Even though it appears that the U.S. Congress and President Obama are about to make a deal to avert a financial collapse on August 2nd (this Tuesday), it does not mean that the world’s financial troubles are over. The bottom line is that the U.S. credit limit will increase, decreasing the demand for U.S. bonds. In order to keep interests low, the Fed will have to print even more money, money that will flood the world currency market. Price inflation here in the U.S. is inevitable.
The world’s financial woes have had a few decades to build, and it all started on that fateful date when the U.S. under Nixon abandoned the gold standard in the 1970’s. Since then all sovereign nations have followed the U.S. lead and abandoned the gold standard. The U.S. dollar, the Japanese yen, the British pound, and all other currencies ceased to be backed by gold sometime in the 1970s. We are now in the era of fiat money, money that is backed only by the reputation of governments. The world has not been in this situation before: we are indeed sailing in uncharted waters, and a bad storm looms ominously ahead.
It is foolish to make predictions, and we can only describe what has gone to pass. In a sense, the financial storm has already started. We can see it in our radars out there in the sea and it’s coming our way. It is coming, but we don’t know when it will strike our shores: it can hit us in a couple of months, or in a couple of years. But there is no mistaking that it is coming. It is wise to be prepared.
Inflation defined as the quantity of money released has already happened. However, we still have to feel it in terms of increased prices for everything. It is starting to creep up in certain things like the price of contract labor. I don’t have statistical data on this one, but I have direct, though anecdotal, experience. Since November I have worked here in the state of Washington as a contractor, and since then I have moved from one contract position to another twice, and each time I did it I was able to demand a higher price for my services. I am in my third assignment, and I am not worried that this assignment may last only until October because I have so many other agencies trying to entice me with even higher hourly rates. (This is a paradox because unemployment is supposed to be high and that it should be difficult to find most any job, but that is another story.) According to some economists, inflation starts to happen slowly at first, beginning with those commodities/services most highly in demand. Other sectors of the economy then demand higher prices, until soon there is no product or service spared from the onslaught of a currency that is diminished in value. We will experience as much as doubling of prices from how much they are now. Fresh milk that now costs about $3 a gallon will cost as much as $6 when inflation finally hits us. This is not really bad compared to what happened in other countries that inflated their currencies in the past: most recently in Zimbabwe where prices rose as much as 10% in a day (or 3,650% in a year!). Nevertheless, this has never happened to the U.S. before, and so the impact will be felt not only by those in the U.S. economy, but worldwide. This is equivalent to taxing everybody, including corporations, worldwide for half of their earnings. China will be hit particularly hard because they have been investing in U.S. bonds and stocks as a way to keep the yuan (and thereby their exports) low-priced. Japan will also be hit hard.
What to do? I sold my house in 2005, and I don’t intend to buy any real-estate property in the U.S. for a long time. I am in the process of buying a house in Cebu, but I may postpone even that. If you are still struggling to pay your monthly mortgage, the good news for you is that if you are on a fixed interest rate, you will be happy when inflation finally hits the U.S. because your monthly payments will not increase in face value (your monthly payments will decrease in real value, however, which is good). Also, the amount of money you owe against your house, which you have been fretting about, will now also decrease in real value by as much as half. Nudge your boss to increase your salary (if you have a job) by as much as the anticipated inflation.
I have credit card loans and my objective right now is to pay off all of those before the end of the year. I advise you to do the same. The problem with credit cards is that credit card companies can increase the interest rate on those as fast as the U.S. treasury bond rate (T-Bill rate).
Lastly, buy gold or keep the ones you already have. The only problem with gold is that if you keep physical gold in your possession, it is becoming more and more difficult to keep it safely. It is a very hot commodity right now, and soon everybody will be gunning for it. It’s a bad idea to hide gold coins yourself. Your best bet is to buy Exchange Traded Funds (ETF), and I recommend either IAU or GLD. Each share in these ETFs are backed by gold: each share you own has an equivalent amount of gold stored securely somewhere in a giant vault, and these are independently checked and certified regularly. The only risk is if the U.S. government decides to seize these gold stock, but I think that is highly unlikely.