Your Own Personal Inflation Rate

By John Mauldin

“Inflation is as violent as a mugger, as frightening as an armed robber, and as deadly as a hit man.”

– Ronald Reagan

“To me, a wise and humane policy is occasionally to let inflation rise even when inflation is running above target.”

– Janet Yellen

The US economy grew at a 1.5% inflation-adjusted rate in the third quarter, or so said the Bureau of Economic Analysis in its first GDP estimate last week. The number is subject to revision and will probably change. Based on recent experience, revisions could easily push it below 1% or above 2%. Since this is “real” GDP, it also depends on inflation numbers. BEA doesn't use the familiar Consumer Price Index for this purpose – CPI comes from an entirely different agency, the Bureau of Labor Statistics.  

You can get quite different real GDP growth numbers if you use the inflation figures calculated by the Dallas Federal Reserve Bank. The Dallas Fed developed something called trimmed PCE, the use of which would make real 3Q GDP growth 1.1%. Or, if we all decided that the calculation of “median CPI” performed by the Cleveland Fed was what we should use, then GDP growth was about 0.3%. (Which is of course why we don’t use it!)

And gods forbid we use the method employed in Europe for calculating inflation. Evidently, housing is not a very big deal in Europe, so it is a much smaller component of the inflation calculation; and if you can believe it, the Europeans actually use an archaic methodology for calculating housing inflation that involves the real prices of home sales, as opposed to a totally artificial guesstimate called Owner’s Equivalent Rent, used by more sophisticated countries like the United States. If we had done things the European way, inflation would have been sky-high during the last decade, and the Federal Reserve would have been forced to raise rates rather than holding them under 1% for far too long. And who knows where the inflation rate would have gone if we hadn’t pricked our little housing bubble.

This week’s letter is all about how we create the sausage that is called inflation. The Fed has a target of 2% inflation. Aren’t we almost there at +1.9% CPI? Not really, as the Fed uses something called the PCE, and it is barely at +1.3%. Which is different again from other measures of inflation. Confused? Hopefully, we can make sense of inflation today and have some fun along the way with crazy government statistics.

If, like me, you are ancient enough to remember the 1970s, you will recall that inflation was Economic Enemy #1. Presidents Gerald Ford and Jimmy Carter spent most of their terms trying to Whip Inflation Now. Their inability to tame it is one reason neither had a second term.

Fast-forward to the twenty-teens. Inflation is still top of mind, but this time it’s because we don’t have enough of it. The Federal Reserve and every other central bank on the planet now wants to enlist inflation in the fight against the present foe, deflation. I guess that instead of the buttons that Gerald Ford passed out, which read “W-I-N,” central bankers could pass out a button with “(C)BAD,” for “Central Bankers Against Deflation.”

All this points to a question: Exactly what is inflation, and how do we measure it? The correct answer is not at all obvious, though plenty of people think it’s obvious. They vigorously defend their chosen answers, too. Today we will consider some different inflation measures. None fully satisfies, but for a variety of reasons we actually do have to make the attempt to measure inflation. It is really very important to investors, savers, and people in general.

Always & Everywhere?

So what is inflation, and what causes it?

Milton Friedman famously said, “Inflation is always and everywhere a monetary phenomenon.” Those who quote the statement often omit the rest of Friedman’s sentence: “… in the sense that it cannot occur without a more rapid increase in the quantity of money than its output.”

The rather famous research paper that Saint Friedman co-wrote clearly demonstrated the rather tight linkage between money supply and inflation. Except that the time frame over which the authors analyzed money supply and inflation was a rather stable period for the velocity of money. Irving Fisher’s equation (MV = PT), developed in the early ’30s, clearly demonstrated the relationship between prices and the velocity of money. Towards the end of his life Professor Friedman began to acknowledge the importance of the velocity of money in dealing with inflation.

That said, to describe inflation we must do more than just blame central bankers for a too-loose money supply. If the Fed, BOE, BOJ, and ECB had pushbutton control over inflation, don’t you think they would have pushed the button by now? The fact that they have not indicates that their control is not as complete as we sometimes think. The fact that three of the four above-mentioned central banks are worried about inflation being too low, even though their monetary policies are ridiculously easy, indicates that something else is going on. There are clearly other parts to the inflation equation.

Definitions of inflation vary a lot, but a basic definition that I like is that inflation is an artificial increase in the money supply that leads to higher prices for goods and services.

Do rising prices cause inflation, or are they symptoms of it? I think they are symptoms, but good people disagree on the underlying cause.

By the way, we have a new article that explores this question on the Mauldin Economics website: “What is Inflation?” Check it out. It is part of a series my team is developing to answer some common economics questions.

Measuring something whose definition is cloudy can be an exercise in futility, but economists do it anyway. (Yet another reason people call economics “the dismal science.”) For practical purposes, most people look to the Consumer Price Index (CPI) and its variants for a read on inflation. The Fed prefers a different measure, the Personal Consumption Expenditure (PCE) Index, which they also use as the “GDP deflator.” We will deal with this in greater detail in a bit, but basically the Bureau of Economic Analysis calculates what we refer to as nominal GDP growth and subtracts the GDP deflator from that number to get “real GDP,” that is, inflation-adjusted GDP. When you read about GDP in the media, it is almost always real GDP. The 1.5% that was posted this week was real GDP growth, and the GDP deflator was 1.3%, so nominal GDP growth was 2.8%.

Inflation is defined and measured differently by any number of US government agencies. Add in other governments and transnational institutions that produce economic data, and we have scores of different ways to measure inflation. (As mentioned above, Europe’s approach to calculating inflation is far different from the one used here in the US. If we were to use Europe’s methodology, we would now be screaming about deflation concerns.)

Amid this cacophony, suspicions inevitably arise that someone must be cooking the books. Are they? Not really, but people have different priorities. They seek definitions that best match how they intend to use the information they assemble.  

Just as stock index investors can choose from different proxies – the S&P 500, the Russell 1000, or the NASDAQ Composite – those who want to study inflation can do so, too.
Observers like us can draw better conclusions if we know the differences among them.

The All-Consuming Price Index

The inflation measure we hear most often in the US is the Consumer Price Index. It comes from the Bureau of Labor Statistics. Officially, it is “a measure of the average change over time in the prices paid by urban consumers for a market basket of consumer goods and services.”

That sounds comprehensive – but it’s not. CPI measures what urban consumers pay for a “market basket.” It tells you nothing about the price of the same basket in a rural area. For the record, Europe attempts to measure pricing in rural areas. They calculate something called the Harmonized Index of Consumer Prices (HICP). Actually, the HICP does not fully incorporate rural consumers since it only uses rural samples for creating weighted averages; prices are often collected only in urban areas. But at least they try.

What’s in the US basket? BLS surveys 7,000 families each quarter to find out what they buy, which BLS statisticians say is a sample large enough to be reasonably accurate. From this data, BLS compiles a basket of goods and services, classified in 200 categories and subcategories. The general categories are

  • FOOD AND BEVERAGES (breakfast cereal, milk, coffee, chicken, wine, full service meals, snacks)
  • HOUSING (rent of primary residence, owners' equivalent rent, fuel oil, bedroom furniture)
  • APPAREL (men's shirts and sweaters, women's dresses, jewelry)
  • TRANSPORTATION (new vehicles, airline fares, gasoline, motor vehicle insurance)
  • MEDICAL CARE (prescription drugs and medical supplies, physicians' services, eyeglasses and eye care, hospital services)
  • RECREATION (televisions, toys, pets and pet products, sports equipment, admissions)
  • EDUCATION AND COMMUNICATION (college tuition, postage, telephone services, computer software and accessories)
  • OTHER GOODS AND SERVICES (tobacco and smoking products, haircuts and other personal services, funeral expenses).

The CPI also includes any taxes associated with purchasing these goods and services. Sales tax counts towards CPI. Income and Social Security taxes do not. So if your income taxes go up and you have less money to spend, that’s not counted as inflation. The federal government assumes that only state sales taxes are inflationary.
Just saying…

Every month, BLS employees go shopping to see how much all the items in the basket cost. Then they combine all the numbers, and presto, they have a good start on the CPI number. Well, not exactly presto; it’s actually a very complex and time-consuming process to get all the data collected. But when they’re done, you can actually drill down, if you’re truly bored, and figure out what the inflation figure might be for your state or region. There can actually be a 1% difference from state to state in inflation.

BLS also goes through a whole series of adjustments for seasonality and “hedonic quality.” Hedonic adjustment is a fancy way of saying “higher quality.” I’ve been buying work computers for years. It seems to me that I always spend around $2,000.
The computer I can buy for that amount today is far better than the computer the same $2000 bought three years ago and light years better than what I got for my money 10 or 15 years ago. Hedonics tries to account for this.

Since the amount of computing power I’m buying for my $2000 has increased exponentially over the last 15 years, the BLS assumes that the cost of a basic computer has gone down. And I guess that might be true, as there are a lot of basic computers you can buy for $500, and some pretty good ones for a little over $1000.
But I find the software demands imposed just by Microsoft, plus the other goodies it takes to actually have a computer that doesn’t make me sit around and wait, still cost about $2000.

So has my cost of living with regard to computers actually changed? Not much. But the BLS says it has when they figure CPI. I’m sure you have examples of things like that in your own life, where the quality of your purchases is much better, but you are still spending roughly the same amount of money. The last car I bought was dramatically superior to the one I purchased seven years previously. The two cars were roughly the same size and cost about the same. But the BLS would assume that the price had gone down because the quality and number of cool features went up.

CPI is actually quite an important number because it is what determines annual cost-of-living adjustments for Social Security recipients, federal employees, and assorted other groups. Many union contracts and other private transactions use it, too – even though BLS itself says CPI doesn’t measure the cost of living. This is from their CPI FAQ page:

Is the CPI a cost-of-living index?

The CPI frequently is called a cost-of-living index, but it differs in important ways from a complete cost-of-living measure. BLS has for some time used a cost-of-living framework in making practical decisions about questions that arise in constructing the CPI. A cost-of-living index is a conceptual measurement goal, however, and not a straightforward alternative to the CPI. A cost-of-living index would measure changes over time in the amount that consumers need to spend to reach a certain utility level or standard of living. Both the CPI and a cost-of-living index would reflect changes in the prices of goods and services, such as food and clothing, that are directly purchased in the marketplace; but a complete cost-of-living index would go beyond this role to also take into account changes in other governmental or environmental factors that affect consumers’ well-being. It is very difficult to determine the proper treatment of public goods, such as safety and education, and other broad concerns, such as health, water quality, and crime, that would constitute a complete cost-of-living framework.

Measuring the actual “cost of living” is too hard even for BLS, apparently. Everyone uses CPI as the next best thing.

This reality brings us to an important point. Whenever I mention inflation, people leap to tell me that it’s far worse than CPI says. They may be right, too, in their own case. We often forget that CPI measures an average set of expenses for 330 million people. Very few of us have household spending patterns that match the average. Older people spend more on prescription drugs. Wealthy people spend more on leisure and travel. People in the suburbs and rural areas spend more on gasoline. College students spend more on education. Vegetarians spend nothing on meat but more on vegetables; so not only do they not buy steak, they are not substituting chicken for steak if the price of steak gets high, which is another hedonic adjustment the BLS makes. The list of variations and exceptions goes on forever.

As with any average, CPI will rarely match the individual cases that make up the average. Your own personal inflation rate will be higher or lower, depending how you spend your money.

If your think your cost of living has gone up more than the miniscule amounts CPI has increased in recent years, you are probably right. This doesn’t make CPI wrong or useless. It’s a statistic. Like all statistics, it has limitations, and I can almost guarantee you that we will be measuring inflation in significantly different ways in 20 to 30 years.

Is “Real” Inflation Higher?

My Mauldin Economics colleague Tony Sagami had an excellent Connecting the Dots article earlier this month on the latest inflation reports. He pointed out that basic grocery staples are rising in price, as shown by the Wisconsin Farm Bureau’s semiannual “Marketbasket” survey.

The group’s survey showed prices for the basic grocery list rising 2.7% in the last year. The full breakdown since the spring survey is especially interesting.

The six-month changes in prices range from a 72% jump in eggs to a 13% drop in milk. Several other items had double-digit percentage changes.

I show this list to illustrate how differently we can perceive inflation. A hearty-breakfast devotee who ate eggs (up 72%) and toast (+25%) had a significantly different breakfast inflation experience from someone who liked their daily Cheerios (down 6%) and milk (down 13%).

Extend those differences to other goods and services and you can begin to see why “average” inflation never precisely reflects our own individual situations. We all spend our money differently.

Alternative Inflation

Many people have constructed alternative inflation measures to correct what they perceive as flawed and/or manipulated government statistics. One of the best known is Shadow Stats. The publisher, John Williams (who is a really nice guy), believes the 1990s introduction of hedonic adjustments artificially depressed CPI. There have also been other changes to how CPI is calculated that Williams takes issue with.

The problem is that using the 1990 methodology shows inflation to be almost 4% higher than the CPI has it today, and using 1980s methodology shows it to be better than 7% higher. I have a great deal of trouble believing those levels could be real, because long-term bond investors tend to be fairly sophisticated and none of them would buy a 30-year bond at 3% if inflation was running 5–6% a year. The Federal Reserve can greatly influence the shorter end of the curve, but at the longer end the curve is still market-driven.

Further, there are many economists with a specialization in inflation statistics who feel that CPI actually overstates current inflation.

Another alternative inflation measure is MIT’s Billion Price Project. They measure price inflation in 22 world economies by gathering prices online every day. This has the potential to be much more precise than CPI; but over time, it has actually tracked CPI closely, as the following graph shows.

The ShadowStats alternative CPI also highly correlates to official CPI, perhaps because it is simply the same number with an upward boost to remove the hedonic and other adjustments Williams believes are unnecessary or bogus.

Again, I respect what Shadow Stats tries to do, but I disagree with it. Changes in the US economy have been affecting statistics for many decades. The transition from an industrial economy to an information-based economy sped up the pace of change. The quality of electronic devices, among other technological marvels, improved far faster than the quality of eggs or lawnmowers. Hedonic adjustment tries to account for this disparity. Is it perfect? No, but pretending the economy hasn’t changed is not a good option, either.

We all need to let go of the fantasy that economic statistics are perfect. They’re never perfect. Each monthly CPI number is a snapshot of a moving target. Of course, it’s blurry. Of course, you don’t see the other activity that occurred outside the frame. Of course, the quality of the picture depends on your camera, the light conditions, and many other factors.

None of this means the photographers are dishonest and showing us fakes. It more likely means we expect too much from our stats. But despite all their limitations, those numbers can help us if we use them properly.

There are a number of very sincere economists and statisticians who get together often and debate the very arcane topics surrounding inflation. They are very earnest and are really trying to get it right. And the reality is that the various numbers we get are pretty much the best we can do. The way we calculate inflation and GDP changes all the time. Earlier this year, the BEA announced that they are going to start using seasonality in figuring GDP, trying to get rid of what has become a noticeable first-quarter downward pressure on GDP. I’m not certain that a cosmetic change to GDP will actually improve the quality of our economic data, but it looks like we’re going to get it anyway.

Knowing that our best economists make it up as they go along is not comforting, of course. There are those of us who would like to believe that somewhere a little man is sitting behind a curtain, pulling levers to make the economy move. Then we could understand the economy simply by understanding the little man.

The reality is that there is no one behind the curtain. There’s not even a curtain. There is a planet full of people with all manner of resources and desires. The myriad ways they interact with each other add up to a global economy.

Inflation, Fed-Style

Finally, we need to talk about the Fed’s preferred measure of inflation, the Personal Consumption Expenditures Price Index. PCE is broader than CPI and comes from an entirely different agency, the Bureau of Economic Analysis. The PCE uses a different weighting methodology and includes a wider range of payments. Unlike the CPI, the PCE is not based on a fixed basket of goods and services; instead, the PCE’s “basket” changes from year to year with people’s consumption and investment patterns.

Medical expenses are one prime difference between the two indexes. CPI includes only the consumer’s out-of-pocket expenses, i.e. copayments and deductibles. The PCE adds in the full cost of medical care, including the part that your employer, insurer, or Medicare pays on your behalf.

Another difference is that CPI changes the weighting of its market basket only every two years. PCE, on the other hand, uses “chained weighting” that adjusts more quickly. This may be one reason the Fed prefers it to CPI.

Generally, CPI will probably be closer to what consumers experience in their own household spending, while PCE better reflects price changes over the entire economy. This in theory makes PCE more useful for the Fed’s purposes. Interestingly, the difference between core PCE and core CPI (the index without energy and food) is now at its widest in history – 0.6%.

At the beginning of the letter I speculated about whether recent GDP growth was 1.5% or 1.1%, depending on the inflation index used as the GDP deflator. I should also point out that the average change from the first estimate of GDP until the number is “final” 60 days later is 0.6%, either up or down. The reality is that any number to the right of the decimal in either GDP or CPI is an approximation. Some people think it is evidence of a sense of humor in economists that they actually talk with a straight face about tenths of a percent of GDP.

Atlanta, Miami, And Home

I will be flying to Atlanta Wednesday afternoon for a Galectin Therapeutics board meeting. Friday morning I fly on to Miami, where I will be at the T3 Financial Festival. There will be a lot of friends there, so I’m looking forward to a good time, and Todd Harrison knows how to throw a great party. My good friend Jeff Saut of Raymond James will be there, and theoretically we are to debate. I think it will be more of a conversation, because debating Jeff is just a way to look foolish. Better to have a little give and take and perhaps learn something.

I am not quite sure how it happened and got past my editors, but my new granddaughter is not going to be in the NICU for three years, as I wrote last week in Outside the Box, but just three weeks. Thanks to everyone who wrote me about their experiences with even smaller premature babies turning out just fine. That was very kind of you.

It is Halloween, and I’m being told I need to get out. I’m not exactly sure what to wear, but perhaps something that makes me look really scary, like a politician or an economist. Going as a hedge fund trader is so last year. I’m getting pictures from my kids of the grandkids going out trick-or-treating, which is a great deal of fun.

And with that I think I’ll hit the send button. The week in front of me is going to be busy, and I’m hoping to get the first chapter of The Age of Transformation actually written. Nothing like being ambitious, but if this book is going to come out next spring then I absolutely must get on my pony and ride. Have a great week!

Your not too worried about inflation today analyst,

John Mauldin

jueves, noviembre 05, 2015


Don't Trust Gold Here

By: Bob Loukas  


Just when the short-term prospects for Gold were looking good, precious metals reversed lower this past week. It could be that Gold was surprised by last week's FOMC minutes, which signaled a potential December rate hike. When the minutes were released, Gold dropped immediately, and it's been straight downhill for the metals since.

Part of the decline was expected, since the Daily Cycle was well into the timing band for the next Cycle Low. But the decline was greater than the setup warranted. While the release of the FOMC minutes was definitely the catalyst, the decline was greater than expected given our previous bullish expectations. By this I mean that Gold fell below the bull flag that had developed. Until mid-week, Gold had been consolidating nicely in preparation for a move higher in a new Daily Cycle. But the move below $1,120 over an extended 13 day decline means that Gold is no longer in a bullish Cycle consolidation, and that it's possibly the start of a larger degree decline.

Analyses often walk a fine line between bullish and bearish perspectives, especially for an asset like Gold, which is still under the influence of a four year bear market. Given the crosscurrents in such a volatile asset, I have no qualms in flipping between bullish and bearish expectations if conditions warrant.

Gold's current weakness should be a serious concern for the bulls, and has completely changed my shorter term expectations. There is no doubt that a Daily Cycle Low is imminent, and that a rally of at least $30-$40 should follow. But the move out of that Daily Cycle Low (DCL) is likely to be capped, and I would expect $50 to be the maximum gain we should expect. One caveat: price is unpredictable, and my view of limited price gains is based on the assumption that a Left Translated Daily Cycle is coming.

Gold Daily Cycle The Financial Tap 2015
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The driver of Daily Cycle behavior is generally the weekly Investor Cycle. And from a weekly perspective, speculative traders are now net Long Gold by a fairly significant amount. It's not anywhere near a record level, but is certainly equivalent to past Investor Cycle topping points.

In terms of speculative Silver traders however, the level of net Longs is at a record level.

Considering the eagerness of many investors to be Long, Silver buyers have done a relatively poor job of driving price higher. This suggests that there is still a healthy selling appetite among Longs, who seem eager to offload their metal.

Unfortunately, net Long positions at near-peak levels are never an encouraging development. Taken further, whenever COT reports show these types of levels this deep in the Investor Cycle (week 15), the IC has often either already topped, or it will top in a week or two.

10-31 Silver COT
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The COT report is a major red flag for the Gold Cycle. And, although it's not as good a predictor as COT reports, another indicator we need to review is the GDX, the Miners. Throughout the current bear market, the performance of GDX in each Investor Cycle rally has been a good predictor of when Gold was ready to roll over. It has been a consistent indicator for eight Investor Cycles, and we typically saw the Miners peak at (or before) week 10 of each IC after a 25% + gain.

In the current Investor Cycle, GDX has moved 31% higher in 10 weeks, mirroring the performance in a typical IC during the four year bear market. It's a small sample size, and GDX has shown a wide range of results, so we only want to use this as secondary, supporting evidence. But as is clear from the below chart, whenever the Miners have sold off hard late in an IC, it was always past the peak of the Cycle.

Gold Cycle topped via GDX
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In last week's report, I highlighted that caution was warranted because an aging Investor Cycle (IC) in a continuing bear market must be respected. Even so, as long as Gold remained above the 10 week moving average and acted bullishly, I was prepared to maintain a positive attitude toward it. But this week was far from bullish. For Gold to struggle to the point that it lost the 10 week moving average shows that the IC has tipped over too far, and that the pull of the looming Investor Cycle Low (ICL) is likely to quickly overwhelm the coming Daily Cycle rally.

It's important to remember that by week 15 of a Gold Investor Cycle, the odds of a continuation rally have typically really diminished. Now that Gold has closed below the 10 week moving average, and with a bear market in force, the only valid outlook is to expect Gold to go into a tailspin and to ultimately collapse into the next ICL. We should see one more attempt to rally begin almost immediately, but there should be no second chances for Gold from this point forward.

Gold weekly Investor Cycle - The Financial Tap
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Trading Strategy Ideas

Long term holders will want to capitalize on the opportunity to Short Gold, and that opportunity is rapidly approaching. I doubt it will arrive before next week, but I expect that within 10 trading days, we should have gold back towards $1,160 and ready to turn lower for a larger degree decline.

Very nimble position\swing traders could go Long gold with a Swing Low (reversal) when one arrives, since the Daily Cycle is well past due for a rally. But be warned that a gold rally is likely to be short lived. The better opportunity is to be ready to short an impressive five-seven day rally, because once the next Daily Cycle tops, it would have a solid two to three weeks of declines ahead.

The Next Wave

Afghans Flee To Europe in Droves

By Susanne Koelbl

 Photo Gallery: Europe or Death

As the situation in Afghanistan becomes ever more chaotic, an increasing number of Afghans are heading towards Europe. But as one family's story shows, the trip often ends in tragedy.

Redwan Eharai's journey ends where it began: in Afghanistan, in the city of Herat. Eharai, a 15-year-old boy, is carrying the heavy body of his mother Sima up the hill to the cemetery, together with neighbors and relatives. He and his mother had set out from Afghanistan together, headed for Germany. Now he is standing at her grave.

She died at the border between Iran and Turkey, struck in the head by a bullet fired by an Iranian police officer.

Hundreds of people have now come to say their goodbyes. When she was still alive and urgently needed help, no one was there for her, says Eharai, as he looks into his mother's grave. Despite his stubble, which makes him look almost like a grown man, he currently seems more like a child.

His family is poor -- Eharai's father died of a brain tumor five years ago, and Sima, his 43-year-old mother, suffered from depression. She had trouble sleeping and cried a lot. In Afghanistan, being a widow without an income, and with three children, is like being buried alive, says Eharai -- you have no rights at all.

Instead, Sima Eharai decided to leave Afghanistan and go to Germany with three of her children, Adnan, Erfan and Redwan. Sanaz, her eldest daughter, was already living in Frankfurt. Her mother, determined that she would have a better life, had arranged for her to marry a German of Afghan descent. "I can't continue living like this," Sima Eharai said when she called her daughter the last time. "Either I make it to you or I'll follow my husband into death."

Convergence of Crises

Many Afghans dream of a better life in Europe. About 80,000 applied for asylum in Europe in the first half of 2015 alone, with most of them going to Germany. They are the second-largest group of refugees and migrants in Germany after Syrians.

At the moment, people are flooding into Herat Province from all over Afghanistan. From there, they drive across the border to Iran or travel farther south to cross into Iran along a less well-guarded section of the border. About 3,000 Afghans are now coming into Iran every day illegally. From there, they continue to Turkey, where they board boats to the Greek islands of Lesbos or Kos and then cross the Balkans to Northern Europe.

This sudden rise in the number of refugees raises fundamental questions for the West, about the success of the almost 14 years of military intervention and reconstruction in Afghanistan, about Western mistakes and about how many schools, hospitals, universities and police academies are needed for the country to be stabilized and made livable for its people. These are painful subjects, especially in light of the billions of euros that were spent on Afghanistan, and the thousands of Western soldiers who died for the freedom of the Afghan people.

This year, a number of factors are coinciding to worsen the situation on the ground: The rigged 2014 presidential election, the ensuing political stalemate and the formation of a coalition, pushed through by the Americans, between two men who were both determined to be president. The result is a dysfunctional government: new president and former World Bank manager Ashraf Ghani, and his rival, Tajik-Pashtun doctor Abdullah Abdullah, are engaged in power struggles while the Taliban, al-Qaida and, more recently, the so-called Islamic State (IS) are gaining control over growing parts of the country.

President Ghani had promised his fellow Afghans effective leadership, jobs and a tough anti-corruption campaign. But none of this materialized. On the contrary, since the international ISAF troops withdrew in late 2014, the amount of money flowing into the country has declined sharply. It's not just the West that has lost interest in Afghanistan: Most Afghans have given up all hope that their country will ever develop in the right direction.

Tens of thousands of translators, construction workers, drivers, bodyguards, cleaning personnel and cooks who worked for the military and international NGOs are now unemployed. Rents and real estate skyrocketed after 2001, when the market was inflated by the wartime economy, but now they have abruptly plunged. The country is in a dramatic downward economic spiral. On Sept. 28, when the Taliban captured the strategically significant provincial city of Kunduz in northern Afghanistan, many people who had held out started packing their bags.

With its many parks, old boulevards and a historic district, Herat, the hometown of Redwan Eharai and his mother Sima, still shows signs of its important past as a trading hub. The main trade routes from the Middle East to Central Asia once crossed in Herat. In the medieval 15th century, when war and chaos prevailed in Europe, Herat was the center of civilization for academics and intellectuals from around the world.

The city is still a center today, but for migrants and refugees who use it as a base from which to begin their journey to the West. The Iranian border is only about 100 kilometers (62 miles) away, making Herat a base for human-traffickers.

A Gathering Point for Refugees

In downtown Herat, the streets extend at 90-degree angles from the Char Su bazaar to the four old city gates. Alongside the vendors selling fresh pomegranates, grapes and freshly squeezed sugarcane juice, there are piles of furniture, sinks, TV sets and shelves -- household goods being sold at bargain prices by Afghans eager to leave the country. A real estate agent says that he has six houses in excellent locations for sale, including palaces for $100,000 (€91,000). The same homes would have cost $200,000 only a few months ago, he says -- but no one is buying.

Finding a human-trafficker near the bazaar is easy. A travel agency, for instance, offers more than just bus trips to Nimruz and flights to Iran, Dubai and Turkey: "Bring a passport and $18,000, and we'll take care of the rest," says a friendly looking man with a gray beard. For $20,000, the agency will provide forged documents and a direct flight to Europe.

But many Afghans simply set out on their own, often with little more in their pockets than a bus ticket costing the equivalent of €12. They include young men in jeans, as well as families with children, standing in the early morning hours in front of a long fence at the Islam Qala border crossing into Iran. Unlike those who cross the border illegally along thinly guarded sections, these migrants have the €100 needed for an Iranian visa. Many have even organized and paid for the expensive trip to Europe, Canada or the United States. Traffickers are waiting for them in Mashhad or Tehran to take them to Turkey. Their belongings are piled high on the roofs of taxis.

The Eharais didn't have that much money.

Redwan Eharai says that his mother's decision to leave Afghanistan was a spontaneous one.

They were watching a TV report about Syrian families crossing the Mediterranean on boats that stated that Germany was accepting refugees. "We understood that there is a future in Germany," he says. They had also heard that German Chancellor Angela Merkel was allowing refugees stuck in Hungary to enter Germany. That was when Sima decided to leave.

Eharai refuses to accept that Afghans are not Syrians and Herat is not Aleppo. There is war in Afghanistan, too, he says, and his family had nothing to eat.

It happened when they were already in Iran, he says, walking along a path that led into Turkey, surrounded by thick undergrowth. The group of 32 people included 13 children. The more affluent ones rode horses. The traffickers would hit Sima and her children with sticks whenever they were so exhausted that they had to stop walking. They had been traveling for 16 hours, and the sun had already set.

Suddenly Sima collapsed. At first, Eharai thought that his mother had tripped and fallen. But when he placed his hands around her head, they were soaked with her blood. He hadn't even heard the shot that struck her.

The border guards came and shone their flashlights in the migrants' faces. Eharai says that he begged the men to take his dying mother to a hospital. He screamed for help, but it was useless.

The four border guards were armed with AK-47 assault rifles. "They punched me in the stomach until I collapsed, and then they threw my mother's lifeless body into the back of their Toyota pickup," he says. According to Eharai, the guards laughed and shouted that this time they had only shot only one "dirty Afghan," whereas they had killed eight the week before.

The relationship between Iranians and Afghans is tense. The crisis in Afghanistan has already driven millions of refugees into Iran, and the Iranians deport hundreds of illegal Afghan immigrants every day.

The Smugglers' Offers

The safety of a given route depends on the trafficker's experience, says one human-smuggler who introduces himself as "Rassoul." He is 31 and sits on a long cushion in a friend's guestroom in Herat, wearing a light-green shirt and a plaid turban. His face is gaunt, but his brown eyes are alert.

Those who do well in his business have the right contacts, on both sides of the border, says Rassoul.

He means that border guards are often open to bribery. But, he adds, Iran recently tightened its controls, and some of his old contacts were replaced. "Still, there is always a way," says Rassoul. "It's all a question of price."

Human-trafficking is illegal in Afghanistan, but Rassoul is a respected man in Herat. There is almost no legal way for Afghans to travel to the West, which means that anyone could end up requiring Rassoul's services. It's a booming business.

For $30,000, he boasts, he can fly any customer to Europe in first class. Even the visa will be real, although he doesn't explain how this is possible. The so-called Touchdown package is currently the most popular among his customers, says Rassoul. For a price of $15,000, he guarantees entry into Europe, into a country in the Schengen area, putting the migrant on a direct path to his or her desired country.

The trip begins in Herat, says Rassoul, explaining that he always accompanies his customers himself.

They never have much luggage, he adds, just a light backpack. Rassoul owns a pickup. He travels the longest distances by car, but there are also strenuous walks through the desert of Baluchestan, a region in the border region where Pakistan, Iran and Afghanistan meet. The treks often last for days, he says.

From Herat, the journey continues to the Pakistani city of Quetta, across the desert from Nimruz to Iran, on into Sistan and Balochistan Province, to Qom, a center of Shiite teaching, and finally to Turkey. There the migrants board a boat headed for Greece.

Although he has often been shot at, he has never lost a customer, says Rassoul, and he is making more money than ever before. He's proud of both things.
A customer from Maimana, a city in Faryab Province in the north, is sitting next to Rassoul. He is 18 and has booked the Touchdown package, which will take him to London. His parents went into a lot of debt to pay for his trip, he says. Rassoul will accompany him to Tehran tonight, and from there one of his contacts will take the young man to Istanbul.

Rassoul explains to the boy from Maimana that he should allow the police to arrest him when he reaches England. Afghans are never sent back, he says, and the young customer doesn't question Rassoul's claim for a moment.

The boy shrugs his shoulders. "We have nothing but war and violence here, and no work," he says. "I want to leave." Of the 16 million Afghans who are fit for work, only about 3 million have jobs.

Rassoul's network includes 20 traffickers, who send each other customers. They have only met by telephone. The network stretches from Central Asia to the Middle East and on to Europe.

Each of the traffickers is independent, says Rassoul, and there is no central boss to manage everything.

'You Are the First Ones We Will Kill'

The exodus has intensified since the Taliban attack on Kunduz. Minorities suffered the most under Taliban rule, and Herat has a large community of Shiite Tajiks, who comprise about 15 percent of the population. A man who prefers to remain anonymous says that he fears he will be "butchered" if the Taliban seizes control of the city. "You are the first ones we will kill," IS sympathizers wrote on the wall of a Shiite mosque.

IS combat groups have established themselves in Afghanistan alongside the Taliban, and are even trying to challenge the Taliban's leadership in some areas. The IS groups are usually offshoots of the Taliban with support from foreigners, including Arabs and Chechens. They previously lived in the Pakistani border regions of northern Waziristan but were recently driven out by the Pakistani army, and are now regrouping in Afghanistan.

This is another reason many Shiites are now selling their old houses in the city: Wealthy business owners and former employees of international NGOs are also leaving, headed for Turkey or Dubai.

The Shiites are worried that they could be kidnapped if they stay, either for money or revenge.

"Fifty percent of the people I know want to get out," says Naheed Farid, 31, a member of parliament from Herat who studied in the United States. Many of her friends are intellectuals with university degrees and international connections. They are part of a young elite that ought to be leading the country into the future. The poor are being left behind -- people like Redwan, the son of the now deceased Sima Eharai.

After their failed attempt to escape, the border police locked Redwan and his brothers into a prison cell. The children spent seven days there before Iran deported them to Afghanistan, sending the body of Sima Eharai back to Herat with them.

Redwan Eharai is now sitting in the basement of his uncle's house in Herat. His mother had already emptied out the family's small apartment and sold all their belongings, including the bed, the kitchen appliances, the TV and the bicycle. A street dealer paid her $1,200 for all the household goods. The trafficker wanted $2,000, so Eharai borrowed the difference from relatives.

He has had headaches since his mother's death, says Redwan, and now he has trouble concentrating.

Little Adnan barely moves, while eight-year-old Erfan won't stop crying. The uncle says that the brothers can only stay there until the funeral is over, and that they'll have to leave after that. He is unable to care for them, he says, adding that he has eight children of his own.

Redwan left school when he was 10 around the time his father became severely ill and died.

After the family's savings had been depleted by his father's expensive treatments, Redwan had to earn money for the family. He worked as a painter, earning €3 a day. The family had bread with tea for breakfast and potatoes for lunch, but meat was too expensive. They paid €100 a month in rent for a small, two-room apartment on the outskirts of the city.

Redwan was a strong boy, and somehow he managed to feed the family after his father's death.

He fought for his family's future, and now he has lost everything.

Standing in the hilltop cemetery, surrounded by his relatives, he breaks down and weeps, overcome
 by the enormity of his pain.

Translated from the German by Christopher Sultan


Take it easy

Economies are too weak for normal monetary policy to resume

THIS was supposed to be the year when monetary policy started to get back to normal. Seven years after Lehman Brothers collapsed, central banks were expected to edge away from a policy of near-zero interest rates. But now, with the year almost over, the Federal Reserve has yet to push up rates while other rich-world central banks are focused more on easing than on tightening.

Sweden’s Riksbank extended its quantitative easing (QE) programme on October 28th. Mario Draghi, the president of the European Central Bank, has indicated that further easing may come in December, probably by adjusting the pace, scale or type of asset purchases in its QE regime. More than two-fifths of economists polled by Bloomberg forecast that the Bank of Japan would pick up the pace of its monetary easing on October 30th, after The Economist went to press. Even if policy is kept unchanged, the bank plans to expand the money supply at an annual rate of ¥80 trillion ($664 billion).

The picture in the emerging markets is more mixed. Capital Economics calculates that, on balance, slightly more emerging central banks have been tightening than cutting. But China cut interest rates on October 23rd, the sixth reduction in the last year. India unveiled a half-percentage-point rate cut in late September.

The attitude of central banks reflects their worries about economic growth. The IMF just lowered its global growth forecast to 3.1% for 2015, with cuts applying to both advanced and developing economies. Inflation is also low in Europe, North America and Asia, giving central banks more freedom to be supportive.

The benign interest-rate outlook is one reason why equities have recovered from the wobbles they suffered in August and September. As of October 28th, the S&P 500 index had regained nearly all the ground lost in the previous two months (see chart). Futures markets indicate that investors do not expect the first Fed hike until next year, although that may change after the Fed’s open market committee removed a previous reference to global economic risks in its October statement.

The other main reason why markets have rallied is a more sanguine view of the Chinese economy.

Official figures for third-quarter GDP showed growth of 6.9% and, although some have doubts about the data, it was noticeable that the IMF did not downgrade its forecast for Chinese growth in its latest global outlook.

But the optimism should not be taken too far. Other market indicators still suggest investors are worried about sluggish growth and deflation. Bloomberg’s commodity index is down by more than a quarter over the past 12 months. The yield on the ten-year Treasury bond is hovering around 2%, not a level that suggests investors expect normal levels of economic growth to return any time soon.

American companies are also struggling to maintain the robust profit growth they have shown since 2009. While third-quarter profits for S&P 500 companies are marginally ahead of expectations (as is usually the case), they are still likely to be 4% lower than they were a year ago; sales will probably fall by 3%.

It is simply hard to keep pushing up profits when global GDP growth is subdued. The number of American companies citing a slowing global economy as affecting their profits and revenues is more than 50% higher than a year ago, according to Thomson Reuters. The news is no better in Europe, where third-quarter profits are expected to be down 5.4% on the year, with revenues dropping 7.9%.

So the equity markets are caught in something of an awkward equilibrium. Positive economic news will make the outlook for profits more rosy but will also mean that the Fed is more likely to push up rates. And bad economic news may mean a respite from monetary tightening but is still bad news.

This explains the rather bumpy ride that stockmarkets have had in 2015. The lack of profit growth makes it hard for markets to surge ahead (the MSCI world index is back around its end-2014 level). But without higher interest rates, or evidence that big economies are slipping into outright recession, share prices are unlikely to collapse.

Equities may be following the path of government bonds, which have been stuck in a narrow trading range for a while. Central banks may have helped stockmarkets in an era of low growth by making other assets less attractive; the result was a positive shift in share valuations. But slow growth hasn’t gone away. For equity investors, it was better to travel hopefully than to arrive.

jueves, noviembre 05, 2015



Barron's Take

How Low Can Gold Go?

Higher U.S. rates, weak Chinese demand and India’s moves to curb gold imports has some analysts forecasting further downside.

By Isabella Zhong 

Photographer: Chris Ratcliffe/Bloomberg

Diwali, or the festival of lights, usually brings a gold rush to India as households splurge on jewelry and artifacts crafted from the precious metal. But, this year, gold hasn’t sparkled ahead of next week’s five-day holiday.

The yellow metal has been hurt by shifting expectations for the first hike in U.S. interest rates in a decade. The more hawkish than expected tone following last week’s meeting of the Federal Open Market Committee suggested a December tightening of monetary policy may be on the cards. Higher interest rates loom as bad news for the non-yielding metal as they make cash and fixed income investments look more appealing than gold. The gold price also tends to move in the opposite direction as the U.S. dollar, which would strength on higher interest rates.

The sharp downturn in the gold price, coupled with a stronger Australian dollar, has snapped a rally in Australian gold miners Northern Star Resources and Evolution Mining. Northern Star has tumbled 18% since the beginning of last week, while Evolution is down 14%. And there could be more pain ahead for the gold miners if analyst forecasts for the precious metal prove true.

Nomura analyst Yen Voo expects the gold price to weaken from current levels around $1,140 an ounce to $1,115 an ounce in the first half of 2016 before recovering to above $1,200 an ounce in the second half.

Besides the pressures of the looming Fed interest rate hike, Voo struggles to see fundamental support for the yellow metal. “Chinese gold demand and inflation are absent for a more sustained gold rally,” notes the analyst.

A return to $1,115 an ounce may be bad news for Northern Star and Evolution. When gold was fetching that price in mid-September, Northern Star shares had been trading at around 21% below its current level of AUD2.56 a share, while Evolution had been at 14% below its current AUD1.39 a share. The 80% rally in Northern Star shares since the start of the year to the end of September enticed BlackRock to lighten its position in early October, with the U.S. fund manager cutting its stake to 10.8% from 12.4%. However, both miners continue to record strong production growth, underpinned by a string of acquisitions, and are enjoying healthy margins as the Australian dollar and oil prices remain weak.

But there’s the possibility that gold could get beaten down to lower levels, and at a faster pace.

Nomura’s Voo is skeptical the Fed will hike rates in December and sees a raise in March as more likely. That’s a view shared by ReOrient strategist Uwe Parpart, who argues that “the FOMC suggested at its October meeting that it will tighten in December, only to be smacked with a new round of data indicating that the Fed’s belief in an improving US economy is (once again) delusional.” However, the market now sees a 50% chance of a December hike, up from 35% a week ago. And in the event that the U.S. central bank does hike in December then the negative sentiment likely to envelop financial markets, on top of gold’s not-so-good fundamentals, could drag the yellow metal to below $1,100 an ounce, notes Voo.

The demand side of the gold equation does not look bright. India, the world’s largest gold consumer, is set to launch two schemes to reduce the country’s reliance on gold imports: a sovereign bond scheme will allow Indians to invest their gold into bonds yielding between 2% and 3%, while a gold monetization scheme will allow gold owners to convert their holdings into credit in a bank account. Meanwhile, rural income growth has been hurt by weak monsoon rains this year, which could weigh on gold spending and makes a repeat of the surge in demand during last year’s Diwali festival less likely.
Source: FactSet
India’s northern neighbor China, the world’s second largest gold consumer, is suffering from an economic slowdown that’s expected to weaken demand for the yellow metal. Beijing last week lowered its GDP growth target for the 13th Five Year Plan to 6.5%, down from the current 7%. Nomura is forecasting even slower growth of 5.8% in 2016. Besides the economic drag, jewelers in China have increased retail mark-ups on gold products, which may weigh on sales volumes and hurt gold producers. A weaker Chinese yuan also suppresses consumer appetite for gold by making it more expensive in local currency terms. Nomura’s Voo estimates that a 5% fall in the value of the yuan against the greenback would reduce China’s gold demand by 4% in 2016.

The supply side of the gold equation looks a little more promising. The volume of mined gold is expected to decrease at a 3% year-on-year pace as the quality of global reserves falls. Weak gold prices have also crimped gold recycling activity. However, inventory volumes remain excessive in Asia, as indicated by the discount to spot gold prices in the region, and the problem looks especially pronounced in India, which appears to have front-loaded gold imports in August. Also hurting prices is the risk that Venezuela sells 25%, or around 80 tonnes, of its gold reserves to cover maturing debt, warns Nomura’s Voo.

Gold could regain some of its luster over the longer term, with prices expected to eventually return to $1,300 an ounce at the end of 2017. There’s support from the shrinking of newly mined supply and the decline in reserve grades. Greater clarity about the trajectory of U.S. rate hikes could also help, while demand from China is expected to improve on rising investments in gold as wealth shifts from yuan deposits to the precious metal as a store of value against declining interest rates and a weaker currency.

jueves, noviembre 05, 2015



The Krugman Con

By: Peter Diekmeyer

Paul Krugman
Gold's biggest enemy is a brilliant Nobel Prize winning economist, university professor and columnist for the New York Times. Sadly, he is also a con man.

Last week Paul Krugman wrote a column for the New York Times in which he called Republican Paul Ryan, a "con man." The Republican chairman of the House Ways and Means Committee's sins, Krugman, a Nobel prize winning economist and a professor at City University of New York, argues, stem from a lack of detail in his budget plans, regarding proposed spending cuts and closed tax loopholes.

Calling a politician a con man is a bit like telling a pig farmer that he stinks. It's practically part of the job description.

The claim is particularly rich, coming from Krugman, who in recent years has emerged as the de facto leader of a group of mainstream economists, whose advocacy of near unlimited government spending, borrowing and, most recently, money printing, will go down as one of history's greatest cons.

Understanding how, what I call the "Krugman Con," has been unfolding is crucial for precious metals advocates, because one of its core elements was the attempted elimination of the vital role played by gold. Indeed, the gold's recent resurgence on the world stage is an indication that the con, is nearing its closing stages.

Tax and spend. Borrow and spend. Print and spend.

Krugman's sins, which relate to his advocacy of distortions of policies suggested by John Maynard Keynes, are arguably far worse than Ryan's. As a university professor, Krugman has an obligation to be bound by a modicum of intellectual and academic rigor, rigor which is sadly absent in the advice he gives.

In his landmark work "The General Theory of Employment, Interest and Money," Keynes recommended that governments, through their spending, ought to play a stabilizing role in the economy. That's particularly true, wrote Keynes, during recessions, when governments should run deficits to increase demand, but also during good times, when they should run surpluses to pay down debts and cool things off.

However over the years, "Keynesian" academics, as they have become known, led by Krugman, have advocated increased government spending all the time, for almost any justification. Governments of all stripes, - most recently the Abe administration in Japan, - eager for academic cover for policies that justified massive government spending now (to get them elected), followed by tightness later (preferably after they had left power), embraced Krugman, and his acolytes, with open arms.

This process, - which is worth following, for those who want an understanding as to the increased importance of hard assets, - evolved in three stages.

The 1960s and 1970s: Tax and spend

Original Keynesian economics as described by Keynes in "The General Theory..." had some economic merit, if for no other reason than as an untried academic theory, particularly for a western world starving for solutions after the depression of the 1930s. However when put in practice the policies led to non-stop growth in government spending - and to a need, by politicians for academics to justify those spending increases.

However by the mid-to-late 1960s and early 1970s, "tax and spend" governments led by all parties, fattened by program such as Johnson's "Great Society" had reached the limits on what the public was willing to pay in taxes. One important milestone was reached when a healthcare program proposed by US Republican president Richard Nixon, which was remarkably similar in many respects to Obamacare, was stopped dead in its tracks.

The 1980s and 1990s: borrow and spend

Stymied by populations that were taxed to the limit, governments, like any interest group, searched in vain for ways to continue to fatten their paychecks and raise funds to distribute to their backers. The answer came almost by accident during the early 1980s when the Reagan administration, in a failed bid to reduce the size of government, led a massive series of tax cuts, without cutting spending, in fact it ended up increasing it. Governments the world over quickly figured out that they could sell or maintain almost any spending program to the public - as long as they did not raise taxes, but rather borrowed the money instead.

During the 1990s, the Clinton administration, under the guidance of his Deputy Treasury Secretary (and later Treasury Secretary) Larry Summers, and goaded on by Krugman and other Keynesians, brought a new twist to "borrow and spend" policies, by, for the lack of a better term "fudging the books."

The Clinton administration, which began running into limits as to how much the US government could borrow, began simply not recording its liabilities, particularly with respect to public pensions, and healthcare benefits promised to future generations. On paper the Clinton administration thus ran balanced budgets for many of the years it was in office.

However in reality, the trillions of dollars in "unfunded liabilities," that it incurred, dwarfed all of the previous administration's déficits.

The 2000s and 2010s: print and spend

Unable to raise taxes further, and tapped out by limits as to their ability to increase net borrowings, governments searched in vain for new solutions. Many give credit (or blame) to the then-Federal Reserve chairman Alan Greenspan, who temporarily solved the problem by bringing interest rates down to near zero in real terms, following the implosion in the early 1990s. This enabled governments to finance even more debt.

However there is at least a theoretical case to be made that Greenspan, a hard money and gold advocate, had no choice. As Greenspan later explained: political realities had made the growth in the sloppy economic policies advocated by Krugman and others, increasingly unstoppable - even by a Fed chairman.

Ben Bernanke, then a Federal Reserve governor, likely spoke for many on the Federal Open Market Committee, when, in a landmark speech to the National Economists Club in Washington in 2002, he raised the possibility of governments raining money from helicopters on the economy.

While "helicopter money," was justifiably mocked, when Bernanke succeeded Greenspan as Fed chairman, he initiated the latest, and most innovative stage in the Krugman Con. To make up for the fact that people increasingly would not lend to governments, at the derisive interest rates they were paying, Bernanke suggested that governments finance their extra spending, by printing the extra money.

He didn't say it that way of course. Like all of the major steps in the Krugman Con, Bernanke's money printing is known by a technical sounding term that the public doesn't understand, in this case: "debt monetization."

Krugman knows better

It should be noted that when I refer to Krugman as a "Con Man," I am not implying that he is doing anything illegal. Indeed his theories, notably his distortion of Keynesian economics, are followed by most of the mainstream economics profession, who, as the late Murray Rothbard, once noted, are dependent on advocacy of such policies for their jobs.

What makes Krugman a "con," is the fact that he understands what has happened in places where policies similar those he is advocating were zealously implemented (Zimbabwe, pre-revolutionary France and Weimer Germany) and thus he knows better. It's just that his salary, clients and speaking fees, depend on him saying the opposite.

Don't fault him though. The money is good. Next week Krugman will be speaking at an event here in Montreal. The ticket price is $200. That's more than I paid to watch U2.

Not bad for an economist. Or a con man.

Money—How to Get It and Keep It

by Doug Casey

Even if you are already wealthy, some thought on this topic is worthwhile. What would you do if some act of God or of government, a catastrophic lawsuit, or a really serious misjudgment took you back to square one? One thing about a real depression is that everybody loses. As Richard Russell has quipped, the winners are those who lose the least. As far as I'm concerned, the Greater Depression is looming, not just another cyclical downturn. You may find that although you're far ahead of your neighbors (you own precious metals, you've diversified internationally, and you don't believe much of what you hear from official sources), you're still not as prepared as you'd like.

I think a good plan would be to approach the problem in four steps: Liquidate, Consolidate, Create, and Speculate.

Step 1: Liquidate

Chances are high that you have too much "stuff." Your garage, basement, and attic are so full of possessions that you may be renting a storage unit for the overflow. That stuff is costing you money in storage fees, in depreciation, and in the weight of psychological baggage. It's limiting your options… It's weighing you down. Get rid of it.

Right now, it has a market value. Perhaps to a friend you can call. Or to a neighbor who might buy it if you have a yard sale. Or to some of the millions of people on eBay. A year from now, when we're out of the eye of the financial hurricane and back into the storm, it will likely have much less value.

But right now, there's a market. Even if most people are no longer wearing those "He who dies with the most toys, wins" T-shirts that were popular at the height of the boom, there are still buyers. But the general standard of living is dropping, and mass psychology is changing. In a year or two, you may find there aren't any bids and the psychology of the country has changed radically. People will be desperate for cash, and they'll all be cleaning out their storage units (partly because they can't afford the rent on them).

Liquidate whatever you don't actually need – clothes, furniture, tools, cars, bikes, collections, electronics, properties, you name it. You'll be able to rebuy something like it, or better and cheaper. Just as important, you'll feel light and mobile, unburdened by a bunch of possessions that own you and weigh you down. It will definitely improve your psychology, which is critical to the next stage. And the cash it generates will be helpful for the rest of the plan.

Step 2: Consolidate

Take stock of your assets. After Step 1, that should be a lot easier because you'll have less junk but a lot more cash. You'll already feel more in control and empowered. And definitely richer.

But your main assets aren't money or things. It's the knowledge, skills, and connections you possess. Take stock of them. What do you know? What can you do? Whom do you know? Make lists and think about these things, with an eye to maximizing their value.

If you're light on knowledge, skills, and connections, then do something about it – although if you're reading this, you probably already live life in a way that builds all of those assets daily.

But there's always room for improvement. Think the Count of Monte Cristo. Or if you're not so classically oriented, think Sarah Connor after she met the Terminator.

Part of this process is to look at what you're now doing. The chances are excellent there's a better and more profitable allocation of your time. Even successful rock stars tend to reinvent themselves every few years. You don't want to get stale. That leads to Step 3.

Step 3: Create

Remember, the essence of becoming wealthy is to produce more than you consume and save the difference. But it's hard to maximize value working for somebody else. And when you're given a job, it can be taken away for any number of reasons. There is cause, and there is effect. You don't want to be the effect of somebody else's cause. You want to be the cause for everything in your life. That implies working for yourself. At least turn your present employer into a partner or an associate.

Perhaps go through the Yellow Pages (while they still exist), page by page, line by line, and see what you can provide as a service for the businesses advertising there. I promise you, they're all looking for someone to come along, kiss their world, and make it better. Think like an entrepreneur at all times.

Remember that there is an infinite desire for goods and services on the part of the 6 billion other people on the planet. Find out how you can give them what they want, and the money will roll in.

I've said many times that I believe you could airdrop me naked and penniless into the heart of the Congo, and by the time I emerged, I'd not just have survived, I'd come out wealthy. And believe me, I don't think wealth is by any means the most important thing in life; it's important but should be considered a convenience, not an imperative. Not that I'd want to be airdropped into the Congo at the moment; I've gotten a bit lazy, I have other interests, and you can't be everywhere and do everything.

But now that I think about it, if I wanted to make a real fortune today from a small base, I might prefer Africa to any other continent. As an educated Westerner, you can quickly meet anyone on an equal level much more easily than you could at home. If you have a reason that makes any sense at all, you can be in the office of the president within a week. These countries are all plagued with incompetence and corruption, they need everything, and they're full of untapped resources and talent.

This all inures to the great advantage of a foreign entrepreneur.

Here's an idea. For your next vacation, book a trip to Cameroon, Togo, Gabon, Zimbabwe, or Angola.

Go through the Yellow Pages in the capital and meet everybody who is anybody. The chances are good you'll come up with several deals in the first week alone. If you can't find the time, send your kid who's just out of school and idiotically thinks he may want to misallocate time and money getting an MBA. This idea alone should be worth a million dollars. Or as I would prefer to think of it, 700 ounces of gold.

But to an economist, money, like all goods, has "declining marginal utility." In other words, the more of something you have, the less you need or want the next unit. Of course, more is always better, but it's unseemly, even degrading, to pursue anything beyond a certain point.

When I was in Toronto a couple months ago, I spoke with a Chinese friend who, I believe, is worth at least $250 million. As he waxed philosophic, he allowed that he didn't feel he really needed more than 30 extra-large to live exactly as he liked. I agreed, in that meals in the best restaurants, as well as the finest clothes, cars, and houses only cost so much. And it's well within a conservative return on that capital, without ever even touching the principal. Is it worth it to get more? Perhaps not, unless your interests in the rest of life are entirely too narrow. The point of money is to allow you freedom, not make you crazy with getting more.

That doesn't rule out speculation as an avocation, however. More – everything else being equal – is still better.

Step 4: Speculate

You've got money. Now, you have to keep it and make it grow, because staying in the same place amounts to going backwards. That's partially because the world at large will continue getting wealthier, even as the dollars you own lose value.

In the past, I've discussed why a lot of old rules for success are actually going to prove counterproductive over the next few years. Saving with dollars will be foolish as they dry up and blow away. Investing according to classic rules will be very tricky in a radically changing economy.

Most people will try to outrun inflation by trading or gambling. The markets, which are the natural friend of productive people, will perversely prove very destructive to them in the years to come.

You'll know when the final bottom in the stock market has come: The average guy won't want to hear about the stock market, if he even remembers it exists. And if he does, he'll want it abolished.

Instead of becoming a victim of inflation and other politically caused distortions in the marketplace, you can profit from these things. Rational speculation is the optimum approach.

What to Do if You're Already Wealthy?

Perhaps, however, you've already covered all the financial bases to your satisfaction. Quo vadis? I have several thoughts on the meaning of wealth. You may find some of them of value as prices of everything fluctuate radically in the years ahead.

First, recognize that wealth is a high moral good. Don't feel guilty about having it or about wanting more.

If you've already accumulated and deployed enough capital to allow you to jump off the golden treadmill, congratulations: Chances are high that you are an exceptional human being. I say that because the moral value of being wealthy is underrated. I don't mean that in a Calvinistic way, in that Calvin believed Yahweh rewarded the righteous by making them rich. But I do believe that productive people – people who work hard to provide goods and services for others – definitely tend to be wealthier than unproductive people. They deserve to be. And since we don't live in a malevolent universe, people generally get what they deserve. So yes, wealth is definitely one indicator of moral excellence.

Sure, some wealthy people got that way by lying, cheating, and stealing. But they're exceptions.

It's much easier to become wealthy if (in addition to having virtues like diligence, competence, and judgment) you are known to be truthful and honest. Those who automatically think ill of the rich are, at best, paranoid fools. Put it this way: Rich people may lack some virtues, but they definitely have at least a few that made them rich. Poor people, on the other hand, will certainly lack some virtues, and they'll definitely have some vices that kept them poor.

I'm a fan of some aspects of George Gurdjieff, the late-19th to mid-20th century Russian mystic, who was also a merchant adventurer at some points in his colorful life. He said that anyone who successfully employed at least 20 other people must be considered at least partially enlightened and a type of guru. That viewpoint always resonated with me. Self-made wealthy people may not be saints, mystics, intellectuals, or even especially thoughtful or moral. But they've proven they're better than the average bear in at least one important way: They can create and conserve wealth. And they've thereby eased everyone's path to further accomplishments.

Second, figure out your purpose in having money.

Sure, money makes life easier. And it's nice how it enables you to assist people you like with material things. But I strongly suggest that you not take too short a view on this matter. Accelerating advances in medical science are not only lengthening human life expectancy, but new developments now in the works have the potential to vastly improve your capability and health as well.

Is it possible to live to age 200, with all the wealth, knowledge, and wisdom that implies, while maintaining the body of a 30-year-old? Not yet. But the prospect is on the horizon. It will, however, be available only to those who can afford it. Ray Kurzweil makes a case that the Singularity is near, and I buy his reasoning. It would be tragic if anyone frittered away his wealth, thinking he wouldn't live very long, and then succumbed to a self-fulfilling prophecy, not because of medical difficulties, but because of financial difficulties.

Third, don't give your money to charity.

Entirely apart from showing a lack of both imagination and foresight, it's a complete waste of good money, pure and simple. Contrary to popular opinion, it rarely does any good; it often does great harm. The whole concept of charitable giving is corrupt and desperately in need of a complete rethinking.

Fourth, if you do care about posterity (who knows, you might be reincarnated…), and on the chance you don't make it to the Singularity, carefully consider how to dispose of your estate.

For one thing, there's no reason to automatically leave anything to your children – unless they deserve it. The notion that someone should inherit your money just because he shares your genes is flawed and thoughtless. The example of Marcus Aurelius leaving the Roman Empire to his worthless son, Commodus, should be instructive. Wealth should be left to someone who is most capable of increasing it – at least if you want to benefit humanity in general. And yes, I'm quite aware that humanity in general may deserve absolutely nothing.

At a minimum, consider that memes are far more important than genes. It's wiser, therefore, to leave your wealth only to individuals (related to you or not) who will carry forth values you hold dear and are worthy of the wealth. If nothing else, make sure you disinherit the government.

Also consider that dividing wealth dissipates it and generally makes it less useful. If you have $1 million, you could leave $1,000 to each of 1,000 people. But, apart from the fact that it's unlikely anyone knows 1,000 worthy people, that much money is only enough for a modest vacation or a few baubles. The larger the pool of capital, the more ways it can be used, the more creative power it has, and the more likely it will be conserved and used creatively. I favor the Roman system, in which one could adopt children of any age – but always after you could see what their character was. You might want to do that if your own kids don't make the grade.

The Bottom Line

If you want serious money, you have to get serious about money. You need to understand these fundamentals and never forget them. Don't let all the garbage reported in the financial media you read, see, or hear confuse you about what money really is. Don't consume more than you make: sabe!

Don't spend: invest!