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A few comments on Edelson’s essay on gold and rising interest rates: Another concept that needs to be considered is that gold rises when “real” interest rates (that is the rate of interest after deducting inflation) are negative, gold is a more attractive investment for big money and hedge funds.  That is what is going on now.  The ONLY reason gold is not rising rapidly now is due to a concerted effort by the Fed (and bullion banks and large hedge funds who follow along) to suppress the price of gold.  Rising gold puts upward pressure on interest rates, downward pressure on the bond market and the dollar.  The efforts to suppress will not win out – they are only temporary and offer the astute investor a chance to purchase precious metals at a government subsidized low price.

Looking forward, what are the basic issues facing the economy, the dollar and gold?

To better understand what lies ahead, we first have to look back to 2008.  It seems a long time ago, but the derivative problems that nearly brought down the global banking system were never eliminated.  Enough liquidity was provided by the Fed and American taxpayer to keep the banks on life support.  Even though the banks were given trillions of dollars, to keep them afloat, the derivative bubble still remains, with an estimated $600-$1,000 trillion of risky bets still on their books.

The banks had leveraged their bets (interest rates and mortgage backed securities) by up to 100 to 1, and they used derivatives as insurance in case their “bets” went bad.  The insurance was never there and AIG was one of the first casualties.  Of course, they were bailed out too.  There never was and never will be enough liquidity to cover the bad investments (bets) that are still in place.

The next financial “crisis” will be the “nuclear financial time bomb” that Warren Buffet and Jim Sinclair warned about.  We bought time in 2008, but the flame is still smoldering, waiting to be re-ignited.  It will most likely be tied to an unexpected move (up) in interest rates, a bad bet on a currency (the yen, dollar or euro), or a break-up of the European Union that triggers the crisis.

Understanding the true nature of the problem, the Federal Reserve took it upon itself to save the world, and through a series of Quantitative Easing programs and swaps with European banks, they managed to stabilize the banking sector both here and in Europe, and their actions propped up the major global economies.

But in order to hold things together, the Fed must continue with a program of QE to Infinity.  They dare not stop adding liquidity to the banking system or it will surely implode.  The Fed is currently creating $85 billion a month and using it to take toxic real estate loans off of the banks balance sheets and to purchase government Treasuries.  If they cease their buying (with newly created money) the leverage left over from the 2008 derivative crises will take everything down with it.  Remember, most of the derivatives still exist, most of them off the books and unregulated.

QE to infinity implies near zero or zero interest rates.  As far as America is concerned, there is no way that interest rates can be allowed to rise (from their artificially low level).  Our national debt stands around $16 trillion.  Every one-percentage point increase in the interest rates adds $160 billion of new interest, compounded, to the national debt.  A rise of just 6% adds nearly a trillion of new interest per year to the deficit, which is already running over a trillion before the new interest component is added on.  In order to stop the rise in gold and stabilize the dollar, in the late 70s, the Fed allowed interest rates to rise to double-digit levels.  This cannot be allowed to happen now.  Too much debt needs to be serviced and a rise in interest rates will topple everything.

Who sets the interest rates on US Treasuries?  In a “free” market, the buyers set the rate.  They demand enough interest to cover inflation of the dollar plus a minimal amount of risk.  But now, we are experiencing negative interest rates – that is, even published inflation is higher than the interest being paid, and the real inflation, according to expert John Williams (www.ShadowStats.com) is running around 9%.  As one would expect, there is very little demand for our treasuries from foreign central banks and investors.  And the result is, depending on the source of information, the Fed is currently purchasing anywhere from 61% to over 90% of all the bonds being issued by the US Treasury.  This is very a dangerous policy, but it is the Fed’s only policy to hold down interest rates.  The Fed promised to continue QE at least for another couple of years, but in reality, they have to continue the bond purchases to infinity!

There will be casualties to this madness; first and foremost, the US dollar.  Already, China, Russia, India, Brazil and many other countries are trading with each other OUTSIDE of the dollar; using their own currencies, not dollars, to settle the trades.  The dollar’s days as the world’s reserve currency and petro-currency are numbered.

To Americans, that translates into a hyperinflationary event.  John Williams, whom I hold in very high esteem, predicts that hyperinflation will arrive in the US by the summer of 2014. In the event that he is correct, all of your savings in dollars and all of your investments based on dollars will lose tremendous value quickly.

Personally, I am not sure how this can be avoided.

Gold and the dollar are inverse to each other.  When the price of gold is going up it really is signaling that the value of the dollar is going down and it takes more dollars to buy the same ounce of gold.  Gold’s bull market is now over 12-years old and it has a long way to go before it is over.  Put another way, the dollar has been falling for over a decade (actually for many decades) and the worst is yet to come.

Silver is a solid alternative to gold and a hedge against debasement of the dollar.

Do not be fooled.  The Fed must continue to print, print and print (QE to infinity) to support the banks, the stock market, the real estate market, the bond market and the economy.  There simply is no other way to do it.  And the more money the Fed prints into circulation, the less the dollar will be worth.

Throughout history, whenever a central bank resorted to buying the debt issued by their government, the currency was destroyed in a hyperinflationary event.  It is happening even now, in Argentina and other South American countries.  The only thing holding it back in the US for now is the fact that the dollar is still the world’s reserve currency and petro currency (oil is old in dollars), but even that is changing.

Do not get caught on the wrong side of dollar ownership.  Wait too long to convert dollars to gold and silver and your wealth will evaporate.