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If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: What To Do When the Central Banks Blink

Where Gold Goes From Here

While I personally would not part with my gold these days, and certainly not at these prices, I do expect the price of gold to drop going forward.

The reason is that gold has multiple elements contributing to its price, and some of that is attributable to the speculation and rampant liquidity that is sloshing through the system. Various hedge funds and other speculative funds are holding quite a bit of gold, mainly the paper variety, and when they dump that because the tables have turned and/or their liquidity sources have dried up, they will sell that paper gold and the apparent price will go down.

Further, weak hands holding gold via the GLD ETF will be shaken out during a liquidity crisis, putting physical gold back onto the market.

However, it is my strongest contention that this will represent a very nice buying opportunity. Someday, nobody knows when, the central banks will announce another big round of thin-air money printing and that will be a turning point in the price of gold (and many other things, including stocks and commodities).

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: The End of the Free Lunch

In Part I, we examined four key drivers of Central State expansion and how they are now likely entering an era of prolonged contraction.

This historic vast expansion did not occurred in a vacuum; as our social and economic orders are not infinite, the State’s expansion largely came at the expense of community (private society) and the marketplace.

Many observers have noted that the Central State has largely replaced community within the nation’s social order. That is, the Central State now dominates the society and the economy, while community and the marketplace operate beneath its shadow. 

Some see this withering of community as occurring off-camera, so to speak, for reasons that had nothing to do with the State. In other words, the decline of community left an opening that has been filled by the State. This view discounts the active encroachment by the expansionist Central State on private society and markets such as housing and equities, which have become State-managed platforms for perception management and private predation.

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: What Lies in Store for Europe

In Part I of this article, we looked at the background to the Eurozone crisis and made the point that there are substantial extra government liabilities that were hidden by most member nations to meet the joining criteria in the target year for proof of convergence, 1997. And the only reason that capital flight from Greece, Ireland, Portugal, Spain, and Italy has not led to a banking and economic collapse already is that it has been accommodated by a build-up of imbalances between the accounts of national central banks of the individual Eurozone members.

The End of the Keynesian Experiment

In truth, all advanced Western democracies face the same crisis. It is the end of the Keynesian experiment, marked by the collapse of various credit-fueled bubbles four years ago, mostly involving property. This event threatened a global systemic banking collapse, which was only averted by sovereign nations guaranteeing the solvency of their banks by shifting the risk to government bond markets. The answer for the US, UK, and Japan has been to flood the system with dollars, pounds, and yen respectively, partly to give banks breathing space, and partly so that governments could fund their ballooning deficits.

The individual states in the Eurozone gave away that facility to the ECB, so they are only the first of the advanced nations to face collapse. This is because printing money is the principal means by which governments survive financial crises.

In that sense it is wrong to blame our financial ills on Europe; that would be like sinners casting stones. Like the rest of us, by agreeing to underwrite their banks, Eurozone governments have multiplied their potential debts three, four, or even five-fold (Ireland by eight!). Unfortunately, there is nothing, frankly, that the politicians can do to stop a Eurozone meltdown; they are in a bind of their own making, and they do not understand, nor can they explain to their increasingly angry electorates, how to get out of it.

There is a remedy, and it is deeply un-Keynesian.

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: The Three Key Indicators to Watch

In Part I, we set aside the suspect “headline numbers” issued by government agencies as metrics of economic health, and as an alternative methodology, we surveyed the income and balance sheets of households and the federal government. We found declining household income and tax receipts, and high debt loads for both households and the government. This data simply does not support the rosy view of “recovery” presented by government officials.

Let's now examine more actionable indicators of economic health. In other words, it’s all well and good to ascertain whether the economy is growing smartly or not, but how does that guide our investment strategy?

If you have not yet read Part I, available free to all readers, please click here to read it first.

Part II: The Triggers That Will Spark ‘Hot’ Inflation

Arthur Lewis was an economist from the small, Caribbean island of St. Lucia who went on to win a Nobel Prize in 1979. His work identified the process by which very cheap labor is brought from the countryside to urban areas during phases of industrialization in developing countries. At a certain point, this supply of cheap labor went into decline and wage pressures began to mount.

Now referred to as the Lewis Turning Point, such a phase marks the end of a kind of deflationary boom, in which input costs fall during a phase of hyper-strong growth, and the beginning of inflationary restraints, in which profit margins stop growing. This is exactly what’s happening in China today.