You have to wonder who is willing to loan money to the United States government - given the state of its fiscal and monetary policies - for thirty years at below 5%. But the Treasury is anxious to auction as much long-term debt now as it can, locking in what it believes are low rates. This is another way of saying the Treasury thinks rates will rise (creditors will ask for higher rates when lending to Uncle Sam).

In the report from the Treasury's borrowing committee to the Secretary, the committee said it was getting a wee bit worried that the maturity schedule of the Treasury debt portfolio could be in trouble if rates go up. Specifically, it wrote that, "The potential for inflation, higher interest rates, and roll over risk should be of material concern."

Perhaps this is why the Treasury and the Fed are considering whether to "move out on the interest rate" curve and try and set rates for longer-term debt. If the market is going to push them up, the Fed will have to push them down (as it has been doing anyway with its purchase plans). Rules are made to broken!

Take the statutory U.S. debt ceiling for example. The Treasury's borrowing committee writes that, "Based on current projections, Treasury expects to reach the debt ceiling in mid- to late- December. However, the government's cash flows are volatile, and forecasting a precise date is difficult. Treasury is working closely with Congress to pass legislation to increase the debt ceiling. We will keep financial market participants apprised of developments as the debt outstanding approaches the statutory limit."

In other words, the jack asses in the U.S. Congress will have to pass a new law allowing the Treasury to borrow more. This would be comical if it weren't so disgraceful. U.S. monetary authorities continue to tell the world's savers that the U.S. standard of living is not negotiable, even if it means increasing public sector debt to over 100% of GDP.

But the world's creditors may not be in the mood to negotiate anyway. We think the rise in gold is one example of creditors deciding there are better things to do with their money. And in the meantime, take a look at the graph below from the Quarterly Refunding Statement of the Treasury's Office of Debt Management. It's a doozy!

Click to enlarge

Sorry about the size. We had to reduce the chart to get the whole thing in. In case you can't read the fine print, it says that in the next five years, there will 73 days on which more than $20 billion in Treasuries mature and 46 days on which more than $30 billion in Treasuries mature. That's 119 days of major league reckoning.

Normally, that debt is simply rolled over as a new (or often the same) buyer refinances it. But what do you think will happen in the next five years? The U.S. will be borrowing more and more and probably at higher rates. Our guess? It won't be good for the dollar.

Dan Denning
for The Daily Reckoning Australia

• Federal Reserve to Buy $300 Billion In U.S. Treasury Bonds
• Australia to Borrow as Much as $300 billion
• One Year Treasury Bills to be Reissued by Bush Administration
• Every Member of Congress Gets a Copy of I.O.U.S.A.
• U.S. Government Must Roll Over $3.4 Trillion in Debt Over Next Four Years

Our property mumblings are a perfect example. We take a massive bite and just can't let go. Eventually one of us gets bored and so we move on to the next thing.

As for property, we'll come back to it at some point. We're just waiting for something big and juicy to turn up before we do.

Yesterday we spent most of the day researching for the next issue of Australian Small Cap Investigator. There are two stocks we've got on the radar, and unless something turns up which we don't like then we plan tipping both of them.

According to our assistant publisher, Joanne Ha, this month's edition should be completed and mailed out to subscribers by tomorrow...

But according to your editor, it will be completed and mailed out next week.

We're not normally game enough to argue with our Taekwondo-kicking assistant publisher, but now that we occupy separate rooms in our office on Fitzroy Street there's less chance of us receiving a kick to the head if we're late! [Closes office door]

So, if you subscribe to Australian Small Cap Investigator, stay tuned, and you should get your September issue by early next week.

Anyway, our point is, yesterday while taking a break from poring over presentations, balance sheets and income statements we couldn't help but pay a visit to the Tax Review website.

I know, I know... we've got a fab office in Fitzroy Street, just a two minute stroll from the beach, and I'm looking at submissions to the tax review.

Well, before we get stuck in to the September issue of Australian Small Cap Investigator again today we decided to have another look at the website. If you haven't looked yet you can do so by clicking here.

As you can imagine, it's not exactly a barrel of laughs, but it does - in our opinion - make for a number of interesting reads...

And a few worrying ones too.

In a moment we'll take a look at one of the submissions. But based on all the ones we've looked at they have a striking similarity.

That is the belief they've discovered the 'magic bullet' for tax and pension reform.

Look, there's nothing wrong with looking for the perfect solution to something, we try to do that all the time. There is one difference though. We favour getting rid of regulations, taxation and compulsion and letting free enterprise and dare we say it, the individual make their own choices.

Who am I to say I know how to do anything better than someone else? I reckon I'm pretty good at picking small cap stocks, but I don't force you take out a subscription to Australian Small Cap Investigator.

If you want to, then great, welcome aboard. If you don't, then no hard feelings.

Yet the coercive sector (government) forces you to pay a subscription to their services through taxation. Even if you don't want to use it, or can get a better service elsewhere.

Take education for example. Whether you like it or not, a portion of your taxes go towards paying for government schools. Even if you don't have kids. But even if you do have kids and you choose to send them to private school, then you're still paying for the government schools.

How does that make sense? Imagine being forced to pay for Australian Small Cap Investigator even though you didn't want it. Would that be fair?

It would be great for us of course, but it wouldn't be good for you.

But, the submissions to Dr. Henry's expert panel all seem to want to make decisions for everyone else.

Several times we've seen promising statements in the submissions which support abolishing a tax rate, only for our hopes to be dashed by the suggestion of an alternative tax rate which is just as bad - or worse.

Above I mentioned this was all very 'worrying,' well, it's sad too. Because the idea that individuals should be controlled and manipulated by government and special interest groups has filtered down to the youngsters as well.

That's right, it's not just the nutters in Canberra that think they know best.

Take these excerpts from a submission by tertiary student Michelle But:

"As a tertiary student and a member of the public, I am honored [sic] to contribute my submission based on the topic of "Retirement Income System" to the Review Panel, which is led by Dr Ken Henry, Secretary to the Treasury. I welcome and look forward to future improvements on the Retirement Income System made by the Australian Government."

"Honored" - your editor is speechless. Perhaps we should now all bow when Emperor Henry enters a room!

Michelle's submission continues:

"Australia's retirement income system plays a pivotal role on financial security and retirement welfare. Currently, not every retired Australian in receipt of Centrelink Age Pension can afford to have the lifestyle they want, not every working Australian qualifies for the 9% compulsory employer superannuation and not every Australian has sufficient voluntary savings at retirement. If, however, the Government acts NOW through the implementation of specific changes to the superannuation rules, then 'YES, WE CAN' alleviate these issues in the future."

Those are Michelle's bolds and caps, not ours.

Of course, Michelle has a solution, which is, "increasing compulsory employer SG contribution from 9% to 15% by 2012."

The funds management industry couldn't have put it better themselves.

But young Michelle goes one step further. She has an idea that not even the fund managers or the unions have dare come up with. But we're sure they'll jump all over it when they see it:

"Australians can voluntarily contribute their before-tax income into superannuation through the super salary sacrifice scheme (taxed at 15%). However, the Government needs to enforce gradual compulsory superannuation savings at 15%."

Got that?! Based on this proposal - if we've got it right - 30% of your salary would go towards superannuation. Take off tax, levies, surcharges, etc... and you'll be left with about $5 in your pay packet by the end of each week.

Look, we had to read that part of the submission again to make sure we read it correctly. We're almost tempted to give her the benefit of the doubt. Can she really be arguing for a 30% superannuation contribution?

Look, this is an extreme proposal that Lenin would be proud of. We're not sure that even Comrade Rudd would go that far. But maybe he would.

In fact, long term we'll probably find Michelle's proposal to be not far from the mark.

But it's not just Michelle, look at any one of the submissions on Dr. Henry's website. They all have similar proposals. And that is pleading with the government to rob you blind.

Every single submission we've read advocates taking money from your pocket and giving it to someone else.

Somewhere in the mind of these people they believe that you're incapable of looking after yourself and your own money. As Michelle puts it, "to avoid squandering."

What a cheek. Here's some breaking news. If someone wants to squander their money let them do it. If they know there is no government bail out them odds are they won't squander the money to begin with.

If they still go ahead and blow it all, well, tough luck. Arguing that your earnings should be taken by force just on the off chance you may make some bad decisions is ludicrous.

Besides, there's no guarantee you'll ever see that money again anyway. By the time the government has frittered it away, and fund managers have taken their slice, and inflation has munched at another portion, the New Age Pension won't be worth waiting for.

In fact, the more government gets involved and the less control you have over your money, the greater the chance is that you never will get your hands on it.

The problem as we see it, is the entirely false belief that people's behaviour can be controlled. It can't. Many people can't control themselves from doing irrational or compulsive things, let alone other people.

But that's not a bad thing. It's good, and it should be encouraged.

The problem is, centralists and government-lovers believe they can control every aspect of people's lives and the economy as a whole. They can't, it's impossible.

People make all sorts of decisions on a daily basis. Some of them aren't rational, and some of them aren't logical. But that's just the way it is.

The sad thing is when you have some individuals pleading with control freaks in government to steal more money away from other individuals. And it's always done in the belief that a centralised government bureaucracy knows how to do things better than an individual.

But the evidence is firmly against this. Everywhere, without exception, where government is involved, things are a mess and the individual is disadvantaged:

Health care, education, roads, public transport, telecommunications, legal system, etc...

There's not one thing the government does better than could be done by the private sector. Not one single thing.

The fact is - yes, fact - that no-one can manipulate anything without it having unforeseen consequences elsewhere. More money being stolen from individuals to go into superannuation and government coffers means less money remaining with the individual.

What's the consequence of that?

You guessed it, a greater reliance by the individual on the government. Which means?

You guessed it, an increase in services to be provided by the government, which means higher taxes, and even less money remaining with the individual.

And most important of all. If the government controls the supply of money to the public then they have almost unlimited power over them.

As I mentioned above, I encourage you to take a look at the submissions to the Tax Review website. You may not like what you read but you should know what other people are planning to do with your money.

Kris Sayce
for The Daily Reckoning Australia

• Attention Dr. Ken Henry: Government Could Make Employee Voluntary Contributions Compulsory
• Is Kevin Rudd Planning to Steal Your Superannuation and Bankrupt Your Retirement?
• NAB Says Big Four Can’t Refinance Property Debt Without Government Help
• The Best Time to Invest in the Market in 5 Years
• A Look at Debt and Super

And when we ran out of money, no problem! There was more where that came from. In one sense we couldn't spend money fast enough. As soon as it was gone, there was more suddenly available. So we just finance the house again, take out some equity (which always rises) and do one of two things - Pay off credit cards (so we can load more debt on them) or just spend the cash on things a home improvement (that is no longer reflected in the price of the home) or a vacation.

Remember how MasterCard taught us that those memories were priceless? Hope you got some good ones... because you "done bought something you can't eat," as one of my teachers used to say.

At a time when we are drowning in debt, we are also out of money.

When a debtor is out of money, he has no ability to repay. And when a creditor has borrowers who are out of money, the creditor has no income. No earnings. No power to make better loans.

So how are banks in America posting "profits"? How did Citigroup, Bank of America, AIG and Wells Fargo jump 400% in stock price? Are they worth 400% more? Are their earnings up 400%? And where in the world did all this money come from?

These companies were just bankrupt... yet found a way to get back above water. And not just above water - they are making moon-shots!

Their share price should be zero (or less, if possible!). How are they worth so much more now?

As I have written before, mark-to-market accounting rules were repealed in favor of a fictitious slight of hand. Banks no longer have to list their distressed assets at the fire sale price they should be worth. Instead they get to record their value as the price they bought them, or what they believe they will be worth in the future.

In other words, it's like me refinancing my house, but doing my own appraisal and assigning it whatever value suits me. I want cash out? Just pad the value of the house. I can't afford a higher payment? No worries, I just pad my reported income. Two years down the road I can't afford my payments anymore? Easy, just follow the same refinancing procedure all over again.

But my family and I would only have one toxic asset to deal with. The banks have them coming out the wazoo!

They are still in possession of the faulty loans and derivatives that caused this entire mess in the first place. Nothing has changed - except the accounting!

The banks always counted on that. This time, however, they are the ones left holding the bag. What are they going to do with all this JUNK? How can they unload it without attracting suspicion? How can they clean up their books without the short sellers making a profit off their downfall? They can't. It's a Catch-22.

But the real problem is that the US banking system would come crashing down in a minute if this were known and understood by the general public. The banks know it. The Fed knows it. I suspect that there are some congress people who know it.

But here's where the rubber meets the road. Government engineered a bailout. They wanted the banks to lend to Joe Consumer. But the banks didn't. And frankly, Joe Consumer didn't want it. He was too busy trying to figure out how he was going to repay all the money he had already borrowed against his house. Especially with the boss breathing down his neck, threatening job terminations if he wasn't more productive than some cheap labor in India.

So the banks were sitting on a good deal of the money from the Fed in order to protect them from future losses. Some of them have even paid it back. But the truth is, from an accounting standpoint, they don't need it anymore. From an accounting standpoint, their mortgages and derivatives are all valued at a big fat surplus. Why keep federal money? Why incur interest charges when "all is well"?

If they can show a profit from an accounting standpoint... and if they can repay their bailout money (plus interest)... and if they can still service the customer at the drive-in window or the teller counter, what's the big deal? What am I crying about?

It's all because those toxicities still exist. And they all have to be accounted for, whether the government says so or not.

We should have learned, or have been reminded of, one of the greatest lessons in the world from convicted felon Bernie Madoff: "Be sure your sin will find you out."

Even the greatest engineered schemes on the planet come undone at some point. No Ponzi scheme can continue forever. But if you are very bright (as Madoff was), you can keep the game going for a long, long time.

But what if you're not brilliant? After all, I doubt the government is as smart as Billionaire Bernie. Luckily, if that's the right word, the government has another way to keep the game going, using one thing it has that Madoff didn't.

Cash.

Gobs and gobs of it.

The government's massive wad of cash is what keeps the game going. And foreign investors lending us money. And millions of pensioners happy as long as they receive their check on the first of the month. And the multitudes of purchased votes that are blissfully sitting on the dole.

But it's not just the United States. Every country in the world is in the same pickle - because every developed nation believed they could successfully manipulate the game. The problem now is that the governments are running out of money. The United States has been broke for a long time, of course, but it could still trade on the value of its good name... and it did. Other nations are not so lucky.

The United States still possesses the reserve currency status; other nations aren't so lucky. We still boast the largest GDP; other nations are not so lucky. I'm pretty sure we still have higher tax receipts, and more room to raise taxes than other nations. But somehow, I can't bring myself to call that lucky...

But as it is an "option," I have to think that whatever smarts our government does have, someone will eventually realize it. Good Lord, deliver us.

I do not honestly think that anyone can seriously contest us in the role of reserve currency, no matter how many times China rattles the saber.

Twenty years ago, China couldn't even feed its own people or keep them employed. Now it is boasting a 7% annual growth rate. Despite the massaging that may be done to the numbers before they are released, we can already see that a country growing solely on stimulus cannot grow very long. The weaknesses in China's underbelly are already becoming apparent. She is an export economy. And people are not buying.

She cannot save the world, whatever her strength might be.

There is another round of destruction coming. The banks will have to come clean. If you thought the residential crunch was stunning, wait till you see what's coming on the commercial front. It will be a tsunami of epic proportions. Banks are not lending now, and the chances of business expansion are lower than at any time in recent history. No one will be buying excess of anything except maybe food and precious metals, so businesses will not continue to post profits. Without profits you can't service the loans you have, and rolling them over will be out of the question. The day is coming... don't let it catch you by surprise.

But until that day arrives, we must deal with what we have.

Regards,

Bill Jenkins
for The Daily Reckoning Australia

• Gold Coins for $870-$890 An Ounce
• Madoff Astonished SEC Didn’t Verify His Claims
• Social Security a Bigger Scam Than What Bernard Madoff Schemed
• The Baddest Bank in the West
• Who Was the SEC Harassing Instead of Madoff?

Thus sang one of the characters in an operetta by Jacques Offenbach. But that was in the mid-19th century.

But hey...what goes around...

Guess what happened last year? According to a study from Boston Consulting Group, the only area of the world that got richer last year was Latin America...led by Brazil!

The rest of the world got poorer by 11%, according to BCG. Down in the rum and sun zone, on the other hand, they got 3% richer.

So maybe our investments in South and Central America will turn out all right after all.

Meanwhile, back in the developed world...what's going on? There are two main schools of thought. Ours. And theirs.

Who's right? You decide.

'They' say, 'The crisis is over.' We can thank our lucky stars - and the feds.

Now, we're getting back to 'normal'...or maybe a 'new normal,' with lower growth rates than before. Janet Yellen, San Francisco Fed governor, says the recovery will be 'tepid.' Others say it will be weak...soft...drawn out.

"The slowest recovery since 1945," says a Bloomberg report.

It may be slow, they say, but it's sure. The stock market proves it.

Stocks are up 65% worldwide, with the United States a laggard...stocks in the US are up barely 40%. The Dow rose 21 points yesterday - still a long way to go to get to the 50% rebound mark, at 10,300.

Gold closed down, but still over $1,000. And the dollar continued falling - reaching $1.46 per euro.

In our view, there is no recovery. None. All of the improvement in the economy can be traced directly to bailouts. None of it - not a single penny - is organic, natural or durable. When the subsidies for new cars goes away, for example, so do auto sales.

We wrote a book, Financial Reckoning Day with Addison Wiggin, in 2003. In it, we predicted that the United States would follow Japan into a long slump. We thought it would begin after the tech crash of 2000. We were wrong about that. But it seems to be beginning now. And the government, predictably, is doing the same things the Japanese government did - despite Bernanke's assurances that he won't allow the country to fall into the Japanese deflation trap.

One thing the Japanese did was to reduce interest rates...practically giving away money to anyone who would borrow it. But Japanese consumers didn't want to borrow; they wanted to save. They had speculated on the bubble and lost money. Then, with retirement approaching they wanted to replenish their savings and rebuild their balance sheets.

So, the Japanese government put out money...and it was taken up by speculators, not by the real economy. The speculators borrowed yen, at very low interest rates, and then reinvested the money in go-go sectors elsewhere - such as the US dotcom bubble. The yen became the world's "financing currency." If you wanted to build a factory in China or speculate on Argentine bonds, you could begin by borrowing cheap money from Japan. Thus, Japan contributed to a huge boom all over the world. But not in Japan. The land of the rising sun never seemed to get up in the morning. Property investors lost 80% of their money. Stock market investors lost as much. Even now, nearly 20 years later, they're still 75% down.

And now, along comes the United States of America with super-low lending rates. But who's borrowing? Not the moms and pops of Middle America. They don't have anything to borrow against. And the banks won't lend to them. The banks need money for themselves. Besides, everybody knows the average household in America is losing income.

What's more, mom and pop don't want to borrow. They've been through 10 years of losing money on Wall Street. Stocks are no higher now than they were a decade ago. And their houses - on whose rising prices they had counted for their retirements - have gone down 20-40%. And they're still going down.

The poor moms and pops can't seem to get a break. They're now desperately saving for retirement - at the worst possible moment, when jobs are scarce and wages are falling. But what else can they do?

So, the feds push money into the economy, but it's hot money. It's money that speculators use to place bets on gold...or on Brazilian bonds...or on oil exploration companies. The money never ends up in consumers' hands. It never bids for consumer goods. It never pushes up consumer prices.

As in Japan during the '90s, America's hot money may go all over the globe. It may turn the entire world into a casino. But it won't bring about a real recovery...

..if cheap money from the government were all it took to bring prosperity, Zimbabwe would be richer than Switzerland. Obviously, it doesn't work that way.

But here's the shocker. While we know easy money policies don't create prosperity, you may be surprised to learn that they don't necessarily cause inflation either. In other words, government may be incompetent, even at what it does best.

So, why is gold rising?

Ah...we were afraid you were going to ask. We've been doing a lot of thinking about it. Partly because our Family Office partners are smart people who ask smart questions. And partly because we're wondering what to do with our own gold. Buy? Sell? Do nothing?

We spent half the night drinking and meditating on the subject. Finally, we're not sure we had a clearer idea...but at least we were able to sleep.

We've already unveiled the idea to you. The feds can cause speculation in gold; but they can't easily cause consumer price inflation. As explained above, they can get cash into the hands of speculators, but not into the hands of consumers. Not in the middle of a major consumer retrenchment.

The Roosevelt Administration was faced with the same problem. But back then, gold and the dollar were linked. Roosevelt could devalue the dollar by edict. The Japanese couldn't do that. Nor can the Obama Administration.

In a deflationary credit cycle, you may only be able to cause consumer price inflation by resorting to extraordinary Zimbabwe-style money printing. You can drop money from helicopters, as Ben Benanke promised. But as Zimbabwe demonstrated, that cure is far worse than the disease it is mean to heal.

All of that said...gold can rise...partly because people are betting on it as an antidote to inflation (not realizing that consumer price inflation may be a long way off)...and partly for other reasons.

Lately, one of those other reasons may be heavy buying by the Chinese. The Middle Kingdom wants to diversify out of the dollar. It also has a central bank with very little in gold reserves. What better to do than to diversify out of the dollar by adding gold to its central bank reserves? Word on the street is that it is buying steadily.

The Chinese have made a number of announcements on the subject. We don't really know who's in charge there, so we don't know whose comments to weight most heavily. One Chinese official has said that the government is buying gold and intends to buy more. Another says they will buy "when people don't expect it." Another says the Chinese expect gold to go to $3,000 an ounce.

The Chinese have the money and the motive. They alone could move the price of gold to $3,000 if they wanted to. And maybe they do.

Until tomorrow,

Bill Bonner
for The Daily Reckoning Australia

• Zero Percent Interest Rate Didn’t Work for the Japanese
• Recession for the Japanese Economy Once Again
• Gold is More Like a Religion or a Political Position
• The Rising Price of Oil Has Done Less Damage in Europe Than in America
• Japan and its Economy Did Not Have Secret to Everlasting Success

Gold's recent breach of the symbolic US$1,000 level has elicited a predictable amount of commentary from mainstream analysts. The problem is, much of it is ill-informed. Due to the general amnesia of most market analysts, of all asset classes gold remains the most misunderstood. In order to comprehend why gold is rising and why it will continue to rise in the years ahead, we need to review some history.

As JP Morgan pointed out early last century, gold is money, and nothing else. Grasp this simple fact and you understand gold. More to the point, gold is international money. It always has been. Over thousands of years of human economic interaction, gold (and silver) evolved as the chosen medium of exchange. These two precious metals contained all the qualities necessary to facilitate growing trade and economic interaction. The most important quality of course was man's inability to create the metals out of nothing. Alchemists tried, but to no avail. This inability to manipulate supply made the metals perfect for the role of money.

Silver was de-monetised by the major developed nations at the end of the 19th century, leaving gold as the pre-eminent monetary metal. (Silver, however, continued to circulate as money in the peripheral economies, such as Latin America and Asia, including China).

Under the classical gold standard prior to World War I, gold coins circulated as money alongside banknotes, although for ease of use banknotes were preferred...as long as people had confidence that they were backed by gold. So the system acted as a natural restraint on banks issuing too much credit. If they did, gold reserves would flow from the offending bank, forcing it to curb it easy lending ways.

In the same way the system was also a natural check on government spending. But the outbreak of World War I made such restraints impractical. Governments needed to print large quantities of paper money to finance the war effort. Instead of paying for the war through increased taxes, citizens paid via inflation, a far more subtle and insidious tax.

While war spending led to massive and widespread currency depreciation against the international monetary standard - gold - Britain stupidly tried to return the pound to gold at the pre-war parity, which grossly overvalued its depreciated currency. It didn't do so straight away, as the economy would have collapsed. It was not until 1925 when Chancellor Winston Churchill announced the pound's return to gold. (The new gold standard was a deliberately poor imitation of the classical standard, but that's another story).

The overvalued pound decimated British exports, especially the traditional industries of coal, iron and steel and shipbuilding. With these workforces heavily unionised, wage rates were too high and unemployment rose. This placed more pressure on the government to print their way out of trouble. Headed by Bank of England Governor Montagu Norman, Britain hoped and persuaded the US (through Norman's good friend Benjamin Strong, the boss of the New York Federal Reserve) to inflate their currency to 'catch-up' to the weakened pound.

The US' willingness to help Britain return to a half-baked gold standard by keeping interest rates lower than they should have been led directly to the stock market boom of the late 1920's, and the subsequent depression. The downturn in world trade hit the rigid and uncompetitive British economy hard, and in 1931 Britain finally faced the reality of its disastrous monetary policy and abandoned the gold standard. The pound plummeted against gold and those countries holding pound sterling as reserves, believing it was 'as good as gold', suffered massive losses. In this way the pound relinquished its role as the world's reserve currency.

The US dollar remained fixed to gold at $20.67 per ounce for some time longer, but with competitive devaluations occurring around the world, US citizens began to realise that gold was undervalued in terms of US dollars. So like any rational person, they exchanged their paper money for gold. This 'run on the banks' forced the government's hand and within days of taking office in March 1933, President Roosevelt closed the banks for nearly a week and upon reopening, forbade them from paying out any more gold.

A few weeks later, Roosevelt demanded that all bank and private ownership of gold be handed over to the government at the official price of $20.67. This process continued for the remainder of 1933 and in January 1934, the government re-valued gold at $35 per ounce, robbing their citizens of some $3 billion in the process.

Despite the efforts of governments and central banks around the world, gold has not gone away. It is still money. The US dollar remained officially fixed to gold at a ratio of 35:1 until 1971, when more money printing led to the breakdown of the dollar exchange standard. Gold is now hovering around the $1,000 an ounce mark, which says something about the Federal Reserve's management of their currency since the 1970's.

Gold is rising because the international monetary system, with the US dollar at its core, is in the process of breaking down. Decades of unfettered credit creation by the global banking system, led by the US, is now beginning to implode. This is deflationary, as the private sector begins to reduce its huge debt burden.

A huge expansion of government debt around the world is mitigating some of the deflationary force of contracting private sector credit. So while deflation risk is the pre-eminent threat and will be for some time to come, as more and more government paper flows through the credit system inflation will surge. It is worth examining an important difference between private and public debt to explain why.

Private debt can and does go 'bad'. It essentially represents money that was created and spent, but ultimately proved unproductive. The money disappeared. This is deflationary. Government debt - at least government debt with a AAA rating - does not go bad. The US or UK government for example will not default on its debt. As the debt comes due, the government will simply issue more debt to pay for it. The end game is a massive devaluation of the currency.

Devaluation against what? All other nations are trying to inflate their economies equally by issuing huge quantities of government debt. China is no exception. With the yuan linked to the US dollar, the Peoples Bank of China must print money to maintain the link. This is causing asset bubbles to surface again in China. All fiat currencies are equally as bad.

The gold market knows this. Gold is saying that the crisis is not over, that it is in fact getting worse. We are seeing Gresham's Law in action, as bad money pushes out the good. Gold is being swept off the market by millions of individuals who know that without fail governments always ruin the value of their paper money.

Governments have always resented gold because when freely traded, its price tells the story of bureaucratic ineptitude. So don't expect gold to breeze through the psychologically important $1,000 mark. In fact, despite gold's recent rise and the weight of history on its side, a record net 'short' position has been building to the tune of nearly 28 million ounces. Someone is betting very heavily on a price fall.

In the past, large net short positions have presaged big, albeit brief, price declines. Will it happen again? It might, but who really cares? The damage to gold will be short lived and after this crisis fully plays out - and it will - gold will have soared against its paper rivals. More importantly, gold will still be money, and nothing else.

Greg Canavan
for The Daily Reckoning Australia

• A Gold Standard, Without Gold
• Is Gold Money?
• Gold Standard: The Long-Run Value
• Citizens Easily Coerced into Using Government Currency
• Where Do the Feds Get Any Money?

One our new partners wrote a very shrewd comment. We'll pass along a little of what he had to say, but first, some context. The feds are desperate to restart the economy. The only way they can imagine is by increasing the money supply...and inducing people to spend money. They want inflation, no doubt about it. And they'll get it - no doubt about that, either.

The question is when. Our view is that they'll get more than they expect, but later than they want it. We're looking for another crack in stocks...followed by more fear and loathing in the economy. This will have two major effects. First, investors will turn to the familiar dollar for safety. Second, everyone will hoard money...speculation will cease...and prices will fall - including the price of gold. Our first writer disagrees:

"One mistake [your editor] might be making is his belief that we are already in another Great Depression. We probably will be in a depression or some other form of economic calamity, but not yet. Every Depression (or monetary contraction) in history has followed a similar pattern - expansionary monetary policy followed by a contraction of the money supply... While we have experienced a huge monetary expansion/easy money in the '90s, we have not yet experienced a real monetary contraction (which is a scary thought). Instead, the central planners did the opposite and doubled the monetary base (keep the addict happy with more heroine). These extra paper dollars have to go somewhere, and we are seeing the results in higher prices for stocks, oil, copper, sugar, gold, so far..."

Well, yes...as long as the economy seems to be on the mend, investors' "appetite for risk" improves. They want to speculate on the recovery. But then, when the recovery proves an illusion...they're going to run for cover.

Then, another new partner came to help us roll our stone.

"Bill is correct, not from money supply & credit data, but from 'black swan' type events such as: how deflationary forces will play out for lenders and holders of mortgaged backed bonds both commercial & residential, in a disruptive resetting of interest rates for Option ARMs, ALT-As and various other prime borrowers in the next 6-12 months... Will we witness another series of major bank failures from this next round of resetting? And if so, how disruptive, in a deflationary sense, will this be?"

Either way, the result is the same. Market events - such as another big break in the banking sector - could bring a deflationary collapse. If not, the Fed itself may have to step in to protect the dollar. In either case, gold is not likely to reach its final, bubble phase until this contraction is over.

In the meantime, our advice remains unchanged: buy gold on dips.

We continue to laugh at recovery sightings. Yesterday, for example, the Fed reported to the nation that a recovery was underway. But even the Fed couldn't ignore the fact that consumers aren't spending money the way they used to. The New York Times comments:

"The prolonged slump in consumer spending has been one of the most serious points of worry for economists, and the Fed's warning about it deflated some of the market's optimism. About 70 percent of the economy depends on spending by consumers."

The other sticky wicket in this game is unemployment. Jobless ranks are swelling like a floating corpse. But the jobless numbers don't tell the whole story. There are 34 million Americans who live on food stamps. One out of every nine people depends on the government for his daily bread. The Financial Times fills in the details:

"Less attention has been paid to those still in the workforce, whose incomes are also being squeezed. The average working week is now about 33 hours, the lowest on record, while the number forced to work part- time because they cannot find full-time work has risen more than 50 per cent in the past year to a record 8.8m. Wages and benefits have decelerated.

"The food stamp data suggest that 'the labour market problems are more significant than you would expect, given just the unemployment rate', said John Silvia, chief economist at Wells Fargo. 'For me it suggests the consumer is not going to rebound or contribute to economic growth for the next year, as the consumer would in a traditional economic recovery.'

"Consumer spending has traditionally been the engine of the US economy, making up about two thirds of GDP. Economists fear that people may be unwilling to resume that role.

"Food stamps are distributed once a month on electronic cards that can be spent at many grocery stores. The $787bn stimulus bill added about $80 (€55, £50) to a family's monthly allowance, which now stands at an average $290.

Nothing very original about keeping the masses fed with government food. The Romans figured it out 2,000 years ago. You have to distract the mob with pane et circenses (bread and circuses). Otherwise, they vote you out of office...or burn down the capitol.

"Everything, now restrains itself and anxiously hopes for just two things: bread and circuses," wrote Juvenal.

Until next time,

Bill Bonner
for The Daily Reckoning Australia

• Bankers Take Money From the Government and Use it to Speculate
• A Paralyzing Rise in Money Supply
• Feds Can’t Cause a Genuine Recovery Simply by Throwing Money into Economy
• Baby Boomers Face Early Retirement With No Money Saved
• Feds Have Used the Correction to Increase Their Power and Add to Their Wealth

He writes that, "During the credit boom, from 1995 to 2007, the debt-to-GDP ratio rose quite a lot, to all-time record levels, eclipsing the 1920s by considerable margins. In our current system, money is created by debt: new debt creates more money. During that period the broad money supply in the US generally grew at about 8% per year, and in Australia about 10% (peaking at 23% year on year to January 2007). That extra money was spent in the real economy, thereby raising the GDP by about 1 - 2% per year. About 10 - 25 GDP points were artificially added by borrowing from the future (borrowing brings forward consumption from the future to the present)."

"Now here is the thing. With the ending of the credit bubble (and it will end eventually, despite any stimuli), the debt-to-GDP ratio will return to normal, pre-bubble levels. People won't carry abnormally large debts unless asset prices are rising quickly, so the debt-to-GDP level cannot stay permanently elevated. Reduced debt reduces the money sloshing around the economy: retiring debt destroys money, in our current system. So as the debt-to-GDP ratio returns to normal, that 10 - 25% of extra economic activity brought from the future by extra debt will now be removed from the GDP.

"The main economic issue of today is how fast the 10 - 25% reduction in GDP is going to take place. We could do it quickly in one year, with a sharp short depression. Force bad debts out into the open, those who are broke go bankrupt, and everyone starts over in a dynamic economy. Or we could drag it out indefinitely like Japan after its bubble popped in 1990, but pay the price of a moribund economy with hidden unresolved debts. Or we could go for something in-between, maybe giving back 1 - 2% of GDP per year for the next 12 years.

"So far policy makers have tried to postpone the GDP decline by simulating to keep the bubble going a bit longer. History suggests they can pretty much be relied upon to keep trying to put it off, and eventually reach for the printing press and inflation to lower the real value of debts (most voters are borrowers, not lenders) and disguise the reduction in real GDP (with enough inflation, no one will be sure).

"In the 1970s, after the smaller credit bubble of the 1960s, the formula was to run about 10% inflation from 1973 to 1979 before radically raising interest rates to bring an end to the inflation in 1980. Seven years of 10% inflation halves the real value of debts. Of course, all this will bring the nature of debt-and-fiat money into question, and the price of gold and silver relative to other items will probably increase dramatically (they went up 20-fold in the 1970s).

As Dr. Evans points out, if the gold price repeats its 1970s run, knowing which Aussie gold stocks have the lowest production costs will come in very useful. Goldnerds does a great job of helping you suss out who the low-cost producers are.

In the meantime, as one reader wrote in this week, don't forget the cash. The Aussie dollar is enjoying its moment in the sun as the most attractive currency in the G-20. The interest rate differential and rising commodity prices ad to its allure. But cash itself as part of your preparation for further economic turbulence is always a good idea. Don't forget it! Until next week...

Dan Denning
for The Daily Reckoning Australia

• Dr. Woody Bock’s Essay: The Future Evolution of the Debt-to-GDP Ratio
• Price-to-Earnings Ratio of the S&P 500 Index
• What’s the Best Way to Get Through a Debt Crisis?
• Now in Post-bubble Era as Financial Industry Bombs Out
• Rumours Swirl Over Chinese Equity Stake in BHP Billiton

This caused the federal debt clock to add a 14th digit (by breaking the $10 trillion dollar mark).

We've also got an out-of-control trade deficit. For having a 40% share of the world's economy, we certainly don't produce that many goods.

Finally, we have a credit crisis that is causing many to worry that our lenders, like China and Japan, will turn off the tap.

With this nightmarish scenario we find ourselves in, it wouldn't surprise us if the US' credit rating fell. That would cause an immediate panic in the currency markets and send the buying power of the dollar into a tailspin.

I guess what we're saying is get out of the dollar as fast as possible!

There are a couple of ways to go about this:

Currency Protection Strategy No. 1: Sell the Dollar

The easiest way to get out of the dollar is to trade in the cash you don't need to live on for another currency. You might even be able to hold other currencies in your brokerage account.

Here at Lifetime Income Report, we don't recommend currencies directly. We're here to help you find income, not to pick currencies.

Exchanging currencies is one way to protect your wealth from a potential dollar disaster. But it's not the only way...

Currency Protection Strategy No. 2: Buy Precious Metals

There's probably no safer way to protect your wealth in the world than to own gold and silver. There are many Web sites and exchanges where you can do this, as well as coin dealers that can help you make this move.

While we personally think precious metals are going to continue increasing in value, you probably shouldn't just spend all your money on gold nuggets. There's a big difference between the spot prices and what you would pay. Gold coins, for instance, are trading at a hefty premium over spot.

Currency Protection Strategy No. 3: Buy US Companies With International Exposure

Again, this shouldn't be a surprise. We have many US companies in our portfolio. After all, we are here for income, not to be global traders. But you'll probably notice that most of our US companies have plenty of international exposure.

Currency Protection Strategy No. 4: Buy American Depositary Receipts

We saved the best for last. This is the theme we have been hitting the hardest in recent months. ADRs have been a cornerstone of this newsletter. From the very first issue, we had at least two ADRs in our portfolio. This month, we are adding another.

There's a huge reason why we buy ADRs instead of the currencies themselves. Instead of just the upside of foreign currency to US dollars, we also get the benefit of fast-growing emerging markets and mega income from international players.

You see, foreign markets, especially now, have huge dividend yields.

The US is near the bottom of the list of places for income investors to look. The smart money is in companies staying out of the dollar.

Regards,

Jim Nelson
for The Daily Reckoning Australia

• What Happens to Gold When High Inflation, Excess Cash, and Falling Dollar Jolts Economy?
• Gone Fishin’ Investment Strategy
• US Dollar Declining as China’s Currency Rises
• The Problem With a Well-Diversified Portfolio
• Citizens Easily Coerced into Using Government Currency

The Simpleton's Analysis:

Consumers cut back. The economy sank.

Now, government must take action. It must help people out and take up the slack.

The downturn took $12 trillion off Americans' net worth. The feds have pledged about $12 trillion to fix the problem.

But wait, where does government get any money?

Hey, they borrow it, just like consumers did. And besides, it's ultimately the same money - taxpayers' money. So what's the big diff?

The big diff is the subject of today's Daily Reckoning.

The first big diff is that the feds don't spend your money the way you would. Private citizens spend money they don't have on things they want but don't need. The feds spend money that doesn't belong to them on things that the rightful owners don't even want.

Wait a minute. Markets were closed yesterday. With no figures to report, we should talk about something important. What's important about macroeconomics? Nothing. It's 95% claptrap. The other 5% is pure fraud.

At least as practiced by the leading macroeconomists of our time - such as Ben Bernanke, Tim Geithner and Larry Summers. It's just a show-off sport...the idea is to impress the world with some fancy data-heavy formula...win the Nobel Prize and save the world. That way, you get what all men crave...money and power. Why do men (and women) want money and power? Aww, c'mon...we explained it already. Because it improves their chances of survival and procreation. In a DNA study, for example, they found that Genghis Khan, today, has something like 6 million male descendants. Is that success or what?

The great Khans of today are no longer the steppe warriors on horseback. They're basketball players, rock 'n' roll stars, actors, and hedge fund managers...and, oh yes, occasionally - economists.

The link between economic theory and procreation is probably very weak; but that doesn't stop economists from wanting to strut around and show off. And the way for an economist to show off is to get himself appointed to the President's Council of Economic Advisors...or to the central bank...or get a professorial post at Princeton...etc. etc. This you do by producing tomes, formulae and hypotheses. And, don't forget to write a piece for The Wall Street Journal from time to time.

Another important hint: your work has to suggest that you can manipulate the business cycle, control the credit cycle, or generally make things turn out the way people want.

If you are a Daily Reckoning-type economist, you can forget fame and fortune completely. Who wants to hear from a macroeconomist who tells people to leave well enough alone...and to let the forces of natural economics sort out their own problems? No one...at least no one who is running for public office. Instead, they want someone who will promise to "Save the World."

Save the world from what? Why...from the damage done by other economists!

Two generations of American economists thought the way to bring prosperity was to encourage consumption. On the face of it, the idea is absurd. Classical economists...and Daily Reckoning commentators...laugh at the idea. You don't really get rich by consuming; you get rich by saving and investing.

But they had their charts and graphs...their theories and their jobs teaching economics at prestigious universities. Naturally, they had the feds' ears too - since every politician wants to promise more consumption. The feds favored home ownership, for example...even by people who were bad credit risks. They set up Fannie and Freddie to make it easy for people to buy houses. They even passed a law requiring banks to lend to people who weren't likely to pay them back; that was the origin of the sub-prime mortgage market! They kept interest rates low, too, so people could borrow at affordable rates. And they inflated the currency, so consumers would want to spend their money rather than save it. They also opened the world to free trade, so Americans could buy more, cheaper stuff made by foreigners. For 50 years, they cultivated consumption and let production go to seed.

And now...wouldn't you know it...Americans have over-consumed. Personal expenditures per capital rose 25% between 2003-2005. Personal debt soared to over $13 trillion...about $124,000 per household. Total debt/GDP tripled since 1980.

And now, it's payback time. The private sector has cut back. Consumers need to under-consume to make up for the over-consumption of the bubble years. Savings rates are rising. Spending is falling (see below)...

And so what do the simpletons do? Private citizens are unwilling to consume...so they push the government to consume their money for them!

Bill Bonner
for The Daily Reckoning Australia

• Where Do the Feds Get Any Money?
• Baby Boomers Face Early Retirement With No Money Saved
• Feds’ Plan is to Reflate the Economy
• Why Weren’t Economists On Top of This Thing?
• 2009 Federal Deficit Could Go As High As $2 Trillion

Thanks, Roger! I always had a hard time believing in the unbelievable "Cash for Clunkers" program, where the government astonishingly gives up to $4,500 to people who buy a new car!

This is a subject which is very interesting to me because I happen to be a guy who owned a whole series of clunker cars and trucks over the years because I couldn't justify the expense of a new vehicle/a good vehicle/a better vehicle/a vehicle that wasn't rusted/a vehicle where parts and pieces didn't fall off/a vehicle that usually started because they were completely paid for, thus costing me exactly nothing per month in principal and interest payments, and which needed only the legally-required minimum of liability insurance.

In short, the cost of driving those old cars and trucks was almost zilch, which fitted my budget perfectly, as I thought I would need the extra money for dating, but which turned out not to be the case. In fact, I found that women usually disdained both me and my cars, and they would say hurtful things like, "Hey! It stinks in here! Or is that you?" and, "At least clean out the old, moldy pizza boxes and chicken bones so I won't be more disgusted than I am just sitting next to you!" and yammer yammer yammer.

That is, however, when I learned one of the Immortal Lessons Of The Mogambo (ILOTM), which is that as long as you had a good set of brakes on your ratty old car, a case of cheap oil in the trunk, a long siphon hose and a girlfriend who had a nice car in which to ride around, you could get along pretty good!

Not "getting along" as good as the federal government, however, which can (and did) just decide on a plan to sell a couple of trillions of dollars in new debt, whereupon the Federal Reserve will create the money, like when the Fed bought $30 billion of US government securities, directly increasing the money supply by the amount of the new debt! Now THAT'S what I call "getting along pretty good!" Hahaha!

Now, suddenly, sad sack people like me, whose incomes are so low that we have to drive rusted-out, beat-up old clunkers that cost almost nothing to own or operate, that nobody would steal, which were completely paid for, for which you only needed the minimum of liability insurance, would suddenly decide to buy a very expensive, shiny new car and begin paying upwards of $400-$500 a month for the new car and the big new premiums for the required higher insurance coverage? Hmmmm!

Perhaps this is why Bloomberg reports that "Consumer spending in the US rose in July as Americans jammed auto showrooms to take advantage of the 'cash for clunkers' program while avoiding other purchases"! Yikes! Avoiding other purchases! This is NOT the kind of thing from which economic recoveries are made!

And to suddenly start paying all of that money, every month for the next seven years or so, is not to even mention the effort of always having to wash and wax the new car, which is hard, disagreeable work that you don't get paid for, which is like being punished for having a new car!

So, the only explanation that makes sense is that since people can stop paying on their house but still live in it because the bank doesn't want to evict them, people will start living in their cars and stop paying on them, too! What are the car companies going to do? Evict a family onto the street by repossessing the snazzy new car in which they are living? Hahahaha!

I say this because I read in The Financial Times that in the UK, "The number of people of working age living in a household where none of the adults work rose by 500,000 to 4.8m for the period April to June", which is a huge number of people which is now "close to one in five households", which I assume is a rough estimate of what is happening in the USA.

Instead of laughing in my usual mocking style to indicate the bizarre absurdity of an economic system where the unemployed are given financial incentives to buy new cars, let me instead merely urge you to buy gold, silver and oil with your every waking moment and your every last dime, whichever comes first, which says the same thing but with the "secret bonus feature" of letting you make a Whole Lot Of Money (WLOM) when their prices rise, rise, rise, which is good because you are going to need a WLOM when inflation in consumer prices catches up with the inflation in the money supply that will accommodate the inflation in government spending, thanks to the loathsome Federal Reserve allowing and abetting the inflations by merely creating more money, which makes buying gold, silver and oil such an obvious choice that you say, "Whee! This investing stuff is easy!"

Until next time,

The Mogambo Guru
for The Daily Reckoning Australia

• Cash for Clunkers Widely Thought to Help Revive Economy
• Obama Considers New Job Tax Credit
• Cars Could be Designed by Congress
• Gas Giants Invest AU$16.7b in Coal-Seam Gas
• GDP Number Not an All Clear for Recovery