'We didn't ask you to stock up all those dollars,' as Obama might have put it. 'It's not our fault if the dollar goes down and you lose money.'

Perhaps Mr. Obama should have quoted the immortal words of a former US Secretary of the Treasury, John Connolly. "It may be our dollar, but it's your problem."

Over at USA Today, the editors are more concerned about human rights. The paper must imagine itself back in the days of Woodrow Wilson or George W. Bush, when the US nobly embarked on a mission to raise all of mankind out of sin and error. In effect, Mr. Obama said that all people have 'universal rights,' including the right to a free press. China figured this was just the sort of opinion that its people didn't need to hear. So, it killed the story in its own press. The American president might as well have been talking to himself.

China is today's big story. Throughout the world's media there is much buzz and blather about the "romance"...the "historic relationship"...between the two titans. Some reporters see love. Some see jealousy. Some see rivalry.

Here at The Daily Reckoning we are suckers for romance. Give us some "a cigarette that bears a lipstick's traces...an airline ticket to romantic places..." and we are moonstruck. But we don't see much romance in the US and China hook up. What we see is the sort of things that delight psychologists and bore everyone else - perversion, co- dependency, and enabling.

On the surface, the two giants bicker over money like any other couple. The US accuses China of being a tightwad...holding its currency down and saving too much. China accuses the US of being a spendthrift, destroying its own purchasing power by wanton and reckless expenditures.

"US president's currency call breaks with script," says a headline in The Financial Times today. US economists think China should raise the value of the yuan. This would immediately lower the value, domestically, of the trillion(s?) worth of US-dollar assets China holds as reserves. It would also make Chinese products less competitive on the world market.

Mr. Obama wasn't supposed to say anything about it on his trip. It would be like bringing up your husband's drinking problem on your wedding anniversary; it would spoil the occasion.

Apparently, Obama couldn't help himself. Or maybe he just thought the folks back home would like to hear him give the Chinese a piece of his mind.

But how does the American president know what price to put on the yuan? A sinking dollar is good for the goose over in the US. Why isn't it okay for the gander in the Middle Kingdom?

A strong yuan would help the world economy "rebalance," say economists who think they know what they are talking about. In a nutshell, the Chinese produce too much; Americans consume too much. A higher yuan would come down on the high side of the scale - giving the Chinese more purchasing power (thus increasing consumption in the Peoples' Republic)...and making Chinese exports more expensive (thus decreasing consumption across the Pacific). With a stronger yuan, the Anglo-Saxon economies would be able to produce and sell more things to the Chinese...thus tilting the US economy more towards capital formation and production.

Chinese authorities are no dopes. They know they have a "floating" population of some 150,000 million people who are looking for work. They know that if they don't find some way to keep these people occupied they are likely to cause trouble. Trouble is the thing China's leaders most don't want.

"You think you've got trouble," Premier Hu Jintao might have replied to Mr. Obama. "Did you know that there are something like 200 million Chinese who still get by on as little as a dollar a day? Let's face facts. You're sitting there in Washington, comfortably talking about how much free health care and unemployment benefits to give the American people. We don't have the time...or the money for those kinds of things. Too many Chinese people. They don't earn enough to afford the kind of cradle-to-grave bribes you give your people. We have to keep them working; there's no other way.

"Besides, we don't quite see why we should pay for your mistakes. It wasn't our economy that blew up. It wasn't our financial industry that sold houses to people who couldn't afford them. It wasn't our consumers who spent more than they had and went too deeply into debt.

"It's the debtor who's supposed to pay, not the lender. We're the lender!"

Behind all the superficial arguing, accusing and kvetching, however, is a sick relationship. It has give and take. But the US is all take. China is all give. And now, on both sides, public authorities make the same mistake. In the US, they try desperately to prod Americans to take more...to continue doing what they were doing wrong. They offer incentives of every sort to lure consumers to consume even more. And their solution to the debt overhang is to hang on even more debt.

In China, meanwhile, the authorities desperately prod their people to give more...to produce more. Or, at least to build more plant and equipment with which to turn out more goods.

In the US, consumer spending is about 70% of the economy. In China, fixed capital formation is estimated to have made up 70% of China's growth in 2008 and as much as 90% in the first half of this year.

Is this a formula for a happy marriage? Over the last two years, this co-dependent relationship has broken down. Paul Krugman wrote in The New York Times that we've seen "the greatest collapse in world trade in history."

But neither side has learned a thing. The taker now proposes to take more. The giver now proposes to give more.

They don't need counseling. They need a divorce.

Bill Bonner
for The Daily Reckoning Australia

• Chinese Yuan Marches Towards World Domination
• Admonishment from China and the Decline of U.S. Credibility
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• Chinese Consumers Are Getting Shiny New Credit Cards
• Geithner Reassures China that America Takes Financial Obligations Seriously

And counter to our prediction of an imminent, counter-trend U.S. dollar rally, the dollar is most definitely not surging. Take a look at the chart below. We've been writing about the decline of the dollar for nigh on ten years. So we looked at a ten year chart to tally up the damage. It is considerable.

Click to enlarge

What's at stake with the interpretation of this chart? If the dollar rallies on short covering from the dollar carry trade (a BIG if), then other "risk" assets like gold, stocks, and emerging markets would probably sell off. And yes Australian stocks, that includes you. As well as the Aussie dollar.

The chart shows that the index's 50-week moving average is set to cross below its 200-week moving average. That is mixed news. The first time it happened on this chart was back in early 2003. That was the early days of a long decline in the index. The second time, though the move failed to confirm the "flight to safety" rally of 2008 had staying power in 2009.

Once the fear that gripped markets in 2008 went away, the investment world sold the dollar and started borrowing en masse to buy other, higher-yielding currencies and assets (like the Aussie dollar and resource stocks). That's where we are now.

But based on the chart, is the next move down in the dollar index a new low, which the crossing of the long-term MA by the short-term MA would suggest? Or is it a false move? Will the dollar quickly and violently rally for some reason (geopolitical perhaps) that currently remains unknown to the human beings of this world?

"It's an interesting chart," said our technical analyst Murray Dawes. "But it is not useful for timing your moves out of or into trades related to the dollar's movement."

"So you're saying our chart doesn't have any useful information from a trader's perspective?"

"Not really."

Murray promised to show us HIS dollar index chart tomorrow. We'll bring it to you, live and in colour. But in the meantime, we think the one piece of important information communicated by our chart is that the dollar's trend is down. But there IS a catch.

The catch is that when this many people are this uniformly bearish, everyone is probably wrong. Consider this a warning then, that a dollar rally is just the sort of thing that will lead to a correction in the gold price and the stock market. We won't speculate on the sort of things that could lead to a dollar rally. But surely they're out there and sooner or later they'll come.

The other possibility is that the dollar is in its death throes and that this is the big one, in currency terms. That is such a momentous and disastrous event that people consider it both kooky and unlikely, not to mention undesirable to a predictable and comfortable world. But it IS possible.

And do you get the feeling that this kind of manic melt up rally is the sort of irrational frenzy that comes just before everything goes haywire? Haywire is not a precise financial term. So what do we mean?

We meant that the world enjoyed a 20-year economic relationship based on a fundamentally unbalanced global economy. Manufacturing capacity migrated to Asia where wages were lower. For awhile, this was mostly good news in Western countries. Goods got cheaper but jobs didn't vanish.

Now the situation is not so pleasant. The world is awash in manufacturing over-capacity, especially in China. Wage deflation (in the Western world) looks like a long-term trend, leading to a lower standard of living. This wage deflation is occurring at exactly the same time that Western governments are encountering demographic crises of ageing populations.

We all knew the ageing of the Boomers would put pressure on public finances right around now. But no one reckoned on a global financial crisis further saddling the public balance sheet with debt. And no one reckoned that Western wages and incomes would be falling at just the time people needed them most. And no one reckoned that savers would lose the most from low interest rates on fixed income - even though those low rates are keeping the American housing sector on life support.

It's a bit of global impasse. America's needed structural adjustment has come. Households and businesses are reducing debt, trying to live within their means. But the net adjustment to the American balance sheet is not happening because public sector debt is growing so fast.

Meanwhile, the other obvious adjustment is that the Chinese currency ought to be allowed to strengthen. For political and social reasons though, China will not allow this. It means China is actually adding to its industrial over capacity. It is conjuring up the world's largest ever bubble in fixed asset investment, including commercial real estate.

It is easy to see why China is reluctant to allow a stronger Yuan. Exports account for 39% of Chinese GDP. The Chinese economy, and probably the Communist Party itself, cannot survive on unleashed Chinese domestic demand. They need American markets. But American consumers - in addition to reducing debt - are now realising that the focus on finance over manufacturing from American policy makers has worked out for Washington and Wall Street, but not terribly well for the average American worker.

Where do we go from here? How about the blame game. U.S. Treasury Secretary Tim Geithner once blamed the Chinese for being currency manipulators. He back-tracked later. And yesterday, Liu Mingkang, the chairman of the China Banking Regulatory Commission, had a go at America.

"The continuous depreciation in the dollar, and the US government's indication that, in order to resume growth and maintain public confidence, it basically won't raise interest rates for the coming 12 to 18 months, has led to massive dollar arbitrage speculation." He is blaming the U.S. for fuelling a destabilising global bubble.

Of course that bubble is felt most acutely because China pegs its currency to the dollar. China is right to blame the U.S. for manipulating its currency to try and improve its competitive position. And China is right to worry about the value of its dollar-denominated assets in a world of exploding U.S. debt supply.

But China has put itself in this position. And here we are at the end of 2009 with a world still fundamentally un-adjusted to a new, workable currency arrangement. The world remains burdened by trillions in assets purchased with debt. Those assets linger on bank balance sheets, on government life support but fundamentally lifeless at fictitious book value prices.

And meanwhile, the China-US currency arrangement has fuelled a global bubble. Australia is part of this bubble, too. The question is how it will end. In the U.S., the housing market looms as the Achilles heel of the economy. It could strike households, banks, and the government again in the next 12 months are more mortgages reset at higher rates (with lower home values).

If the event that pops this bubble comes from America, look for the supply of credit to the emerging world to dry up again. And though Australia is not a developing economy, we saw last time what happened when U.S. credit markets imploded. Australian banks had to get a government guarantee to borrow money in the wholesale market.

We'd suggest that lending for residential housing and commercial real estate would take a real dip in Australia on another U.S. housing crisis (even if Aussie banks aren't exposed to actual U.S. housing-backed RMBS and CDOs. You don't have to own toxic debt to be impacted by it.

If the bubble pricking comes from China, what then? Well, China does everything big. So a Chinese bust would be world-class. It's a subject that requires its own Daily Reckoning. More tomorrow.

Dan Denning
for The Daily Reckoning Australia

• CRB Index Correction Likely to Go Further
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There is a risk in holding cash in an environment of asset price inflation - a condition that usually occurs when governments create large fiscal deficits and inflate the money supply. The practice is endemic to banana republics and declining empires...and it is happening in the US at this very moment.

The global recession and financial crisis have refocused attention on government stimulus packages. These packages typically emphasize spending, predicated on the view that the expenditure 'multipliers' are greater than one - so that gross domestic product expands by more than government spending itself. Stimulus packages typically also feature tax reductions, designed partly to boost consumer demand (by raising disposable income) and partly to stimulate work effort, production and investment (by lowering rates).

The existing empirical evidence on the response of real gross domestic product to added government spending and tax changes is thin... But the evidence is quite strong that these policy responses usually trigger inflation.

I suppose that even someone without any common sense might understand that a "strong currency" over longer periods of time reflects a high degree of prosperity and economic success, whereas a chronically weak currency is symptomatic of economic imbalances, such as a lack of competitiveness or overconsumption, arising usually from excessive supply of money and credit.

I would also suppose that even if someone never travels overseas, he would understand that if the US dollar loses 50% of its value against all the other world currencies (everything else being equal), it means the US is 50% poorer relative to the rest of the world. (Now, this is not entirely correct, since the US has overseas assets that would appreciate in value in USD terms).

Moreover, stock price movements become extremely volatile and erratic in countries with a depreciating currency. In the long run, the depreciation of the currency will usually more than eliminate the gains in local currency terms. So, whereas in 2007 both the Dow Jones and the S&P 500 exceeded their previous highs reached in 2000 in US dollar terms, these indices failed to make new highs in Euro terms. In addition, whereas the US economy expanded in US dollar terms between 2001 and 2007, in Euro terms it actually contracted!

Even with the S&P 500 having shot up since the beginning of the year by over 25%, it has merely kept pace with the price of gold. And during the last 10 years, the S&P has lagged behind the official US inflation rate...while lagging VERY far behind both the euro and gold. Since the end of 1999, the S&P 500 has delivered a total return after inflation of about MINUS 25%.

Unfortunately, the US is not the only country that is busily debasing its currency. "Everyone" is doing it. Because of the current collective debasement of all paper currencies by central bankers, I believe that precious metals and mining companies will maintain their purchasing power.

In the 1980s the US dollar was a very strong paper currency compared to the Mexican Peso. Today, there is no paper currency that is as strong relative to the US dollar as the US dollar was relative to the Peso in the 1980s! The only "currencies" that have a chance of becoming as strong against the US dollar as the US dollar was against the Peso between 1979 and 1988 are precious metals such as gold, silver, platinum, and palladium.

Also, I should add that precious metals could appreciate even if the US dollar miraculously recovered strongly against foreign currencies for an extended period of time. Such dollar strength would probably be a symptom of some horrible economic or political problems around the world, which could be friendly to precious metals.

Central bankers and pundits seem to believe that they have averted the second Great Depression, while ignoring the fact that more and more debt produces less and less GDP and fewer and fewer jobs.

For now, though, the low ten-year bond yield is the lifeline from which all support flows. Much of the investment universe holds together because money can still be had for cheap - not by the volition of a cooperative private sector, rather induced by a US government that simply distributes money for free. Such an ill-conceived idea could only have been born in the test tube of a central banker.

Private lenders comprehend the difficulty of making profits when being forced to lend for nothing, so the government increasingly finds itself to be the interest-free lender of last resort.

Ultimately, if central bankers continue this process for long enough, it is the dollar, and any currency or economy still pegged to it, that could eventually crash. Therefore, we investors find ourselves in the precarious position of having to maintain sufficient liquidity, but not too much in case the real value of these liquid reserves is wiped out by politicians and central bankers gone mad.

Regards,

Dr. Marc Faber
for The Daily Reckoning Australia

• US Dollar As Reserve Currency Not Working Very Well
• 4 Ways to Protect Against a Falling Dollar
• Is Gold Money?
• Gold Falls for Four Straight Days but is the Low Price a Bad Thing?
• Transfer of Wealth

One day does not a trend make, dear reader, but it does us give pause for thought. What if we dollar bears are wrong about the greenback's fate? What if all these column inches spent bashing the buck - and the frauds at the Fed in charge of protecting it - all come to naught?

"Nonsense!" we say.

Mankind will eventually bury the greenback in the cold, hard ground, alongside every fiat currency that ever went before it. The only question, it seems to us, is when the first shovel of dirt will be thrown. Traders from New York to New Delhi are gathered around the open pit, but they may have to wait, at least for a while. Just to be on the safe side, we've bought a golden shovel, but for now we're content just leaning on it.

Here in the Far East, the dollar is a particularly curious entity. Once upon a time, the mighty greenback was the best show in town, the "must have" ticket for the rocking Asian economies. China, Korea and Japan all amassed gargantuan stockpiles. The three hold about US$4 trillion (with a "T") in foreign reserves, much of it in US Treasuries. Even Taiwan - an island one-third this size of Tasmania but with a population equal to Australia - has stashed away the equivalent of US$332 billion in foreign reserves.

But that was then. This is now. And now everyone knows what all those dollars - and the men who stand behind them - are really made of...paper and promises, promises and paper. And now that the game is up, everyone is betting on a dollar collapse. But that presents a problem, and an opportunity, in itself...

"Whenever you find yourself on the side of the majority," Mark Twain once observed, "it is time to pause and reflect."

Right now, every necktie on television is betting against the dollar. The Powershares DB US Dollar Index Bullish and Bearish Funds - which measure the sentiment for and against the greenback versus a basket of six major currencies - are showing dollar bearishness in the extreme. But what if this "recovery" is not all it's cracked up to be? What if equity markets suddenly start resembling reality - even for a short while? If risk appetite contracts, even marginally, might we see a rally in short term Treasuries...just like we did last time? And just how quickly will currency traders be able to cover their short dollar positions if such a scenario unfolds?

We don't know the answers, dear reader. We only observe that the larger the mob, the more likely it is to be galloping in the wrong direction.

So are we dollar bears, or bulls? The answer, dear reader, is both - the former over the long haul...but the latter before then.

Dan Denning, our friend and colleague on our Australian DR desk, puts it thus: "Though we are confirmed US dollar bears, the dollar is looking oversold. Stocks are looking overbought. And frankly the reflation of all asset markets (bonds, stocks, commodities, and real estate) is looking over cooked... Watch out!"

Asian and European markets largely floundered overnight after Wall Street's lackluster session yesterday.

Here in the Far East, Japan's Nikkei 225 dipped 1.35% by the close while Hong Kong's Hang Seng and the Aussie All Ords ended down by 1.85 and 1.45% respectively. China's CSI index was the only major measure to buck the trend. It finished higher by 0.45%.

Back to the European measures and London's FTSE, Germany's DAX and France's CAC 40 all finished lower by around 1.3% for the day.

In the commodity pits, crude had slipped back a bit last we checked. A barrel of the world's goo was down about 60 cents to just shy of $79. Gold was hanging on around $1,036 per ounce...but looking a little punch drunk.

Until next time...

Cheers,

Joel Bowman
for The Daily Reckoning Australia

• Inflation Up… Gold Up… Oil up… Dollar up… Dollar down…
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The dollar has been the "Coca-Cola of monetary brands," says James Grant, editor of Grant's Interest Rate Observer. But even the best of brands can be lousy investments. Grant uses the analogy of The New York Times. It was the greatest name in newspapers. In 2002, the stock sold for $53 per share - an all-time high, as it turned out. Today, the "Gray Lady" fetches only $8 per share.

"What happened?" Grant asked. The World Wide Web happened, he says. "The Times has hundreds of reporters, but this is a story they seem to have missed." As if the lowly stock price was not evidence enough of its decline, the NY Times got another reminder when it borrowed $225 million against it headquarters building. The cost of such borrowing, Grant reports, was 14%. The august Times today borrows at rates no better than a working-class stiff at a pawnshop. The US Treasury should take note. The government seems as intent on creating dollars as prolifically as bunnies create other bunnies.

Here we get to John Paulson, a presenter at the Grant's Fall Investment Conference and undoubtedly the richest man in the room. Portfolio magazine dubbed him "The Man Who Made Too Much" after he made $3.7 billion by betting against mortgage-backed securities (MBS). He is one of the greatest hedge fund managers ever.

Gold is his favorite today. As to why, Paulson presented a simple, but compelling case. First, the monetary base has exploded in a way we've never seen before. The monetary base is essentially the Federal Reserve Bank's currency and reserves. The Fed, by buying up securities in this crisis, has pumped a lot of money into the economy.

You've probably seen this chart, or some variation of it. Still, there haven't been noticeable signs of inflation as a result of that big spike - not yet.

As Paulson explained, that's because this base money has not yet been lent out and multiplied throughout the economy. Yet the monetary base and money supply are highly correlated, "almost 1-to-1 between the two," Paulson said.

That means that as the monetary base expands, the money supply surely follows, though there is a lag. (Money supply is a broader measure of money than just the monetary base, as it includes personal deposits and more. The monetary base is like a kind of monetary yeast. It makes money supply rise.)

If money supply grows faster than the economy, that will create inflation, says Paulson. As it is impossible for the economy to grow anywhere near that vertical spike in the monetary base, Paulson contends inflation is coming.

The US is not alone in its money-printing exercise. The supply of most currencies is expanding rapidly - even the normally tame Swiss franc. In the race of paper currencies, they are all dogs. Hence Paulson's interest in gold, which no government can make on a whim.

Therefore, in the content of the exploding monetary base, gold seems relatively cheap. In other words, as the money supply rises, so does the price of gold, eventually. As a result, says Paulson, "gold has been a perfect hedge against inflation."

There is some slippage over time. The gold price can change faster or slower than the money supply. But when the market gets worried about inflation, the gold price usually changes much faster - as happened in the 1970s. In 1973 - to pick a typical year - inflation was 9% and gold rose 67%. That was a pattern common in the 1970s.

The potential for inflation this time around is greater than it was in the 1970s, given that the growth in the monetary base is so much greater than it was in the 1970s. Gold could do much better this time around, reaching "$3,000 or $4,000 or $5,000 per ounce" as Paulson said.

I keep thinking how future historians will look back at the present day and see clearly how this unfolded. They will see the litany of news items that pointed to the dollar losing its top perch: China and Brazil settling up trade in their own currencies. The Russians and others openly calling for a new monetary standard. Even mainstream outlets are discussing alternatives to a dollar-based standard, a province once solely occupied by cranks and gold bugs. Not a week goes by without these kinds of stories.

As for a replacement waiting in the wings, Grant offers up gold. Indeed, a kind of "de facto gold standard" seems to be taking shape. The SPDR Gold Trust, the largest gold-backed security in the world, is now the sixth largest holder of the metal in the world. Anybody with a brokerage account can easily buy gold today through the trust, which trades on the NYSE under the ticker GLD.

It's still early. Most people still own no or very little gold. As it becomes clearer what's happening, they will buy more gold, especially as it is now easy to do so.

The gold supply, too, is limited against the vast pool of dollars. As Paulson points out, global money supply is 72 times the value of gold. I'm betting that gap will narrow. It only has to narrow a smidgen and the gold price flies.

As Grant eloquently put it: "Gold is a speculation. But it is a speculation on a certainty: the debasement of the currency." Gold stocks, too, are a speculation. But they are a speculation on an inevitably higher gold price.

Regards,

Chris Mayer,
for The Daily Reckoning Australia

• Dollar Rally the Sort of Thing that Will Lead to Correction in Gold Price
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But a strong currency can also be a sign of economic strength. One way to view a currency, we read somewhere recently, is as a national obligation secured by national assets. Those "assets" are loosely defined as economic growth (GDP) or the tax revenues a government can generate. A growing economy generates royalties and income taxes and demonstrates to international bond investors Australia's ability to service interest and principal on debt.

At least that's the theory. We hope the strong news from the Aussie labour market yesterday doesn't encourage the government to borrow even more (not that government's ever need an excuse in the era of perpetual debt).

In fact, as our friend Dr. Steve Kates explains in his latest contribution, the Reserve Bank's interest rate rise earlier this week is a clear warning to the government to cut it out already with spending other people's money. Dr. Kates has the details on how the public sector borrowing is driving down the national net savings rate.

And the underlying psychological issue is whether this apparent recovery causes Australians to throw caution to the wind and resume "asset based saving." You remember what that is, right?

It means you stop real saving from your income (which is declining in real terms anyway) and instead take on debt to pile into assets like shares and houses. You lever up again. As long as those assets are going up, having a negative real savings rate doesn't seem like a big deal. It just means you have a "preference" for asset based saving.

But as we've said many times before, the stock market is not a savings account. It's a casino. But for now, it sure looks like there is plenty of trading opportunities. The joint is jumpin'! And as long as you think of them as trades and realise its money you could lose, it's actually pretty exciting.

For example, we've just reviewed an alert to Slipstream Trader subscribers from analyst Murray Dawes taking a small profit on a very short-term trade in a major financial stock. Not that we're agnostic on financial stocks. We hate them.

But traders are market neutral. It's all about the signals and the risk/reward ratios on each discrete opportunity. Murray also outlined what he thinks is the weakest of the Big Four banks and the weakest of the regional banks. But don't go shorting them just het. He says all the momentum indicators in the market are up and now is not the time to go short.

Dan Denning
for The Daily Reckoning Australia

• The Aussie Dollar as a Measure of Global Risk Appetite
• The Only Thing Really Going Down Right Now is the U.S. Dollar
• Gold, the Aussie Dollar, the Greenback and You
• Saving Money, Not Spending it, is the Key to Getting Wealthier
• Price of Gold Communicates U.S. Monetary and Fiscal Policy is Lousy

But let's not forget about oil. It too is priced in dollars. In fact, the big gold move started because Robert Fisk claimed the Gulf States and China et al. are tired of paying for oil in an unstable currency. You could say that gold moved closer to being money again because of how important oil already is to the real economy.

We'll get back to oil in a moment. But there was a story in today's Age that gave us the willies. "The Aussie dollar is poised to storm past parity with the US dollar, propelled by local interest rate rises and Australia's close ties to the booming Chinese economy, according to currency analysts," reports Chris Zappone.

It doesn't sound too creepy. But there IS a creeping hint of euphoria to the Aussie story at the moment. The dollar...the economy...the fact that summer is just over the horizon...you can feel the animal spirits getting friskier. It was like this in the summer of 2008 as well, right before the bottom fell out.

But enough of the weird sense of déjà vu. How does the big picture affect your investments? That is always the tricky part. It's one reason why we are stuffing our new offices with all kinds of traders and analysts and writers whose ideas would probably get them thrown out of a respectable job. These are just the people we want thinking about the investment future.

Dan Denning
for The Daily Reckoning Australia

• Gold, the Aussie Dollar, the Greenback and You
• Aussie Dollar is Crushing Long-time Rivals Like the Pound and the U.S. Dollar
• Dollar’s Demise Has Started a Chain Reaction in Currency and Commodity Markets
• Rally in Stocks and Rise in Aussie Dollar is a Result of the Carry Trade
• The Aussie Dollar as a Measure of Global Risk Appetite

Today is a big day in China...it marks the 60th anniversary of the communist victory. "The Chinese people have stood up," said Mao, announcing the victory in 1949.

Then, over the next two decades, whenever the Chinese stood up...Mao shot them down himself. Mao's long march to power was a huge setback for human political progress - if there is any. The man was a thorough scoundrel and a complete incompetent at everything, except getting power and holding onto it. Every program was a disaster. When he set out to 'liberate' the masses, they ended up as slaves. When he set out to feed them, they starved. When he proposed to empower them with his "democratic dictatorship," they ended up with bullets in the back of the head.

But 60 years later, the commies are still in power. China is still red.

And yet, thanks to the curious way the world turns, China's economy is now freer and more competitive in many ways than the United States. Go figure.

As economies age, more and more people become 'rentiers.' That is, they get some special privilege...some inside angle...some conniving advantage. The latest numbers, for example, tell us that almost half of all households pay no federal taxes. They collect benefits - jobless benefits, food stamps, education, day care, Medicare, Social Security - without contributing to the system that provides them. Add to this number the millions of households that pay taxes but receive a large part of their money from the government itself - employees, contractors, lobbyists, etc. - and you have enough to win any election in the country.

But the welfare chiselers and food stamp cheats are small time crooks. The big crooks go for billions. John Crudele in The New York Post:

"...Sept. 18, 2008 [US Secretary of the Treasury...Henry] Paulson placed his first call of the day at 6:55 a.m., to Lloyd Blankfein, who succeeded Paulson as CEO of Goldman. It's unclear whether the two connected because Blankfein called Paulson minutes later.

"And then Blankfein placed another call to Paulson at 7:05 a.m. for what looks like a 10-minute conversation.

"After that Paulson called Christopher Cox, Securities & Exchange Commission Chairman twice; British Chancellor Alistair Darling and New York Federal Reserve head (and now Treasury Secretary) Tim Geithner two times.

"Then Paulson took another call from Goldman's Blankfein.

"It wasn't even 9 a.m. yet - 30 minutes before the stock market was to open - and Paulson and Blankfein had already exchanged three phone calls."

It pays to have friends in high places. That was the day the market learned of Paulson's bailout proposals. Could Goldman have gotten word before others? Hey, we're not accusing anyone...

Bill Bonner
for The Daily Reckoning Australia

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Although I have great sympathy for the deflation crowd, given the reckless attitude of the central bankers and their ability to create debt-based money, I do not believe deflation (contraction in the supply of money and total debt) is very likely.

For sure, in this post-bubble environment, American consumer debt continues to contract, but this is being more than offset by the expansion in federal debt. Over the past year alone, federal debt in America has surged from US$9.645 trillion to US$11.813 trillion. In other words, during the past twelve months, American federal debt has risen by a shocking 24.47% and it now stands at 83.52% of GDP! Now, given the ability of the American establishment to essentially create dollars out of thin air, I have no doubt in my mind that it be able to inflate the economy. However, this will come at a huge cost and the victim will be the American currency.

In fact, the recent weakness in the US dollar is a sign that central-bank sponsored inflation has started to dominate the private-sector debt contraction in the West. Furthermore, over the past few weeks, various governments have issued US dollar-denominated debt and this suggests that the carry-trade is back in vogue. In a startling move, Germany recently announced that it plans to borrow money in US dollars!

Now, given the ongoing federal debt inflation, debasement of paper currencies, sky-high budget deficits and competitive currency devaluations, the macro-economic environment has never been better for precious metals. Yet, both gold and silver continue to frustrate the bulls by staying below the record-highs recorded in spring 2008.

So, what is going on here? Have we already seen the end of the precious metals bull-market or are we about to witness an explosive rally? Before I attempt to answer this question, I want to make it clear that even though gold failed to better its all-time high during last autumn's panic, it was the only asset, (apart from US Treasuries) which stayed relatively firm. And looking at the various markets today, gold is the only asset that is flirting with its all-time high. So, whether you like it or not, gold deserves some credit for fulfilling its role as a safe haven.

Now, unlike some of the die-hard gold bugs, I don't believe that gold is the ultimate asset to own at all times. Without a doubt, there have been times in history when gold has proven to be a lousy investment. For instance, between 1980 and 2001, the nominal price of the yellow metal fell by an astonishing 70%. This horrible price action spawned an entire generation who grew up hating gold and up until a few years ago, the vast majority considered gold a barbaric relic.

However, during other periods in history, when macro-economic uncertainty was high and inflationary expectations were running out of control, gold turned out to be a fantastic asset to own.

If my take on the macro-economic situation is valid, then we are in such a period now and gold must form a part of every investment portfolio.

You may remember that over the past year, central banks have injected trillions of dollars into the banking system and it is only a matter of time before inflationary expectations start spiraling out of control. Up until now, this 'stimulus' money hasn't permeated through the economy in the West but once money velocity picks up, prices will start rising and the investment community will become very concerned about inflation. When the deflation scare abates and people start protecting the purchasing power of their savings, capital will start to flow towards precious metals.

Long-term clients and subscribers will recall that about two years ago, I highlighted gold's tendency to rocket higher every other year. Figure 1 captures this trend perfectly and you can see that since the outset, gold's bull-market has been punctuated by lengthy consolidations and the yellow metal has surged to a new high every alternate year.

So, if gold remains in a bull-market and its trend consistency is intact, its price should surge over the following months. Conversely, if the price of gold fails to climb above its all-time high before year-end, it should start to ring alarm bells as this would open up the possibility that the bull-market may be over. Remember, certainty does not exist in the investment world and savvy investors should remain open to all outcomes.

Now, given the uncertainty in the world today and the ticking inflationary time-bomb, my view is that gold will soon embark on its north-bound journey. So, I suggest that investors hold on to gold and the related mining companies which will probably continue to perform well until next spring.

As far as silver is concerned, it has always been a high-beta play on the direction of gold. If the next up leg in gold's bull-market materialises, the price of silver will also head towards the heavens. Accordingly, investors may also want to allocate a portion of their investment portfolio to silver bullion and silver producing companies.

Regards,

Puru Saxena
for The Daily Reckoning Australia

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The importance is dependent on your perspective. Those people who are not borrowing money to spend are thus suffering the pangs of a lowering of their lifestyle, which depended on borrowing money to spend; and then they come around, whining about stupid things like, "Daddy, things have gone up so much in price that I need more money, which you would give me if you loved me. Don't you love me? I love you! Won't you please love me, daddy?"

And so I ask, "Can't you love me if I don't give you any money?" and they say, "No. You could borrow the money, and then we would love you", and I reply, "I have been borrowing money and now I can't pay them back" and so the kids say, "Then borrow some more!"

And, in a terrifying revelation, I realized that it is not only my children, but all the rest of the economy that is totally dependent on everybody else borrowing money to spend, too.

So now you see how Chaos Theory was right, and that all things are connected to all things? If not, then pay attention to how they will now commence to all drag each other down into the Nightmarish Hell Of Inflationary Insolvency (NHOII).

And it doesn't take a real genius to see why, but the point is not that the American people were stupid enough to think they could get a perpetual free lunch by borrowing money to pay for it, or even that a smaller subset of those who are suffering the pangs of a lowering of their lifestyle is composed of those who also think that they can call me on the phone and either 1.) Ask to borrow some money from me, or 2.) Ask me to pay them back the money I borrowed from them.

My response is the same, in that I give neither one of them any money because I don't have any money; so to one I laugh in scorn, and to the other I say that I have just put a check in the mail to them, and that they will get their money soon, and if it hasn't arrived in a few months, call me back and I'll write you a new check and get it right into the mail.

The point is that a much larger subset of those who are suffering the pangs of a lowering of their lifestyle is composed of those people who think that they can elect government representatives who legislate all problems out of existence, that will tax me and then give the money to them, or the Federal Reserve will create more money to loan to investors with which to buy government debt so that the government can spend, spend, spend us into blessed Utopia. Either way, it's Bad, Bad News (BBN).

And, alas, one way or the other, they are right. Unfortunately. And that is one reason that I weep, alone, in the Mogambo Bunker Of Bunkers (MBOB), doors locked, radio blaring, machine guns cocked and loaded, mostly drunk or nearly so, soon to be blissfully comatose.

Another reason that I cry so piteously and drink so abusively is that all this new government borrowing will create so much new money that it will destroy the dollar's buying power, taking my own country down with it.

The only reason that I stop bawling like a little crybaby is the knowledge that the people who own gold, silver and oil will get rich, rich, rich, and since I own gold, then people will want me to loan them a few bucks out of my huge stacks of money because they are starving, and their children are starving, and I will say, "No!" and it will be thin gruel indeed for them to hear my mocking voice again echoing in their heads, "Buy gold, silver and oil, you morons, because your stupid government is letting a private bank (that misleadingly calls itself the Federal Reserve when it is, in fact, neither) to create so damned much fiat money that it will produce catastrophic inflation in consumer prices that will destroy the country, just like it has done to every other stupid country in the last 4,000 years that let its stupid government increase a fiat money supply at its whim! Hahahaha! Now you see why I always said you were freaking doomed! Hahaha!"

But I feel terrible, as this constant infliction of inflationary pain by heedless expansion of the money supply is so unnecessary, and that is why I was pleasantly surprised to read in The Wall Street Journal the headline "Central Banks Consider Gold" in its Commodities Reports column.

The reason is easy to see if you read the article backwards, in that there was a question about central bank buying "last week, when gold saw a record single-day gain", especially Chinese central bank buying of gold, which is already the ninth-largest holder of gold in the world but which holds only 1% of its foreign-exchange reserves in gold, although it actually said it would like to hold more. And Mark O'Byrne at Gold & Silver Investments says that he would "be surprised if the Chinese hadn't been nibbling at the gold market," which leads to the news that Asian banks "are seen as keen buyers" of gold, which leads to the news that "other central banks are now far more likely to be holders of gold", which leads us back to the second paragraph that "Turbulence in the financial markets and recent US dollar weakness are helping the precious metal claw back its reputation as the central monetary anchor within the international monetary framework", which leads to the opening paragraph of "Central banks may be starting to turn one of the few assets in which they can invest; gold."

In short, those crafty Chinese, a fifth of the world's population, may be getting ready to issue a gold-standard money, which will instantly make their currency the strongest in the world, which is just what a country needs if it wants to import a lot of things cheaply so as to respond to demand for internal economic growth without stoking inflation in prices!

And, fortunately for those of us who both love to have large profits handed to us and who also own gold, a Chinese gold-standard may soon make a dream come true as gold would skyrocket when priced in suddenly depreciated dollars.

Whee! This investing stuff is easy!

Until next time,

The Mogambo Guru
for The Daily Reckoning Australia

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