Part 2 and Part 3. 

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Video courtesy of KETV News.

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From a recent Newsweek article: 

The specter of depression stalks America.  You hear the word repeatedly.  Are we in a depression?  If not, are we headed for one?  The answer to the first question is no; the answer to the second is “almost certainly not.”  The use of “depression” to describe the economy is a case of rhetorical overkill that speaks volumes about today’s widespread pessimism and anxiety.  A short history lesson shows why.

The Great Depression of the 1930s – the last time the term rightly applied – was industrial capitalism’s worst calamity.  U.S. unemployment peaked at 25 percent in 1933; it averaged 18 percent for the decade.  From 1929 to 1933, 40 percent of U.S. banks failed.  People lost deposits; businesses and consumers lost access to credit.  Over the same period, wholesale prices dropped a third, driving farmers and firms into bankruptcy.  Farm foreclosures, shantytowns (called “Hoovervilles,” after the president) and bread lines followed.

This was a social as well as economic breakdown.  Our present situation bears no resemblance to this.  In June, employment was 5.5 percent, slightly below the average since 1960 of 5.8 percent.  It’s true that banks and investment banks – Citigroup, Merrill Lynch, Wachovia – have suffered large losses.  But on the whole, the banking system seems fairly strong.  Although profits in the first quarter of 2008 were down 46 percent from 2007, they totaled $19 billion even after $37 billion set aside for loan loss revenues.  Overall corporate profits are still running at a near-record annual rate of $1.5 trillion.

Read the entire article here. 

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Congressman Ron Paul explains in simple language the price Americans will pay for the recent housing industry bailout: 

Here’s My Take:  If you’ve read my book, you know that inflation and debasement of the dollar is going to be with us for a long time.  Probably for the rest of our lives or until enough people get fed up with the current system.

That’s why the best advice I can give is to become a student of inflation, monetary policy, and their impact on your buying power.  For as long as the government continues creating money out of thin air, any wise investor will keep the bulk of their long-term investments away from dollar-denominated paper assets. 

But to quote the great U.S. economist Milton Friedman:  There is no free lunch.

That’s why I put up with the short-term volatility that comes with trading my dollars in exchange for real assets.  My goal is to accumulate more wealth, not money – it’s a big difference.  Money can be created out of nothing but wealth (stocks, precious metals, businesses, raw materials, etc.) are tangible and carry greater value. 

If we someday enter a stage of hyperinflation similar to what Germany experienced in the 1920s, which would you rather own:  a pile of cash or a pile of companies located around the world?  Money or wealth, you decide.

Only one can make inflation work for you instead of against you.           

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The downside is the Federal Reserve’s ability to create money without limit does create malinvestment of capital.

But the growth of the money supply is, in my opinion, very healthy for the economy.

Long-term, the creation of money out of nothing always causes inflation, which is a problem, especially for those investors whose portfolios are filled with dollar-based investments.  The reason we haven’t seen major waves of inflation despite mass creation of money is because the U.S. and global economy does not have a shortage of goods and services.  This is acting like a sponge soaking up the new money.

Remember the real definition of inflation:  It’s the increase in the supply of money which causes prices to rise when not enough goods and services are available to absorb the new money. 

The difference between today and the Jimmy Carter days of the 1970s was that back then there was a major structural problem with the economy.  Simply put, there weren’t enough factories to produce enough stuff to soak up the money being created. 

If you double the money supply without doubling the amount of goods and services, prices will eventually double.

In our current go-round, the Fed has doubled the money supply but the supply of goods and services has also doubled so it’s nearly a wash.

I say “nearly” because in reality, there is actually a lot more inflation than what the government-published statistics indicate.  In the long-term, inflation is like the tide coming in pushing up the prices of assets, including stock prices.

Investors who are concerned about the money supply growth creating inflation are certainly thinking correctly but they also have to take in to account what is happening with that money. 

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True.  The primary function of the Federal Reserve is to oversee the economy but what exactly is “The Economy?”  Conventional dogma (and the politicians in Washington) would have you believe the economy is like a machine which can be controlled and managed. 

I share a slightly opposing viewpoint.  In my opinion, the economy is more like a living environment made up of people and their activities and behaviors.  That means every time the Fed messes around with the economy by manipulating interest rates and the money supply, their monetary policy decisions have consequences that impact you, your family, and everyone you care about.

Not many people alive today remember a time when there was no Federal Reserve.  Prior to its creation the nation got along just fine without it.  In fact, America transformed itself from a tiny colony to the wealthiest nation on the planet in just over 120 years.  

I’m not saying it was an economic utopia; there were still the usual economic concerns but most issues like recessions, inflation, and depressions where confined to regional areas and healed themselves rather efficiently.

It was during this pre-Fed era that America experienced explosive growth in wealth and prosperity unlike any the world had ever seen.  Life was so good that the average worker could get by earning $20 a month and still support a large family at home. 

So what happened?

The Fed is what happened.

From its creation in 1913 to the present, the Fed’s meddling has created more booms and busts than any time in U.S. history.  These boom/bust cycles can offer wonderful opportunities to investors who understand what is going on and are prepared.  For those that aren’t, well, things get a little dicey.

That’s why I’ve long believed any investment decision not based on the consequences of fiscal and monetary policy is likely to be extremely unsafe.

To understand basic monetary policy, visualize the Federal Reserve holding a giant stick.  At one end of this stick is the price of money (interest rates); and at the other end, the quantity of money.

In the 1970s, when I first entered the investment business it was commonly assumed the only way for the Fed to control the economy was by manipulating interest rates.

During the spring of 1978, Jimmy Carter gave a speech telling the public that in an effort to help more Americans own a home, he had instructed the Treasury and the Fed to work together to make more money available at lower interest rates.

The next day, hardly a word of this was mentioned in the media but to me Carter’s new policy translated into future inflation.  So I began telling investors that the Fed had to make a change because Carter’s policy was destroying the economy and the dollar.

A change came in 1979 when Paul Volcker became Fed Chairman who then orchestrated a reversal in monetary policy where the Fed began managing the quantity of money in the long term, non-inflationary way.  The Fed began to shrink the growth of the money supply down from the huge levels seen under the Carter administration.

By early 1981, with the Dow Jones trading between 800 and 1000, it seemed logical that corporate profits would increase as the cost of capital fell so in a letter to my clients in August of 1982, I made the conservative estimate that within the next 10 years the Dow could reach 3000.  The first time the Dow Jones ever traded above 3000 occurred in the summer of 1990 so those investors who were prepared fared quite well.

And that brings me to — where are we headed today?

The mainstream media rarely says anything about this but Ben Bernanke has a far better grip on the economy than Alan Greenspan ever did.  Bernanke’s policies are moving us back in the direction of Paul Volcker’s policies.  Greenspan made the disastrous mistake of managing interest rates versus what Bernanke appears to be doing which is managing the quantity of money and allowing the free market to determine the price of money.

We cover this topic regularly on our weekly radio show. 

A book I highly recommend is THE CREATURE FROM JEKYLL ISLAND by G. Edward Griffin.  The title sounds like a Stephen King novel but it’s actually the story behind the creation of the Federal Reserve System.

You might also want to check out Ed’s lecture that he gave on the topic of his book.

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