A Melman Minute — January 25, 2008

While market optimists are congratulating themselves that the worst of the preceding bear markets in the USA and Canada, as well as Europe and Asia, have been turned aside by the aggressive action by the Federal Reserve Board, President Bush and the American Congress, there are some questions they should not be ignoring.

First, where is all the money coming from? We hear of the Fed pumping billions into the system to ‘support the economy’ and to drive interest rates lower and now the President and Congress are acting on an ‘immediate’ US$140 billion ‘stimulus package’ to provide the American consumer with money to go out and spend, spend and spend again. But what is the source of those funds? Do they come from sound revenues collected from prosperous companies or wage-earning workers? Not at all. They are being created out of thin air, to be added to the existing money stock and to the American national debt which is already approaching US$ ten trillion!

It is also worth noting that the Congressional Budget Office just raised their forecast of the budgetary deficit to over US$250 billion this year, up from about US$180 billion last year, and this stimulus package cannot help but inflate that already-bloated figure.

A sound economist might suggest that America face certain realities, such as the fact that they are consuming far more than they produce, that their insatiable thirst for imported petroleum is moving the country toward de facto bankruptcy, and the idea that their productive society had been diminishing at the same time their consumptive one was increasing was a combination suitable for the economic graveyard. But no political or economic leader has had the gumption to do just that. Instead, the notion somehow exists that if only they can print enough money and, related to Ben Bernanke’s famous remark, “throw it out of helicopters to stimulate the consumer into ever-larger purchases”, that some sort of economic Utopia can be achieved.

That leads to another question. If you were a foreign observer being asked to purchase US government debt, would the policies recently hatched by the Fed, the President and Congress fill you with confidence and surety about the stability of your U.S. Dollar holdings, or would they instead raise your level of fear for the safety of your existing or proposed investments? At TMR, we happen to believe the latter is the case and as that level of fear increases, we believe present and future holders of American dollar-denominated investments will demand ever-greater interest returns in order to compensate for what is perceived as rising levels of uncertainty.

Such rising levels of interest rates are precisely what the American economy does not need, but they may very well be forthcoming in the not-too-distant future as a direct result of the kind of financial ‘solutions’ we have seen enacted in the past few days.

As we have noted previously, one of the most accurate indexes for measuring long bond rates in America is the “TYX Index” and we are once again publishing the chart of that index today. As can clearly be seen, those rates have been in a downtrend for some months, falling from near 5.4% to 4.37% as this is written. It can also be observed that since 2002, the 5.5% zone has served as resistance for every upward move in long-term rates.

We do not think it to be an over-statement that if the TYX Index rises up through that level, we will be observing the onset of a period of severe economic difficulty for America, and perhaps for the world at large.

Gold, silver, platinum and palladium all made headlines this morning as prices of the precious metals rose sharply based on monetary concerns, potential supply shortages and the effect of an unusual story emanating out of South Africa, one of the world’s two largest gold-producing nations. Thanks to a looming power shortage in that nations, several industries have been asked to curtail their usage of electricity and several gold major gold mines has now shut down. This stoppage is expected to last anywhere from two to four weeks, but the general power supply problems afflicting South Africa are of a much more serious, long-lasting nature as there appears to be insufficient fuel available for their coal-generating plants to produce sufficient energy - a problem which may create sporadic power shortages over the next five or six years.

The removal of any significant portion of South Africa’s gold production from the world’s markets is yet another factor propelling gold to new high prices. Overnight, gold reached a record high of US$924 spot, but it was platinum that made the most astonishing move, rising by an amazing US$70 to approach the US$1,700 mark. Silver was also strong, reaching US$16.80 and palladium gained US$8.00 in overnight trading. Crude oil also moved higher, trading near US$91.50 and the C$ once again approached parity with the Greenback.

Financial markets in Canada and the US opened with sharp rallies but have since weakened with the TSX giving back most of its 250 point opening gain and the Dow Industrials have turned negative after a 100 point surge in early trading.

DISCLAIMER

The information presented above is based on data which we believe to be from reliable sources, but the accuracy of which cannot be guaranteed. Any opinions or predictions contained herein are those of the editor and are likewise offered also for information purposes only.

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