Every time the government's bills come due, officials at the Treasury Department find creative ways of paying them with money they don't have. One measure of just how overextended the United States has become financially is the debt to GDP ratio.
For most of the country's history, excluding temporary wartime blips, net general government debt tended to be less than 50% of the economy. As recently as the early 1970s, debt as a percentage of GDP came in at under 25%. By the early 1980s, it grew to over 30%, and fiscal hawks became concerned. In the 1990s, it climbed to over 40%, and concern started morphing into alarm.
Last year, the US official debt to GDP ratio topped 100%. In other words, taxpayers owe more than the value of everything they produce. The International Monetary Fund issues dire warnings to Third World countries whenever they exceed a threshold of 70% of GDP.
The US is different thanks to the status afforded to the US dollar as the world's reserve currency. Until 1971, that status was backed by a promise to redeem dollars held by foreign governments in gold. Gold also served to restrain spending and to borrow at the federal level.
But ever since former President Richard Nixon rescinded gold redeemability, politicians have been given the green light to run up debt without limit. If the Joe Biden White House gets all its spending proposals pushed through, the US will add $9 trillion to the national debt. Barring a corresponding miraculous surge in GDP, the debt ratio will continue trending in the wrong direction.
But the central bank can't bail out the country perpetually without unintended consequences. Staving off a debt crisis may mean triggering a currency crisis.
Gold Could to Outperform the Stock Market
During major financial crises in history, gold has vastly outperformed paper assets. For example, both the deflationary Great Depression and the late inflationary 1970s saw the gold price reach a 1:1 ratio versus the Dow Jones Industrial Average.
The Dow trades at over 35,000 today, about 20 times the gold price. If the Dow to gold ratio goes back to 1:1, the US stock market will crash, and gold will surge to new highs. It would mean rising price levels combined with a weak economy (stagflation). And given that our debt load today is more than four times the share of the economy than it was in the 1970s, investors should be wary.
If that plays out in the form of a crash in the US dollar's value, gold will serve as a premier safe-haven asset.
Silver Is Poised to Outperform Gold
Silver could outperform gold as an inflation hedge. It did during the late 1970s leading up to its January 1980 high of nearly $50/oz. Some dismiss that move as artificially induced by the Hunt brothers, who tried to corner the silver market. They shouldn't ignore the potential for another mad scramble for scarce supplies of silver fueled by broad and deep global demand rather than a handful of futures market speculators.
Crowdsourced campaigns spearheaded by silver enthusiasts are already afoot to force the hand of paper futures traders who engage in naked short selling that artificially suppresses silver spot prices. For now, silver remains relatively cheap versus most financial assets. In March 2020, silver became historically cheap versus gold, sending the gold to silver price ratio to a record 130:1.
The gold to silver ratio currently checks in at about 76:1. It still has more room to narrow in favor of silver during a precious metals bull market. At the 1980 peak, the ratio came close to hitting 16:1, often referred to as the "classic ratio" observed going back to ancient times.
Meanwhile, the current mining ratio is only about 7:1, according to First Majestic Silver (NYSE: AG) CEO Keith Neumeyer. That is to say, mines worldwide are producing seven ounces of silver for every one ounce of gold.
With so many ratios seemingly out of whack, investors would be wise to reconsider the percentage of hard assets to paper assets in their portfolios. And those who already have a prudent allocation to gold bullion should be sure they also have an adequate ratio of silver holdings.