that we are entering into a depression greater than in 1933. Can you describe how it might be different? DC: What we experienced in the 1930s was a deflationary depression where billions of dollars were wiped out with a stock market collapse, bond defaults, and bank failures. Inflationary money that was created since the formation of the Federal Reserve in 1913 was wiped out. Prices went down. This depression will be different because governments have much more power. Theyll try to keep uneconomic operations from collapse; theyll prop them up, as we saw with Fannie Mae and General Motors. Theyll create more money to keep the dead men walking. They wont allow the defaults of money market instruments. They will make efforts to maintain the dollar mark on money market funds. Theyll attempt to keep building the pyramid higher. Its foolish, indeed idiotic. But thats what theyll do. TGR: Which theyve been doing by printing money. The first rounds of money printing have gone into the banking system, but the banking system has not allowed it to trickle back out into bank loans. Does that open the possibility of deflation if money is not moving out into the general economy? DC: Thats right. The government created trillions in currency to bail out the banks. The banks have taken it in to shore up their balance sheets, but they havent lent it out because theyre afraid to lend, and many people are afraid to borrow. That currency is basically in Treasury securities at this point. Although money has been created, its not circulating. I believe that governments have the power to create enough new currency to keep prices from going down. At some point, its going to move out. One consequence of this is that interest rates have been artificially suppressed so that retail inflation is running much higher than interest rates are compensating for it. At some point, rather than sitting on hundreds of billions of dollars that are going to be inflated from under them, the banks are going to do something with that money. It will go out into the economy. Retail prices will start rising. TGR: Do we need to see another round of money printing to put us over the brink into a collapse? Or will it happen even if they dont print more, because its currently sitting in the banks? DC: They actually dont have to create more money. Its just a question of whether the banks start lending it and people start borrowing it. Another possibility is that the foreigners holding about $7 trillion outside the US get panicked and start dumping them. I dont see any way around much higher levels of inflation unless, of course, we have a catastrophic deflation, which we almost had with the real estate collapse. TGR: How much will Europe play into this? It seems its governments are, at least according to the popular press, more exposed to bankruptcy than the US government. DC: Europe is a full cycle ahead of the US. Its governments and its banks are both bankrupt. Its a couple of drunks standing on the street corner holding each other up at this point. Europe is in much worse shape than the US. Its highly regulated, highly taxed, and much more socially unstable. Europe is going to be the epicenter of the coming storm. Japan is waiting in the wings, as is China. This is going to be a worldwide phenomenon. Of course, the US will be in it, too. Were going to see this all over the world. TGR: If Europe finally does go over the brink, where its been headed for more than a year, would that also cause inflation in the US or would you expect to get catastrophic deflation? DC: This is an argument thats been going on for at least 40 years. How is this all going to end: catastrophic deflation or runaway inflation? The issue is still in doubt, although I definitely lean toward the inflationary scenario. But will it start in Europe? How will it start? These things only become obvious after they happen. TGR: When you say lean, are you pretty convinced its going to be inflationary? DC: I think its going to be inflationary; in the 1930s, it was a deflationary collapse. Governments are vastly more powerful and much more involved in the economy now than they were then. I believe that they have the power to create enough new currency to keep prices from going down. Somehow, moronically, theyve conflated higher prices with prosperity. Investors need to look for real, productive wealth and consistent growth. If we had a completely free market economy, prices would constantly be dropping. Thats a good thing, because as prices constantly drop, it means money becomes more valuable. That induces people to save money. When people save, it means that they are producing more than they are consuming thats a good thing. The way governments have it structured today, however, prices are always going up. That discourages people from saving because their money is constantly worth less, which encourages them to borrow. Inflation induces people to try to consume more than they produce, which is unsustainable over the long run. TGR: You are saying that if the current value of your money is higher than the future value, that encourages borrowing. DC: Exactly. I dont see any possible happy ending to this. Were approaching the hour of reckoning. TGR: You have said that the titanic forces of inflation and deflation are fighting an epic battle that leads to extreme market volatility. But I am looking out there this summer and thinking its pretty calm. It seems like a very slow recovery. Gold is settling around $1,600/ounce. The SP 500 index is testing the 1,400 mark. Is this just a pause in the epic battle? DC: Nothing goes straight up or straight down. I just took a cross-country car trip from Florida, up the East Coast to New York, and then out to Colorado. It was actually rather shocking that many times I had trouble getting a motel room even in the middle of nowhere. The restaurants were full. The highways were full of cars. It looked more like a boom than a depression. At the same time, our real unemployment, figured the way they used to figure it in the early 1980s, is about 16-20%. People are living off their credit cards. I believe its the same in Europe. TGR: It seems as if we havent had much market volatility other than the technical glitch at Knight Capital this month. Do you expect market volatility to come back into play? DC: On the one hand, some people are going to go into the stock market when inflation reasserts itself because at least it represents real value. They can invest in companies that actually produce things and have real assets. On the other hand, the stock market itself by any historic parameter is overvalued right now in terms of dividend yields, price-to-book value, and price-to-earnings ratio. I have no interest in being in the broad stock market. I feel very confident that the bond market, especially, is going to be very volatile. Thats the one place where it seems that theres a real bubble, and its one of the biggest bubbles in history. Its the worst possible place for capital right now. Its a triple threat higher interest rates, default risk, and currency risk. Even reading the popular press, you can see investors in a desperate reach for yield. Theyre only getting a fraction of a percent in their bank accounts. So, to get some income, they are buying all kinds of bonds, even those of low quality, just to get 2, 3, 4 or 5% in yield. The bond market is trading at insane levels as a result of the government having driven interest rates down close to zero in a vain effort to stimulate the economy. The bond market is much bigger than the stock market. When interest rates start heading up, trillions in bond values will be wiped out, in addition to causing a lot of corporate bankruptcies thats why deflation isnt completely out of the question. In addition, higher rates could really further devastate the real estate market, which has been making a mild recovery. And, of course, higher interest rates are the enemy of high stock prices. TGR: One of the keynote speakers at the upcoming Summit is Thomas Barnett, author of The Pentagons New Map: War and Peace in the Twenty-First Century. Hes going to be talking about geopolitics today and tomorrow. From your viewpoint, in todays age of nationalism and conflicts among nations, is it important for investors to know about geopolitics in order to pick junior mining stocks? DC: Most certainly. Very few investors are putting any money into the junior mining stocks right now, which tells me that its a good time to start looking at them. However, investors need to have a grip on geopolitics in order to intelligently assess which companies to buy. There are 200 nation-states in the world, and they all have different policies. Investors have to avoid putting money into a location where a company will never be able to develop a mine even if its lucky enough to find an economic deposit. TGR: As well as Thomas Barnett, there are some very impressive speakers at the Summit, Doug 28 speakers at the event. Who should be there for this event? DC: As we get closer to the day of reckoning, it becomes critical that those who have something to lose meaning investors, savers, and homeowners are aware of whats happening and also what they can do about it. Were heading into unchartered territory. I think this is so important that we are also recording the Summit and making it available for download as soon as possible after the summit. TGR: You developed the concept of the 8 Ps for stock evaluation. Typically, you say that the people are the number-one thing that you look at. Is politics starting to move up in importance as a determining factor? DC: People are still the most important because good people who are running a company will choose an intelligent jurisdiction to develop. Its also a question of whether the world at large is becoming more stable or less stable. I think its becoming less stable, because all the governments in the Western world are really bankrupt and are, therefore, going to be looking for more tax revenue. Mining companies are going to be in its sights because mining companies cant move their assets; they are the easiest thing in the world to tax. The good news is that makes mining stocks very volatile, and sometimes extremely cheap. Volatility can be your best friend. But economically, as things get tougher in the Western world, that will hurt the developing world too, because it depends on marketing its raw materials. If the Western world is using fewer raw materials, its going to put pressure on those developing countries. TGR: Doug, youre talking a lot about geopolitical unrest. The world is becoming less stable. In 2010, I heard a lot of discussion about gold going into a mania stage, specifically for many of the reasons were talking about now. As we approach 2013, will we run into that discussion of gold mania again? DC: Its not likely to happen until we reach much higher levels of inflation and we have something approaching financial chaos but thats exactly where were headed, and soon. The mania is likely to be fear-driven much more than greed-driven. Gold is still in the climbing-the-wall-of-worry stage. Mania is still in the future. Its going to happen. I feel confident of that. Theres going to be a rush to gold. TGR: One of the people you like to quote quite often is Richard Russell. Theres a specific quote Ive heard you say a couple of times: In a depression, everybody loses. The winner is the guy who loses the least. In order to be that guy who loses the least, is it a viable strategy to stay out of the markets? DC: Its almost impossible to stay out of the markets, because practically everybody has a pension program, an investment retirement account, or something of that nature. You have to put the assets of that pension into something the stock market, the bond market, or cash. Most people own real estate or their home. If the real estate market gets hurt, you get hurt there. If you have wealth, what are you going to do with it? Its not a good option to put $100 bills under your bed. Even then, youre in the market for currency. Thats one of the biggest problems with inflation: It forces people to direct their attention to gambling in the markets, as opposed to productive business. There has been way too much concentration on the financial markets over the last 50 years. This is shown by the fact that roughly 22% of the US economy is in financial services, which is basically just moving money around. The financial services business doesnt weave, spin, or sew; it doesnt produce anything. In a sound economy, the financial services sector would be tiny just big enough to facilitate transactions. It wouldnt be the mammoth that it is today. It seems as if everybody is in the business of moving money around, but the money theyre moving around is just paper currency. Its quite nonproductive. TGR: They are producing new financial instruments. In a way, financial services companies are coming up with alternative methods to build wealth. DC: I question that. Financial services dont actually build wealth. Real wealth is created by the production of new technologies, food, metal, or products. Financial services serve a purpose, of course, but it isnt a real wealth creator. Today the sector is more of a moving-paper fantasy. Even what I do, which is advising people on where to allocate their wealth, has always made me feel a little bit sheepish because Im not actually building a bridge or creating a new engine or technology. Im just telling people how to move things around. If the economy were sound, 90% of the people in my line of work would be doing something else. A speculator, basically, is someone who capitalizes on politically caused distortions in the market. If we had a sound economy, the government wouldnt be causing these distortions and it would be much harder to be a speculator. Anyway, the whole financial sector is bloated. By the time the bottom hits, the last thing that people are going to want to hear about is the stock market, the bond market, or where to put their money. Theyre not going to want to read financial newsletters because theyre going to be so sick at the very thought of those things. People wont ask how the markets are doing; they wont even care if they exist. Theyre going to get back to the basics. That is the foundation for the next boom. But that time is a good many years in the future. TGR: But you are still in the business of helping investors move around assets. What would you say to investors now on how they can protect or grow their wealth through the next phase of volatility? DC: We need to learn how to survive and profit in a market bogged down by crippling government regulations, billion-dollar bailouts, excessive money printing, and cronyism; thats what the Summit is all about. But to be frank, its very hard to be an investor in a highly politicized environment. Investors need to look for real, productive wealth and consistent growth. Speculators, on the other hand, try to capitalize on the chaos that is caused by the myriad of destructive government regulations, taxes, and, of course, currency inflation. Thats why I look at all markets, in all countries. But right now there are very few bargains. At some point, for instance, real estate is going to be of interest again. Not right now because governments everywhere are going to raise taxes on it. TGR: Would you put things like technology, pharmaceuticals, and health care in the category of real wealth? DC: Very definitely. Thats why we have a technology letter. Ive always been kind of a boy scientist; technology interests me from an intellectual, as well as a financial, point of view. Technology is the real mainspring of human progress. No question about that. The problem with the medical industry is that its being nationalized. Its very hard to do anything with the US Food and Drug Administration (FDA) as it is. It costs $1 billion to develop a new drug today. Developing medical devices can be almost as expensive. Even if something is approved by the FDA, if something goes wrong, count on being sued by the plaintiff bar. Its a very high-risk business, which is a pity. Living longer and better physically is one of the most important things there is; medical businesses should be encouraged, not pilloried. Ive always said that the FDA kills more people every year than the Defense Department does in the typical decade. But Boobus americanus still thinks its protecting him. [Editors note: Read more about investing in The Life Sciences Report.] TGR: Are there other areas for real or productive wealth? DC: I read science magazines all the time. There are more scientists and engineers alive today than in all the history of the world put together. Hopefully, with the continued blossoming of India and China where students are generally going into science and engineering as opposed to things like gender studies, political science, and English literature, which students idiotically are doing in the West there will be even more scientists and engineers 20 years from now. What areas are they going into? Nanotechnology, microbiology, robotics these things will blossom the way computers have over the last few decades. The problem when it comes to investing in them is that theyre increasingly highly specialized. Investors need at least a sound laymans knowledge in order to know if theyre barking up the right tree or not, and thats hard. Theres just not enough time in the day to gain enough expertise for this type of thing. Of course, thats the value of magazines and newsletters. The editors condense information for readers to give them an intelligent laymans opinion. TGR: Now were back to the importance of people. You do have to have some sense of the person who is doing that analysis for you. It needs to be someone whos credible. DC: Absolutely. Thats the advantage of having a newsletter over a magazine. In a magazine, you dont always know whats going into the sausage that that writer of an article is making. When youre dealing with a newsletter, you can get to know the editor, what hes thinking, how expert he really is, and what is his psychology. You can learn if you can trust his opinion. Although I read both magazines and newsletters, newsletters are much more valuable. TGR: To bring this full circle, I would imagine attending speeches summits and conferenceswhere you meet these newsletter writers or analysts face to face is also beneficial. DC: Yes; it gives you a smorgasbord of views. Its helpful in assessing the validity of the views to be able to assess the personality of the writer and have a better understanding of whether his views are actually credible. And its a great opportunity to ask questions. TGR: Doug, youve given us quite a bit of your time. I greatly appreciate it. Even if you cant attend the Navigating the Politicized Economy Summit, you can still benefit from the information the 28 experts have to impart in the Audio Collection. 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