'The Money Panic —a guide for survival in six parts

Final part: A recovery

Condensed from the book by Martin D. Weiss What is the prime move of history — the material forces of the marketplace or the ideas of min? In parts one, two and three of this series we saw how Cassandras, warning of the limits to growth, were eliminated or their voices quieted. We saw how new behaviour patterns emerged, which were well adapted to the new environment of unrestrained expansion, but incapable of preventing the collapse which such an expansion made inevitable. We saw how economic policy often accomplished little more than to provide a recipe for growth — any kind of growth. And we saw how'' certain theories merely provided a rationalisation for the imbalances and distortions which resulted. In short, the formation of ideas was largely dictated by the drive to produce more goods and extracc more resources from the environment. But after a money panic, we could find ourselves in a short period of limbo, during which the torrent of cause and effect are replaced by •the ideas and actions of individuals and groups, perhaps well-intentioned, who rise to the occasion and impose their will on events. It could be a time when those controlling liquid resources can enjoy tremendous leverage; and when relatively minor moves by economic policy-makers can set off a chain reaction of events stretching far into the future. It could aiso provide a chance to lay the groundwork for balanced world growth. Many pessimists, nowever, believe that economic collapse necessarily implies social collapse, that social collapse could lead to a situation akin to 1984, and most important that "gold is the best possible haven for survival". Before proceeding, / wish to emphatically dispute this viewpoint in the following debate with a "goldbug".

Goldbug: Hyperinflation is inevitable: Once the government gets wind of a real, hard-nosed depression on its way, it will try to revive the economy with a hyperpumping of credit, a huperexpansion of the budget, and of Course hyperinflation.

MDW: It's not inevitable. In fact, I think it's next to impossible. The first reason is the background of policy-makers like Burns, Simon and Greenspan. They've seen the consequences of runaway inflation in Indonesia, Brazil, Chile, Argentina. They know what would happen if they ran the printing presses and flooded the economy with dollar bills.

Goldbug: Come on, now. With the economy collapsing there will be so much, pressure on them to do something, they'll forget all about

• theories or history and do it anyway.

MDW: It will simply be impossible to print enough to save even a small fraction of the institutions. Practically every consumer, corporation, bank and city government will be begging the government for money. I'd say you'd need $100 billion to save them all: and that just the first wave.

Goldbug: All the more reason to roll the printing presses.

MDW: Suppose hypothetically that Simon, Greenspan and Burns do abandon their principles. Suppose they do begin to run the printing presses.

Goldb tug: Now you're talking.

MDW: There still probably wouldn't be hyperinflation. You're forgetting the most important thing — the key to the whole inflation-deflation debate.

Goldbug: Gold?

MDW: No, not gold — acceleration, the.speed

of spending. Money velocity. This isn't a war-ravaged economy down on its knees. This isn't an underdeveloped, third-world country. This is an economic supergiant accelerated at incredible speeds. As recently as 1970, bank debits, which measure the total amount of checking transactions, were slightly over $10 trillion. In September, 1974, they were up to an annual rate of $22 trillion. Money was being tossed back and forth like a hot potato. Once that momentum is broken, once you plunge into a panic, those printing presses become relatively insignificant. Bank debits would soon be back to the 1972-73 levels of $16 trillion, leaving an immediate gap of $6 trillion.

Goldbug: So they print still more.

MDW: But printing money doesn't have an immediate effect upon money velocity. The government can only pump the money. They can't tell people what to do with it once it's in the economy. If consumer confidence is dropping and consumers don't want to spend the new money, it goes dead.

Goldbug: Well, but what about now? I'm sure you agree that inflation will be tough to stop.

MDW: Tough to stop? Inflation will soon be over, finished.

Goldbug: What? You're crazy!

MDW: You're making the same mistake most forecasters make. We've had inflation for God knows how many years; ergo you expect more inflation. But there's something new afoot, rumbling like an angry volcano — soaring interest rates that will once again pierce through old highs. There's also something new about to fall on our heads like ,an avalanche — unprecented inventories, huge supplies of goods. The interest-rate volcano will erupt, the inventory avalanche will fall and prices will collapse. You will get rapid deflation, not inflation.

Goldbug: What about labour contracts? What about cost-push inflation?

MDW: Labour contracts become pieces of paper, meaningless, unfulfillable promises. You say that money is going to be worthless paper. I say that future commitments like labour contracts, long-term debt, mortgages, orders for plant equipment, commercial paper and other IOUs will become worthless paper. 'Cash now' will be the slogan of the day. Dollars, paper dollars, could double in purchasing power and take on a new, almost sacred significance.

Goldbug: Labour will strike like mad!

MD W: Whom are they going to strike against? The trustees? The receivers? The bankruptcy courts? Don't forget, the unions will no longer be dealing with the kind of large, easy targets everybody's been shooting at. They will be fighting against almost lifeless, battered-down businesses. Moreover, the unions themselves are running low on cash; members getting laid off and not paying dues, investments taking a beating.

Sell Gold

Goldbug: I think we had better change the subject to'something more concrete. No matter what happens, gold is the safest investment. If I'm right and you're wrong, if there is more inflation and no deflation, then one can make a big profit. If I'm wrong and you're right and there's a big deflation right away, then one can stilt do better than anyone else if you own gold. History has proven that whenever there's uncertainty, whenever there's economic or social chaos, people run to gold because they know that gold is the commodity with the

highest residual value, the only real money. I see hungry hordes roaming the cities, murdering, raping, looting. Without gold you will be lost. With gold you'll be king.

MDW: But suppose the opposite occurs. Imagine corporate management bogged down in the legal entanglements of the bankruptcy courts. Imagine factories.idle, unions powerless, the streets relatively devoid of traffic. Suppose the ghetto families, who in your 'scenario would "riot in the streets," decide instead simply to move back to the rural areas, from which many migrated originally, where most still maintain close kin ties and where they can at least gain a minimum subsistance. Then, my friend, there would be little or no panic demand for gold and, for reasons which -1 will go into later, anyone heavily committed to its ownership could be virtually wiped out.

Goldbug: You're dreaming. Gold is going to anywhere from $500 to $1,500 for the longer term and the $200to $250-area for the short term. Everyone knows an overwhelming supply of currencies is being printed all over the world and there is no sign that the politicians are going to stop. But since there is a limited supply of gold to back these currencies, it's only natural for the price of gold to keep going up, up and up. Sooner or later the governments are going to have to give in to these pressures, and raise the official price of gold. As Nixon did in the 'seventies. As the British and the French did in the 'sixties. As Roosevelt and the Gold Bloc European nations did in the 'thirties. It's a stampede and no one can stop it.

MDW: That's where you goldbugs go wrong in your logic. You talk about the boom coming to an end. But you don't realise that this big supply of currencies is part and parcel of the boom, of the bloated eurodollar market, of the foreign currency speculation. You don't realise that when the boom ends, • the eurodollar market will collapse, the currencies will be sucked back to their countries of origin, and the free-market price of gold will come down sharply.

Goldbug: You're supposed to be an expert on illiquidity, right? Well, if you raise the price of gold, to,:say, $100 an ounce that will be the first step in wiping out the debts. Then, when governments realise it's still not enough, they'll raise the price of gold still further.

• MDW: That's an outright fallacy. It's the same argument that Jacques Rueff offered several years ago. Since then he has changed his mind. He has come to the realisation that raising the price of gold would only reduce certain international debts. It would have little or no effect upon the real problem — domestic debts. Suppose hypothetically that the price of gold is raised to $200 an ounce. American gold holdings would then be worth $55 billion. Now compare that figure to the $3 trillion in public and private debt outstanding in the United States. The $55 billion is still a drop in the bucket. For the value of American gold to match the value of American debts, the price of gold would have to be raised two hundred times, to about $9,000 an. ounce — far beyond the real of reality.

To sum up my arguments, they can't wipe out real relationships between real human beings and real institutions just with a wave of a magic wand. To clean out debts, all those involved — businessman, banker, bureaucrat — will have to meet face to face in the flesh and blood, sit down, and hash it out.

Goldbug: You can paper the walls with all your theories. Gold has a hard-core residual value which paper money does not.

MDW: I agree. But in a period of rapid deflation, I would place that residual value in the neighbourhood of $30 per ounce, which throws the $160-per-ounce gold into the same general category as the B-rated bond or a share of Polaroid! You see, the psychology surrounding gold is following the typical boombust pattern. Your arguments today are essentially the same arguments given in the 1930s, by the first generation of goldbugs — Bernard Baruch, Ben Smith, Tom Bragg, Carl Conway, the same arguments that Baxter gave in a special reported entitled The 5,000 Years of Inflation, published in 1933. But now after many long years of inflation and many years of goldbugs like yourself popularising their ideas, more people have loaded up with gold, gold shares and gold coins than ever before. The Profile of goldowners includes large banks and corporations, small businessmen, stockholders, speculators, savers, investors, professionals — almost all of which could be forced to sell gold in order to keep their business alive, to retain Possession of their automobiles, to maintain the essential of the life style they know.

Goldbug: But the real gold volume is traded overseas — banks, multinationals, wealthy sheiks, big tycoons.

MDW: That's where the real big selling Pressure will come from. These are the very People who are supported by large unwieldy debt structures. Many have bought gold on margin. However, even those who own gold outright often borrow money for their businesses and use the cash to buy gold. There is no way of estimating it, but I wouldn't be surprised if up to 60 or 70 per cent of the private gold hoard is tangled up with debts, either directly or indirectly. When the cash squeeze comes, they'll dump gold like mad.

• Goldbug: Now you're really off base. Schultz in his book Panics and Crashes says that "gold bullion, or the shares of high-grade gold mines, are almost ideal hedges in time of crisis and depressions. This will be as true in the future as Et was in the past . . The onslaught of a new crisis and panic, followed by major depression, Will most certainly be accompanied by a new era of beggar-my-neighbour competitive devaluations". Homestake Mining went from less than 10 in 1931 to over 46 in 1933 and then to 63 in 1936. Dome Mines went from a little over 3 in 1931 to almost 20 in 1933 and then on to almost 35 in 1938. We could argue all day about the future but you can't dispute historical fact.

MDW: The quantity of gold and gold shares in the public's hands before the '29 crash was very close to zero. Nobody wanted them. Interest in gold picked up after the crash and ,very slowly at that. Now, the big gold boom has occurred before the crash. In fact, the gold boom of the 'seventies was part and parcel of the business boom, and the gold shares are Probably the last in a long string of glamours.

Goldbug: Just one more point. The whole thing revolves around the supply and demand for bullion, not shares or coins. Throughout the depression, the United States had a big supply of gold; still they raised the price in 1934 to $35.

MDW: In the 'thirties, the raising of the gold Price had little to do with the international monetary crisis and it ha I almost nothing to do With the supply and demaLd for gold. The big crisis was domestic, and the reason they raised the price of gold was to combat their Public Enemy No. 1 at the time — low prices — 5 cents for cotton, 35 cents for wheat, 30 cents for corn, 31/2 cents for a pound of hog, and 3 cents for a Pound of live cattle on the hoof. The going theory was that the way to solve deflation, the Way to stop the downward spiral of prices and get them up again, was to raise the price of gold. Now look at these prices: Cotton is closer to 42 cents a pound, wheat is $4.50 to $5 a bushel, corn is $3.50 a bushel, hogs are 45 cents a Pound, beef on the hoof 42 cents a pound. So if You want to pay over $160 an ounce, wait Patiently while it falls below $50 and then leap for joy if and when they raise it a few Percentage points, that's up to•you!

You seem to forget that industrial demand for gold has actually been dropping since 1971 and could drop much further with an economic collapse. You seem to forget that you have been riding one of the biggest speculative bubbles of all time. And worst of all, you fail to realise that this bubble could soon be punctured by the money panic. I would suggest liquidating virtually all gold and gold share holdings at once.

Sell Bonds

-My name is Robert Jackson. I'm out of stocks completely. Been out of the market six years."

-Good! Good!" I said to an old friend of my father's as he sat down in an armchair.

"Yup! I saw this thing coming way ahead of time. But then 1 had to find a new place for my money, right? So I followed all the conservative advisers. Read just about every bear letter around. There was a lot of disagreement between them, but I found there was one thing they all had in common — they all recommended bonds, all kinds of bonds."

-What's your position now?"

-All that trouble," he said without answering my question, "all that research and where did it get me? It got me stuck, that's where. Stuck with these damned bonds and I feel I'm crippled for life. What do you think?"

I told him the first thing he should do was to sell off all his bonds, clean out his portfolio. But he was adamant, saying that he already had a loss of fifteen points and therefore he -couldn't afford to sell them."

-Why should I take a loss?" he asked.

"Because it looks to me like bonds, all long-term bonds, are going down still further — way down—some tax exempts to forty or fifty." "I don't care. I can wait. When the bonds mature I get all my money back, no matter what, right? How can I lose? It's guaranteed."

-I'm not so sure. Certainly corporate bonds aren't guaranteed by anyone except the corporation. And how do you know the corporation will be honouring its commitments in 1989 or whenever it is that your bonds come due? How do you know which ones are going to survive this money panic? But that's not the main thing. After the crash there will be plenty of bargains and opportunities to switch into, precisely the time you don't want to be stuck in depressed bonds." Mr Jackson4 decided he would sell his corporate bonds immediately. But he insisted that his government-agency bonds — Federal Home Loan, Fannie Mae, Federal Intermediate Credit Bank — were backed by "the good faith and credit of the United States government."

"The faith, maybe. The credit, I'm not so sure. These are relatively independent agencies backed only in an indirect and abstract way by the government. They're not direct obligations of the US Treasury. Besides, they own primarily mortgages; and mortgages, as you know, are the first to go sour in the kind of housing and construction collapse we are having."

"Ok, Ok. But my long-term government bonds. They're good, right?"

"They're good, but not right now. I see the 31/2s of 1990 going down to forty-five or fifty. I can see the 41/4s of 1987-1992 going to around the fifty-five level, and so on. Then at those depressed levels you might want to take another look and buy some of them."

"You're driving me up the wall. Stocks are no good! Bonds are no good! Real estate is no good! Gold bullion is no good! Many of the banks are questionable or no good! What's left?"

Buy Treasury &Ms

"Treasury bills! That's what's left. Ninety-day US Treasury bills. They're the safest, most liquid, most flexible, most convenient, most profitable, income-bearing securities in the world today. They're equivalent to cash, and not only do you get a high return but you get your interest in advance." "You mean that's it? No hidden dangers? No strings attached?" "No hidden dangers. No strings attached." He glanced quickly at his wristwatch, jumped up from his chair, pumped my hand three times and was gone. The first thing next morning, the 'phone rang and, sure enough, it was Jackson again.

"You made it sound so-o-o easy," he said with sarcasm and chagrin. -This Treasury-bill thing can really be a hassle. First the banker

told me Treasury-bill rates are fluctuating wildly. But in the bank, his bank, interest rates are steady and reliable."

-He's right about the fluctuations. But 1 hope he didn't imply that rate fluctuations would affect the principal, because that would be an outright falsehood. No matter what happens in the marketplace, you're still completely safe."

-The man also told me that owning a Treasury bill is just like walking around with ten $1,000-bills in my pocket, like walking around with cash. He says that, between uptown and down, there are plenty of muggers. Suppose I got mugged for $10,000? What good would the high return do me then? So to make a long story short, I decided to drop the whole thing. Stick with what I've got. I'm too old for this cloak-and-dagger business."

Jackson sounded as if he were on the verge of hanging up and I tried to calm him down. I told him that there are four different ways of buying Treasury bills and not one of them is dangerous. One, though a good commercial bank. Two, directly with the Federal Reserve by registered mail. Three, through a reliable stockbroker. Four. through Capital Preservation Fund, 459 Hamilton Avenue, Palo Alto, California 94301 — the only mutual fund in the world today 100 per cent invested in US Government securities, mostly short-term. (See The Money Panic for greater details on these four ways.)

Anti-inflation not enough

At one time in the past it may have been possible for governments to carefully contract their economies, bringing about a controlled and gradual deflation, rather than the unexpected, chaotic and socially disruptive deflation now on the horizon. But at this crucial turning point in the boom-bust cycle, after years of postponement, an orderly retreat will be much more difficult.

Unfortunately, anti-inflation policies are simultaneously overdue and overdone; it is too late to stop rising prices without first knocking them down nearly to the ground. Therefore, economic decision-makers must do more than simply dole out the bitter medicine. They should prepare the people for its potential side-effects such as bankruptcies, unemployment and rapid delation; plant contingency measures for preventing the breakdown of essential production and distribution should certain prices fall too fast; and make every effort to cushion or steer the economic contraction.

In other words, policy-makers must expect, prepare for, and if possible, guide the forces unleashed during the money panic. Rather than attempting to freeze the process artificially, it will be necessary to view it as a natural mechanism for cleansing past excesses and for avoiding the far more serious threats to mankind forecast by Meadows (Limits to Growth, by Mesarovic and Pestel (Mankind at a Turning Point), and by Heilbroner (An Inquiry into the Human Prospect).

The question is: How? How can we bring about what the Club of Rome calls balanced, differentiated, 'organic' and, we might add, inflation-free growth? A complete answer is impossible; a detailed answer would be premature. However, in an attempt to find some general orientation, I have held a series of round-table discussions which were attended by one economist and businessman, one cultural anthropologist and one agricultural economist. From the outset it was recognised that inflation, the population explosion, the energy crisis and world food shortages are all intricately related; and that the expansionary monetary and fiscal policies of the United States government during the twenty-seven years of boom played a major role in causing them. It was concluded that, after a moratorium is declared: 1. Aside from food, fertiliser and other goods and services deemed highly essential for the survival and well-being of the population, any