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Inflation Protection: Bitcoin, Gold And Silver

Maybe a few people think that after a couple of months we will be heading quickly back to normality and old school economic progress. I hope they are right but I think we have to park that possibility until something magical starts to happen. For now, as every day goes by the economic hole created by the coronavirus crisis is being dug deeper.

It easy to say economic numbers have jumped back mightily from lows but the reality is government deficit spending was looking pretty gigantic and Fed liquidity operations had restarted before Covid-19 appeared and now both have exploded into a whole new colossal level. To get back to huge deficits and semi-emergency Fed liquidity operations, the U.S. economy has to recover to the level where it was before the disaster struck. That is a long way off into the future and meanwhile the hole gets bigger as the giant gap between fiscal budget and tax income remains titanic.

Some will say QE and new monetary theory” will rescue the day and if it does the “‘new” new unorthodox monetary policy will be a revolutionary economic technology and the future development of the global economy will be spun up into unimaginable prosperity. It’s a long shot hope.

Deflationists predict consumers will go on strike and say that all the new money, even with no interest from banking it or even negative interest to gnaw away at it, won’t force people to spend it and there will not be high inflation. In effect, the crisis will turn the world into cash-hoarding misers. They point to QE as proof. There was lots of QE and not much inflation, which is a slightly sketchy proposition as things like real estate, health care and other stuff rocketed in price, but there has been no 70s style general inflation.

That is because the money was trapped in stocks, bonds and real estate by the system. The system worked great. However, there are limits, like 0% interest rates, overpriced real estate and stock market bubbles. This is where we are right now as the economy dangles off the side of the abyss. So will QE pumping these assets continue to work?

The answer is not only no but in addition, this is not what is being attempted. The Federal Reserve is just trying to keep the galaxy of corporate debt rotating on its axis because if that freezes, it’s all over for everyone. When people say government should let things like the GFC of 2007-2009 unravel and take its natural course they either don’t understand or care about the unimaginable human cost and don’t mind that the very same tidal wave they say should cleanse the system will destroy their lives, too. The world economy relies on a gargantuan whirling engine of credit to support the lives we are accustomed to. It is absolutely the duty of government to defend it as the financial system is the core of a country’s security.

That is not to say government can be relied upon to save the day on every occasion or not to bring about more trouble to the very system they are there to protect, but it is exactly what we pay them to do, provide our lives with security.

However, like it or not, almost all the governments of the world are trying to defend their prosperity by unprecedented financial manoeuvers, which amount to printing trainloads of new money to be applied along the lines of QE and other previous stimulus as used to turn around the credit crunch of 2007-2009.

However, this time is different, not just the causes that to me seem multiples in scale to past crisis, but in the shape of the remedy.

New money is not just going into stocks, bonds and housing, it is going straight into people’s hands. Be it checks to companies to keep them afloat, boosted unemployment payouts around the world or furloughs, this is cash going straight into spending without production let alone productivity improvements. This is “‘developing economy”-style stimulus. Print money, hand it out and see what tomorrow brings.

What tomorrow brings is new banknotes with another roster of national heroes on them and an extra column of zeros. If you reinflate the economy via “‘trickle down” you do not get runaway inflation, but if you print and hand out money to the base of society they go out and spend it, because unlike the rich, they have plenty of things they need and want.

This is where this time it is different.

Now I’m not making a for or against argument about this, I’m quite happy to imagine, right or wrong, everyone has done and will do the best they can in the circumstances. All I want is to be on the right end of the bell curve of possible outcomes for me and you.

So as I wrote here, there is at least 30% inflation baked in, with the way to unwind that setup politically impossible to deliver. No politician in their right mind (OK that’s not too limiting) would let central banks pull money out of a frail economy to avoid inflation.

So the question is how much are we going to get?

All we need to do is watch the M1/M2 figure coming out of the Fed to gauge that. We have seen in the last two weeks that the Fed has stopped its QE for now and lo and behold the stock market is fading. That’s fine, they can pump and fade, and pump and fade as much as they wish to corner the market and pin it to the level they feel best. Yet every pump will mean more inflation baked into the cake. The only way to avoid it is to slow the velocity of money and that obviates the whole point. The original QE simply stabilized a shaken confidence in the financial system and propped it up while it was reengineered and allowed to back fill.

Now the point is to keep spending power in the hands of the broad economy pumped up so they can keep spending and fuel the economy. So here we are, deer in the headlights of an oncoming blindingly shocking threat.

What are we to do?

First we need to get a handle on how much inflation we are in for. The 30% that is baked in as of end of May, is nothing to worry about. Yes, it’s no fun, but it’s not a reset. But it could get a lot worse. So:

Step 1) Watch the money supply numbers as they are released. Money growth, at least according to generally accepted economics, has a 1:1 relationship with inflation. It might be more, it might be less but let’s keep that as a rule of thumb. I predict this number will go way up. So watch that number rise.

Step 2) Watch prices in your world. If necessities aren’t going up,  then that is a great sign. In pre-runaway inflation prices go up in fits and starts, beer one day, eggs the next, broadband the week after etc. If suddenly there are fewer M&Ms in your candy packet, then that’s a red flag. If you are convinced inflation is happening, then you can look to money supply growth for a steer on how far it is going to run.

Step 3) Look at the fiscal deficit. That gap is going to be funded by monetization of government bonds into cash. It might be obfuscated but that is what will happen, so today’s deficit is tomorrow’s bank note printing. The deficit this month will be a growth in money supply soon enough.

Inflation is unlikely to explode overnight, it might take a year or more, but you will see it emerge and if you do you can act. Then you need to be in things that go up when the value of currencies go down and they need to be not bubbles already like real estate or stocks.

That is gold. That is bitcoin. That is silver. That is commodities in general but in the end copper, oil, wheat, etc. is a tough way to protect your wealth because it throws you into the den of speculative instruments that can blow up in your face if you haven’t used them before and even then can still remodel your wealth when something goes wrong.

So how bad is it going to get? Well here is a worst case and you can wind this back as much as you like. The U.K.’s government debt to GDP is said to be heading for 120%, up from 80%; it’s got to 105% in a few short weeks. 120% is credible but by no means a certainty. At the end of WW2 the British debt was about 240% of GDP. Now here comes the zinger. While the official figures state prices went up 400% between 1947 and 1975, if you bought an inflation hedge in 1947 and you’d be lucky to have the money to do so, by 1975 it had gone up roughly 20,000%. That’s 200 times not the 4 times that official figures tell you. If you want to check this yourself just get an auction catalogues of Sotheby’s for those years and compare results. As a side note the Dow Jones is up 147 times.

The things that have inflated the most are things that can’t be churned out cheaper and cheaper through new technology, so you get to see the naked effect of increased money supply on such items rather than the cushioning effect on prices brought about by leaps in technology. This cushioning is not going to have time to help soften the blow in the next two to three years but nonetheless the splurge of cash printing is here to stay.

So where to protect your wealth? If most of it is already tied up in things, you are fine. It’s really about protecting your fiat. What are the havens for cash or near cash?

1. Bitcoin (BTC)

With about 2% of new issuance mandated by the system, new Bitcoin can not flood the market. There is merely a sprinkling of it in existence in comparison with the untold trillions of fiat out there and now being birthed. For BTC to suck up as many dollars as gold does today, it would have to be 20-30 times higher in price ($200-$300,000 a coin).

2. Gold

Gold is not being mined at levels beyond ambient consumption, though a big price hike would bring out sellers and there is a lot of gold out there. Even so, gold is the “go to” inflation hedge of those folks with the most to lose—the older, pre-personal computing generation and rich people. They will go to gold and only the fleetest will look at bitcoin.

3. Silver

Silver is at a historical lows to gold. Romans had it at 10 ounces to 1 ounce of gold. The next millennia had it mainly at 20:1 to gold and in modern times its been 40:1. Now its 100:1 with gold. The thing is, silver is a by-product of a lot of other metal production and it has lost photography as a large driver of consumption, but it is still a precious metal. It is still a magnet for those hoarding resources for rainy days.

As long as you don’t think we are headed for a Mad Max future you can get exposure to these assets through proxies like stocks, exchange-traded funds and even futures and options if you want to get spicy, so the awkwardness of stacking the physicals is not necessary unless things start to go really Venezuelan.

The bottom line is even if only to diversify your wealth further in this extremely volatile times, precious metals are a must and if you can get your head around it bitcoin is a very powerful alternative.

Until the day money supply growth syncs up with GDP and budget deficits, inflation risk will grow and after a lag, inflation itself will appear.

In a world where governments claim there has been 50% inflation in the last 20 years while house prices have tripled, we are going to have to rely on our own bench marking to spot what is happening before us.

Those bright lights shining in our eyes are not going to turn out to be our friends.

This article was taken from Forbes, The London Crytpo Exchange is not responsible for the content.