I have long been an avid and enthusiastic reader of “We believe in gold” report (“IGWT”), as I believe countless other gold investors are, and I have always found great value in the insights, analysis and all the astute comments and insightful charts that it contains.
However, I was particularly looking forward to the IGWT Report. So much had changed, so many changes and shocks had taken place in 2020, that any conservative and rational investor would surely benefit from the ideas of Incrementum. As I expected, this turned out to be an incredibly interesting read.
Given the extreme disruption, scale of damage, and unprecedented intervention in the global economy, it may come as a shock to many reasonable investors and ordinary citizens that political leaders and the mainstream media are already celebrating the ‘great recovery. With central planners of all kinds also taking the credit. It may also seem odd, to say the least, that the stock markets continue to climb, dismissing any signs of distress coming from the real economy.
Among other important topics, the IGWT report addresses these seemingly paradoxical phenomena, while explaining not only their roots, but also what we can expect to see next. It also captures the big picture, the longer-term trend that developed even before the appearance of the covid virus: the idea of monetary climate change. This is why I turned to Ronald Stöferle, a longtime friend whose unique perspective and independent thinking I have always found very enlightening.
Ronald-Peter Stöferle, is the managing partner of SA incrementum in the Principality of Liechtenstein and co-author of the very popular “In Gold We Trust” report.
Claudio Grass (CG): Since the end of the horrible year 2020, we have seen a lot of hope and optimism expressed for 2021. This optimism has been strongly reflected in political speeches, traditional economic analyzes and the stock markets. However, as you pointed out in your last IGWT report, there are many serious risks ahead, including inflation, extreme and unprecedented levels of debt, monetary and tax abuse. How do you explain this “cognitive dissonance”? Why do so many investors and “experts” ignore these risks?
Ronald Stöferle (RS): First of all, it’s important to mention that apart from the short-term fiscal and monetary reactions to the unprecedented economic downturn of last spring, a profound change has taken place before our eyes: a monetary climate change. This monetary climate change has far-reaching implications – for monetary policy, fiscal policy and investment decisions.
After 40 years of disinflation, falling interest rates and yields, and rising stock prices, a growing proportion of policymakers and investors no longer have direct experience of an inflationary environment. In this regard, what we are seeing is not so much cognitive dissonance, but rather a lack of experience.
The generational change that is already underway brings a generation of political, economic and social leadership that never had the negative experience of severe inflation in its lifetime. It replaces a number of generations who have experienced periods of high inflation, or even hyperinflation, during their lifetimes.
CG: In recent weeks, as concerns have grown over a slight increase in official data in the United States and elsewhere, inflation has finally entered the general debate. Central bankers and politicians have rushed to reassure the public, promising that what we are experiencing is only a temporary “glitch” and that inflation is really under control. What do you think of these insurances?
RS: We cannot disagree more: current inflation developments are a structural phenomenon: monetary climate change, and not just a temporary inflation front. While deflationary factors have dominated in recent decades, they are weakening more and more and are eclipsed by inflationary dynamics in the short, medium and long term.
To name just a few of these factors:
- Extreme money growth in 2020 is expected to weaken in the current year, if only because of the base effect, but it will remain high nonetheless. The end of the ultra-accommodative monetary policy of recent years is not in sight, let alone a tightening of monetary policy. Jerome Powell, for example, does not expect an interest rate hike until 2023.
- The main central banks have implicitly come out in favor of capping bond yields. Australia has already introduced a cap, while the ECB is explicitly ensuring that member state government bond yields are not too far apart.
- The Federal Reserve has already raised its inflation target to an average inflation target (AIT). Other central banks are considering similar adjustments.
- The debt situation, especially at the sovereign level, has deteriorated markedly. Significant interest rate hikes or even a reduction in multi-billion US dollar bond purchase programs are virtually impossible.
- In the long term, the massive demographic change facing Europe in particular, but especially China, will have an inflationary effect.
This does not mean, of course, that inflation rates will rise steadily, but inflation will stabilize at a higher level.
CG: Considering the massive printing and spending operations that we have seen since the start of the Covid crisis, and given that they are still ongoing, do you think there is a way to correct this? stage to avoid an inflationary scenario and all the economic pain that this will bring? Or is the damage already irreversible?
RS: Indeed, in 2020 we saw the biggest increase in debt the world has ever seen in peacetime, yet – and this is important – debt levels were already very high before the pandemic. . The fact that a drop can overflow a barrel cannot be blamed on the drop, even if it falls from the sky completely unexpectedly, so to speak, in the form of a global pandemic. The barrel can only overflow if it is already too full.
The situation in the United States is of particular concern. Federal public debt reached an unprecedented level at the end of World War II. And we are not only living in peacetime now, but also in a time of historically low interest rates. According to recent calculations by the Congressional Budget Office (CBO), interest payments as a percentage of GDP will reach 8.6% in the United States in 2051 under the rather conservative CBO baseline scenario. This would mean that just under a third of tax revenue would have to be spent solely on servicing the debt. There is no way these interest payments can be funded from tax revenue, let alone debt repayment.
The only solution, apart from outright default, is an intensification of financial repression, i.e. pushing real yields even further into negative territory, i.e. controlling the curve. rates. An illustrative historical example is that of the United States in the 1940s. To finance the war, the Federal Reserve kept the yield on US Treasury bonds at a consistently low level. In April 1942, the Federal Reserve acceded to a request to this effect from the Treasury Department. The yield on short-term US bills was capped at 0.375%, while the yield on long-term government bonds was implicitly capped at 2.5%.
The resulting massive expansion of the money supply was bound to have an impact on the rate of inflation sooner or later. Inflation did not really explode until after the end of the war. But then, as is so often the case in history, inflation skyrocketed within a few months. In the third month of this inflation cycle, the inflation rate hit double digits. In March 1947, that is, in less than a year, it jumped to 20.1%, pushing real yields into extremely negative territory. As a result, the public debt fell sharply in a few years, dropping from 110.7% in 1945 to 62.5% in 1951. Bondholders and savers footed the bill. And things won’t be any different this time.