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Boom or Bust?

February 22, 2005

To paraphrase Mark Twain, it's a difference of opinion that makes a horse race. And for most people the most critical race of all is to amass sufficient assets to live a comfortable retirement. At the Mises Institute conference on Austrian Economics and the Financial Markets held in Las Vegas last weekend most speakers admitted that the investment world is filled mostly with risk and offers few bargains.

But, the authors of two recently published investment books believe that their crystal balls are crystal clear and that they hold the road map to riches for the coming decade.

Harry S. Dent, Jr. says that a person should be piling into stocks because by the year 2009 the DJIA will reach 40,000 and the Nasdaq will explode to at least 13,500 and possibly 20,000.

The predictions Dent makes in his book The Next Great Bubble Boom: How to Profit from the Greatest Boom in History: 2005–2009, are based on what he terms a new science: Demographics. In Dent's view, consumer-spending patterns can be projected down to neighborhood blocks. And with this data, "there is a new information-based science built on predictable cause-and-effect impacts of how we change as we age that is just as predictable on average as life insurance actuarial tables for when we die."

Conversely, in Human Action, Ludwig von Mises wrote: "For praxeology data are the bodily and psychological features of the acting men, their desires and value judgments, and the theories, doctrines, and ideologies they develop in order to adjust themselves purposively to the conditions of their environment and thus to attain the ends they are aiming at. These data, although permanent in their structure and strictly determined by the laws controlling the order of the universe, are perpetually fluctuating and varying; they change from instant to instant."

But Dent believes that human behavior and the economy can be predicted based upon demographic computer modeling. He implores the reader to stop defending the economic principles of the past. "Demographics as a new science is the greatest breakthrough we have seen in economics," writes Dent. "It is inherently very simple and understandable in principle as we all do these predictable things to some degree or another as we age."

In The Next Great Bubble Boom's prologue, Dent calls the book "the most comprehensive guide to financial and life planning ever presented." He evidently has convinced himself of his own clairvoyance and that if his readers will follow his advice they "will be able to create a more predictable and a better future…"

Dent sees the technology bubble continuing to the end of the decade after its brief correction from 2000 to 2002. Tech bubbles are different from asset bubbles (Japan land and Tulipmania) and structural instability bubbles (OPEC and Middle East) because new infrastructures are created such as the Internet and personal computers that "would not be created by normal economic incentives."

It is the innovation from the tech bubble combined with the size of the baby boom generation and the fact that investing in stocks has become a mainstream trend that is creating this great bubble boom.

Dent of course makes no mention of Austrian Business Cycle Theory or the gargantuan amount of liquidity created by the Federal Reserve in his bubble thesis. It's all about demographics and technology. "Bubbles are almost impossible to prevent," Dent writes. "The bubbles finally end when everyone is in and there is no one else to keep buying."

By the way, the end will occur sometime in 2009 or 2010: go ahead and set your clock.

Dent uses a potpourri of cycles, waves, patterns, channels and whatnot to back into his predictions, but suffice it to say, stocks are headed to the moon at the end of the decade and then it's look out below: a great deflationary crash, likely to occur "especially between April and September 2010." That will mark the end of the "last great bull market for decades to come," Dent predicts.

Anyone worrying about inflation should stop it, according to Dent. Inflation will be low and then there will be a "major wave of deflation." By the way, Dent doesn't see inflation as a monetary phenomenon. "We see [inflation] as the very fundamental cost of raising and educating young people and then incorporating them into the workforce," Dent writes. "Every major period of rising inflation in history has seen higher expenses either to fight a war or to incorporate young people into the economy…" So, in Dent's view, if there is low productivity and decreases in the production of consumer goods — that's inflation. Do they actually teach that at the Harvard MBA program that Dent graduated from?

Gold newsletter writer, James Turk and his co-writer John Rubino see things much differently. These writers believe that you must invest in gold and other hard assets to earn your fortune by the end of the decade.

In The Coming Collapse Of The Dollar And How To Profit From It: make a fortune by investing in gold and other hard assets, Turk and Rubino write that debt and deficits matter, that the central bank cannot be trusted to manage the currency, that foreign exchange markets effect the U.S. economy and that gold has a constructive role in the modern economy. The authors contend that much of our prosperity is an illusion and that the dollar, like all fiat currencies before it, will fail.

By any measure the growth curve of government has been "shockingly steep." Only $20 per citizen was spent on the federal government in 1800, by 2003 that had grown to $7,800. The growth in state and local government has grown by twice the rate of GDP since WWII and there are now 6.5 state and local government employees per 100 citizens compared to 2.3 per 100 in 1946.

Turk and Rubino write that 21.5 million people now work for governments at all levels compared to 4.5 million back in 1940.

It takes lots of money to pay for all of this bureaucracy and the Treasury is floating trillions in debt. If unfunded liabilities are included, the federal government owes $43 trillion. Households and businesses have also joined the borrowing party. The authors estimate that total debt per family of four is $500,000, and increasing at an accelerating pace.

The combined effects of the trade, current account and budget deficits will eventually destroy the dollar, a currency that "has lost an astounding 90 percent of its value versus gold, and 70 percent versus the cost of living."

As you would expect, Turk and Rubino's inflation definition is sounder than Mr. Dent's. "Inflation…means to increase the amount of something, in this case the amount of currency in circulation," they write. "Inflated currency loses value because of oversupply."

Turk and Rubino contend that the monetary demand for gold is about to soar because of the Federal Reserves inflationary policies and the fact that there is so little gold in existence — 135,000 tonnes. By way of comparison, the authors point out that 240,000 tonnes of steel are produced in the United States each day.

Central banks around the world hold much of the world's gold supply. But, Turk estimates that these central bankers have loaned out 12,000 tonnes of their gold or five years worth of mine production. As the price of the yellow metal moves up, the central banks will be "short squeezed" and forced to bid up the price of the metal to cover their short positions.

Turk and Rubino discuss the usual gold investment choices: bullion coins, bars, mining stocks, mutual funds, rare coins, and exchange traded funds. When buying physical gold, the authors urge investors to "focus on the established dealers whose longevity implies that they've managed to satisfy the bulk of their customers," and list six precious-metals dealers to call, but inexplicably fail to mention Camino Coin, a company that has been satisfying customers for 46 years.

The books longest chapter concerns gold-mining stocks and is an adequate primer on investing in this treacherous investment niche. However, do not expect any specific recommendations.

The bullish case made in the book for silver is more compelling than even that for gold. Annual demand for silver is 200 million ounces greater than mine production. Government stockpiles are shrinking, and most silver is consumed rather than horded like gold.

On a historical basis, silver is cheap versus most every measure, there are very few pure silver mines (most silver is produced as a byproduct of the mining for other metals) and it takes years to bring new mines into production.

In an interesting chart the authors compare the value of available silver stockpiles plus annual mine production to that of the combined assets of Fannie Mae and Freddie Mac (among other measures). The silver market (with the book assuming $6/oz.) was less than half a percent of the combined GSEs at the end of 2003.

For aggressive investors, Turk and Rubino provide a list of short-sale candidates comprised of big banks, homebuilders, credit card issuers and mortgage companies. They also list a few actively managed bear funds.

In conclusion, Turk and Rubino consider three likely scenarios of what will happen when the dollar implodes. The first, similar to the 1930's, has gold being confiscated and the emergence of a "bigger, more authoritarian government." The second has virtually all markets collapsing and a new generation of politicians demanding a return to gold. In the third scenario, as currency markets around the world collapse, the market chooses gold and "The Age of Paper ends with a whimper rather than a bang…"

So now it's time to place your bets: Harry Dent's Bubble Boom or Turk and Rubino's Coming Collapse. I don't know about you, but I think buying some gold and silver from Burt at Camino Coin will help me sleep better at night.

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