The Great Credit Contraction
Liquidity Pyramid. Source: http://www.runtogold.com/
The Great Credit Contraction is a book by Trace Mayer, J.D. which covers the credit contraction of our times, in the face of quantitative easing and ongoing efforts to reflate.
This book gets straight to the point, which can be a little intimidating at first glance. The book deals with the idea that we are currently witnessing a flight of assets to safer and less-risky assets: Assets are moving down the pyramid.
Since debt deflation and a reduction in credit is something that we are actually living through at this moment, I find that this makes a lot of sense to me. Ben Bernanke and his team are trying very hard to get assets to move back up the pyramid, but people are being stubborn and they are continuing to save and move to assets with a lower level of perceived risk.
With high unemployment, bleak prospects, and a world that is growing increasingly competitive, all of the mal-investment is slowly being revealed. We’ve already seen this in the housing sector in the U.S., and it is possible that we will continue to see asset values essentially “vaporize” into thin air as it is revealed that the foundations those values were built upon were less stable than believed.
Powerful points that I learned from reading this book
Trace covers a wide array of topics related to the great credit contraction and its consequences, and he even looks at privacy issues, as well as giving us his take on whether gold confiscation will rear its ugly head again.
I learned a few valuable lessons from this book, first among them being that we can, and perhaps should use gold as our measuring stick of progress, instead of the dollar. If gold and commodity prices follow each other roughly over time, then if our investments are growing in terms of gold and silver, then we can also say that our investments are creating wealth in real terms. Notice that this is a completely separate idea from actually buying and holding gold and silver.
Gold can also be a valuable asset to hold as stored wealth with the lowest risk of capital. Derivatives can vanish into thin air and credit can collapse, and even Treasuries can end up giving you a negative rate of return, but if everything burned down to the ground, gold would still be there. When gold is left free and in the hands of the people, then instead of being a cross to crucify mankind on, it turns into mankind’s protection and savior from the destructiveness of the credit cycle and of rampant central banking. This may be the most important way to view gold, rather than viewing it as a speculative investment.
What could be improved
Gold is mentioned as having “intrinsic value” more than several times, but as any true follower of the Austrian school of economics knows, value exists only in the eye of the beholder. 🙂 To be fair, Trace does say that if gold didn’t exist, then the market would choose suitable alternatives; it would prefer the alternative with the lowest cost of capital.
I also would have liked to see more explanation behind assertions such as “Gold remains money everywhere, at all times.” While it may be true that if you are on a jet plane and crash on a remote island, then the local villagers will probably accept your gold as money, it does not follow that such a statement is true in and of itself. I think that the book would benefit with more background surrounding these statements, such as the properties of gold that led the market to choose it as money.
Recommendation
If you are interested in learning more about The Great Credit Contraction and the role that gold has to play, then I would recommend giving this title a read. Trace Mayer is a very intelligent writer who is not trying to sell any get rick quick schemes or peddle misinformation; I feel that he truly believes in what he writes, and you will be able to learn something from his unique perspective on things.
If you are interested in reading more of Trace Mayer’s thoughts, he recently wrote the guest post The Great Credit Contraction And How To Use Gold As Money here at Invest It Wisely, and he also writes at Run To Gold and How To Vanish.
Properties of gold? Austrian pop quiz!
Let’s see, off the top of my head: convenient (value dense) divisible (unlike a cow), consistent (unlike cowrie shells), durable (silver tarnishes) and scarce. I think I may have missed one.
Good review, Kevin. I’ve never viewed gold in and of itself as an investment, but simply another form of money, tucked away under the mattress. Gold mutual funds and direct purchase of precious metal mining companies are more direct “investments”.
Attractive? After all, we use it in jewelry, and a bullion coin can be pretty nice to look at. 🙂
Very intelligent and balanced review. I’ll be curious to see how history treats this unusual economic time. I like how you consistently discuss pros and cons in your reviews. Sounds like there’s some good meat in the book.
Times will definitely be interesting! So many factors and things pulling in different directions…
Kevin,
Glad to see the review. In 1971 an ounce of gold cost $35, today $1400. This is the result of massive levels of debt in the fiat backed (good as your word) system. When governments print too much money their currency loses value. Yet when looking at gold, people do not account for the massive amount of derivatives in the system. It is almost as if they think derivatives don’t matter or count. Tell that to Bear Stearns or Lehman et al.
Because they are able (Central Banks) they would rather print more money (debt) than let the banks go down. This is the way the current system was designed. Gold is only reflecting this trouble and predicament in all fiat currencies. I wish this wasn’t so but it’s as obvious as the sun coming up.
The currency markets are primarily dollar euro and yen. Each of these 3 are in trouble, but people think that BECAUSE we can issue debt all will be okay. Gold is the inverse and “always money” because it is not a promise that is contingent upon someone’s ability to pay. Hence, it remains money at all times. Always has been. The reason it’s up so much now is that it doesn’t have the “issues” the Euro, Yen and Dollar have. Here’s a good listen for the state of the Euro (Disaster) http://kingworldnews.com/kingworldnews/Broadcast/Entries/2010/12/1_MEP_Nigel_Farage.html
The smaller Euro countries are dropping one at a time due to this debt/entitlements. Gold is a safe haven in this environment. Problem is most people are using the logic from the real estate market and tech bubble with gold, when it’s completely backwards. There will come a time when “paper currencies” will be seen as valuable as internet stock duds and over priced mortgages. It’s happening and most people do not even see it. They don’t have a clue how destructive derivatives are and think they will just vanish. The problem is in order for them to go away the whole system goes. Or, you print the debt as repayment. That’s the stage we’re sitting in. I don’t own gold and silver because I like them or am a gold bug. It’s because the system IS contracting and it will have to be redone. I believe you clearly grasped this from your review. Yet, I can sense your hesitancy to actually believe what’s actually happening. Those derivatives are real. Gold has no tie to them.
The system will have to be redone. It long long long overdue and we’ll be better off for it.
Thanks for the great comment, Mike. I am still learning and it’s still unclear to me the degree of danger that these derivatives represent and what the implications are. The dollar amounts seem large, but I feel that there is more to it than this. However, I do believe the Fed’s efforts to push things in the wrong direction are clearly just going to make things worse. I think it’s important to read and learn from different perspectives, and I appreciate you and Trace coming by and sharing with us. 🙂
It does sound interesting; I am always skeptical of people who come across as peddling gold instead of trying to have an intelligent discussion about investing. I’ll have to read a little bit more about him and his book. Thanks for the review.
If you look at the dollar as falling instead of gold as rising, it certainly does paint a different picture of things. Gotta keep in mind too that it’s actually all commodities, not just gold. Seen gas prices lately? (Ok, you’re not Canadian, but still. ;))
Sounds like a great topic that isn’t in the typical financial book!
I’ll have to check it out.
You can always start out with Trace’s guest post here: http://www.investitwisely.com/the-great-credit-contraction-and-how-to-use-gold-as-money/
It’s a pretty good introduction.
Another fine, balanced review Kevin. Well done.
When can I review your book? 🙂
Kevin,
This sounds like a great book. Until citizens start to demand sound finances from our govenments and the central banks, they will continue to play this charade with our currencies and other instruments.
Unfortunately, few people are aware and most are apathetic to these problems. So, I expect this to continue in the future, unless something catastrophic happens.
We are the problem, I agree. We don’t want to pay tax, yet we want benefits. We want others to foot the bill, and we’ll vote for it! But, we’ll refuse to pay for it when the time comes…
It’s like the recent tax cut extension. It’s a nice benefit for those who would otherwise have to pay higher tax, but if spending isn’t reduced, what will it really accomplish down the road?
Derivatives are like fools gold in my book, so let’s hope the money doesn’t head in that direction again.
I wonder if people are eventually going to bite and if the banks are going to start lending again? I also wonder how the excess reserves will also be withdrawn in that case…
For all interested in the topic above, you may find the following article a good and informative read
http://www.ritholtz.com/blog/2010/11/brodsky-on-gold/
Thanks for sharing that read, Mike. I’m going to go check it out.