The Stupid Index

About a year ago, a friend called me asking what technical indicator he should use to trade Gold. I told him he should not even consider trading Gold – he should simply buy it and hold it. He was confused because Gold had been very active and because he had a trader’s mentality: “What goes up must come down, at least for a while.” The technical indicator he was looking for would be something on a Gold chart that would tell him when to go long (buy) and when to short (sell) Gold. He knew that I had taught technical analysis (chart reading) internationally for many years and figured that if anyone knew the best indicator to use, I would.

I told him bluntly that anyone who shorted Gold was looking to have his head handed to him. I said that Gold would continue to rise because of forces that were much bigger than any technical indicator, and that shorting Gold was like standing in front of a moving freight train. He seemed to hear me – for the moment. A few days later he was back on the phone with the same question. I explained again the futility of betting against Gold, and once again he seemed to understand, but he is a trader, and traders like to trade. They don’t like to buy and hold. It’s too boring for them.

So over a period of weeks, he kept bugging me for a way to know when to buy and sell Gold. I finally became a little impatient and, without really thinking about it, blurted out, “If you have to have an indicator, use the Stupid Index.” After a pause he asked, “What’s the Stupid Index? I’ve never heard of it.” Simply put, the Stupid Index is the accumulation of stupid government actions that combine to destroy our economy. Here’s the equation:

Government Spending which Exceeds Revenues = Deficits = Increased National debt = Decrease in the Value of the Dollar = Inflation = Rise in the Price of Gold

Take a few minutes to absorb it and you will see that it makes absolute sense – if you have common sense. Unfortunately, the government has brainwashed most of us to the point where common sense is not very common on this subject. They have most Americans believing that debt is good.

We home school our daughter, as do many of the people in our church. Home-schooled kids are taught to think critically, so one Sunday after the morning service I decided to try an experiment. I gathered the teens and posed this to them: “Suppose your parents called a family meeting and said, ‘Kids, we have a big problem, and we think you should know about it. We’re so deep in debt that we’re about to lose everything, including our home. We’ve maxed out all our credit cards and have even been using some credit cards to pay off others. But we think we have a solution. Uncle Lou has agreed to loan us a lot of money, and we plan to go out and spend it like crazy until we’re out of debt.’ What would you think?”

At first they didn’t want to answer, because home schooled kids are polite. But when I pushed they said, “We’d think our parents were nuts.” Then I asked, “What would you say if I told you that our government thinks the way to solve our debt problem is to borrow more money and spend like crazy?” They said, “We’d think the government was nuts.” Out of the mouths of babes.

The point is that most Americans understand that on a personal level, or in their businesses, they can’t spend more than they make forever. Eventually they have to pay the piper. There are consequences to stupidity, but the U.S. government has convinced us that it can defy the law of gravity in perpetuity. Listen to Ben Bernanke, when asked how we can afford Obama’s monstrous multi-trillion dollar “stimulus” packages: “The U.S. government has a technology called a printing press that allows it to produce as many U.S. dollars as it wishes at no cost.” Bernanke, the Chairman of the Federal Reserve System, was actually saying to the American people, “Your money is worth nothing!”

The problem is that we cannot just keep printing money. Imagine you owned a blue jeans factory, but blue jeans went out of style and people started buying khakis. You could keep on making blue jeans for a while, but if people weren’t buying them, they would start stacking up in your factory. Eventually you would have boxes of blue jeans everywhere and your workers would have no room to move and manufacture more. Production would cease.

That is what is happening with U.S. “production” of dollars. The nation can only print them when someone is willing to buy them in the form of U.S. debt instruments. Not too many years ago, 70% of U.S. debt was bought by U.S. investors and 30% was bought by foreigners, mainly foreign governments. Today most U.S. investors have gotten wise to the fact that our nation is essentially bankrupt, and the tables have turned: 70% of the debt at U.S. Treasury auctions has been being bought by foreigners. Now even that is changing.

Blue jeans are going out of style. China has been the biggest purchaser of U.S. debt over the last decade, but now it has switched to buying khakis – Gold. Japan was the second largest purchaser. Even before their earthquake disaster and the nuclear reactor leaks they had begun purchasing fewer U.S. securities. Now, with $300 billion needed to rebuild their nation, they will not only stop buying U.S. debt, they will become net sellers of our debt, further depressing prices.

In the past when there was uncertainty in the world, both governments and individuals would “flee to safety” by buying U.S. dollars. Those days are gone. Now those same seekers of safety are buying Gold, making it the most reliable barometer of sentiment regarding the U.S. and by extension, the world economy. Why does the U.S. have such an effect on the world economy?

I have just returned from an 11-day speaking tour of Europe. Everywhere I went people repeated the old maxim, “When the United States catches a cold, the world sneezes.” Remember the Great Depression? Although it was a U.S. depression, it quickly spread throughout the world so that within six months most developed nations had been impacted. The reason the United States has such a disproportionate enormous economic effect on the world is that the dollar is – at least for now – the world reserve currency. After the British Pound Sterling lost that status in 1944 the dollar took its place, making this nation the most powerful economic force the world has ever seen. That is changing as more and more nations shun the dollar in favor of Gold because of our mounting National Debt.

So why is Gold suddenly the safe haven instead of the dollar? The fact is that it has always been – people just didn’t realize it. Gold (and, to a lesser extent, Silver) has been used as money in hundreds of civilizations for thousands of years. Even after paper money was developed, it was for convenience, so that people didn’t have to carry heavy Gold coins. The paper money could always be redeemed for Gold, so it was real money. Paper money that is not backed by precious metals is a modern development. This type of currency is called fiat money. The average lifespan of a fiat currency throughout history has been 37 years. There has never been a fiat currency that has survived, and there is no reason to believe that the U.S. dollar, the Pound Sterling, or the Euro will be the first to break that record.

Fiat currency is easily manipulated by politicians and bankers to their advantage. As they print more and more currency, it becomes worth less and less – until it becomes worthless. That’s what inflation is. For the first two-thirds of our nation’s existence we had almost no inflation. The dollar remained constant in purchasing power. Then in 1933, Franklin Delano Roosevelt (FDR) took us off the Gold Standard, which disconnected the dollar from Gold. Until then every dollar had to be backed by precious metals by Federal law. After that the dollar became just another commodity, subject to the laws of supply and demand.

Because our government has printed so many trillions of dollars, the U.S. dollar has lost 96 % of its value in the last one-third of its existence.
This is why Gold appears to go up so much in value. It has increased over 400% in price in the last ten years, but its value (its purchasing power) has remained the same. The only reason the price has increased so much is that the dollar has lost so much of its purchasing power through inflation. As the dollar decreases in value, Gold increases in price.

Here’s an example of the difference between value and price. In 2010 the average price of a 3-bedroom, 2-bathroom house in the U.S. was $240,000 – about the cost of 200 ounces of Gold at $1,200 per ounce. In 1910 the average price of a 3-bedroom, 2-bathroom house in the U.S. was just $4,000 – also about the cost of 200 ounces of Gold which was $20 an ounce then, because the nation had not experienced massive inflation yet. Now, logically, is there any way the 2010 home is worth 60 times more than the 1910 home? Obviously it costs more, but is it worth more? No, of course not. Both are 3-bedroom, 2-bathroom homes on average size house lots. The only reason the 2010 house costs 60 times as much as the 1910 house is that the dollar is worth 1/60th as much.

By the same token, the 200 ounces of Gold it took to buy the 1910 home didn’t magically become worth 60 times as much 100 years later. It only cost 60 times as much for the same reason – the dollar is worth so much less. The Gold has the same value today as it did 100 years ago, because it still buys the same amount of house as it did then. Gold is worth what Gold will buy.

I have done considerable research on this subject. Over thousands of years – not just 100 – Gold has bought approximately the same amount of goods, services, food, clothing, and shelter. It is the ultimate safe store of wealth. And this is why I advised my friend not to bet against Gold. Yes, Gold will have ups and downs in the short term. But long term, anyone who looks at the Stupid Index and sees how the U.S. government (along with most western governments) continues to print and spend money backed by absolutely nothing, must realize that the dollar will continue to slide and Gold will continue to rise.