by

John Wright

This morning a friend discussed a few segments from the CNN® Lou Dobbs Show with me. There was a debate about the effects of offshoring to China. There was a discussion of the terrible financial future for Medicare, Medicaid and Social Security. Finally, there was a blockbuster statement by Pete Peterson regarding the value of USA currency. Basically, he said that within five years we will experience a major deflation in the value of our currency. This will be the result of our continuing and growing massive debt load resulting from the war in Iraq and from balance of payment deficits in foreign trade.

Let’s suppose that Pete is right, for even the dullest of us understands that chronic and increasing debt at a personal level leads to unavoidable bankruptcy. Nations don’t go bankrupt, they simply print more money that buys ever less real goods and services. Devaluation of currency by a large percentage, say 50% in three increments of about 16% across five to ten years, means that the price of all imported items will double, even if they are from China, while your wage or salary will not double. It also means that costs for domestic products and services will inflate drastically in a few years as businesses attempt to make profits analogous to those experienced before the devaluations. It comes down to a few simple points. If you will be paid numerically in terms of today’s dollar you will be screwed. That includes pensioners and people with simple savings accounts among others. Savvy investors and owners of major non-cash assets, however, will see the value of their holdings increase relative to the dollar, but not relative to the strength of foreign currencies, like the Euro.

These realities speak to a major increase in foreign ownership of USA property and the severe decline in standard of living for ordinary USA citizens. We experienced some of this before when Japan bought up everything in sight during the 1980’s, while real income for typical USA citizens declined in purchasing power and sometimes in absolute numbers. What happened then is small potatoes compared to what is about to happen in the next few years.

Ronald Reagan allowed USA currency to float during the 1980’s against foreign currencies and that had two effects. First, the debt load that we created by our military expenses and our balance of payments deficits became payable in cheaper dollars. In short, Reagan screwed all the foreign investors who were loaning money to us. Second, those on fixed incomes had no effective way to combat the resulting real inflation (no, I am not talking about the criminally wrong deceiving figures published for the Consumer Price Index). The only reality was that prices inflated to compensate the decline in value of the dollar, and that was really obvious to any USA traveler in a foreign country. It took a bit longer here for people to notice.

The looming insolvency of entitlement programs will also be affected by devaluation of the dollar, but not as you might expect. Basically, the post-devaluation inflationary period generates apparently higher tax revenue while benefits are constrained to pre-inflation levels (absolute numbers). This means the effective coverage of Medicare drops relative to higher billed provider costs and higher individual responsibilities. The increase in Social Security payments brought about by having more retirees is compensated by paying them with cheaper dollars. Thus, the federal government does an end-run with these Ponzi scheme entitlement programs and thereby avoids incurring crushing debt. This time around, major numbers of USA citizens and foreign investors are screwed. Even more exciting is the fact that this will happen regardless of your opinion, for we are in the beginning of a second-term presidency with essentially total control of the Congress.

Now lets consider the fact that goods produced in the USA should become more competitive in the global market with a devalued dollar. Well, that sounds pretty good until you realize that we are no longer in the business of producing goods! For that matter, what service do you provide that foreign countries want to purchase? Don’t bother trying to counterargue with something like our automobile businesses. They have been and are building production facilities outside the USA and they will produce ever fewer cars in the USA until such time as our wages and other costs (government mandates on employee protections like Social Security) decline to approximate parity with wages in China, India, Mexico, etc. That is not good. One might argue that our agricultural exports will not be negatively affected. Yes, that is true, and who owns the farms? If you think it is the little guy you need a wakeup call. The corporate profits from agriculture will not trickle down to the bulk of us as income.

Looking ahead, private individuals in the USA must consider financial steps that will help insulate them from pending, massive, across the board inflation. The savvy investors mentioned earlier will know the approximate timing of the devaluation(s) and they will already have engaged in currency speculation and other foreign investments, not to mention buying precious metals and other hard assets that will not decline in value. They will not have their money hidden in a mattress or "invested" in a low interest bearing savings account, which are totally vulnerable to the effects of devaluation. Ordinary people will not know the timing, simply the expected result. That means ordinary people who do not have access to inside information will be caught in a financial tsunami, unless they have somehow magically found higher ground before the fact. Unlike a real tsunami, a financial tsunami keeps on coming in repetitive waves until everything of value is washed away.

What about your IRA and 401K plan investments? In the long run, if you can defer use of your money for ten to twenty years, the strong declines in value that accompany the deflation will gradually reverse and reflect inflation. If, however, you are depending on your savings in your IRA or 401K plan to cover current expenses then you will find that you have effectively far less money than you thought. This reality is based on the immediate decline (shock reaction) in the stock market, following each devaluation, and on the follow-up decline in purchasing power due to inflation. The stock market will remain depressed for a very long time, in part due to serious inflation. You don’t want to be there unless you are young and ready to take the long ride. Instead, if you are older, you need a vehicle for your investment money that will rapidly reflect inflation.

Lets look at what can and what cannot be done in preparation. First, any debt that you have will be subject to an increasing interest rate as quickly as you are beyond a guaranteed rate period. This will come about because the Federal Reserve will make major increases in the lending rate, presumably to combat inflation. I hope by now that you know better than to believe that crap. The financial institutions that lend money to you will have to compensate those increases while maintaining a post-inflation level of profit comparable to the purchasing power of the pre-inflation period. In short, your one to five-year ARM’S will disappear simply by the passage of time and interest rates will advance as rapidly as allowed by law. Yes, the law will be changed in favor of the lending institutions, such that 2% annual rate increase caps and 12 to 14 percent absolute rate limits will cease to exist, even on existing variable rate mortgages. Only those with fixed interest mortgages will be okay, and even that needs to be controlled. Credit card interest rates will climb for the same reasons, and anyone trapped with a high balance and high interest rates will be financially destroyed, or at a minimum converted into a lifetime, indentured servant.

Okay, the hell described above leads to only one sensible conclusion. You must not have debt that will be subject to inflation. You best convert your ARM to a fixed interest loan now, one that permits you to use some equity to totally eliminate your credit card debt. Then, burn your credit cards. It is the only sensible thing to do, for later financial pressures will drive most ordinary people to rely on credit to compensate their loss of purchasing power. They will be financially destroyed. Even if you keep your job you will be living on a severely reduced income relative to the cost of goods and services.

People on fixed incomes, like pensions and Social Security, are simply "out of luck." There will be no effective increase in their income to compensate the inflation resulting from devaluation of the dollar … ever. This means retired people must take steps now to decrease their standard of living to invest in such items as gold, which is the only practical inflation fighter for common people who lack knowledge and inside information about other forms of investment. Note that property taxes will rise drastically and retired people will discover to their chagrin that forgiving of some property tax for them will disappear as communities feel the pinch of declining income relative to operating costs. In short, get out of your high priced home now. Sell it and buy something very conservative to live in, in a low tax area, and invest the remainder of your capital gain in gold or a similar precious metal or gems. If you have other investments that will not inflate to compensate dollar devaluation, like certificates of deposit, get out of them immediately and into investments like gold. In case I am not being clear, I mean buy gold physically and keep it stored safely. I do not mean buy gold stocks. Other precious metals, like platinum, are also a possibility.

One might later consider shifting precious metal assets into stocks after the market declines, but only into certain segments that will quickly reflect inflation. For example, people will continue to eat, and they will spend money at fast food restaurants. Fast food restaurants experience inflation quickly in wholesale food prices and they pass along the increased costs to the customers immediately, so they have a quick response cycle that will support their continued levels of profit. Relative to many other stocks, these may be a good investment after the market declines. Certain pharmaceutical stocks will also be good investments as people must pay for medicines to recover from serious illnesses and to maintain lifestyle from chronic medical conditions. The idea is that protection provided by precious metal assets must later be converted into growth stocks, particularly ones that quickly reflect inflation in their product prices.

The real estate cycle that eventually causes property values to reflect inflation is too tricky for the novice and inappropriate for the retiree. Our real estate prices have already inflated massively, and the right move is to sell before a large negative national event causes home values to decline for a period of five to ten or more years. Once a lot of people attempt to sell their homes the values will decline proportionately. Don’t wait. And do remember that bankruptcy looms for those who lose their jobs or find that they can’t afford to pay high property taxes in retirement. Buy small and own your home outright in a low tax area.

You might also consider low population areas, for they are less likely to float bond issues for new schools or other infrastructure improvements. Yes, you may be fifty miles or more from a good hospital, or ten miles or more away from even a supermarket. Adapt. Acquire such things as prophylactic supplies of all kinds of medicines and freeze them. You can purchase most anything you want either in Canada, with an understanding doctor, or in Mexico, where ordinary people buy whatever they want without a prescription. Even a small tank of oxygen is a good idea in case you have an emergency like a heart attack and want to increase your chance for survival during the fifty-mile ride to the hospital. So, I am talking about learning to be as self-sufficient as possible. You have to learn to get over the embedded idea that you have a supportive society to take care of you.

Growing and then canning, freezing or drying crops can significantly reduce your cost of living. If you are retired you do have plenty of time for agriculture, including limited animal husbandry, which is a euphemism for maintaining animal flesh, like chickens and their eggs, for your consumption. Use it to your advantage. Depending on your circumstances, your labor may help feed younger members of your family. Your property may be the final security for family members who lose their jobs and their homes. Make sure you can build small homes for/with them if necessary. Note that rural family compounds, which today are an oddity, were part of our history and will likely need to be part of our future. Life as we have known it through the twentieth century is about to change in a very large and negative way for ordinary people in the USA, forever, for all practical purposes.

Another consideration is the cost of petroleum products. Inflation will ultimately double the cost of gasoline, home heating oil and propane. This implies that choosing a rural area with a mild climate will work to your advantage, as you will need less heating and less air-conditioning. Yes, your electric bill in cost per kilowatt-hour will also double, at a minimum, and you will use less electric power in a milder climate. Your transportation should be sensible as you will have more miles to travel on more expensive fuel. That means buy a highly fuel efficient car (for cash) and forego SUVs and other gas hogs. Keep a pick-up truck for crop and material transport.

Looking ahead? Ugh. Prophets of doom are most often silly. Yet I challenge you with this one simple thought: Can you identify even one positive, revenue increasing financial development in our past twenty-five years that lends support to our next five to twenty years? Of course, I am limiting my challenge to the common people; the job opportunities available to them and the financial forces that they do not control that control them. I challenge you to identify any "bright" side to our present financial evolution. Our governments and our corporations have sold us out. We have been too simple-minded to even realize that we allowed it to happen through our own mental laziness and failure to be personally responsible in the present on behalf of our future. Worse, those of us who have been careful and responsible must now pay the same piper as the idiots who elected and re-elected President Bush and the congressional corporate dupes.