Parlier earns about $13 an hour. She’d like to become one of the better-paid workers in the plant, but, in today’s factories, that requires an enormous leap in skills. It feels cruel, Davidson writes, to mention all the things Parlier would have to learn to move up. She doesn’t know the computer language that runs the machines. “She doesn’t know trigonometry or calculus, and she’s never studied the properties of cutting tools or metals. She doesn’t know how to maintain a tolerance of 0.25 microns, or what tolerance means in this context, or what a micron is.”

A good attitude and hustle have taken Parlier as far as they can. It’s hard, given her situation, to acquire the skills she needs to realize the American dream.

The Gold Report: Ian, you have been involved in the markets for 50 years. How much of today’s market is a repeat of a cycle you’ve seen before and how much is unique?

Ian McAvity: Cyclical and secular trends haven’t really changed, but each one has slightly different characteristics. From 1982 to 2000, there was a powerful secular uptrend in the S&P 500. Since 2000, there’s been a secular bear trend, sideways or downtrend not dissimilar to 1966–1982 or 1932–1949 that may run through 2016 or 2018.

The big change has been the utter corruption of Wall Street and that nearly 80% of the trading on the New York Stock Exchange now is being done by high-velocity computers. When an investor puts in an order, it’s basically one computer versus another computer operating in nanoseconds. That’s why all of a sudden the volume is up or down 10 to 1 and you get a couple of hundred points added on or taken off the Dow in minutes. To me that’s a corruption of the process. “Ethics” and “Wall Street” are words you never use in the same sentence.

The trading mechanism is broken down. Leveraged exchange-traded funds (ETFs) are designed to consume the client’s capital in leveraging and rebalancing premiums. The high velocity traders literally get the opportunity to “front-run” public orders as the order flow to “the market” is available to them for a fee. It’s outrageous in the sense that they’ve legalized front running for those who pay up for the high-speed data feed. And then there’s the initial public offering (IPO) business. Anytime the public can get shares in an IPO, they don’t want it. If they can get some, it’s only because it’s not going to be that good a deal.

TGR: Is it the corruption of Wall Street or the development of Wall Street through technology?

IMcA: It’s the culture of greed coming out of the banking system. The Street always wanted to make money. That’s never gone away. But there was a time when good clients were actually respected by a firm. A firm wanted to do well for a good client because it wanted to keep the family assets in the firm. These days a client is considered to be a mark. The system is designed to convert the client’s capital into their fees and income as quickly as possible. The public is being chased out. There have been persistent outflows from domestic equity mutual funds since 2007. A lot of people justifiably don’t trust it.

TGR: Or perhaps the public just doesn’t have the tools and the speed to become an influential member of the market?

IMcA: Let me give you an example. The average daily turnover for one gold mining junior ETF is $100 million (M). Probably $80M is day trading where there is no net investment. To call moment-by-moment trading “investment” to me is a sacrilege. There’s no way that people are making a rational investment decision in that sense. I’d rather go to Vegas where they’ve got pretty girls serving you a drink while you gamble.

TGR: Aren’t day traders just playing nagainst each other? Someone bets it goes up. Someone else bets it goes down. They wait a very short period. Ultimately, it just evens out.

IMcA: In theory it works itself out, but it creates an illusion of growth that distorts trends because it injects volatility. The majority of the billions of dollars that are trading every day is intraday noise. All the computers scalping each other for as little as a tenth of a cent.

TGR: The market was up the other day in reaction to the debt plan that came out of Europe. Is this a real increase or just more intraday noise?

IMcA: One batch of traders shorted at the opening burst, but that afternoon it didn’t sell back. All the guys that shorted in the morning got their clocks cleaned and had to cover in the afternoon. That’s why there was a second rush into the close. That trading activity is symptomatic of what’s wrong with this market. Markets are being driven by headlines. Plus, the headlines are being misinterpreted most of the time. At first, it appeared that Europe had a perfect solution for everything. Then, by the end of the day, we were discovering that there were a lot of details missing and it was unclear how many parliaments have to approve the plan. Every day there’s a leak of some unsubstantiated “plan” and later it’s denied but the cheerleaders at CNBC seem to take every wiggle as gospel.

TGR: Is it driven by headlines or the 24/7 news cycle?

IMcA: I wish the news cycle was as slow as 24/7. When people are trading on one-minute and five-minute charts, a 24/7 news cycle can’t keep up with it. It’s not healthy to have this much liquidity. What it reflects is that the bailout of the banks has flooded the system with liquidity, but none of that is trickling down to Main Street or out into the real world. It’s just sloshing around in the financial markets. The velocity of trading reflects that the system is swimming in liquidity and nobody is feeling sufficiently brave to take any risk home overnight. We’ll churn the daylights out of it, but flatten the position before lunch or the close.

TGR: How does an individual investor operate in this environment?

IMcA: Basically hide. A number of people have told me that they’ve become day traders and I ask them how they’re doing and they say, “Well, I’m not quite there yet. I know I can make money doing it.” I tell them not to blow all of their capital while they try to learn. It’s an exploitable game for somebody that has the self-discipline. But it requires a degree of self-discipline that 90% of the people that try it will never acquire.

TGR: At The New Orleans Investment Conference where you spoke in late October, many speakers talked about how junior gold stocks are essentially on sale, inferring that this is the time to buy. Should investors run and hide from a corrupt and frothy market, or go out and buy?

IMcA: You’ve got to watch the inter-market relationships. The gold stocks have been very poor performers relative to the gold price. In the last 12 months, the junior gold stocks have been particularly bad even relative to the senior gold stocks. That is creating an undervalued situation. But undervalued doesn’t mean go out and buy it tomorrow morning. Yes, there was a marvelous October rally after five down months in the S&P. However, I believe that the S&P is going to go back down and at least probe the last lows, if not break them by year end or March. The junior gold mining shares will test their recent lows and then start to show relative performance where they’re not falling as much as the stock market. I’m watching for that type of relative strength and that’s when I would be looking to buy them. I wouldn’t be surprised if the gold price came back down to $1,650 an ounce (oz) as well.

I’m looking for a point where I want to buy, where for several months I was saying I wouldn’t even think about it. A lot of the excesses have been wound out, but the best buying opportunity still lies ahead. Year-end tax loss selling and a sharp down turn in the S&P where everyone is looking for a year-end rally could provide a great buying opportunity for the juniors soon.

TGR: You’re a technical analyst who relies on a lot of charts. What are you seeing in charts that make you believe that the S&P is going to pull back to its lows?

IMcA: I’m basing that on cyclical analysis within secular trends of the Dow Jones Industrial Average. I believe the top this year goes back to February as the cyclical top of the rebound off the 2009 lows, while the S&P made its actual peak in May. On a secular basis, I view this as the second half of the bear market that started in 2007. The first half of the financial bubble was undone from 2007 to 2009. The second half will run through 2012. There could also be a final low that may be as far out as 2016.

The undoing of the debt bubble over the last three decades is not a short-term affair. It’s going to take a long time to work off. The housing market has not seen its bottom. Job numbers are going to get worse. Everything that they are doing in Washington just says that they are looking for new ways to screw it up.

TGR: You’re expecting a double-dip recession.

IMcA: It will be called a double-dip only because they’ve engineered what appeared to be a recovery, but there hasn’t really been a recovery that restored many lost jobs or did much more than temporarily slow the pace of decline in the housing market. All of the money and the liquidity that they threw into the market tweaked a few of the numbers in the gross domestic product to create the appearance of a recovery, but barely a penny of it ever got to Main Street.

TGR: Main Street is starting to spend a bit more.

IMcA: That’s like saying there is a housing recovery because housing starts went up from 420,000 to 425,000. Housing starts used to be 1 million.

TGR: When will the economy get through this mess and start on a real recovery?

IMcA: It’s going to take several years. It might start to show some signs of recovery in 2013 or 2014, or perhaps as late as 2016.

If the S&P is below 1,258 on Dec. 31, 2011, it will be the first down pre-election year since 1939. Election years don’t have as bullish a record as pre-election years. But how much fun has this year been so far? The market’s going to find a bottom for bear market rally bounces. Ned Davis Research Group created a model that I’ve modified that projects a decline in the Dow to a prospective cyclical bottom between 8,200 and 8,400 in August or September 2012 if we experience only an “average” bear market. I fear that it could be a lot worse than “average” given the geopolitical uncertainties as a backdrop.

TGR: Wow, that’s a claim.

IMcA: It’s interesting to see a cyclical decline projected through an election year. It’s not unprecedented, but it’s quite unusual.

TGR: You said earlier that you expect the gold price to pull back again. Do you expect it to pull back below its 200-day moving average?

IMcA: No. The market has come back and tested the $1,600/oz level twice. The last bounce off the $1,600/oz level was pretty credible. I’d be surprised if $1,600/oz is broken now.

TGR: You don’t believe that gold is a bubble then?

IMcA: Whenever somebody talks about gold being in a bubble, I tell them to look at the credit and stock markets. If the gold price is at $1,900/oz, it’s 2.2 times the high in 1980. However, debt in the U.S. is 12 times its early 1980 level. The S&P is trading at 10 times its 1980 level. The credit market and the stock market are about five times ahead of the gold price. I don’t forecast that the gold price will reach five times its 1980 highs, but it might. If it gets there then you can start talking about a bubble.

TGR: Do you believe that gold will replace fiat currency?

IMcA: I don’t know that it will ever replace fiat currency. The leadership of the G13, China, Brazil, and India, are probably going to push the old world to go back to some sort of a central discipline, such as indexing to a basket of commodities. It’s too cumbersome in the modern world to return to a gold standard. But I can envision an international governing body being proposed to push for some discipline such as the Bretton Woods Agreement after World War Two.

TGR: What’s in the basket?

IMcA: Gold, silver, oil, copper and conventional food.

The problem is no central banker ever wants to surrender sovereignty to some other body. The U.S. government is always going to want to call all the shots. But the U.S. government isn’t what it once was. The rest of the world is increasingly going to communicate that message. At some stage, the world needs a globally accepted common denominator. China, Brazil, India and the G13 have nearly $7 trillion worth of the debt of the old world. There comes a point where the creditor will dictate the rules.

TGR: That’s how the U.S. got to the position it’s in.

IMcA: Exactly, exactly.

My biggest concern is increasing geopolitical risk for those that are exploring all over the world, the most recent example being the Argentinean government putting in a new set of rules. The same thing could happen in African countries. If the gold price gets much higher, the South African government will be talking about nationalizing. Too many of those countries will love you while you are bringing money in, but once cash flow begins to flow out, the politics of greed and envy takes over, typically under the guise of economic nationalism.

Politically stable jurisdictions are my preference. I am most attracted to seeking deposits in conventional mining districts in Canada or the U.S. where mining laws and practices are understood and respected. Even South Carolina is coming back again. I remember the previous go-around on it.

TGR: What happened then?

IMcA: It didn’t work out because the gold price went down, as best I recall.

TGR: Any other last thoughts you’d like to leave our readers?

IMcA: The big contrast with this gold cycle and that of the ’80s and ’90s is that we haven’t really seen a big discovery that excites the world. In that last cycle there were about a half-dozen companies built on new deposits that are already mined out and gone now. Names like Echo Bay, Hemlo, Amax Gold, FMC Gold, Pegasus and several others were launched and became the darlings of the last cycle, and they have already gone from the scene by the time gold got above $1,000/oz this time around.

At some stage somebody’s going to make a discovery that’s going to turn the lights on to get the speculative juices flowing, one good, exciting discovery in a prospective new camp. It looked like that might be taking place in the Yukon with the takeover of Underworld Resources Inc. (UNDWF:OTCQB). Will there be a sequel discovery up there? One solid drill hole can transform a junior explorer, but it does need to deliver follow-up success pretty quickly to build on it.

That’s the nature of the drilling beast and discovery cycles. Others will remind you what the odds are. It’s a very high-risk and capital intensive business. That’s why I’m more attracted to the companies that are in that process of creating value out of the ground as opposed to having the political experience of dealing with environmental permitting and other regulatory impediments to getting a new mine into production. My idea is if you can make a discovery then God bless you and let somebody else have those future political and bureaucratic joys for the right price.

TGR: Ian, thank you for your time.

Ian McAvity has been involved in the world of finance for more than 50 years as a banker, broker, independent advisor and consultant. He has produced his Deliberations on World Markets newsletter since 1972. He specializes in the technical analysis of international equity, foreign exchange and precious metals markets, and has been a featured speaker at investment conferences and technical analyst society gatherings in the U.S., Canada and Europe over the past 40 years.

Consumers are watching as many – if not more – films than ever for less money and time than ever, for a third of the cost. The money that had been spent on (now unneeded) overheads can go on other things. Be sure to avoid the broken window fallacy – the saved money will go into other productive things that people want. As Blockbuster falls, something else people want will rise. And, at the margin, lower costs mean that there should be more movies made per dollar spent.

I think this pattern might hold elsewhere, too. Since getting a Kindle e-reader in June, I’ve read more books than I did in the entire year up to that point.

Although costs aren’t falling yet – it’s a proprietary Amazon device, and they’re keeping the costs high while subsidising the cost of the device itself – the shift to e-readers means that authors will eventually be able to bypass publishers and significantly increase their profit-per-purchase. Like the rise of Netflix, this will probably mean less money spent on overheads and more spent on actual content.

Recall that those who defend copyright laws on utilitarian grounds argue essentially that the purpose of granting creators a temporary monopoly license is to ensure that people have an incentive to create. This being the case, one reasonable proposal to be offered to the utilitarian sect of copyright defenders is to decrease creators’ state-granted monopoly powers as technological innovation increases.*

Technological growth reduces publication and distribution costs for creators, enabling them to not only sell directly, but to increase their profit margins while decreasing prices. As such, monopoly protections are less necessary (if not altogether unnecessary) in the face of technological growth because technology makes it easier for creators to turn a profit, which, it should be remembered, is the whole point of having copyright laws in the first place. Thus, if creators can make a profit without doing much to protect their product, then it seems obvious to conclude that copyright is largely unnecessary, and certainly does not draconian enforcement.

Note: Software is a nebulous entity that is somewhere between copyrightable and patentable in terms of classification. As such, it is not covered under this proposal because it would drive this proposal. If it absolutely must be given IP status, it should be considered its own entity with longer terms than patents but shorter terms than copyright. Furthermore, it should also have the novelty prerequisite of patents. Given the complexity of this subject, though, this discussion is best reserved for another post.

Since Marx wrote that, real wages have increased by massive amounts in industrialized countries. Authors of some books I have read recently suggest, however, that Marx’s predictions could end up being right in the end. Gregg Easterbrook warns that we should not take too much comfort from the fact that Marx’s predictions of gloom have not yet come true (‘Sonic Boom’, p 153; discussed here) and Jacques Attali suggests that tomorrows West will resemble today’s Africa (‘A brief history of the future’, discussed here).

In attempting to think our way around this question an obvious place to start is with the effects of technological progress on the demand for labour. This approach makes sense if labour can be assumed to be more or less homogeneous, that aggregate capital stock can be measured appropriately, that most income from capital tends to accrue to people with high incomes and that technological change is the only factor influencing income distribution. I’m actually not sure that any of those assumptions stand up to scrutiny, but let us keep the discussion as simple as possible to begin with.

As Marx observed, new technology often involves capital-intensive processes displacing labour-intensive processes, e.g. the use of power looms to replace hand looms in the textile industry at the beginning of the industrial revolution and, more recently, increased use of robot technology in car manufacture replacing labour-intensive assembly lines. This kind of technological change tends to increase the ratio of capital to labour. However, introduction of new technology often occurs through the introduction of superior capital equipment that replaces existing capital (or more efficient sources of energy, financing innovations, business practices etc) without necessarily increasing the ratio of capital to labour. Most importantly, new technology makes possible an increase in national product, or real national income, and with increased demand for factors of production, including labour.

The net effect of those factors on future demand for labour will depend partly on whether, on balance, the new technology is a closer substitute for labour than for existing capital equipment (and other factors of production). Further development of electronics and robotics, in particular, can be expected to displace a lot more manual and mental labour, but my guess is that before too long new technology will largely involve superior robots replacing inferior robots, leaving demand for human labour relatively unaffected. There are some parts of the economy where new technology is unlikely to have much effect at all on the ratio of capital to labour, e.g. symphony orchestras. (That example has, unfortunately, been cited before by someone else, but I can’t remember who.)

Another important influence on the future demand for labour will be whether average incomes are likely to result in a changing pattern of consumer spending toward more on labour-intensive or more capital-intensive goods and services. My guess is that ‘real’ experience (of foreign travel etc.) will trump ‘virtual’ experience and that people will prefer to interact with other humans rather than robots to obtain services such as restaurant meals.

So, I think there are limits to the extent that technological progress will result in substitution of capital for labour. When we take into account the fact that labour is not homogeneous, that investment in human capital and investment in physical capital can be substitutes or complements, and that people embody new technology in the skills they acquire it is not even obvious that it is particularly helpful to think in terms of aggregate categories such as labour and capital. It is probably more meaningful to consider demand for particular categories of labour e.g. unskilled labour. Perhaps it is reasonable to predict that demand for unskilled labour will continue to shrink, but even that is problematic if we define ‘unskilled’ in terms of lack of formal qualifications and overlook the possibility that inter-personal skills – often acquired without formal training – will become increasingly important.

The idea that there is a class of people who obtain their income from selling their labour (workers) and another class of people who obtain their income from ownership of capital (the idle rich) seems likely to become increasingly irrelevant. As working people invest for their retirement they will be increasingly buying shares in the robots that will earn the income they previously earned for themselves.

Technological progress is not the only factor influencing income distribution. Factors affecting the supply of labour, e.g. immigration, could have effects on wage rates in some countries that are as important as the effect of technological progress. Then there are the effects of globalization both in providing international competition for labour-intensive industries and, increasingly, new sources of innovation and competition for technology-intensive sectors of industrialized countries.

Finally, the taxing and spending policies of governments modify the effects of technological progress on income redistribution. If Marx turns out to have been right about technological progress, it seems likely that governments in democratic countries will come under increasing pressure to intervene further in income distribution to ensure that all groups have an opportunity to benefit from the fruits of technological progress.

However, my personal view is that history will probably continue to judge Marx to have been largely wrong about the effects of technological progress on income distribution.

SPECIALIZATION

I was sitting in trial today observing Bill Rounds, co-author with me of How To Vanish.com, as he was questioning a witness. This particular case is an example of complex business litigation that has been up and down the appellate ladder many times. The subject matter is fairly esoteric and even worse the law is unsettled. While unrelated to the case, the plaintiff is a world renown surgeon.

During questioning by Bill’s opposing counsel a funny scene happened. Bill stood up and the judge remarked, “Sustained.” The court reporter stopped and asked, “Was there an objection?” The judge replied, “No, but Mr. Rounds stood up and the coming objection is sustained.”

INCREASING COMPLEXITY

Those 5-8 seconds in the court transcript are but the faintest traces of an incredibly complex thinking process that the two attorneys and judge understood and applied which was backed by hundreds of pages of code and cases. Yet, I am almost sure that neither the surgeon nor the jury even knew there was a virtual ping-pong match being played.

But for the attorneys and judge the surgeon’s work is equally incomprehensible. And the work of engineers, architects, computer scientists, etc. are equally indecipherable to those outside the circle. Such is the modern world that is multiplying in complexity.

Everywhere complexity is increasing from the tadpole in the pond to the manmade computer operating system. But manmade complexity that is beneficial for humanity takes work. Bridges do not design and build themselves. As humanity has progressed so likewise has the economy from hunting and gathering to plows and silos to railroads, satellites and spaceships.

But all this time there have been malefactors and nefarious individuals that seek to destroy and wield violence like a dagger focused on the economy’s heart seeking coercion instead of consent. After all, the power to destroy and inflict pain, while immoral, is power nonetheless. A power wielded by those sadists who enjoy terrorizing innocents.

PROTECTION AND EXTORTION

The irony of government is that it attempts to provide protection through extortion. And like the blackmailer or extortioner the government’s ability to tax depends on the same vulnerabilities as extortion or the Godfather’s offer that can not be refused. As the Industrial Age progressed so likewise the nation-state rose because the assets created were larger and thus the need for protection was greater. After all, the capitalists either paid off those who could leverage violence against them for extortion or paid a military force capable of defending with brute force any attempted shakedown.

But the relentless advance of technology is blunting the sharp edge of violence’s dagger. Protection is being made easier to provide while extortion is being made more difficult to carry out profitably.

Why is this? A basic mathematical law: multiplying is easier than dividing. A simple example is that 3*3*7*11*13 is much easier to solve than reducing 9,009 to its prime components.

Or another example would be encryption. I like the open-source Truecrypt and in June 2003 the US National Security Agency reviewed and analyzed the design and strength of AES-256 encryption finding it sufficient to protect classified information up to the Top Secret level.

In effect, with this free tool I can spend ten seconds encrypting a text file that can take years of focused processing power to decrypt. And just for fun perhaps it only reads “Haha if someone wasted the resources to decrypt this!” But why transmit sensitive personal or business information without such protections? After all, recently 30,000 Hotmail passwords were compromised in a security breach and posted on the Internet. An ounce of prevention using free encryption software can be worth a pound of cure repairing a stolen identity.

PROTECTION IN THE INFORMATION AGE

During the Industrial Age the leverage violence could exert was much greater and is being greatly reduced in the Information Age. Thus the scale is tipping in favor of protection and away from extortion with its attendant allocation of scarce resources through bureaucracy. The digital infrastructure is allowing the previously unseen but highly complex range of systems to be perceived; Facebook is a prime example.

Then that perception is being harnessed in extremely productive ways through multiplication; as a result the economy is following economic law and moving away from inflexible command and control systems towards spontaneous adaptive mechanisms. But government systems still dragoon resources from higher-value complex uses to lower-value primitive uses. As Frederic Lane wrote on page 383-384 of Venice, A Maritime Republic:

Every economic enterprise needs and pays for protection, protection against the destruction or armed seizure of its capital and the forceful disruption of its labor. In highly organized societies the production of this utility, protection, is one of the functions of a special association or enterprise called government. Indeed, one of the most distinctive characteristics of government is their attempt to create law and order by using force themselves and by controlling through various means the use of force by others.

From machines to microchips, factory to laptop, mass production to small teams or even the lone entrepreneur the gigantic institutions of the Industrial Age are being reduced to smaller and smaller parts. As the Information Age advances the risk of violence decreases because as the scale of an operation declines so likewise does its potential for sabotage or blackmail and the increased location independence afforded by the Internet multiplies the inherent safety an asset or individual enjoys. Despite Sulter’s proclamation at 2:08, “I want this country to realize that we stand on the edge of oblivion. I want everyone to remember *why* they need us!” But we, humanity, do not need them even if they think they can clean up some oil.

CONCLUSION

For those who rely on coercion instead of consent the transition to the Information Age is being particularly harsh to their immoral business models. They are now opposing both natural and economic law. The financial elite and political elite of America and Europe are now beginning to infight. This is resulting in the State losing legitimacy in the eyes of the masses.

While the time frame is likely far into the future, first the European Union will collapse and later the United States. But this is not uncharted territory but instead a trend of the nation-state collapsing under its own weight which started with the Berlin Wall and Russia. To avoid being collateral damage I elucidated several tips in chapter six of The Great Credit Contraction.

My next book, which I have co-authored with Bill Rounds, is currently with the publisher and hopefully will be available within a couple months. It will magnify the suggestions from chapter six and I think many will find it tremendously useful. As an old Chinese proverb says, “Of all the thirty-six ways to get out of trouble, the best way is – leave.”

DISCLOSURES: Long physical gold, silver and platinum with no interest in the problematic SLV, Streettracks Gold ETF Trust Shares or the platinum ETFs.