Gold and Silver Beyond the Limit
Perhaps the debt ceiling should be renamed the "national debt target," for it seems Washington is always trying to reach it. One could say it's their only reliable, time-tested achievement. And without fail, upon reaching their national debt target, they promptly extend it further in order to discover how quickly it can once again be attained!
While I have little doubt that the ceiling will be raised, my readers have been curious as to the implications for gold in each of the debt and "default" scenarios possible after August 2nd. This month, I'll outline how each outcome could affect the price of gold and silver.
Bearish Gold Case #1: Debt Ceiling Not Raised - Enough Cuts Made to Avert Default
My readers know that this scenario is actually what the US government should do. The debt ceiling should not be increased and massive cuts must be made. We know this outcome is extremely unlikely - it would require not only a resolute steadfastness to sound money, but also a 180-degree change of philosophical beliefs by the majority of Congress (and the American public) overnight.
Yet in our fantasy world, if this did occur, it would be bearish for gold. It would mean the US government was shrinking, that debts were being paid, that the entire US economy was becoming more solvent and viable. Gold would be less important to own, as the risk of both currency crises and sovereign debt crises would be lower.
Bearish Gold Case #2: Debt Ceiling Raised - Federal Balanced Budget
If the debt ceiling is raised in order to avert imminent default, but the spare time is used to truly bring the federal budget into balance, the US economy might still be saved. But when I say "balanced," I mean it. This would mean not only eliminating the entire $1.5 trillion deficit, but also leaving enough of a surplus to cover all outstanding debt and unfunded liabilities. For perspective, Senator Rand Paul's proposal to but $500 billion a year, widely considered more radical than landing a man on Mars, would only address 1/3 of the annual deficit - it would take cuts many times that for the US to return to solvency.
But let's be optimistic: if the budget could be balanced, then the fact that the debt ceiling was being increased yet again would not be so awful. Since the US government's fiscal policies would be completely reversed, we could expect to start seeing a strengthening of the dollar (so long as Bernanke stopped the printing presses too) and a weakening of gold and silver.
However, this is just as much of a pipe dream as the first scenario. No government in history has dug itself out of the hole we now face without defaulting. If Congress even tried to enact a plan like this, people would be rioting in the streets over their lost entitlements. And we'd suddenly have millions of unemployed soldiers. Not exactly a recipe for peace and prosperity.
Bullish Gold Case #1: Debt Ceiling Not Raised - US Defaults on Treasury Debt
This is the scenario that President Obama and Secretary Geithner are threatening. They claim that if the debt ceiling is not raised, they will have to immediately begin defaulting on Treasury interest payments. This is rather unlikely, as interest payments make up only 10% of spending, but let's say they stop paying anyway.
If they do this, market interest rates for US debt would skyrocket, meaning the only buyer left at rates the Treasury could afford would be the Fed. In other words, if they default on August 2nd, QE3 will start on August 3rd. Of course, a default would be absolutely devastating to the dollar and a boon for gold and silver. Global confidence in the invincibility of the United States would be shattered, andthe underlying problem of excessive spending would still remain to be addressed.
Another interesting scenario would be if Congress didn't raise the debt ceiling and the Treasury just kept borrowing anyway. It's not like the Executive Branch follows laws scrupulously nowadays. What if they just ignored it? Someone could challenge the act in federal courts, but the odds are often in the President's favor. In this case, gold and silver might experience less of an initial spike, but their long-term prospects would be elevated as the world recognized that we were one step closer to becoming a banana republic.
Bullish Gold Case #2: Debt Ceiling Raised - Symbolic Cuts in Spending
This scenario is by far the most likely outcome of the debt talks in Washington; they will raise the debt ceiling and make spending cuts which sound substantial, but which only mange to slow the accumulation of new debt.
The plans on the table suggest cutting a couple trillion in cumulative spending over the next decade. In other words, they propose cuts that only reduce deficits by about 10-20%; they do nothing to reduce actual debt levels. So if these talks are successful, then instead of a $1.5 trillion deficit each year, perhaps we only suffer a $1.2 trillion deficit. Meanwhile, the debt continues growing. This is "success" in Washington.
Clearly, this is bullish for precious metals. It means more of the same - more spending, more debt, and necessarily more money-printing.
The Empire Has No Ceiling
Over the past 50 years, the US debt ceiling has been raised over 70 times. In other words, there is no ceiling at all - it is as fictitious as the idea that central planning works, or that the US has anything resembling a "free market."
So, I guess it stands to reason that regardless of the debt ceiling increase, it is likely that the US will be downgraded by one or more ratings agencies. The effect will be massive because the world's largest pension, mutual, and sovereign wealth funds typically mandate investment only in AAA-rated securities. A downgrade of US debt means those funds must immediately sell off their primary reserve asset. The effect of this cannot be overstated, and gold would be the first and best refuge for an onslaught of orphaned capital.
Despite gold once again hitting new highs, I can only recommend my readers continue to keep a healthy portion of their portfolio in precious metals. Given the sad realities of the US fiscal and monetary situation, it's prudent to assume that nothing will be solved by August 2nd.
Posted by Zenbillionaire on 07/31/11 05:39 PM
Great overview as always Mr. Schiff. I don't own much in the way of PM's but wish I did.
I was captured right away by your first scenario, "Bearish Gold Case #1: Debt Ceiling Not Raised - Enough Cuts Made to Avert Default". Last May I had a short attack of acute optimism in which I pondered the possibility of a perfect storm for the US economy.
First the US pulled out of the Middle East in the wake of declaring bin Laden permanently dead. I had a vision of a wise and benevolent Barack Obama addressing the nation with a sincere voice, telling them that the Mission was finally accomplished and it was time to retire our vast instruments of war, beat our swords into ploughshares and move on.
After that I dreamed QEII would quietly pass into history and the Federal Reserve would never again be allowed to counterfeit the world's reserve currency and exchange it for indentureships against our children.
Finally, the Tea Party freshmen recently elected to the US Congress would refuse to increase the Federal Debt limit, all but assuring that even if the private banking cartel offered low, low rates, the US would not sell its progeny into servitude.
I thought to myself, "Self, if even one of those things happened, just one, it would be a very good thing for the US. But what if two of them happened? That would be something pretty amazing. People might sit up and take notice. And what if all THREE happened in the same year? Not THAT, THAT would be downright miraculous and the value of the US dollar would soar! People might call it a MOVEMENT!"
Alas, none of those things happened. Instead the US started bombing Libya, The Fed discovered that they could re-invest their interest, and Congress folded on the debt ceiling.
In celebration I emptied my piggy bank and placed orders for every durable good I can imagine needing for the rest of my life. I put the rest in heirloom seeds and gardening tools. I believe the dollar is doomed.
Posted by stpaulmercantile on 07/30/11 01:03 PM
Congress has been looking at IRA's and 401Ks as potential funding sources. There are a couple proposals being talked about. One is to confiscate all the funds and roll it into Social Security - i.e., merge the 2 programs. The other is to require that IRA and 401k funds be invested a certain percentage in US government securities - perhaps 50%. After all, somebody has to finance the debt, so the thinking goes.
This makes me want to liquidate my IRAs, pay the taxes and penalties, and buy gold. I'd lose at least half of my money, but it would then be mine. Gold could likewise be confiscated, so some folks suggest buying silver instead. It is far less likely that the government would confiscate silver. But silver is heavy, which makes bank vault storage more tricky.
Reply from The Daily Bell
Our own Ron Holland wrote specifically about the coming retirement attack and proposals here at Click to view link
Check out his problem/solution analysis but the report is over a year old.
Posted by Habu on 07/29/11 11:35 PM
No government at any time in history has recovered it's former position once their economics are as dysfunctional as the US' is now. The dyfunction has an entire government of enablers intent on getting theirs and getting away with fraud. They have succeeded and we now join the economic world coffle headed toward the ashheap of history.
Posted by Avatar on 07/29/11 10:20 PM
Drastic cuts need to be made. The problem is most of the US Congress votes to extend this military hegemony which is bankrupting The USA unless of course the military plans to take over the world in a Plutocracy controlled dictatorship or Congress can make massive cuts to social security, medicare and medicaid and throw the USA into an immediate depression; social unrest and massive police actions to restore order. Perhaps we are at a turning point.
Posted by John Danforth on 07/29/11 09:49 PM
I agree, my comment was in support of your position.
We cannot control what form the failure of the world debt fiat system takes. How long does it take to start a stampede? Specifically, how long would it take to crash the dollar if people start to disbelieve their faith in the ability of the U.S. government to steal our money in perpetuity? I contend that it might hit so suddenly that it takes everyone by surprise. We can hope for the best, and work towards it, but it pays to be prepared for the worst. Thus my comment about preservation, to be able to carry some savings through to the 'other side'. For me, that means metals.
Posted by turtle on 07/29/11 09:44 PM
Bullish case gold #2 was decided a long time ago..."pretend and extend" is the right strategy for the fiat currency endgame. Look at ALL past decsions (in the Euro also)! The delay this time was to wait for the July end of month precious metals options expiry. With this out of the way, expect an announcement on Monday and watch the PM's soar.
Posted by John Danforth on 07/29/11 09:44 PM
Maybe there will be a run on tungsten?
Posted by Col on 07/29/11 05:06 PM
It seems a hopeless task to edjamakate anyone around you, I got a hair cut from the Barber yesterday, he was on about "everything will be ok because Fort Knox is full to the rafters with Gold!"
I tried to explain to him that it was probably systematically emptied after Nixon ended convertibility of the US dollar & gold.
the proof being the feds refusal to have it audited.
Nup, wouldn't have a lead bar of it, it was full, then he went off on some tangent about Jews in Chicago in a 2 block radius owning everything.
Posted by injun1 on 07/29/11 02:41 PM
My comments don't deny anything on your feedback. I agree that we should get ready for the next level of the game. My comment is merely suggesting we make sure there is another level to play, rather than push us towards the end of mankind.
Thoughtful, deliberate action is needed to bring about the destruction and elimination of the status quo. I think we all agree that the transformation we want to see shall take place over time. Anything sooner will be emotional chaos, which without some constraint, could very well lead us to World War III.
The elite are just not going to go down without a fight. Our action is more attune to a guerrilla warfare type of strategy. We must choose when and where to fight and not allow us to be intimidated into an all out war, which by the way is probably what they want.
Default is going to happen. Orderly default can and must happen. I would prefer not to pay anyone back. That makes for interesting conversation. But to actually implement that on a global scale can only be justified by World War III.
I do not want, nor do I advocate preservation attempts. That's what has been going on. I do advocate the activism of people in government before we take a look into the abyss.
We can by default maintain the status quo. We can by chaos provide the elite with a clean slate and more control by inducing war. I simply prefer to restrain our thirst for yield, suck it up and after the smoke clears, as I have said many times before, throw all those crooked SOB's in jail!
Posted by Dave Jr on 07/29/11 02:31 PM
"Some of us paid to watch, but not by choice."
I feel that way. And I did not even get a program. Or..was that what I threw away? Oh well, it will be interesting anyway.
Posted by Andras on 07/29/11 02:26 PM
Wonderful article. However, these scenarios are just one of the many dimensions. Another dimension is the timeline. Since most of those above scenarios are threatened to be vetoed or diluted down the final version will be known only when another has already, in fact, in effect. This makes the whole planning very convoluted.
Why not just buy gold. We all know the final verdict: DEFAULT. There is no other way to unwind a credit based boom.
Posted by John Danforth on 07/29/11 01:37 PM
Yield can come from paper-shuffling or productivity.
Now that we've destroyed productivity and gleefully targeted anyone who dares to be successful, it'll be fun watching it unwind. Some of us paid to watch, but not by choice. Preservation is going to be a little more important than worrying about yield. The more successful the preservation attempts are, the more extensive and brutal will be the efforts to grab unearned wealth.
Get ready for the Next Level of the game.
Posted by injun1 on 07/29/11 01:08 PM
While I am not a confirmed "Gold Bug", I am one that invests for a living. The scenarios presented are much on track and most, if not all, should be considered. The comments on the effect on pensions, mutual and wealth funds really can't be overstated since it affects us all.
I would hope there is someone who has the ability to simplify the devastation that would follow, so that the average "Joe" could understand what would happen if those funds were to create "hot money". They would create a financial tsunami of which the world has never seen.
Funds are creatures that have a life of their own. As I have presented in other forums, their need for yield is enormous. These creatures have to feed their children who are suckling at the teat. The children are us. The appetite is endless and so is the hunt for yield.
How they got that powerful and how they were allowed to become that big is a debate for another time. But they are and do exist, and when haphazardly knocked off their axis, they will create a wave of financial instability that will take us to World War III. The end result of which I dare not predict.
I am one for change. But to mess with something we don't have to, till there are no other choices, is simply creating an express lane for the "beginning of the end". Make no mistake about it. A form of default is going to occur.
Sanity, calls for orderly default. I don't much care for the game we are in, but there is a game and the ones who sit in the stands better be careful how they hurdle the bottles at the players. After all, we are the ones who paid to watch, rather than play.
Posted by dotti on 07/29/11 12:52 PM
Re: "I mourn for our country. All I see for the next several years is more of the same. Increased government spending, higher taxes, bigger deficits, more promises to cut spending, higher price inflation pared with faked reports that make inflation look small, depression-level unemployment with faked numbers from the government, higher real interest rates, etc. Stagflation, as we called it in the early 1980s. But this time, it will be here to stay. The days of "growing yourself out" of a recession are gone. Start adjusting to a lower standard of living, higher food prices and high unemployment, now. I hope I am proved wrong."
Pretty much my feeling as well.
I generally avoid MSM, but the general theme is unavoidable: Those who stood between us and ever-increasing Plan B deficits are being demonized--thoroughly. It is referred to as 45 Tea Party folks. I posed the question to a loved one who was joining in on the bloodletting: If it's just those 45, why couldn't all the other Memeber of Congress get together with something they could agree on. We're only demonizing 45 people who are standing up for what they believe in.
Unfortunately, it fell on deaf ears. Everyone has been conned into believing that these 45--and the Republicans are guilty by association--are responsible for the mess we are in. If they had just given in sooner, we would not be facing this default or the downgrade.
I, too, "mourn for our country", but also our world.
Posted by dotti on 07/29/11 12:40 PM
Re: "So, I guess it stands to reason that regardless of the debt ceiling increase, it is likely that the US will be downgraded by one or more ratings agencies. The effect will be massive because the world's largest pension, mutual, and sovereign wealth funds typically mandate investment only in AAA-rated securities. A downgrade of US debt means those funds must immediately sell off their primary reserve asset. The effect of this cannot be overstated, and gold would be the first and best refuge for an onslaught of orphaned capital."
I've not read feedback yet, but this doesn't seem realistic to me. I think that there will be an immediate revision of the rules that require AAA status to whatever it is that the new rating is, be that AA or BBB+. It just doesn't make sense that there would be such an immediate crisis.
I think that the PTB wants to use the crisis threat to discredit those who would interfere with their grand plan--and to frighten the peasants.
I don't have time for an essay-grade post (LOL) or I would put more into this.
Now to read my friends reaction to the editorial.
Posted by loriewil on 07/29/11 12:24 PM
Posted by Dave Jr on 07/29/11 11:56 AM
Hahahaha, nobody will lend to me, I'm finished...hahahaha.
Posted by Col on 07/29/11 11:04 AM
posted by WorkingClass "AAA is not a deity"
Posted by Dave Jr on 07/29/11 10:38 AM
Thankyou Mr. Schiff. Cognizant reasoning such as yours is a breath of fresh air. I too believe Bullish Gold Case #2 is the likely outcome.
But governments promise to cut spending in the future will just be another decietful fraud. They do not know what the budget will be in the future, and they will not offer to come within a percentage of reciepts. They always use the same trick. They can say we need to spend 6 trillion but we promised a cut so we will spend only 5 trillion, still a 2 trillion deficit.
A balanced budget ammendment is the only solution, but they would rather run it into the ground, than be a responsible steward of the peoples money. They would rather die than be public servants.
Posted by stpaulmercantile on 07/29/11 10:23 AM
By the way, I love Peter Schiff. He has been a speaker at FreedomFest in Las Vegas for the past three July conferences. He's a great common-sense libertarian conservative. If you haven't heard of FreedomFest, it is the largest gathering of free-thinking conservatives in the world (except for tea party events). Just google "freedomfest las vegas" and get it on your calendar for July 2012. RINO's would not feel comfortable. Rush Limbaugh might even be considered a moderate by some of this crowd!