Politicians have met the bond market. Legislators in Washington have spent lavishly for decades, and the bill is now due. Standard and Poor’s change in outlook for U.S. Treasury securities from “stable” to “negative” serves as a stark reminder that profligate spending has consequences. While fiat currencies can mask the ill effects of unchecked fiscal policy, governments, ultimately, cannot escape the scrutiny of markets.
Sound money does not permit chronic deficit spending. Under the gold standard, central banks could not create unlimited supplies of money because currencies were convertible to gold, which is finite in supply. This restriction, in turn, prohibited central banks from being open-ended lenders to their governments. Politicians could not simply spend and effectively “inflate away” the real value of any debt they might incur, as is standard practice today.
The U.S. Treasury has held unique status as the only entity capable of taxing the world’s largest economy, which accounts for roughly 25 percent of nominal global economic output. Thus, even under a fiat regime, Treasury securities have long enjoyed status as a proxy for a “risk free” asset. Though that status is now being questioned openly, we have never regarded Treasuries, or any other financial asset to be “risk free.” This conviction is evident in our longstanding inclusion of gold and foreign equities among our recommended assets.
The extent to which monetary policy will be reformed is uncertain, but it is becoming increasingly clear that the status quo is not an option. Resumption of a sound money standard may seem remote, but cannot be ruled out (see page 30 for more). In previous issues we have discussed plausible alternatives, such as targeting a specific inflation rate or rate of growth in money supply. While these remedies might not impose a fiscal discipline as effective as that imposed by a dollar backed by tangible assets, they would also not be as susceptible to deflation, a drawback inherent in the gold standard.
Also In This Issue
Quarterly Review Of Investment Policy
Municipal Bond Worries
The High-Yield Dow Investment Strategy
Recent Market Statistics
The Dow Jones Industrials Ranked By Yield
Recommended Investment Vehicles
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