Don Miller (Money Morning):
The U.S. Federal Reserve may take an unorthodox approach to raising interest rates by paying interest on bank reserves rather than relying on traditional open market remedies, as it exits from its long-term fiscal stimulus programs, Reuters reported today (Tuesday).

Paying interest on reserves is mostly untested and would represent an unexpected twist in the Fed’s response to the financial meltdown.

“In the old days … the Fed controlled the federal funds rate with open market operations,” Antulio Bomfim, a former Fed economist now with Macroeconomic Advisors LLC in Washington told Reuters. “Now, at least in this period when reserves are over-abundant, the way the Fed hopes to raise the federal funds rate will be primarily by raising the interest rate it pays on reserves.”

Usually, when the central bank wants to set a target for the federal funds rate it buys or sells Treasury securities on the open market, influencing interest rates by deploying or withdrawing capital.

By paying interest on reserves, the Fed makes it attractive for banks to keep their money at the central bank as long as interest rates in private markets are lower.

By doing that, the Fed can put a floor under the lending rate that banks charge each other for overnight loans, which is the central bank’s traditional choice for influencing the economy. Open market operations to raise interest rates would be relegated to a supporting role in the initial stages of tightening.

In order to spark an economy mired in deep recession . . . Click here to read the rest of Mr. Miller’s article.

The big question preoccupying the talkers at CNBC is whether the post-March upturn is the beginning of a new bull market or only a pause in a bear market that will last for years. Don’t obsess over figuring out the answer. Markets are always perverse and unpredictable. Instead of trying to time your next buys and sells, think about what is going to happen over the next decade and how you will cope with it. You should be thinking about the purchasing value of the dollar.

Dremen, like your Notes editors, believes we are in for a bout of “wild inflation” – something along the lines of what we saw from 1979 to 1982. (For those of you too young to remember, this period saw the CPI rise 13% a year and long-dated US Treasurys yield as much as 15%.) Why this dire outlook? This, again, from Dremen:

Simply because our Treasury and its counterparts in other countries are printing money around the clock. They are also printing bonds, and with the same objective: reviving stagnant economies. The Keynesian belief that large fiscal stimulus is crucial to ending an economic downturn is prevalent among policymakers worldwide. No democratic government could stay in power these days if it didn’t undertake countermeasures against unemployment, the possibility of deflation and the worst financial crisis since the 1930s. It is inevitable that all this stimulus will be followed at some point by a period of rapidly rising prices.Central banks, including our not-so-omniscient Federal Reserve, will again fail to take the punch bowl away from the party soon enough, keeping stimulative polices going far past the point when unemployment has turned a corner and the financial debacle is behind us. Treasury Secretary Geithner and Fed boss Bernanke are trapped by politics and events. They make pronouncements downplaying the inflation threat, but inflation will hit like a tsunami within three years, maybe sooner..

So what can you do about this threat to your savings? First, sell long bonds. When inflation hits long-bond prices are going to plummet as yields skyrocket. Remember, bond market crashes can be as bad as stock market crashes.

Dremen also recommends repositioning your portfolio with heavier weightings in oil, natural resources and cyclical stocks… and cutting back on utilities and consumer staples. If you believe, like we do, that a crash in stocks is coming, hold off on buying stocks until values come off their current highs – buy the dips.

The third weapon in your armory against inflation is real estate. Dremen reckons real estate will be “one of the best investments in the years ahead.” Remember Buffett’s great contrarian maxim: “Be fearful when other are greedy and greedy when others are fearful.”

Also keep in mind Steve Sjuggerud’s rule of thumb for successful investing: buy assets that are cheap, hated and on an upswing.

The Dow was up 120 points yesterday. Now, we’re beating the bounce of 1930. The post-crash bounce in 1930 lasted 5 months. Ours began on March 9 th… so it is now in its sixth month.

And like 1930, people are coming to believe that recession is almost over… and happy times are here again.

Heck, we’re sure the trouble is behind us now; 53 economists said so!

Aug. 12 (Bloomberg) — Recovery from the worst recession since the 1930s has begun as President Barack Obama’s fiscal stimulus — derided as insufficient and budget-busting months ago — takes effect, a survey of economists indicated.

“The economy will expand 2 percent or more in four straight quarters through June, the first such streak in more than four years, according to the median of 53 forecasts in the monthly Bloomberg News survey. Analysts lifted their estimate for the third quarter by 1.2 percentage points compared with July, the biggest such boost in surveys dating from May 2003.

“We’ve averted the worst, and there are clear signs the stimulus is working,” said Kenneth Goldstein, an economist at the Conference Board in New York.

“A federal program to replace older vehicles with more fuel-efficient ones helped boost sales of cars and light trucks last month to the highest level since September, according to industry figures. Automakers, operating with lean inventories, will resume output to meet the jump in demand.

“Cash-for-clunkers was the icing on the cake,” said David Greenlaw, chief fixed-income economist at Morgan Stanley in New York. “It’s well-timed stimulus syncing with cyclical forces leading to a ramping up of production.”

Yes, now the economy is firing on all cylinders… or just about. Yep. No doubt about it. Still, there are some nagging doubts. The latest figures show foreclosures still increasing – up 7% in July from a year before. And house prices are still going down. And unemployment is still going up. And consumer prices are falling… indicating a Japan-like deflation. And business profits are falling. And consumers are cutting back. But except for that – housing, jobs, sales, profits and deflation – everything is working out beautifully.

Now that we mention it, all the indicators of real economic activity are down.

So, the feds aren’t taking any chances. Yesterday came news that the Fed would continue buying bonds at least through October. And they are not likely to raise rates either. The banks can borrow at practically zero interest… and use the money to buy Treasury bonds. The 10-year yields about 3.7%. In effect, they’re lending the money back to the people they got it from… and earning 3.7% for their trouble.

But, take away the stimulus spending… and the stimulating low interest rates… and what have you got? An economy entering a depression.

Oh, there’s the rub, isn’t it? If the feds hand out money so people can buy automobiles, people buy automobiles. If they don’t give out the money, people don’t buy automobiles. If they buy automobiles, of course, it looks like the economy is recovering. But take away the giveaways, and the recovery disappears.

Solution: keep giving away money!

Hold on… something wrong here. If you could generate economic prosperity by giving people money so they could buy things… why not give them money to buy everything? Why just autos? Why not give them money to buy financial advisory services? Ah… now we’re talking!

But let’s keep this serious… well, as serious as we can be when we talk about programs designed by knuckleheads.

So, the feds are encouraging people to buy autos. Set aside the fact that buying too many autos and other things is what got them into trouble…

… if giving people money so they could buy things actually made people prosperous, welfare recipients would be the richest people on the planet. Obviously, it doesn’t work that way. What makes people rich is the ability to earn money… not their ability to get handouts. And remember, too, the feds don’t really have any money to hand out.

They can only get money by taking it from its rightful owners – either in taxation or loans. Or, they can print it up themselves. In any case, the money adds nothing real or extra to the economy. It merely distorts the economy… twists it… misleads it… and makes it a bigger mess than it was already.

*** Here’s another reason housing prices are going down: housing priorities are changing. Baby Boomers are entering a phase in their lives when people typically escape from urban/suburban centers in favour of small towns and rural areas. If this pattern continues, it will mean a big shift of population, say the experts.

Remember, it’s what you do, who you do it with, and where you do it that counts. By the time a person reaches middle age, the first question is usually settled… the second is often in doubt… and the third is actively being considered. That is, few people begin a new career after the age of 50… but it seems like more and more decide they might want to try life with a new partner.

“I can’t imagine it,” said Elizabeth. “It just seems like too big an adjustment. It took me a quarter century to get used to you. I don’t know if I could get used to someone else…

“On the other hand, it might be fun to try… ”

Well, for whatever reason, it seems like people are changing partners – even at a rather advanced stage in life. And as for the where to live – it’s a question on practically every baby boomer’s mind.

“I just got tired of living in the city,” said a man who spent his entire career in Paris. “Just too much hassle. I’d rather visit occasionally than live there.”

Our friend has moved to the country not far from here. He has set up a small woodworking shop in a garage and happily spends his time making chairs and tables. When his house is full of them, he’ll probably have to give them to friends and relatives.

“It’s much nicer living out here than in the city,” says another friend. “And much cheaper. You can buy a whole house for half the cost of an apartment in town… and then you don’t have to pay for parking… you can raise chickens and vegetables… and you can even heat with wood, if you want. You don’t really have to spend much money at all.

“And the quality of life is higher. Small towns are more friendly. They’re prettier… usually. They’re easier. So they’re perfect for people who are retired.

“And here in France, there’s another phenomenon. When people retire, they want to go back to where they came from. Usually, they have a house they inherited from parents or grandparents. So, they leave the apartment in Paris to their children, who are just building their careers. And they retire to the country. It’s not a bad way to live.”

*** We are enjoying our month in the country. Not exactly a vacation… but close. We work in the office from 8AM until lunchtime at about 2PM. Then, we turn our attention to other things. In the summer, that means painting. We’re repainting the billiard room, because Elizabeth decided that the curtains needed to be changed. And then, we’re repainting a farmhouse, top to bottom, before renting it out.

Painting is a fairly relaxing occupation. You can do it while thinking about other things. Rolling the walls or cutting in the corners, some men might think of going hunting… or playing golf. We try to figure out what is going on in the world economy. For these are remarkable times we live in. We see what is happening… pretty much what we expected. But we’re not sure where it leads.

Readers may have noticed a shift in our thinking recently. Well, you can blame latex. As we were painting in the billiard room we began to see that governments are more incompetent than even we had realized. They can’t create inflation on demand. A few months ago, we were preparing for inflation… even hyperinflation. Now… we’re not so sure. The depression and the Chinese vigilantes may hold off inflation… even for years.

Does this mean you should sell your gold? Well… we wouldn’t go that far. Even in the Great Depression gold and gold mining stocks rose in price. And the one and only sure thing is that the world’s monetary system is dangerously unstable. We’d hold gold until it settles down. Just don’t count on getting rich from it.

Source: An Economy Entering a Depression

Our faith is weakening. That is, our faith that the government will be able to cause inflation, sooner or later. Let’s review our own narrative: deflation now, inflation later.

The deflationist view, which makes some compelling and elegant arguments, maintains that the credit losses in the U.S. financial system far surpass the size of the government’s monetary and fiscal stimulus. All those trillions in bad loans – plus the yanking of credit from consumers and businesses – overwhelm new money creation. The Fed, in other words, is trying to fill a swimming pool with a Dixie cup. This might take a while.

Therefore, this reasoning goes, the greater risk is that asset prices continue to fall. This is the classic debt-deflation point of view. I don’t dismiss these arguments lightly. I’ve spent some time going over the arguments of some of deflation’s most persuasive and sophisticated advocates – like the successful Treasury bond investor, Van Hoisington and the insightful economist, David Rosenberg.

Still, I think the endgame is for inflation — which is when paper currencies buy less. Given the choice of holding U.S. dollars or real assets (such as gold or iron ore or land), I’ll take real assets.

Over the weekend, Thomas Donlan at Barron’s presented a good analogy for it all. He asked what you would rather own as store of value, bananas or corn? The obvious answer is corn, because you can store it for months. Corn lasts longer than bananas. Fruit rots. You can also use corn for a lot of different things — corn flour, animal feed, etc. You can also arrange to sell corn into the future, say, by arranging to deliver corn so many days from today.

Corn can lose value, obviously, as can any real asset. But it is a better choice than holding the bananas.

Donlan likens paper money to bananas and natural resources to corn. “In the modern economy,” he writes, “a barrel of oil is much like a bag of corn… Paper money and bank balances are more like the bag of bananas.” When currency rots, we call that inflation.

The problem with the deflation arguments long term, it seems to me, is that you are betting against a government’s ability to destroy its own currency. Governments are seldom good at anything, but one thing they are undeniably good at is destroying their own currencies. The dollar has lost 95% or so of its value since 1913, the year the United States established the Federal Reserve. Enough said.

Long-term, betting that a government will safeguard its currency seems like a very bad bet. Deflation – or at least symptoms of deflation – may prevail today, but the real question is for how long. My own crystal ball is frustratingly cloudy on the issue. But the great rewards in investing are always with the out-of-consensus view.

The upside from holding Treasuries seems hardly worth the risk of being wrong, for instance. On the other hand, if we are right about currency rot, then we’ll make multiples of our money on natural resource stocks.

The downside on many commodities seems low, because the prices have already corrected. In several instances, as with oil and natural gas and iron ore, we are already below the marginal cost of production for much of the industry. So unless we don’t need these things at all anymore, the simple economics of the businesses involved help support a certain price structure.

And anyway, as far as the case for gold is concerned, I’ve been arguing that it is less about inflation or deflation than it is about creditworthiness in general. Gold does well during times of credit troubles. It did well in the 1930s, for instance, even though that was largely a deflationary era. Banking troubles made investors turn to gold.

On that front, we’ve got plenty of banking troubles on the way. Yesterday’s Wall Street Journal headline, buried in the middle of the paper, hints at what’s to come: “Pick-a-Pay Loans: Worse Than Subprime.” The piece begins:

“For the third straight month, option adjustable-rate mortgages are generating proportionately more delinquencies and foreclosures than subprime mortgages, the scourge of the U.S.”

These loans require only partial-interest payments each month. So the loan balances on many of these loans have actually gone up while housing prices have tumbled. Bad combination. As of April, 36% of these loans were at least 60 days past due.

These troubled loans will mean more large losses for banks — in particular for Wells Fargo, J.P. Morgan Chase and others who were active in these markets. Wells Fargo, the WSJ points out, has a mountain of this stuff — $115 billion of it.

So as long as we have banking troubles, we have the potential for fear to return in a big way. And that is when gold does well…with or without inflation. But I’m not counting inflation out just yet.

I’d use the market weakness in the gold price and in gold shares to pick up your favorite gold miners.

Source: Gold…If Not Now, When

Hmmm… Is this the beginning of the end for the “sucker’s rally”?

Mr. Market’s suffered two rough days in a row. Since Monday, the S&P 500’s down 3.5%. The Dow has fallen two days in a row as well — its worst two-day streak since the March bottom, in fact.
Best Buy — of all places — currently offers the best look into the market’s mood. The purveyor of plasma TVs and other adult toys revealed a 15% drop in quarterly profits yesterday. While the loss wasn’t as bad as Wall Street expected, Best Buy refused to brighten forward guidance, admitting “limited visibility to consumer spending in the back half of the year.”

Traders punshied Best Buy’s realistic approach with a 7% sell-off.
“A recovery requires rising, not stagnant, retail sales,”notes our macroeconomic sage, Rob Parenteau. “Flat sales revenue is not going to get retailers to expand — in fact, to make promised earnings targets, they will have to keep cutting costs, which reduces household incomes.

“We suspect the fiscal stimulus is just offsetting the deflationary pressures that were unleashed in the second half of last year and have subsequently left nominal retail sales at 2005 levels. Stabilization is not yet apparent in some of the most cyclical parts of retail sales — big-ticket items like furniture, home furnishings, electronic and appliance stores — and we suspect private debt deleveraging is still taking priority over consumer durable spending. Even realizing financial asset prices anticipate the future, we find it hard to step into consumer discretionary stocks knowing dollar sales revenue in this category has been deflating for a year and a half — that is, falling in nominal dollar value terms — to the point the sales level in this category is below where it was in 2004!

“Stagnant sales can, indeed, stick around for months on end, as this was the case in the last recession from Q1 2000 into Q3 2001. This time around, the fiscal impulse is larger, but so too is the damage to household balance sheets. Not an easy situation to evaluate, but we believe equity investors need to see something better than stable retail sales if they are to take equity indexes appreciably higher.”

(BTW, The Richebacher Society is currently accepting new member applications. Rob has been doing a great job carrying the late Dr. Richebacher’s torch… see how you too can be a part of his legacy,here.)
“Japan’s Nikkei 225 index rallied more than 40% on 10 different occasions during the last two decades,” The Rude Awakening’s Eric Fry is quick to remind us. “And yet, the Nikkei remains more than 50% below the all-time high it established in 1989.

“Could a version of this sorry scenario unfold here United States? Sure. Why not?

“The nearby charts place the recent rally on Wall Street in a “Japanese context.” The chart above compares the first 20 months of our current American bear market to the first 20 months of the Nikkei’s bear market. The chart below places this 20-month period in a 20-year context. If the American stock market were to have the misfortune of mimicking the Nikkei, the road ahead would be long and painful.

“Your California editor is not predicting such a scenario. But neither does he believe that ‘Happy days are here again.’ The road ahead — both for the economy and for the stock market — is likely to be long and painful. How long and how painful is anyone’s guess. Our guess would be: Not as bad as Japan’s experience, but much worse than most Americans currently expect.”
“People talk about green shoots, I see many yellow weeds instead,” the famously bearish (and famously right) Nouriel Roubini told Reuters yesterday, taking the popular cliché to the next level. “ When I look at the data… I see [problems with] consumption, retail sales, production, investment, housing, employment conditions, etc.

“So I expect the recession is going to last at least another six months… given the imbalance of the economy — the weak position of households, consumers, banks, financial institutions, corporates — they all have too much debt… I see a period of two years of low economic growth in the U.S.”
When the recession is over, how will we know? Last month, we explored the idea of peaking initial unemployment claims being the canary in the coal mine for economic recovery. While it’s worked in the past… we’re not convinced.

Today, check out this D-list data point — Capacity Utilization.

It’s a simple concept that’s hard to track. Capacity utilization measures what percent businesses are using existing capabilities. 100% marks an economy “firing on all cylinders,” as the corporate catchphrase goes. When consumer demand drops, so too does capacity utilization… and since 1970, it hasn’t picked up until the worst is over.

Yesterday, capacity utilization in the U.S. found a record low of 68.3%. The Federal Reserve said utilization fell another 0.7 percentage points from April to May, to the lowest score since at least 1967, when they started keeping track. Factory output is down 13.4% over the last year, the biggest drop since 1946.
The return of market pessimism has given the bond bubble a stay of execution. After skimming 4% this time last week, the yield on a 10-year note is all the way back down to 3.65% today. Traders are using the same playbook from late 2008 — sell stocks and commodities, buy Treasuries and dollars.
But despite the bond bust’s reprieve, mainstream media are finally cluing into our nearly bottomless pit of debt.Exhibit A, this week’s Economist cover:

Exhibit B: “America’s Sea of Red Ink Was Years in the Making,” headlines a recent New York Times article. “This debt,” reads the Old Gray Lady, “will constrain the country’s choices for years and could end up doing serious economic damage if foreign lenders become unwilling to finance it.

“The solution, though, is no mystery. It will involve some combination of tax increases and spending cuts. And it won’t be limited to pay-as-you-go rules, tax increases on somebody else or a crackdown on waste, fraud and abuse. Your taxes will probably go up, and some government programs you favor will become less generous.

“That is the legacy of our trillion-dollar deficits. Erasing them will be one of the great political issues of the coming decade.”

“Who would have thought?” asks Addison Wiggin, clearly trying his hardest to stifle a cynical rant. “That’s practically the verbatim conclusion of our film, which finished shooting over a year ago. Funny, it’s also the core thesis of a book called Empire of Debt, which we published in 2006.

“For our efforts, we endured years of being called ‘gloom and doomers’… alarmists not connected with the reality that ‘deficits don’t matter.’ And now these two rags think they’re breaking news about how debt grows over time and will one day cripple our economy? Heh… really?
“There’s no doubt that we’ve got a serious problem in terms of our long-term deficits and debt,” President Obama added yesterday. Very good, Mr. President… admitting you have a problem is the first step.

“I am concerned about the long-term issue of our structural deficit and our long-term debt,” he added in a separate interview, “because if we don’t get a handle on that, then there’s no doubt that at some point, whether it’s the Chinese, the Koreans, the Japanese, whoever else has been snatching up Treasuries are going to decide that this is too much of a risk.”

Yet the president is sticking to his guns… just like those before him: “I make no apologies for having acted short term to deal with our recession.” Once his agenda is accomplished, he assured CNBC, “we’re going to have to close that gap between the amount of money coming in and the amount of money going out.” Right… save that crisis for another day.
Consumer inflation fell 1.3% over the last 12 months,claims the government today, the biggest decline since 1950. According to Commerce Department data, energy costs are leading the way, down 27.3% annually. Like yesterday’s PPI, the consumer price index actually inched up last month, by 0.1%. That was still notably less than the 0.3% the Street anticipated.

Thus Uncle Sam can still claim inflation is out of the picture… and the printing presses can keep rollin’.
Last today, an opportunity:

“Phones and mobile devices are still growing explosively,” notes our breakthrough tech analyst Patrick Cox. “About half the world hasn’t even got phones yet. Those that do have mobile phones will be upgrading regularly as more functionality becomes available. In the process, personal computing and the Web will come to most people first through their phones.

“Rather than ‘phones,’ perhaps I ought to use the term used in tech circles: ‘mobile devices.’ In fact, the word ‘phone’ seriously understates the functionality of new mobile devices like the iPhone; Google’s Android; and my favorite, the multi-tasking fully Web-integrated Palm Pre. These devices incorporate powerful multimedia players with room for more video and music than I would even want to have cluttering my house on physical discs. More importantly, they are platforms capable of running increasingly sophisticated software, ranging from productivity to GPS devices.

“We know, pretty much, where this is leading. We will carry, in a mobile device, the computer processing chips that run and integrate all our electronics. This includes phones, computers and televisions, as well as various appliances like home security systems and Kindles. Eventually, your robotic business and domestic assistants will also be part of this system.

“Accelerating efficiency in chip performance, of course, will make this possible. As I wrote recently, that acceleration is not slowing with the overall economy. Chip makers are forging ahead, realizing that the downturn will end. They well know that those who are not prepared for renewed growth will fall behind and fail. This is also true, by the way, for investors. You need to be prepared for the recovery. Even if the debt drag prevents optimum economic growth, there will still be sectors that do spectacularly well.”

Patrick’s Breakthrough Technology Alert readers are aptly prepared… are you? Check out his latest special report, here.

Source:  Death of the Sucker’s Rally, Spotting the Recession’s End, A Rapidly Growing Sector and More!

What was giving us nightmares was Japan. If fiscal stimulus is so stimulating, then Japan would have experienced on the of the biggest economic booms of all time after its government ramped up the debt-to-GDP ratio there from 50% to almost 170% to ward of the recession that struck the former Asian powerhouse in the 1990s.

Instead, as Van Hoisington and Lucy Hunt put it recently in John’s Mauldin’s Quarterly Review and Outlook, Japans economy “is in shambles.”

After two decades of repeated disappointments, Japan is in the midst of its worst recession since the end of World War II. In the fourth quarter, their GDP declined almost twice as fast as that of the U.S. or the EU. The huge increase in Japanese government debt was created when it provided funds to salvage failing banks, insurance and other companies, plus transitory tax relief and make-work projects.

In 2008, after two decades of massive debt increases, the Nikkei 225 average was 77% lower than in 1989, and the yield on long Japanese Government Bonds was less than 1.5%. As the Government Debt to GDP ratio surged, interest rates and stock prices fell, reflecting the negative consequences of the transfer of financial resources from the private to the public sector. Thus, the fiscal largesse did not restore Japan to prosperity. The deprivation of private sector funds suggested that these policy actions served to impede, rather than facilitate, economic activity.

It seems fiscal stimulus, by sucking investment into government spending, can actually be deflationary rather than inflationary.

Another problem is monetary velocity. Although the Fed can increase monetary base, it cannot force the banks to lend out this money and thus create the credit necessary for inflation to occur. Right now, banks would rather sit on their reserves rather than lend it out and risk default due to deflation. And as long as banks hold onto their toxic assets, they will need all the cash they can get to cover the costs of writedowns and credit losses.

In this way, the banks in their current state are more like vampires than zombies: they are sucking the lifeblood (money) out of the economy and perpetuating the deflationary spiral the feds are stuffing them full of money to avoid.

It continues to amaze us here at Notes that the Obama administration has so far gotten away with protecting banks’ unsecured creditors at the expense of the economy as whole. Of course, this can’t last forever. And once the banks do start lending again… we could be in for a serious inflationary surprise.

This from Reuters, London:

Gold fell nearly 2 percent in Europe on Monday as investors took profits after recent gains, amid disappointment the metal had failed to beat resistance near $930 an ounce last week.

Spot gold slipped to $895.65/897.65 an ounce at 1446 GMT, down from $911.70 in New York late on Friday. Earlier it touched a low of $893.15.

U.S. gold futures for April delivery on the COMEX division of the New York Mercantile Exchange fell $16.30 to $897.60 an ounce.

“There has been some profit taking and disappointment we couldn’t break through $930, even with strong demand from ETFs,” said Commerzbank senior trader Michael Kempinski.

Signs of a recovery in equities, and hopes the Obama administration’s stimulus plan will boost U.S. growth, are taking the heat out of safe-haven buying for exchange-traded funds.

“Stocks had a good performance last week and Barclays had some nice figures today,” said Kempinski. “Probably the safe-haven buying argument is gone for the time being.”

Traders are awaiting an announcement on Washington’s massive stimulus plan and bank rescue package. The Senate was due to vote on the package later this session to clear the way for its passage on Tuesday.

SPDR Gold Trust (GLD), the world’s largest bullion-backed exchange traded fund, said its holdings were static on Friday after rising to a record on two successive days last week.

Gold continued to break its correlation with its main external drivers — oil and the dollar-euro exchange rate.

The dollar weakened against the euro, weighed down by uncertainty over the details of U.S. plans for massive fiscal stimulus, and a much-anticipated package to help banks. A weaker dollar usually benefits gold.

Gold also ignored rising oil prices, which are also typically supportive.

OUTPUT ROSE

The world’s third-largest gold miner, AngloGold Ashanti , said its output rose to 1.268 million ounces in the three months to end-December and said its cash costs at $422 an ounce showed a 13 percent improvement on the previous quarter.

The miner said it plans to keep trimming its hedgebook this year, using $900 an ounce as a guide price for the precious metal. The company reported a fourth-quarter headline loss of 5 cents per share, missing market expectations.

Silver slipped to $12.91/12.99 an ounce from $13.06. The white metal has benefited from technical buying as the gold-silver price ratio declines, analysts said.

“(Silver) continues to make back ground against gold as some investors look to cheaper alternatives to the yellow metal,” James Moore, an analyst at TheBullionDesk.com, said.

Platinum eased to $985/990 an ounce from $999.50. Precious metals consultancy Johnson Matthey said it expects platinum demand to fall 5 percent this year, and held its price forecast for the metal at $700-1,400 an ounce.

South African production will be slightly up, it said, due to new mines, despite the announced closures of some other facilities.

The world’s biggest platinum miner Anglo Platinum reported higher earnings but flagged up cost pressures as it cut its final dividend and said it may cut jobs if prices fall further.

The company, a unit of Anglo American , said it produced 2.39 million ounces of refined platinum last year, slightly below targets.

Spot palladium was at $206/210 against $210.

Palladium jumped 11 percent last week on the back of fund interest in the metal, which is seen as good value compared to platinum. The ZKB palladium ETF saw an inflow of more than 1 percent or 6,365 ounces last Thursday

LONDON, Feb 9 (Reuters)

Wall Street was poised for a lower open on Tuesday as investors fretted over grim earnings and the health of the banking sector, highlighting difficulties facing U.S. President-elect Barack Obama.

Optimism over a plan by Obama, who will be sworn in later on Tuesday, to push for a fresh stimulus package to stave off a worsening economy could help cushion the market.

But the banking sector could weigh heavily, taking a cue from global markets after Britain’s Royal Bank of Scotland on Monday posted the biggest loss in U.K. corporate history, even as Britain launched a second bank rescue plan.

Banks have been at the epicenter of the credit crunch and resulting economic slowdown that has spread around the world. Among laggards before the bell were Citigroup , which was down 4.9 percent at $3.33, while Bank of America lost 10.9 percent to $6.40.

“As excited as we are about the change in (the U.S.) administration and the history that we’re making in this country and what fiscal stimulus might look like, we’re also, unfortunately, realistically taking a good hard look at the earnings power of corporate America,” said Arthur Hogan, chief market analyst at Jefferies & Co in Boston.

“If last week was any early indication, it won’t be a very attractive earnings reporting season.”

S&P 500 futures fell 13.40 points and were below fair value, a formula that evaluates pricing by taking into account interest rates, dividends and time to expiration on the contract. Dow Jones industrial average futures were down 93 points, and Nasdaq 100 futures lost 9.50 points.

Shares of State Street Corp dove 35.2 percent to $23.56 before the opening bell after the financial services company posted rising unrealized losses in its commercial paper program and investment portfolio, as well as lower fourth quarter profit.

Dow component Johnson & Johnson fell 2 percent to $56.30 after the company posted a rise in fourth-quarter profit even though its sales fell nearly 5 percent.

Energy companies could also come under pressure as the price of oil slid below $34 a barrel after a deal between Russia and Ukraine cleared the way for the resumption of gas supplies to Europe. Shares of Exxon Mobil were down 2.7 percent at $76 in pre-market trading, while Chevron fell 1 percent to $71.02.

In the auto sector, Italy’s Fiat took a 35 percent stake in Chrysler as part of a venture designed to secure the U.S. automaker’s future. The fate of the ailing sector has weighed on Wall Street, as a failure of one or more of the Big Three Detroit car makers would likely have repercussions throughout the economy.

Shares of Intel could weigh on the Nasdaq after a report that the world’s largest chip maker has cut the price of some processors by as much as 48 percent. Intel was off 1.2 percent to $13.57.

NEW YORK, Jan 20 (Reuters)

There is certainly more stimulus than in any previous recession. The benchmark Federal Funds rate is essentially at zero, which has never previously been attempted, while inflation is still positive. The money supply has been increased by almost 20% in the last three months, which one would normally expect to lead to higher inflation.

On the fiscal side, the $1.19 trillion deficit forecast by the CBO is 8.3% of gross domestic product (GDP), considerably higher than the previous record of 6% of GDP in the recession-ridden year of 1983. And that deficit calculation doesn’t include President-elect Obama’s stimulus plan, which at $800 billion over two years could add $400 billion to the deficit and push it to more than 10% of GDP.

With both monetary and fiscal stimulus stronger than ever before in peacetime, the government is running the economy absolutely flat-out. Only if you thought the government had no effect at all on economic activity could you believe that recession and deflation would continue.

The initial rationale for all of this stimulus was the unprecedented nature of the housing finance disaster, with drops in market prices and loan-loss levels not seen since the Great Depression. Had the U.S. banking system imploded – as it seemed destined to back in September – the resulting recession could indeed have rivaled the Great Depression.

However the $350 billion from the first tranche of the Troubled Assets Relief Program (TARP), mostly invested directly into bank capital (although a number of banks admittedly used the taxpayer-provided infusion to play “let’s make a deal“), appears to have stabilized matters.

JP Morgan Chase & Co. (JPM), for example, is expected to make losses of around $2 billion in the fourth quarter of 2008 – a nasty result to be sure but by no means unexpected in a quarter when stock markets dropped 20% and illiquidity was at its height. With $25 billion of new capital from Uncle Sam, JP Morgan now has plenty of wiggle-room to survive – even in an extended downturn.

In 2009, further trouble may lurk for the weaker U.S. banks, but strong banks like JPM should gain market share and do quite well.

With liquidity now largely restored by both the TARP and by federal asset purchases, there would seem no reason why the banks’ corporate lending should be any more restricted than in previous moderate recessions. In those circumstances, the unprecedented fiscal and monetary stimulus should, in the short-term, produce a stock market bounce, an economic recovery, a dramatic run-up in the price of gold, and soaring inflation, in that order.

The conventional wisdom is that the U.S. economy will have a very difficult first half, but that recovery may appear in the second half of 2009.

These things are very difficult to predict, but my money would be on precisely the reverse scenario: The stock market will be strong in the short-term, and economic numbers will turn around quite rapidly, perhaps even producing modest first-quarter GDP growth, and quite robust economic growth in the second quarter.

By late summer, however, the resurgence in inflation and financing difficulties in the U.S. Treasury bond market will cause an increase in long-term interest rates, accompanied by a reassessment of the U.S. Federal Reserve’s 0% short-term interest rate policy.

That will cause the stock market to reverse direction and head downward.

Serious consumer price inflation will take longer to appear. But by the end of the year and in the first half of 2010, prices will be rapidly rising. Accordingly, both the Fed and the Obama administration will have to begin reversing their stimulative policies, raising interest rates and cutting public spending – or even raising taxes. The policy reversal will cause a second economic downturn, but one that’s of a very different nature from the first.

The current downturn has been caused by a collapse in asset prices, and has been reversed by exceptionally strong monetary and fiscal stimulus policies. However, the second downturn will be sparked by a crisis in the long-term bond markets, will be more concentrated on the real economy than on just the financial sector, and is likely to be much more prolonged since fiscal and monetary policies will be forced to be restrictive.

Monetary policy will have to be tightened to fight surging inflation, while fiscal policy will foster a lengthy battle in the administration and in Congress between the economic necessity of austerity and its hugely unattractive political effects.

Reversing such extreme fiscal and monetary policies will be exceptionally painful, and the second leg of the recession will thus be exceptionally damaging to U.S. corporate profits and to U.S. stock prices. The stock market is likely to take out its November lows by a considerable margin, although at its nadir it will offer patient investors an exceptional long-term bargain – just as it did in 1932, 1949 and 1982, with high real long-term returns for those bold enough to invest.

Currently, the balance of probabilities favors a rising market in the short term – perhaps even rising quite sharply because of the exceptional strength of the current monetary and fiscal stimulus. Gold and gold-mining shares should do particularly well.

Let’s enjoy this projected short-term bull run while it lasts!

Source: Obama’s Stimulus Plan: When is There “Too Much” Stimulus?