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BookmarkIf 2013 can be summed up in one chart Eric (see below). It is a base-100 chart showing the correlation of three things: Total assets on the Federal Reserve’s balance sheet, the S&P 500, and the price of gold….
A base-100 chart makes it easy to illustrate whether or not different markets are correlated.
This chart begins at the low of the S&P 500 in March 2009. At that time the Fed announced a $1 trillion increase in its asset purchases, and this new monetary largesse by the Fed lit a fire under various markets. The S&P 500 immediately turned higher and kept climbing because these asset purchases meant the Fed was revving up its printing press.
With these asset purchases, the Fed turns debt into US dollar currency, a process that is called “debt monetization,” which is the fancy name the Fed uses, though they further disguise what they are doing now by calling it “quantitative easing.” Regardless, in reality they are doing nothing but “money printing,” and the Fed began printing money almost immediately with the collapse of Lehman Brothers in September 2008 as the Fed tried to save other insolvent banks from collapsing.
This money printing meant that the Federal Reserve began expanding its balance sheet. The dollars it was ‘printing’ (these are actually bookkeeping entries that circulate within the banking system as deposit currency, not paper dollar bills) provided liquidity to banks that were insolvent in the resulting financial crisis that thoroughly routed global markets as a result of the Lehman bankruptcy.
As a result of this quantitative easing as well as the currency swaps it was conducting with European banks, the Fed’s total assets rose from $880 billion before the September 2008 financial crisis, to a peak of $2.86 trillion in July 2011. The Fed then put on the brakes, so that eighteen months later, in January 2013, its total assets had actually dropped slightly to $2.81 trillion.
It was this unexpected throttling of its asset growth that had me pondering a year ago, Eric. Why did the Fed stop expanding its balance sheet? After all, turning debt into US dollar currency is what the Fed does, particularly when banks are in trouble or the economy is not moving as robustly as central planners would like.
But in contrast to prevailing economic and monetary theory as well as conventional wisdom, the currency the Fed created from March 2009 to July 2011 had done little for the US economy. Unemployment remained stubbornly high, even with the government’s massaging of the numbers. Real personal income and retail sales (excluding high-end sales to the rich) were stagnant, and the customary feel-good factor prevalent in economic expansions was totally absent.
The newly created currency did, however, work wonders for the stock market and gold. Both had been lifted to record levels in 2011 by the Fed’s monetary largesse. But the advances in stocks and gold prices had stopped in 2012 because the Fed was no longer expanding its balance sheet.
Taken together, these events meant that stocks had not risen from their post-Lehman low because of good economic conditions. Rather, all the new money the Fed was creating had to go somewhere, and it ended up in the stock market. It also of course ended up in gold, which always responds with higher prices when the Fed debases the dollar by creating too many of them.
So I expected the gold price to rise in 2013 because it seemed highly likely that the Fed would again be expanding its balance sheet with more debt monetization. And monetize it did, expanding its balance sheet month after month to over $4 trillion at present, which has sent the S&P 500 into record territory, in lock-step with the growth in the Fed’s total assets as we can see on the above chart.
But look at what happened to gold. Its correlation broke down in 2013. Gold’s high correlation to the growth in the Fed’s total assets from the March 2009 announcement ended in January 2013. The question we now have to ask ourselves is this breakdown in gold’s correlation indicating some fundamental change? In a word, “no.”
Gold’s essential nature has not changed over the past year. It has been money for 5,000 years and nothing happened in the past twelve months to change the unique monetary utility that gold offers. Gold is still money, but the central planners do whatever they can to keep gold from circulating as currency.
So today gold is basically hoarded, or as I prefer to describe it – gold is being held as one’s savings. As John Rubino and I describe it in our new book, “The Money Bubble,” it does not make sense to save national currencies anymore because the low interest rates mean you do not earn enough interest income to offset the risks of holding any national currency.
So what will the above chart look like a year from now? It seems pretty obvious to me, Eric, that gold has a lot of catching up to do. The Fed is still expanding its balance sheet, even if it does begin to taper its debt monetization by $10 billion to only $75 billion a month. In one year the Fed’s balance sheet will be close to $5 trillion. So for the correlation in the above chart to get back to normal, the price of gold needs to rise by more than a staggering 100% over the next twelve months.
