We went on a trip the last few days and I used that time to read some books and did some thinking about the markets.
I always had this mindset: when the US government injects money (liquidity) into the system, 700 billion here, 85 billion there, 300 billion there, that the amount of money in the system would go up. If the money supply (money in the system) goes up this causes inflation (higher prices) for all the things we buy. In other words, everything becomes more expensive. We are then in a 1970's pattern, where we get hyperinflation.
HOWEVER, there were a few things that bothered me:
1. If we are in hyperinflationary times, why is gold still below $1000? It should be trading near $3000 - $4000 an ounce.
2. If there is so much US dollar currency creation, why does the dollar rally against every other currency except the Japanese Yen? The dollar should be a lot lower.
3. How can there be any kind of inflation if commodities (basic necessities like corn, steel, wheat, oil, silver,...) have crashed at least 60 % during the last 3 months?
So when I was walking in between the Red Rock Mountains of Sedona it all made sense to me. I will try to look for a reason why the smart money is selling NOW, as if there is no tomorrow.
We are not in hyperinflation, we are in deflationary times. Just like the 1930's.
In deflation, everything gets cheaper and will become more cheaper in the future.
What causes deflation?
When the money supply (money available in the system) contracts(goes down), there is less money around to buy goods and services. Which means that prices for ALL goods, services and assets will go down.
So apparently, the trillions of dollars that have been lost by ordinary people, by banks and governments OFFSETS the money that is injected in the system. More money is going OUT OF the system than the money that is injected by the Federal Reserve. For every person that defaults on their mortgage (foreclosure) a certain amount of money vanishes, it exits the system. When AmericanMoronJohnDoe buys a $500 000 home and he forecloses on it and the bank sells it for $200 000, $300 000 dollar just vanished out of the system. And this is happening on a VERY WIDE scale here in the USA.
This is just a repeat of what happened in the 1930's where we had the stock market implode. A lot of people borrowed money to invest in stocks, when stocks came down, everybody defaulted on their debt obligations. No one could pay back the money they borrowed. The money supply went DOWN.
Same thing is happening now, only this time around stocks are not the problem but the housing market.
So, why is deflation bad, everything becomes cheaper right, I thought that was a good thing?
Yes and NO.
While everything comes down, so will your income...Nominal income declined 53 % during the Great Depression.
Example: assume you earn $100, your mortgage is $40, you spend about $50 on gas, Mc Donalds, netflix, and so on. You have $10 left to save.
In a deflation, 3 years later you would have $47, mortgage $40 and only $7 dollars left which you would spend on food... not on a new plasma screen or new Hummer...
As you might see, DEBT, is the enemy during deflation, because it is the only thing that doesn't go down, it is a fixed amount. Everything becomes cheaper, but your mortgage stays the same.
What helps you in a deflation is CASH (currency) or REAL money (gold, silver). The amounts of goods and services you can buy with them (purchasing power) will go up when time progresses.
As the inflated asset (stocks) came down 90% in 3 years during the Great Depression, it is my belief that homes will come down another 50% during the next few years.
So far everything looks similar to the Great Depression...
I will try to explain why this Great Depression has a little a twist.(new article tomorrow)
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