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Thoughts on the US Dollar, Analysis of the USDX Long Term, Follow up on the Gold Blog



June 17, 2009 – Comments (32)

The analysis of the US Dollar is one that I wanted to tackle in my mammoth gold blog: Market Thoughts and Analysis: The Gold Blog. Gold/Silver/GSMs (and a little Oil for good measure). However, the last post was really big and this topic is big enough to warrant its own post.

But First, A Discussion with the Deflationists that I Debate With

Hey guys :). Let me say that out of the whole inflation / deflation debate, the only thing I know is that I am not 100% right. I guarantee it. There is no way I am calling the trends and the timing completely accurately. Moreover, I do realize that there are both inflationary and deflationary pressures acting in the economy all the time. I have read Mauldin, Prechter, Mish, Roubini, and Krugman. I am not going into this inflationary stance blindly. I can see the very salient points that are being from the deflation camp.

It is just that when I read all of the evidence, on both sides, I think the inflationary argument makes the most sense for the long term. (IMO).

That does not mean that I am discounting the deflation argument!. Like I said, some of the points being made are very valid. However, I think many deflationists (Mauldin and Prechter definitely do not, but Krugman does ... a lot) combine monetary deflation and price deflation and lump it into one single category (a huge no-no if you are trying to understand the true cause and effects). But even the ones that do not confuse monteary policy and price supply/demand effects, some are improperly accounting for monetary assets, what is and is not one, and using improper monetary supply indicators to look at the problem.

Now those were some bold words. But like I said. This is just my opinion. And opinions are like a**holes, everybody has one :). So I again acknowledge that I am not getting this 100% right, and look forward to good and civil debates about this issue. This issues has been debated a lot in the past on Caps (and I have been taking part in those for over a year), and will continue to do so in the future.

It is that important.

On to the Analysis

There are so many issues to consider that are all interrelated when talking about the economy / inflation-deflation / the US Dollar / US Treasury / Federal Reserve. And there is no way I will be able to do it justice in one post. But here is a list of some of the issues.

- Money and Monetary Assets
- Money Supply
- Monetary Inflation / Deflation
- Price Inflation / Deflation (NOT the same thing!)
- Velocity of Money
- The US Treasury
- The Federal Reserve
- Policy Decisions and speeches made by Chairman Bernanke
- US Treasury Bonds
- Treasury and Market Rates (Bond Yields)
- Quantitative Easing
- Debt Held by Foreign Governments
- Foreign Currencies
- Intentional Currency Devaluation and Currency Devaluation Wars
- .... !! (lots more)

Wow, that is a jam-packed list of some heaving-hitting topics. There is no way I will be able to cover all of these in one blog post. Here is a recommend reading list (highly recommended), and I will try to hit a few highlights and engage in a bit of discussion before I put up some charts at the end.

- Steve Saville: Market Value, Money and Credit - Good layman's description of TMS and its importance
- Quantitative Easing Explained  - Just a good funny article on QE
- Steve Saville: Why We are Gold Bulls - A good inflationary summary
- Steve Saville: Money Confusion and Inflation/Deflation - Good discussion as to what consitutes money and why some monetary discussions are invalid
- Zeal: Big Inflation Coming 2 - Good discussion of inflation and deflation.
- Mises: TMS - Good Definition of True Money Supply (TMS).
- Saville: Inflations New Upward Trend - Misuse of the Velocity of Money concept
- John Mauldin: The Endgame - Very good deflation arguments.

Okay, I will will trying to hit the highlight and put my argument in the smallest nutshell I can manage.

.... continued in the Comments section ....

32 Comments – Post Your Own

#1) On June 17, 2009 at 9:30 PM, binve (< 20) wrote:

Why I Think We Currently have Monetary Inflation and will get Price Inflation both Long Term and in the Relative Short Term..

An argument that I hear from a lot of deflationists is the "Pushing on the String" argument, which boils down to the fact that the Fed can print 700 septillion dollars if it wants to, but it can't make us borrow them. Another way to think about this would be: What if Bernanke literally printed all that money and put it all in one big pile stacked up next to his desk in his office and didn't hand it out to anybody, would that be inflationary.

The answer to both situations is: no, it would not be inflationary .... ahhh, but if it were only that simple.

I going to let you in on secret that will make this whole argument clearer and put things into perspective. Ready?.

The US Government is broke.

To be clear, the term is technically insolvent. We are running massively enormous annual budget deficits, on top of which we have more that 10 trillion in Federal Debt, and if you add in unfunded entitlements the problem is even worse.

On top of that the economy is in the toilet, Tax revenues are down and governement is growing, not shrinking.

So what is the plan: Quantitative Easing.

And the way this will work out is a lot more insidious (and I might even venture sinister) that most of us think about this issue on first pass. From my last blog post:

"...What all of these posts talk about and discuss is what I believe (again, this is all simply my opinion, nobody has a crystal ball on this one) to be the biggest threat to our “money”, and that is inflation.

I believe that every signal that the Fed has given, both in rhetoric and action, is that it will try to spur the economy / avoid economic collapse by monetizing the debt of the Federal Government and all the Financials that made bad mortgage bets. The newest euphemism for this activity is Quantitative Easing. And this will be an unprecedented transfer of private debt to public debt (largest in the history of mankind). Bond rates are already beginning to signal the inflationary hazard of this policy DESPITE the fact the one of the main goals of QE was to put a floor under bond prices (put a cap on bond rates)..."

So here is the QE plan, Part A: The government needs to service the debt (pay the interest owed) on Treasury bond, otherwise it will lose its credit rating (.... uhhhh.... yeah) and then truly be bankrupt. In order to do this, the Fed is buying more Treasury bonds from, yep, the Treasury so that it can a) service the debt on the outstanding treasuries and b) allow the government to continue to run budget defecits. Basically the Fed is issuing new money (out of thin air) to buy new debt to service old debt and to allow the governement to run further into debt. And no, you did not read that incorrectly.

QE plan, Part B: Monetary Inflation. Remember in Part A I talked about creating money out of thin air?.

".Now I said the US Dollar is backed only by debt. Remember above that the US Dollar (or more specifically the US money supply) derives it value from the fact that it is a claim on the future tax of US citizens. This is a finite amount (the maximum of course being 100% tax on all citizens). But the point to realize that this is conceptually finite. On the other hand, the Federal Reserve has no limit as to the amount of fiat dollars it can produce.

Increasing divisions (more fiat dollars created out of thin-air) of a finite resource (the future taxes the US money supply is claiming against) make each division, both old and new, by definition less valuable.

This is the definition of monetary inflation.

Who does monetary inflation benefit the most? Debt holding nations. The old debt is denominated in the same amount of dollars. The size of the debt that needs to be serviced does not grow simply because the money supply grows. So the Treasury can service the old debt with newly devalued (or inflated) dollars, which we new have a lot more of.

QE plan, Part C (they nasty one with lots of unintended consequences): . This aspect of the plan is to buy back toxic assets off of Bank/Financial balance sheets. Like I said in part A, the plan is to keep long term bond rates low, to keep general market interest rates low, so that (hopefully) consumers can refinance (borrow) their way out of their current troubles and spur consumer spending .... Ta-da! ... (uh, okay). The what this ends up being is the largest transfer of private to public debt in the history of mankind, all in the name of more borrowing! *Moral hazard alert*

But lets not even talk about the moral hazards, (becuase I can't do anything about it), lets follow the money and see if we can guess some outcomes.

So, like I said at the beginning of this thing, a common deflation argument is "the Fed can't push on a string". And for consumer spending this is true, The Fed can buy up every single bank asset and monetize every public and private debts, and that does not mean that consumers will borrow.

But here's the kicker, they no longer need to.

The Fed clearing the balance sheets of Finanicals AND growing the money supply (which banks access) to *unprecedented* (quite literally) levels, has created a new avenue for this monetary potential energy to leak out of the reactor core of the finanical system.

Banks and Financials are not stupid. They may be unscrupulous, they may bend the rules, some may even be crooked, but one thing they are not is stupid.

They see the writing on the wall. The Fed is monetizing debt left and right, and bonds are FAILING! We are in a bond bubble. If you don't think so .... well, there is very little point to this whole coversation then. I believe it is self evident that we have a long term Treaury bubble that has been building for more than 50 years (to clarify, the rising value of Treasuries was not bad when we had legitamite GDP to back it up, but the rise the last 15 years has simply been becuase the US Dollar is a reserve currency, and NOT due to fundamental economic growth). Rates are rising from a panic low (panic high in bond prices) and now they have only one way to go: up.

To anybody who watches these things, the message is clear: risk is rising.

Monetary Inflation is already baked in based on the borrowing spree of the Treasury. That train is nearly unstoppable now, the new debt - service old debt - run budget defecit triangle is fully self-perpetuating now. Only with a huge slash in the size of government and tightening of all spending will stop that cycle now. But raise your hand if you think that is happening.

To outperfom the debilitating effects of monetary inflation, based on the signals from the bond market, financials will find ways to outperform for themselves, their shareholders and bondholders. And that means taking risk, that means speculation, and I believe that ultimately means real assets. I think this newly freed up credit will find its way into hedge funds and will ultimately find its way into the main beneficiary of monetary inflation. Real assets, because they cannot be inflated. I think commodities will be by far the biggest beneficiaries.

Everything that the Fed is doing guarantees, promotes even, the taking of risk. And all of this risk taking and speculation into real assets leads to, yep, price inflation.

As always this is my take, my opinion, and my $0.02.    

What this means for the US Dollar

Honestly? I think the US Dollar is going to tank.

I think Treasury bond rates are going to rise, and they are going to rise substantially. As rates rise because the Fed is unable to keep a floor under bond prices (because I QE is going to fail big time and "providing confidence and stability to the bond market"), Foreign debt holders are going to dump bonds. Foreign governments are not stupid too. The see a rising Treasury Rate on the Worlds Reserve Currency as a sign of increased risk, and they too will put their money into real assets. So when the Foreign govenments dump bonds, the Fed has to buy EVEN MORE to try to put a floor under bond prices. This is a positive feedback loop. Both the Input is positive and the Gain is positive, and the on/off swtich is stuck in the ON position.

Here is another thought that I stand behind:

"An argument that I have heard going around is that the US will be in a relatively stronger position as the currency devaluation wars goes down. The US is not the only economy in trouble. Far from it in fact. Nearly all Central Banks will be engage in a currency devaluation war. The main purpose of which is to make the debt servicing burden easier for all of the interest paid on Treasuries held by foreign governments. Whether the US comes out on “top” in this “strongest among the weak” battle (which I remain skeptical of, considering the size of the US debt the size of the ongoing QE programs) is irrelevant from my point of view.

Because having a currency that is “stronger” than your competitors while you are devaluing your own, still puts your currency in a weaker position relative to a currency that is not being devalued.

And what currency would that be? Gold.

This is the ultimate reason why I believe that gold is one of the few legitimate bull markets. Because I believe the US and most other Central Banks will try to inflate their way out of this mess. The US Dollar will undergo a huge devaluation in both real and nominal terms. And gold utility and true value comes during times of economic crisis (which I believe we will have a lot more of) and during times of weak currency confidence."

I think all of this risk and speculation not only hurts the Dollar, but is a huge confidence blow to the strength of the worlds reserve currency. I think the US Dollar Index or most USD Forex pairs will trend down over the next serveral years and gold (especially gold) and commodites will trend up.


Sorry, I am running out of steam again. Here are charts on the True Money Supply (TMS). Notice not only is it at is highest level ever, but recently the growth is accelerating!! Also is the US Dollar Index on 3 time scales. This says bearish to me on the long and medium scales. Short could go either way, I think down, but I can see a case being made for up. Either way, I think any up move is a relatively short lived correction.

The trend is down. I don't like it. I HATE IT in fact. But I do recognize that things are they way they are, and not what I want them to be.

So with all of this, I am sharing my thoughts. I am not trying to convince or to lecture. This is a post for the sake of discussion. I have been doing some serious thinking on this issue for a very long time, and I think I have a (hopefully) valuable perspective on it. Hopefully this adds value to your thinking (as GV would say) :)





Of course, as always, all of this is just my $0.02 .... :)


Please feel free to comment, disagree, discuss. And even if you don’t agree with my conclusions, please rec if you appreciate the effort or the explanation of my thoughts, even if you use them draw different conclusions than mine.

The binv standard disclaimer: This in no way constitutes investing advice. All of these opinions are my own and I am simply sharing them. I am not trying to convince anybody to do anything with their money. I am simply offering up ideas for the sake of discussion. As always, everybody is expected to do their own due diligence and to ulimately be comfortable with their own investing decisions.


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#2) On June 17, 2009 at 9:49 PM, russiangambit (29.49) wrote:

> Basically the Fed is issuing new money (out of thin air) to buy new debt to service old debt and to allow the governement to run further into debt.

Yeah, that about sums it up.

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#3) On June 17, 2009 at 10:02 PM, russiangambit (29.49) wrote:

Binv, I was in complete agreement with what you outline until about10 days ago.  Then I perceived a change. As oil rose to $70 and is getting higher, mortgage rates up a whole 1% I think FED has realized that they have been checked , so to speak. They realzied that they cannot continue buying Treasuries because that will drive commodities and interest rates further. And that means very very unhapy population and a checkmate. Population cares much more about the price of gas than about Citi collapsing.

That means, no more bailout money to anybody (see California), and it means finding real buyers for those Treasury bonds. And if they have to drag and threaten the investment banks to buy those Treasuries, they will.

They simply cannot allow oil go up any further. That means to me sell off in equities as the real money  (not newly  FED created digits on a PC screen) will have to go into bonds.

That plays into delationary camp.

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#4) On June 17, 2009 at 10:46 PM, vmh104 (< 20) wrote:

Thanks for the clarity.... have you considered bundling your thoughts into something other than a blog.... a book perhaps

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#5) On June 17, 2009 at 10:50 PM, portefeuille (99.56) wrote:

the krugman point of view: 1,2

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#6) On June 17, 2009 at 10:55 PM, jatt22 (55.32) wrote:

 good points  u  share  man ( regardless agreeing or disagreeing ) very informational  post  as always . thank's an appreciate  ur  work .

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#7) On June 18, 2009 at 12:21 AM, binve (< 20) wrote:

russiangambit, Thanks man. But I think the Feds hands were tied as soon as the launched QE salvo #1. The are going to have to keep up with QE as long as they can print money out of thin air (i.e. as long as the Fed exists) just to buy Treasuries in order to *attempt* to keep a floor under prices. The mass Treasury exodus has already begun. But to the point you are making directly, they might not buy more balance sheet debt or even municipality debt. But they have already bought a lot and the TMS curves above are already showing the inflationary "potential energy" in the system. I think the ball has already started rolling on the Plan C scenario I describe above (that's my take anyways). But I think oil will go up and down to purely supply/demand pressures, and some early speculation. I think the pullback we are seeing right now is not due to monetary phenomenon at all. We went from $147 to $35 are were historically oversold and needed a good technical bounce. I think we are going to get a pullback and consolidation for several months in oil (again not due to deflationary pressures, just speculation and supply/demand). But the TMS growth will make it into commodites eventually and in the next year, maybe 2, I think we will start to see a huge run up in oil due to the unprecedented montary inflation that has been occuring the last 8 months. (Montary Inflation usually takes ~2 years to find its way into asset prices, historically). Just my opinion of course. Thanks for the comments and the thoughts!.

vmh104, Thanks! LOL! A book? Yeah, I bet people will be lining up at the bookstores to buy "binv's thoughts" :) But thank you.

portefeuille, Uh, ... hmmm. Do you ever read any of my responses to you? I left you a pretty detailed response on this post when you left the same links there. Here is my response to you from that post:

"...I disagree with nearly all of Krugmans's positions. He is a smart guy and sometimes makes very salient points, but I fully disagree with him on this issue. Here is a classic government econmist type thinking in a similar vein to your link above:

.Here is an excerpt:

"...First things first. It’s important to realize that there’s no hint of inflationary pressures in the economy right now. Consumer prices are lower now than they were a year ago, and wage increases have stalled in the face of high unemployment. Deflation, not inflation, is the clear and present danger.

So if prices aren’t rising, why the inflation worries? Some claim that the Federal Reserve is printing lots of money, which must be inflationary, while others claim that budget deficits will eventually force the U.S. government to inflate away its debt.."

Are you kidding me?!?. This is the same BS the government economists do all the time. They talk about monetary inflation and price inflation as if it were the same thing. IT IS NOT!!. So by definition, if we raise the Monetary base and the CPI doesn't rise, then we are in a liquidity trap and we can raise the base all we want! Right? NO!!

This is either an excpetionally poor grasp on the facts or it is an intentional obfuscation of the truth. The most salient rebuttals to this logic are here Steve Saville: Money Confusion and Inflation/Deflation and here Steve Saville: Market Value, Money and Credit

... Also, I don't think you are part of the Obama admininstration :) LOL! But I do think that we do not see eye-to-eye on these issues, and that's okay :) I always enjoy the discussion! ..."

Thanks for the comment :)

jatt22, Thank You, I appreciate that! Yes, I am definitely not looking for 100% agreement. Just sharing my thoughts and spurring discussion :).

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#8) On June 18, 2009 at 12:21 AM, anchak (99.86) wrote:

Good post - this one I am personally unclear. Longer term - rising rates seems to be the only way.

We shall see - old Japanese saying!

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#9) On June 18, 2009 at 12:30 AM, binve (< 20) wrote:

anchak, AC: Yeah, it really is a tough call, and one I struggled with for a long time (you remember the long conversations that you, Tasty and myself all had last year and early this year). But when I look at the balance of evidence, I think this is the most likely outcome. *Not the inevitable outcome*, just the most likely.

Yes, we shall see :), and as far as the old Chinese curse goes "we are living in interesting times" :)

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#10) On June 18, 2009 at 12:31 AM, portefeuille (99.56) wrote:

I just wanted to add the links because you mention Krugman and your first chart could be seen in the context of the first two charts of link 2 (and the text preceding and following those). I do read your responses (and usually in their entirety ...). Nice post!

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#11) On June 18, 2009 at 12:35 AM, binve (< 20) wrote:

portefeuille, Gotcha man, no worries then :). Thanks! I appreciate that!

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#12) On June 18, 2009 at 12:55 AM, Harold71 (22.68) wrote:

Phenomenal common-sense analysis.  My sources confirm your basic logic. 


But I do recognize that things are they way they are, and not what I want them to be.

I especially enjoyed that part.  Being realistic and open-minded is absolutely vital.

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#13) On June 18, 2009 at 1:33 AM, Tastylunch (29.54) wrote:

Binve in all seriousness man you should consider trying to make some bucks from this work. It's great stuff

get a wordpress blog and get some google ads. Youv'e already spent the time doing the hard stuff you might as well get some some $$$ for it.

I believe that's how Saville got his start and I believe Mish Shedlock was a actually juts a mereTMF discussion board poster befoe he became well MIsh Shedlock blogging superstar. .Anyway just a thought

Anyway let me ask a question that I haven't seen asked much re: this discussion.

From your dollar tanks thesis what would be your target range for the dollar to fall to?

I know you anticipate Gold 1500+. But using the DX-Us Dollar Index from your charts what does that translate into for you? 20-30 range?

Or are you in abitare camp that it could basically go to zero and be replaced altogether?

Just curious man, I realize I never knew where you fall in the dolalr tanks continuum.

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#14) On June 18, 2009 at 8:56 AM, binve (< 20) wrote:

Harold71, .Thanks, I appreciate that! Yeah, most of my posts are simply thought-experiments, where I identify an issue and try to work through it. And I have to make a certain number of assumptions. As russiangambit points out above, sometimes those assumptions might need to change drastically. So the only thing I know for sure is that several surprises will be thrown at us along the way :) But I do want to be common-sensical about this. Monetary policy is intentionally shrouded in myth, and the truth is, it is not that complicated. The effects are. No doubt, but the cause is not. And I don't think most government economists want you to realize that. Thanks!!

Tastylunch, Thank you my man. Seriously, you have been a good friend and a strong supporter for such a long time, I truly appreciate it.

Re: doing this semi-professionally: I honestly think I don't have to time and/or discipline to pull that off. I write more or less when an idea pops into my head and I also have a bit of spare time to do so. You can see above all of the typos and spelling errors (which is a lame excuse), but it is because I am writing frantically between work and dinner or something. I know that Steve Saville / The Speculative Investor has been around for awhile (around a decade). Actually I just looked his bio up, he was an engineer too! (electrical). Wow, interesting, I did not know that. Yeah, I don't know man, that is certainly something to think about. Thanks dude. :)

Re: a target range for the USDX.

From the charts it is too early to say. Also, I know others such as GoodVibe are going to have serious reservations with my count, But I would argue any measure of the Dollar's strength via any index or currency pair while the US was on the gold standard is essentially meaningless. I think 1971 (when the gold window was officially broken) is the earliest a chart analysis should go back to. And based on that we have a clear peak in 1985 and have made substantially lower highs and lower lows since then. So (using all of the above as a hedge/justification) then we would target significantly lower levels (big Waves 3 and 5 not in yet, or my big 1 and 2 could be a large A and B and we are just is some multi-decade correction), so between those two interpretations, I think a range between 50 and 20 makes sense based on the scale.

My personal beliefs are similar. Maybe the US Dollar is destined for extinction. Maybe we will be getting an Amero. But I just simply do not believe that. America is blessed with so many natural resources, and so much talent and work eithic, that I think things will fundamentally change before America goes bankrupt (like I said above, the US governemnt is broke/insolvent, but not bankrupt). But what needs to happen first.? The consciousness of the US public has to shift on the issue of economics and initiate change.

This leads me to the response and discussion we had on my gold blog.


"I have to agree with TigerPack tho Re: gold's attractiveness

Last week I counted four Cash4Gold trucks on one street in my city.When regular Joes start talking about Gold which many around me are, that makes me nervous.I wouldn't say it's RE 2006, but it does feel like RE 2004-2005."


"I also hear you about the gold being in the common vernacular and that is giving you a 'bubble-itis' warning feeling. I have a different interpretation (as I always do :). We were talking about the manipulation of gold and the enormous (and arguably illegal) short positions that GS has. And the only reason why these short positions have worked for so long at allowing golds manipulated price to not reflect inflation is because it has been relatively obsure/scoffed at. 

But now the public has been exposed to the size of the problem. We have had two market crashes and an honest stock panic in the last 10 years. David Walkers piece (which was very well done) that describes the seriousness of the problem with the budget and the economy, gained serious traction on CNN. On top of that, Obama says that we are broke (or its equivalent) in a speech. AND bonds are starting to make front page news in the last 6 months.

I think the public is now waking up to the size of the problem, and the enormously inflationary policies that have been at play and will continue to be at play."

So what you see as a bubble forming, I see as the beginning of the consciousness change. Gold is honest money. At the end of the day, that is exactly what it is. So when the public sees higher prices at the pump, higher bills at the grocery store, AND are invested in (or at least aware of) gold, I think a lot of people will be putting 2+2 together.

Then I think the Fed will get audited (I think Ron Paul's economics movement is picking up steam, far from national, but it is a growing presence).

So this gets me back to the Dollar Index. I think the very gears that are causing massive monetary inflation and the desctruction of the dollar (and the lowering of the Dollar Index) are turing smaller gears that are changing peoples perceptions (in a good way). If I had to guess, based on fundamentals, changing perceptions, transition from consumptive to productive GDP, etc. I bet the USDX gets down to 30-50. I do not think it goes to zero.

Thanks man, I always love our discussions.

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#15) On June 18, 2009 at 11:35 AM, UKIAHED (45.40) wrote:


Great post – lots of good stuff to digest.

Who does monetary inflation benefit the most? Debt holding nations. The old debt is denominated in the same amount of dollars. The size of the debt that needs to be serviced does not grow simply because the money supply grows. So the Treasury can service the old debt with newly devalued (or inflated) dollars, which we new have a lot more of.


It has been awhile since my last macro econ class – but doesn’t monetary inflation benefit the debtor (issuer) nations?  This is why some folks think that we will inflate our way out of debt…


Monetary Inflation is already baked in based on the borrowing spree of the Treasury. That train is nearly unstoppable now, the new debt - service old debt - run budget defecit triangle is fully self-perpetuating now. Only with a huge slash in the size of government and tightening of all spending will stop that cycle now.


If the supply of money is the issue – then while I agree that smaller government and tightening of spending will/could stop the train – it could also be possible to sop up excess money supply by increasing the tax rates and paying down the debt.  Obviously if I have to send it to the IRS – I cannot spend it.


On to unintended consequeses of Monetary Inflation.  I believe that a lot of people may think that inflating our way out of debt could be a good thing – “screw the foreign countries that hold the debt!”  Obviously this would tank the dollar and all that implies.  But – more important I think – is that of the $11 Trillion in debt – only $3 Trillion is held in foreign hands.   The majority of the rest is held by the fed and intergovernmental accounts (Social Security anyone?).  So, if you inflate your way out of the debt – the debt held by Social Security would be paid back by dollars worth less  – but Social Security increases benefits in line with inflation – so – Social Security would be paying out more.  This would make them “run out of money” a lot sooner than predicted.

As I believe that Social Security has to be here in the future (100 million rioting AARP members just cannot end well…), this leaves the fed with the only option of holding down Monetary Inflation.  Only options I can see to do this – raise taxes and/or reduce government.  Can they do it - I doubt it - but god I hope so...

Well – that is the end of my .02.  Thanks for your post – I always love when someone makes me think! 

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#16) On June 18, 2009 at 12:51 PM, arboretum (28.70) wrote:

Hi Binve

I too was an inflation hound until recently. However, I only ever expected maybe 10% annually for any sustained period. Like Russiangambit, I think the Fed CAN and WILL control the yield and price of Treasuries, dollar exchange rate and thus inflation rate, without any Germany 1920's scenarios. However I also think that any deflation that shows up will be printed out of. So in summary I don't think we're headed for massive inflation (>20% in any one year) or substantial deflation (>2% for more than a year or two).

However I am unsure that gold is the remedy. Gold has more than quadrupled in price since the late '90s, while the USDX has fallen maybe 25% from it's peak? It seems to me that a lot of future expectation of inflation is already priced into gold, so I don't see it being a massively outperforming investment for the long term (although I could see a volatile spike to $1500 or so sometime in the next year or two if we get bad inflation figures for a month or two). Long term I think I like oil, natural gas and real estate better, but here is not a good entry point.

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#17) On June 18, 2009 at 12:57 PM, 4everlost (29.50) wrote:


It's interesting that I went through the same analysis that you did and came away with the same conclusions.   You just beat me to the writing part!  I was going to write a very similar post!

Seriously, that is good stuff.  My head spins from time to time regarding inflation/deflation so thoughts laid out as well as you laid them out make it easier to dissect point by point - fact by fact.  I've used this before but "my brain is just a jellyfish in the ocean of my head" when it comes to macroeconomic analysis.  Thanks for helping me sort it out.

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#18) On June 18, 2009 at 2:42 PM, Melaschasm (65.13) wrote:

binve, great post. 

IMO the Fed fears deflation, and so they are likely to overshoot in the other direction.  I suspect that we will see significant 6+% inflation with the beginning of an economic recovery.  Once the Fed believes the danger of a deflation spiral is slim, they will stop printing money.  I suspect that the Fed's attempt to fight inflation will put a quick end to the economic recovery, and we will suffer either stagnation, or slide back into recession. 

I am not sure how the dollar will perform compared to other currencies, since I do not know if other countries will print money to keep exchange rates flat.  I do expect real assets to gain in value, but I am not sure which real assets will be the biggest winners. 

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#19) On June 18, 2009 at 5:19 PM, binve (< 20) wrote:

UKIAHED , Thanks! And LOL!, of course I mean inflation helps debt issuing nations (hurts debt holders). Yeah, that is what I meant from the context, I just wrote it backwards, good catch :)

If the supply of money is the issue – then while I agree that smaller government and tightening of spending will/could stop the train – it could also be possible to sop up excess money supply by increasing the tax rates and paying down the debt.  Obviously if I have to send it to the IRS – I cannot spend it.

I agree that would help the situation, but how likely do you think this will be to happen? But like you admit in the rest of your response, you don't think it is likely, and I have to agree with you.

What most people don't realize is that inflation is just an unseen tax. Devaluing the currency (monetary inflation) *always*, at least historically, eventually leads to higher prices (price inflation). Most people are not aware of the cycles and the time lag between inflationary policies and higher prices (and governement economists like keeping that distinction very blurry)

Great comments, I really appreciate them!

arboretum, Thanks for the comments! I still have reservations about this though:

I think the Fed CAN and WILL control the yield and price of Treasuries, dollar exchange rate and thus inflation rate, without any Germany 1920's scenarios.

I agree that while things may not be as bad as the Weimar Republic (I sure hope not), I think the illusion that the Fed has any real (lasting) control over rates is inaccurate.

The only way the Fed would have true control is if literally monetized every single note held by all parties, devalued the dollar (probably by 80%) in one fell swoop, enforce a non inflationary policy going forward, and then enforce a balanced budget requirement on the government, then it would control rates. (Gas would of course cost 50 $/gallon, but it would be stable).

Instead we are going to get what I describe above:

I think Treasury bond rates are going to rise, and they are going to rise substantially. As rates rise because the Fed is unable to keep a floor under bond prices (because I QE is going to fail big time and "providing confidence and stability to the bond market"), Foreign debt holders are going to dump bonds. Foreign governments are not stupid too. The see a rising Treasury Rate on the Worlds Reserve Currency as a sign of increased risk, and they too will put their money into real assets. So when the Foreign govenments dump bonds, the Fed has to buy EVEN MORE to try to put a floor under bond prices. This is a positive feedback loop. Both the Input is positive and the Gain is positive, and the on/off swtich is stuck in the ON position

I think the Fed is always going to be playing "catch-up" with QE purchases of Treasuries. So I think the inflation will be persistent, and not all at once like I describe above. But I have no illusions that the Fed is in "control" anymore. Just my $0.02 of course.

It's okay that we don't see eye-to-eye on gold. I know that most people do not like it or its price right now. But we definitely agree on commodities. :) Thanks for the comments!!

4everlost ., Thannks man! LOL! You know what they about great minds ... :) Thanks :)

Melaschasm, Thanks! I have a different take on this statement though:

IMO the Fed fears deflation, and so they are likely to overshoot in the other direction.

I actually do not think the Fed fears deflation. I think Bernanke is smart enough to know that every policy that has been implemented by the Fed is *highly* inflationary. But when he talks to the public, he talks about deflation in terms for the CPI. He is doing the same government economist BS, talking about price deflation as if it were deflation (monetary), and it is not! This feeds the public mis-understanding of the issue.

This "deflation-scare" was the excuse to gain support to implement the QE policies, which are by their very nature highly inflationary.

I am sorry, I do not mean to be confrontational with you (seriously that is not my intent), and I wish I didn't sound cynical about this. But that is my take on the situation. I am unfortunately pretty bearish on the economy right now :(. But Thank You for the comments! I really appreciate them!..

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#20) On June 18, 2009 at 6:43 PM, batteryguy (26.05) wrote:


Very interesting post.  From a macro view I tend to agree with what you are saying. 

What I struggle with is if most Americans (and Europeans) are facing job losses, real estate depreciation and importantly wages are flat or falling where does the money come from to drive commodities higher?  If American's cannot afford $5 gas oil cannot shoot-up.  If American's cannot afford their homes, why would they buy gold? 

I have some money in gold as I am certainly worried about inflation.  But with the amount of deleveraging occuring I think the money supply out in the markets to buy commodities is actually decreasing despite the Fed's best efforts. 

Eventually something will have to give, and I expect it will be difficult times for the US.  But, with the huge impact the US has on the world economy it will not be rosy for anyone else either.  I think the Chinese, Social Security and other debt holders would be happy to take a haircut on their investments in the US rather than see hyper-inflation or default.  That is why I don't expect bond prices to increase drastically, just enough to make life miserable.

Appreciate your efforts in kicking this off, just my 2 cents back.

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#21) On June 18, 2009 at 7:02 PM, Tastylunch (29.54) wrote:

 Oh I know, I wasn't suggetsing like a full time thing, just a slap it up on a personal blog whenever you feel like writing one and maybe get some free beer money. Mysoftballcoach rakes in some decent revenue doing this. Not a fortune but you know if you are going to spend the time why not get an extra 1-10k a year for it?This stuff is hot right now .


eh but I like I said just a  thought ad it's not my time. :)

 20-50 sounds about right. If we go hard inflation I figure 20-30 myself. Thank for your thoughts man


Re: Bubble

can you blame me when I see stuff like this?

When I see people buying Gold at supermarkets (!) I get nervous. It means one of two things Either the dollar is completely doomed or the ride is almost over for now. Not to be eilitist but when the public gets wind of something its not usually good.

That being said I don't view Gold as bubble since I don't think fundamentals are divorced from the price like Tech in 2000 and RE in 2006. I just wonder if this is a major multi year pause in the uptrend that started last year (the pause started last year not the uptrend of course).

basically I'm aligned with RussianGambit, which would be nice since I could always use the time to research more commodity invetsmnets.

I just am seeing deflation everywhere right now around me. I know you don't define it the same wya I do, but I'm not sure TMS increase are meaningful until they ciruclate.

One thing I haven't shared is that I used to be a huge huge Gold bull for a good while. I backed up the truck on miners in 2004-5 (20% of my RLP) and only changed my mind in 2008 after reading some stuff on CAPS and elsewhere. I didn't catch the best entry and exit but the investmnet workeout

Right now I really think it could go either way. Maybe I chickened out, but this seems so similair to Japan I'm not sure we can shut the door on deflationary possibility already...

I'm just going to wait  till I'm more sure of the outcome.

Right now I'm envisioning several more months (perhaps years) of dominant deflationary pressure and then maybe a horrible ascent if inflation gains traction.

Certianly the TMS figures are no joke but food for thought


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#22) On June 19, 2009 at 8:34 AM, binve (< 20) wrote:

batteryguy, Thanks you for your comments! That was a very nice well-put balanced view. And I agree with everything your wrote. Inflation is not a given. The argument that I am making in the post is that based on how the banks were bailed out by the Fed, I think all this newly created money / monetary "potential energy" will get into real assets through other avenues (hedge funds especially). But you are absolutely right, if the consumer *truly* does not participate, then my projected outcomes could be very different. I still lean on the inflationary side of things, but I have considered all the points you are making. Thanks!.

Tastylunch, Hey man! No I should aplogize. You had a very good idea, and my first response was to say why I couldn't do it. The only thing I needed to say was 'Thanks! That is a good idea', because it is a good idea. I am definitely mulling it over. So.... Thanks! That is a good idea! :)

Yeah, I am definitely no perma-bear. And we have had good discussion of this in the past. Things will change out of necessity, and I am very optimistic for the future, when the US gets back down to brass tacks and leads again in innovation and production. Gold is simply a way for me to preserve purchasing power until I can buy companies I love and prices I agree with during market conditions that realistically value the state of the economy. It is definitely not that I want the market to drop or the economy to go down. But I think the market is not representing the "true" US economy right now, and definitely not the economy of the next couple of years. But when things really change, when there is cause for true optimisim, not pessimism, then I will be buying stocks in all sectors, and not just now as inflation hedges.

But like I said, the only thing I know for sure is that I am not calling this 100% right. So I don't just invest in gold/commodities. Some of my producers are growth plays. And I still have a cash reserve that I do not touch in case I am way off base and deflation right is here to stay. But since I believe the long term threat and eventual outcome is inflation, that it the way I am primarily hedged in my portfolios.

So I very much agree with the sentiment of your observations above. There are a lot of conflicting signs, both inflationary and deflationary. And that was basically Russiangambit's point too. I defintely recongize what you are talking about.

One thing I haven't shared is that I used to be a huge huge Gold bull for a good while. I backed up the truck on miners in 2004-5 (20% of my RLP) and only changed my mind in 2008 after reading some stuff on CAPS and elsewhere. I didn't catch the best entry and exit but the investmnet workeout.

Cool man! No I did not know that :)

I'm just going to wait  till I'm more sure of the outcome.

Always very wise advice for anybody

However I want to talk about the chart in your link above. Tasty: *WARNING: I am going to start ranting, but it is not at you personally, just at the chart*

The graphs are what they are. They are indisputable and I will not dispute them. But this is the same type of chart that Krugman puts up all the time. Here is the text above the chart:

In theory, the massive creation of money will lead to inflation. Indeed, everyone's fretting about all the Fed's printing. But according to traditional inflation metrics, it's not here yet. Today's chart shows how severely the money supply and inflation are going in fiercely opposite directions. Now, looking at inflation in terms of commodity prices, you get a different story.

This is *errorneous* in its conclusions!

Saying that price inflation is not here *despite* the fact that the money supply (monetary inflation) is going up is comparing apples and oranges. Monetary infaltion is a cause and price inflation is an effect. And all of the articles from Steve Saville talk about the lag between monetary inflation and rising prices. In fact here is a statement that I wrote in my gold blog:

There is still a lot of talk about “deflation”. And while I agree that there will be price deflation in a number of assets (housing prices I think are still too high), this in and of itself is not true deflation. Prices in any asset class can rise and fall due to supply/demand considerations. As I said above, both inflation and deflation are monetary phenomena. In fact much of the recent price deflation in assets has been occurring among periods of extremely high growth of the TMS (monetary inflation). And if you read the Steve Saville links I have above, you will learn about the time lag between monetary inflation and price inflation. I would caution you to be very careful and to think very critically about the argument any author makes when they use monetary measurements when talking about deflation. Remember the 5 characteristics above that any monetary asset must exhibit.

So on the chart in the link, Look back at the money supply curve, and then look for increases and plateaus. Then look ahead 2 years on the inflation rate curve. They generally correlate on a 2 year lag.

What about the huge drop in the inflation rate last year? That was due to the global deleveraging event, where so much fear took money out of real assets and put them into treasuries. Because the inflation rate is not driven exclusively by Money Supply, just primarily. But when there is a global panic, the inflation rate can be affected by these large moves in global assets. However, I would argue, as I have done in the past, moves in speculative money (fear/greed, supply/demand) is not deflationary, because the money supply did not shrink. The existing energy was simply moved through the system.

A much more useful graph, would be to plot Money Supply, Inflation Rates, and Long Bond Prices. That would be much more interesting and much less misleading (or at best: confusing)


Tasty: Hey sorry man :) Like I said, that was not directed at you. Thanks for the comments my man, for all of the good ideas, for the ones especially that get me to think differently, and the support :).

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#23) On June 19, 2009 at 9:12 AM, TigerPack1 (99.02) wrote:

I think EVERYONE that understands basic economics and money creation effects AGREES massive inflation is coming.

The real questions are: 1) exactly when will it happen, and 2) what are the best risk-adjusted spots for your investment dollars today?

Gold and silver investments will make decent hedges to protect your wealth the next 10 years, but they may decline sharply over the next year or two, before entering another strong up-phase.  The 1970s saw 2 major swings in the price of gold and silver, and we could definitely see 2 or more from the 2000-2002 bottom period, before a final blow-off rise.  So far only last year's short lived sell-off from the credit crunch is worthy of mention in the long-run chart as a a correction.  Perhaps, first gold trades below last year's low trade, as it still has not traded above last year's high!  That would make for one large sell-off period on the long-term chart and clear the way for a better buying opportunity in the metals, in my mind.

REITs are the best play in my opinion, as they are clearly under-owned and unloved, plus are now paying huge dividend yields for your money.  The leverage to both a stabilized to growing economy from here, and rising rates of inflation make them terrific, risk-adjusted investments now.

Another investment option, of which I own many in the real world, are the consumer staple and medical device companies with large and stable overseas sales that will benefit from a better economy and demand equation, a lower U.S. Dollar, and can increase (pass along) quickly rising costs when inflation does hit.  My favorites in this area, that are selling for amazingly low relative valuations are: KO, PEP, KMB, JNJ and BDX.  Each pays a decent dividend yield, and most are priced at P/Es in the 11-13 range, based on Wall Street's low 2010 EPS estimates.  Against a zero return on bank savings, and sub-3% intermediate-term Treasury securities, owning some of these blue-chips is a "no-brainer," at least for me.

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#24) On June 19, 2009 at 10:43 AM, JustinTheFool (99.43) wrote:

I completely agree about the inflation but I see silver as a better buy right now (mostly due to its current discount compared to gold).  What are your thoughts on the gold/silver issue?

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#25) On June 19, 2009 at 10:43 AM, binve (< 20) wrote:

TigerPack, Thanks for the comments! I always appreciate them. You have an obvious wealth of experience and have looked at these issues for a long time, and your input is invaluable. I also like your summation: Inflation is coming: Yes, Is it here yet: No. When will it be here: soon (6 months) to not too far away (2 years)... So what should you do about it?.

I very much like your thoughts on gold and silver. I am not on-board with it completely, because I think in addition to inflation, the dollar is on the verge of a currency confidence crisis with the size of the QE policies. And gold is a direct responder to that. However, this is still a huge unknown and I can appreciate the fact that you and other might not want to play this aspect.

FWIW: I am not buying gold at the moment. I had built up a good base position over the last almost 2 years. I bought a lot when gold was below $750. At this point I will be a huge buyer again at a pullback to $800 or a breakout over $1050. I am currently comfortable in my gold position. But like I have said, this is a very long term postion and I am very unaffected by gyrations (the commodities correction did not force me to sell anything, and in fact I added with the lower prices).

I am very intersted in your take in REITs. I am very bearish on the US Housing Market and think it has not bottomed. However, I do realize that Commercial RE is an entirely different animal, and one that I have not looked into very much. Do you have a few REITs you could recommend, I would like to take your advice and look into them further.

Your thoughts on consumer staples and medical device companies are very interesting. I am not sure I am on board, but I certainly respect your opinion on these. It is another good option to consider!

Thanks for taking the time to respond! You have made some awesome calls and you have an excellent grasp on the macroeconomic issue. I wish you continued success in your move to the top of the Caps leaderboard! Thanks!.

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#26) On June 19, 2009 at 10:51 AM, binve (< 20) wrote:

JustinTheFool, Thanks! I agree, I like Silver a lot too. Some interpret Silvers chart very bearishly for the near term, and I interpret it a lot more bullishly. So I am afraid I do have any trading advice. But I am a very big bull on Silver for the long term (several years out).

Here is what I wrote about Silver from my last big Gold blog:

Silver is another monetary metal. Silver though has a very wide range of industrial uses. As such it straddles the line between a currency and a commodity. However Silver has some very interesting facts: Silver for a long time was not recycled (unlike gold which has been recycled for a long time in industrial applications). This is not true anymore, it is being recycled much more now. But as such, a large portion of silver is literally sitting in landfills in various chemical states. And because there is still so much industrial demand, the amount of silver sitting in vaults as a monetary metal is lower than the amount of gold. This makes Silver a bit of a conundrum at times. It whipsaws much more than gold. When gold sells off, silver sells off harder. But when gold rises, silver rises much faster..

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#27) On June 19, 2009 at 11:00 PM, Tastylunch (29.54) wrote:


Hey no worries I didn't take it that way. Just thought you may have misunderstood my intent, it was menat as a compliment nothing more. :) Haha it's funny I think we both worry that we offend people over the interwebs. It's very easy to be misunderstood  on the internets :)

As far what constitues inflation, I'm agree with your strict intrepretation and I think that's completely accurate academic interpretation of what inflation truly is.  But the thing I ask myself is does it matter to me until it hits prices?SO I guess what I'm saying is what I'm concerned with is the price inflation not necessarily the inflation itself. It is after all not the cause (monetray inflation)  we dread but effect (price inflation) right? Perhaps that's foolhardy but that's how ive always invested/traded commodities.

There's no question TMS is much huger than it was mere months ago, but the lag time given the method it's been inserted could be unusually long, perhaps longer than the typical 2 years you mentioned. If the gov't had given it out in paychecks I'd loading up on Gold right now (Zimbabwe 2 baby!), but instead they gave it out to banks who must be willing to lend it out and have willing recipeients. Right now they have neither so I don't see that money moving anytime soon. It seems to be behind a dam of inaction. If that dam breaks (which I interpret the odds are in favor of it doing so) , well look out.

Still the thing we are assuming though is that QE will work, I dont know if thats' a given. It did not work in Japan. I'd like to see TMS numbers from there from the 1989-1992 period. I bet you'll see a massive increase in TMS AND Deflation. Lats I looked their debt was larger than their GDP and they still have deflation! There are some big differences (such as the US being a debtor nation wihile Japan was a creditor and various cultural differences) but I don't think it's 80-90% given that we will get big inflation eventhough that's the intuitive answer.

The rreaosn I think inflation is the likley outomce is becasue I think our gov't will keep trying new things until hey get it. It's not QE I fear but what Bernanke thinks up next :(

My view is basically completely in line with Tigerpack's, I think it's going to take probably close to a couple years for price inflation to actually happen enough to affect Gold meaningfully. I also think there is strong downside risk in the short term for gold since the popular wisdom is inflation. It doesn;t matter what the papers say about deflation, everyone I've talked who lived through the 70's thinks big inflation is coming.   If Gold goes back to 600 ish due to a major dissappointment event (like TP pointed out it do in the 1970's) where i think it might I'll back up the truck again.

I guess it just depends on your timeframe. 1-3 year horizon may not be good for gold, 5-10 year hold it's probably going to work out. I'm guess I'm a little greedier and want my money to do something while I'm waiting to see which happens.

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#28) On June 19, 2009 at 11:16 PM, Tastylunch (29.54) wrote:


I agree with most of what you said, The consumer products play is interesting (I prefer the sprivate label stuff to the name brand plays but yor argument makes sense)I really like some real estate as hedge especially farmland moreso than Gold.

However I don't know if I agree about REITS though.

They are most definitely unloved and that is a very big plus, however I see many legitimate negatives that threaten their viability

1)- Cost of Capital for REITS is rising dramatically- this could really hurt the leverage aspect you mentioned. Many REITS are really going to have to dial back.

2)- REITS are being heavily diluted by share offerings, many are diluting like crazy to stay afloat. REITSlike KIM look cheaper than they really are. BAC in particular is engaging in very shady behavior in some of thes deals ( having their analysts upgrade it to "buy" then have their IB division issue a surprise share offering the next day for their clinet. The Chinese wall is gone again) That screams weakness to me.

2b)- Many are paying their awesome dividends yields in Shares only. There's a severe cash shortage in some of the CRE names like VNO.

3)- Crushing Debt loads and declining consumer spending are causing many tenants to dissappear. There's simply too much Retail space available. There's a massive oversupply in the sector. It will take years to restablize.

4)-AT the rate of inflation we are speculating about, landowners are going to have a very hard time passing on inflation to renters in a timely fashion.

Still I know you've made your mind up, if it were me I'd look to residential REITS first. At least there there should be increasing demand (and thus less oversupply) since so many homeowners are becoming renters....

I also like farmland as Jim Rogers does. But not everyone can afford to buy property outright.

Juts my 2 cents.  Good luck however you play it.

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#29) On June 20, 2009 at 1:59 AM, binve (< 20) wrote:


Man, I am so glad you comment on my blogs!. Our friendship is probably one of the best ones that I have on Caps, and I am very grateful for it. :)

Haha it's funny I think we both worry that we offend people over the interwebs. It's very easy to be misunderstood  on the internets :)

LOL! Exactly! I like to joke around and use witty banter, and sometimes that does not translate well at all. So when I re-read, I see how what I write could be mis-interpreted. So I end up clarifying a lot :) I just hate being a jerk, as much as dislike reading jerk-y comments, and I never want to come off that way :)

Re: the rest of your response.

Dude, that is perfectly reasonable and a very well-balanced position. I know exactly where you are coming from. It is a very good opinion and I was wanted to say that I appreciate the time you took to write it down.

I do realize that I lean on the one side of this debate (inflation and gold as a hedge) more aggresively than most, and it is nice to have the more balanced opinion as a response to that. 

Thanks man!.

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#30) On July 06, 2009 at 11:37 PM, kstarich (30.62) wrote:


Sorry it just takes me so long to get to all your blogs.  You have a gift and a talent from the heavens to do all that you do!

Since you wrote all this China and the other BRIC nations are moving (not just talking) quickly to remove the dollar as the reserve currency.  So everything that you brought here is happening at break neck speed.  I hear some speculate that the dollar has about 126 days left as of today.

On June 29th news in Hong Kong reported China's move to settle international trade in Yuan.  You have to look real hard in US media for this story. 

You are doing such a great service in educating people about this.  I will try to pass this blog on to as many people as I can.

And, did you guys have that baby yet?  Anyway I hope all is well:-)

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#31) On July 07, 2009 at 8:34 AM, binve (< 20) wrote:

kstar. Thanks! I am so glad that you appreciate my writing and analysis.

No baby yet, baby is due at the end of August. But we are very excited :) Thanks!

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#32) On July 07, 2009 at 8:39 AM, portefeuille (99.56) wrote:

some forex related stuff is here.

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