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

Part II – The Flashing Market Indicators To Watch For

Custody Account Holdings Fall

In Step #1 (in Part I), the first thing I am watching for is a decrease in central bank holdings of Treasury debt. The easiest way to track this trend is through the custody account at the Fed, which is where most of the official holdings of US government securities held by foreign central banks are stored. In this custody account are both Treasury and Agency debt; luckily, they are reported independently. 

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

Part II – What to Expect for Gold in 2012

As I covered in Part I of this report, Dr. Krugman uses Hotelling rather creatively to explain the strength of gold from an investor’s point of view. I actually think Krugman is also applying a kind of traditional, discounting method of valuation. In essence, he is arguing that because interest rates are so low, the penalty normally associated with holding a non-income-producing asset, like gold or even cash, has evaporated. Indeed, this is the deflationist view, that cash is king because its purchasing power is increasing while the price of goods and services is falling. However, for those of us who prefer gold to cash, we are asking that gold provide additional services by offering protection against instability in the system and maintaining purchasing power more completely over all prices produced by economists and governments, not just price indexes.

But what about gold from the producer’s point of view? Remember, Hotelling says there’s a declining incentive for producers to extract and market their natural resources if the price appreciation taking place in situ (in the ground) is greater than the capital they could earn after having turned those resources into cash. Let’s take a look at more than a century of global gold production, updated with the latest data from the USGS.

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 Before the Next Crash

What a Bank Holiday (Collapse) Means

If the next shock to the system is a sovereign debt default in Europe that spreads throughout the world banking system or perhaps a surprise that comes from China, we might expect a bank holiday. During such an event, the idea is that the banking system has to be shut down for some period of time in order to sort out whatever mess has interrupted its normal operations.

By this I mean that the banks are literally closed to normal commercial and retail traffic, and things like credit and debit cards, ATMs, and even checks are no longer useful for moving money or conducting transactions.

The key risk here is that by and large, the world runs on credit. Without that credit, things don’t ship, and shortages will rapidly develop.

For example, major cities might keep a week’s worth of chlorine on hand to treat municipal water supplies. The next week’s shipment of chlorine requires that the credit system be up and running so that debits and credits can be recorded appropriately. Without chlorine treatment, water is no longer safe for drinking without boiling.

The same need for a functioning system of credit is true for food shipments, medical supply deliveries, and virtually every other item of daily importance. Unless the banking system is there as the middleman in an enormous proportion of these exchanges, many transactions will slow down considerably, if not cease entirely, until things get sorted out.

That’s the risk. However, nobody really knows how big this danger really is, or how long things will take to get resolved, or even what sorts of disruptions may result, and this is why you find politicians bending over backwards in order to avoid finding out the hard way.

Remember Hank Paulson marching into Congress in October of 2008, closing the door, and ranting about martial law and social collapse? On one hand, we might be tempted to think of his act as a heavy-handed scare tactic to assure that his colleagues on Wall Street got a big, fat bailout. On the other hand, we should reserve some space for the idea that he might simply have peered into a banking abyss and gotten scared by what he saw. Perhaps it was a bit of both, but it is the latter idea that should give you pause, because if the Treasury Secretary has no idea how dangerous things are, it means the same uncertainty lurks in the hearts and minds of everybody else on some level, too. When your entire system of money runs on confidence, such doubts are more serious than you might at first appreciate.

A bank holiday, then, simply means that banks close for some period of time, ranging from a day to perhaps several months, limiting or precluding some range of transactions, and affecting only retail customers or impacting everybody. A bank holiday can fall anywhere between a minor inconvenience and a world-changing event.

The conference itself was incredibly well run – like a tight ship – and I learned a lot from the other presenters and exhibitors. My own talk was quite well received, and a quick show of hands at the beginning revealed that roughly 90% of the 450 in attendance had not yet heard of the Crash Course nor been otherwise exposed to my work.

I always relish the opportunity to reach new audiences and this was a great one. (Thank you, Carl!)

My key take-aways from the conference were:

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

Part II – The Technical Argument for a Stronger Dollar

In Part I, I raised the potentially heretical possibility (at least to some) that the U.S. dollar, as reflected by the DXY dollar index, might be in a multi-year uptrend, and then endeavored to sort through the psychological underpinnings of resistance to this possibility.

Here in Part II, I will lay out the technical case for the DXY’s possible multiyear advance.

I would like to start by addressing correlations. Given our minds’ predilection for pattern-matching, it’s natural to see correlations between two slices of the market. For example, when the DXY rises, the stock market declines. This correlation invites speculation on reasons that would explain the correlation.

As the saying goes, correlation is not causation, and so while this line of speculation might illuminate some hidden causal dynamic in play, it also offers ample opportunity for distraction and misguided conclusions.