Sprott Debates #1 - Don Luskin & Luke Gromen

Podcast Transcript

Stewart Ellis: Hello and thank you for joining us. My name is Stewart Ellis, and I'm the producer of Sprott Radio. In a departure from our regular interviews, today we're going to do something a little different. We're going to focus on the economy and have a bit of a debate. Both of our debaters are well-versed in macroeconomics and spend their days going deep into the data to conduct their research.

My understanding is they agree on some things and less so on others. We hope to cover a lot of ground, have a spirited debate, and hear some interesting points of view. With that, I'll pass it over to our moderator. He's a senior portfolio manager, a veteran investor in the gold space, and, most importantly, a key member of the Sprott team. He's our very own John Hathaway. John, I'll hand it over to you to introduce our guests and get the ball rolling.

John Hathaway: Thanks, Stewart. Good morning, everybody. This morning, we have Luke Gromen, founder of FFT, a macro research firm, and Don Luskin, the CEO and founder of TrendMacro, a global macro research firm serving clients worldwide. Let's start with your thoughts on inflation, deflation, disinflation, and all that sort of thing. Luke, why don't you go first?

Luke Gromen: Thanks, John. It's great to be here. My outlook for inflation/deflation is that inflation is the only thing keeping the U.S. Treasury market functioning and the U.S. government effectively solvent. The U.S., with debt to GDP at 120%-plus, needs sustained negative real interest rates. In other words, rates need to be below inflation. This was talked about in great detail last summer in a white paper by Charles Calamaris on the St. Louis Fed website.

He wrote there that positive 2% real rates would quickly put the U.S. into fiscal dominance almost immediately. We saw a positive 2% real rate in July 2023 for a moment, and the long bond USTLT ETF crashed 20% in the third quarter. To me, it's likely to be volatile and uneven. Still, we are in a new era of secularly higher inflation out of political necessity. Negative real interest rates would best sustain the U.S. government's debt level.

John Hathaway: Great. Don what are your thoughts on the subject?

Don Luskin: Well, somebody should tell the U.S. government all of that because, let's say, it's true. Right now, we have no precondition for the government to deliver that great blessing in its favor. We have a Fed that is telling us they've pivoted from the fire-breathing rate hikes that they were doing in 2022, but they've had the Fed funds rate at five and three-eighths, the highest rate in 17 years since the July FOMC meeting.

Markets don't expect to make the first cut until the June FOMC meeting, and they're not saying anything to disabuse the market of that. In the meantime, we're experiencing the first year-over-year outright decline in the M2 money supply in the history of the data that goes back to 1959. Now, the world's a complicated place, but if I had to cite a single simple rule for a complex world, it would be Milton Friedman's famous dictate that inflation is everywhere and always a monetary phenomenon.

With some degree of precision, some degree of imprecision, some unknown lag and all the usual health warnings, it's one of the most durable relationships in economics that inflation, the change in the price level follows the change in the money supply with something of a lag, anywhere say between 12 months and 24 months. With the money supply growing below normal and outright shrinking for the first time ever, any sensible model will tell you that, at least in the next couple of years, we will have the opposite of what Luke says we need.

If you take out OER (Owner's Equivalent Rent), CPI is the largest, laggiest, and most statistically invalid part. If you take that out, the CPI is back to 2%. Core CPI is back to 2.4. They've been there for months. Now, expressed in CPI terms, the Fed's target is two and a half. They've been below target for the better part of a year. Large parts of CPI, especially the goods parts, are already downright year-over-year minus sign deflation. If that turns out to be accurate and Luke's premises are correct, we're facing a disaster. It's not going to be an inflationary disaster. It's going to be the opposite. It's going to be a deflationary disaster.

John Hathaway: I would certainly agree with the logic of what you just said; it would be not only disinflation but also deflation and a credit bust, which I would think politically is unpalatable. I expect that that would force the Fed into warp speed as far as money creation. I believe you both feel that if the economy doesn't face that reckoning, we will have a soft landing or stick to a landing without any economic interruption.

Yet your view is that with this contraction of M3 and all the other aspects leading to a contraction of economic activity, we won't have a contraction of economic activity. We're going to sail along without a real blip in GDP. Luke, I think you're in the same place for different reasons. I want to explore that.

Luke Gromen: The reason I don't think we're going to get a downward trend in GDP is, I think ultimately, when I look at what is happening with the fiscal deficit situation in federal government spending, it is bottomed and is already rising again, notably. That's our leading indicator of what the money supply will ultimately do.

I say that because unless the government cuts that spending, someone needs to finance that spending, and the balance sheet isn't there. We could get another one of these cycles that we have had two to five times in the past four years. Anytime you get the deficit into insufficient balance sheet capacity, you get the U.S. government crowding out global dollar markets, the dollar starts to rise, and we quickly get into a Treasury market problem. The first was in September 2019, when repo rates spiked from 8% to 10%.

The Fed quickly came in and began regrowing their balance sheet when no one thought they would do it except for us and a few others. In March 2020, we saw a brief deflationary spike around COVID-19. At the bottom of it, the Treasury market crashed. Stan Druckenmiller's words, something he said in 40 years he had never seen, the Treasury market crashed.

Fed comes in 600 billion a week in QE until things get stabilized. After the Fed started tightening, the third instance of Treasury market dysfunction was in September 2022. Very quickly, and it wasn't the Fed this time. We thought it would be the Fed, but we were wrong. It was Treasury. Yellen began running down the Treasury General Account (TGA) so fast that she more than offset the tightening impact of the Fed's QT and rate hikes, and she ran down the dollar, which supplied liquidity to the system.

1Q23 was the fourth instance where the banking system got upside down in their treasuries. The Fed could have said, "No, sell them at losses to supply money, to supply deposit losses," but the Fed didn't. The Fed instead did what was effectively yield curve control for the U.S. banking system and engaged in swaps at par on treasuries that were trading probably 30% below par for the U.S. banking system, supplying more liquidity yet again when the Treasury market started functioning.

The fifth episode in four years was in October of this year when we saw Treasury market dysfunction again. We saw seven Fed speakers in 10 days, jawbone the dollar down like they were reading from a hymnal. The bond market has done its job for us. They all said the same thing.

Yellen shifts issuance from the long end to the front end. The point to all of this is we've seen five times in four years that anytime the Treasury market gets dysfunctional, the Fed and Treasury respond quickly with liquidity. Suppose you have a decline in monetary base and an increase in U.S. government spending. In that case, you will have Treasury dysfunction quickly, and they will respond quickly with liquidity.

I think it's interesting that we're already seeing signs of that liquidity being addressed. We've seen the rundown in reverse repo supplying liquidity in the interim. Yellen has TGA that can be run down after that. Still, we saw a couple of weeks ago that ISDA, the too-big-to-fail banking lobbyists, effectively wrote a letter to the Fed, the FDIC, and the OCC asking for permanent exemptions to the SLR rule for treasuries.

This is yield curve control or QE executed through the bank. I agree with Don that if the money supply goes down, it is negative. Where I disagree with him is that for it to continue negatively, the Fed and/or Treasury have to stand aside and let the treasury market become dysfunctional. Then, it is not just dysfunction; you have to start allowing treasury auction fails, which will never be allowed in our country, in my view.

We can see the signs being set up for more dollar liquidity and a reverse repo rundown, and then we'll get the TGA rundown. Then you're seeing preparations for changes to the rules we last saw during the COVID-19 crisis. This exemption to bank SLR requirements to buy treasuries is effectively QE or yield curve control executed by the banks. That will then supply the dollar liquidity, and that's why I think the deficit in the U.S. government spending in particular, which, as U.S. government spending has bottomed and is now rising very meaningfully on a trailing 12-month basis off the lows, is your leading indicator for a rise in money supply because could it cause problems in the short run with a decline in money supply? Sure. However, unless these authorities are willing to stand aside and let the Treasury market dysfunction again, more dollar liquidity will come. The money base will grow rapidly to finance the rising U.S. government spending.

John Hathaway: A lot of information there, but I think the bottom line is that deficit spending will rise as necessary to keep the economy afloat, and the Fed and the Treasury will do what they can to ensure smooth functioning liquidity in the Treasury market. Don, I think you see things a little bit differently. I think you feel the debt is not the issue that Luke has made it out to be and that economic growth will address and solve what at least currently appears to many people as a real issue, which is the overhang of U.S. Treasury debt and continuing deficits. Maybe go through all that and respond to Luke's points.

Don Luskin: I won't be able to respond to Luke's points because you made so many of them. You've compressed a huge number of sub-stories into a larger overarching story. You have stories about Janet Yellen, the Treasury, the Fed, and ISDA, and everybody you seem to know what their intentions are and act as though they can carry out those intentions with great perfection.

We could spend the next three hours taking a transcript of what you said, and I could probably find 20 assumptions you've made and push back on them. I don't think that would be particularly profitable to do. Let me say, just as an overarching point, that it seems to me that your view of the world, at least the one you've just expressed, is one where you think the only thing that matters worth mentioning is the machinations of these institutions. I didn't hear one word in that narrative about anything happening in the private sector or the real economy.

I'm going to use an expression here, and I guess it's inevitably a pejorative expression. I can't quite come up with another one, but please accept it when I say it. I don't mean it to sound pejorative. You have an interlocking series of what amounts to lowercase conspiracy theories where these agents are pulling the strings of the world in a hidden but very powerful way.

That may be true, but it's not the only thing going on in the world. We had an economic crisis during the pandemic where the entire global economy was shut down for anywhere from three months to a year. We had fluctuations in financial variables like GDP growth and unemployment, which haven't been seen since the '30s. I remember people saying during the so-called Great Recession of 2008 and 2009, "Oh, this is the worst thing since the Depression."

Yes, but the orders are almost of the opposite magnitude. In the Great Recession, over a year and a half, we saw a 3.5% drop in GDP. We saw a 10% drop in GDP in three months during the pandemic. That was a depression. It was also a war. It was a depression, and the solution to the depression, just like in the Great Depression of the '30s, its solution was World War II.

That was not only the greatest public works program ever conceived by the mind of man, but it was a complete restart of the global economy—a massive investment in new technologies, which the world spent the next 20 years adopting. For instance, jet aircraft were invented in World War II. Every combatant had them, and they were on the field in 1945. There weren't very many of them.

It didn't make a difference, but five years later, the British de Havilland Company was testing, and then two years after that, De Havilland was putting the first passenger jet, the Constellation, in the air. The fact that we're recording this podcast this way, the fact that we have a work-from-home revolution, a live-anywhere-you-want revolution, even someday, these mRNA vaccines are probably going to prove to be incredibly valuable, and we had a chance to test them on billions of guinea pigs, right or wrong.

This is a technological revolution coming out of a war, just like coming out of World War II. This was the best war ever because this wasn't man against man, and we didn't destroy the world's physical planet like in World War II. This was all men together working against an alien, invisible invader. When you come out of an experience like that, you are armed with new ways of interacting with people, your work, and new technologies you can use, and you're a warrior, man.

If you survive that, you're going to mourn your dead, and you're a warrior, and you're going to act accordingly. You can say what you want about the Fed and the Treasury's general account and ISDA and all this stuff, and if you leave out the fact that we have been through the biggest business cycle fluctuation in 90 years but compressed it into three months, you're missing the story.

John Hathaway: Wow. In your mind, the story is the productivity revolution that's taking place, and COVID-19 brought it about. From what you've said, I would surmise that we don't need to worry about the exchange value of the US dollar versus other currencies. With a strong economy, the dollar will seek its level and will not be a problem in terms of public policy. Luke, I'm basically asking a question on what you see for the future trading value of the US dollar vis-a-vis other currencies and the most important currency of all gold bullion.

Luke Gromen: I think it's a great metaphor to use that Don highlighted regarding World War II, and so let's go with that. At the end of World War II, roughly 3% to 6% of the world's population was dead. The U.S. was the only developed industrial nation in the world whose industrial base had not been destroyed by war. The U.S. was the only nation whose working population of young men was largely intact, certainly relative to places like the Soviet Union, Germany, and Japan, compared to today.

I agree we fought a war. I think COVID-19 was the last battle of a 30-year, 25-year trade and economic war, and we lost that war. The reason I know we lost that war is because, in World War II, the people lost a good portion of their industrial base; it had been bombed into oblivion, and then the U.S. had a boom as we basically rebuilt it for them, particularly again, Germany and Japan.

In contrast, without bombing, the U.S. via trade policy, first via NAFTA, where we sent the factories to Mexico, and then via China into the WTO, where we sent those factories to China, the U.S.’s industrial base, this time at the end of this "war" is the one that has been severely impaired, which is fine. That's the growth opportunity that I agree exists.

However, it's a very inflationary outcome. You're going to have to do some version of industrial policy, which is, I think, exactly why Trump started it in 2018, and Biden continued it in 2020 and beyond. Both candidates are openly talking about varying degrees of industrial policy to rebuild that as well, and similarly, post-World War II, US debt to GDP was 110%.

What followed was the U.S. de-leveraging its balance sheet by virtue of the Fed and Treasury, who got married in January of 1942, shortly after the Japanese bomb Pearl Harbor. The Fed said, "We will buy every 10-year Treasury you issue at 2.5%. We will buy every three-month Treasury at three-eighths percent, no question asked." The Fed's balance sheet grew 10X from 1942 to 1951, most of that growth during the war.

There was the productivity or the giant public works project Don spoke of. He's right. The Fed paid for it, and what happened was that you had rationing of goods in the war to contain inflation during the war, but after the war, rationing of goods went off, and U.S. inflation rates exploded. U.S. real rates bottomed in '47 or '48 at -13%. We were the winner of the war, critically.

In Japan, the loser of the war, real rates bottomed at -60%; in Italy, -40%; in Australia, who won, -30%. In other words, inflation ran anywhere from 13% above rates to as high as 60% above in Japan, in war-ravaged and losing countries. The point here is that by letting U.S. real rates bottom at -13%, the U.S. debt to GDP went from 110% in 1945 to 55% by 1951 when there was something called the Fed Treasury Accord agreed to, which effectively was Fed and Treasury.

Treasury is saying, "Okay, Fed, you are independent again; the war's over. Now, you can run an independent monetary policy. We no longer need you to finance history's biggest public works program."

Don Luskin: We didn't return to the pre-war debt-to-GDP ratio for another 13 years until 1964.

Luke Gromen: That's right. It went from 110% in '45 to 55% by '51 by the Fed inflating away the debt effectively. You can see that on the charts. The point here is that we just finished the war, and we have lost a lot of our industrial base to that war, and our debt to GDP is 120%. You've got to get that down first. If you want to do public works projects to rebuild that industrial base and support growth, you will have to inflate that debt away like we did after World War II, using your metaphor.

Don Luskin: Look, there were a couple of high inflation years, like 1949 and 1950, but 1950 has the distinction of being the height of post-war inflation at 9%, but it's also the single biggest real GDP year in American history at 13%. You can have a single explanation and say everything in the world depends on inflation, but no, it also has to do with the post-war boom, where in 1950, we had 13% GDP growth after you adjust for inflation. That really happened. You can't leave that out.

Luke Gromen: Importantly, why did we have that growth? I just said why we had that growth. Because Japan's industrial base was destroyed and we were building it. Because we were in a new Cold War with the Soviets. We were rebuilding it. We were running the Berlin Airlift, and we were rebuilding Germany. It was American property.

Don Luskin: How much did the Berlin Airlift contribute to GDP in 1950? You have no idea. The Berlin Airlift wasn't even in 1950.

Luke Gromen: No. It was in 1948.

John Hathaway: Let me ask both of you because we're talking about history here. What do both of you expect future deficits to look like looking at this year and maybe over the next five years? Will they be resolved by economic growth, which I think would be Don's point of view, or may continue to be on the order of trillions, which they are now, because of increased public spending and as much as productivity might help at this point, maybe not enough to keep those deficits at very high levels, and therefore, a need for yield curve control?

Don Luskin: I hope we don't need yield curve control because central banks aren't very good at it. They talk a good game. It's very different today than in the war bond era of the '40s and early '50s. The private sector and financial world are now basically swamped with what these government agents can do, so good luck with that. I hope they don't need it. Let me say that part of the war metaphor is that it's still in the early days. If you think of World War II for the U.S.’s purposes beginning on Pearl Harbor Day on December 7, 1941, and think about that as the onset of the COVID-19 emergency, we're still right in that period.

The big jump in the debt-to-GDP ratio, in this iteration at least, was during that period when the economy was contracting, so the denominator was falling. GDP and debt were falling because two presidents and two congresses spent $6 trillion on stimulus spending. That will make your debt-to-GDP ratio high because you're fighting a war. It is lower than that compared to its peak in 2020. It immediately fell back to something like 120, and within a percentage point, debt to GDP has been steady at something like 118, 120, and 121 for three and a half years. That can only be true if the debt grows at approximately the same rate as the nominal economy.

Now, all I can say is fine. We're here to look into our crystal balls and say what will happen in the future. There are all kinds of reasons for thinking this could all go terribly wrong, but it's weirdly so good so far. It's amazing how we've stuck the landing on at least containing debt to GDP where it is right now. By the way, I don't concede at all that debt to GDP is particularly the right ratio. People say it all the time.

Respected economists like Rogoff and Reinhart talk about the debt-to-GDP ratio all the time. Their most famous work was partly based on some very important computational errors. They were terribly embarrassed to have to correct it three years after their book was published. Nevertheless, it's an insufficient metric to begin with. If Rogoff and Reinhardt were your ECON 101 teachers, they would actually flunk you for comparing a balance sheet item to an income statement item.

You probably want to compare balance sheet items to balance sheet items. That's what a mortgage banker does when you're applying for a jumbo mortgage. He says, "What's the loan-to-value ratio? What's the debt to equity ratio in the U.S.?" Sure, in nominal dollar terms, federal debt is horrifying, especially if you're a conservative like me who wants the federal government to be smaller. As a citizen, I think it's just ridiculous and horrible.

As an economist, I'm going to be like a mortgage banker. I'm going to say, "What's your debt-equity ratio here? Do I want to issue this jumbo mortgage to you?" I don't know what the equity of the U.S. is. Its single most important item is the present value of its future taxing power. What's that? That will be closely connected to the earnings power of the American economy in perpetuity and present value. What's our best estimate of that? The market cap of the S&P 500. The ratio of the federal debt to the market cap of the S&P 500 represents the present value of all the earnings potential in the U.S. forever minus the debt because this is the market cap.

That's about the lowest in 15 years. That's not coming off the rails. In fact, for all these dire predictions, it's hard to look at stuff that's coming off the rails. Luke's mentioned the value of the dollar. I'm just going to talk about it on a trade-weighted basis. If we were to look at it versus the Yen, we certainly wouldn't need to worry about a dollar crisis, except maybe the dollar would be too strong. In the last five or six years, while all this was playing out, the dollar's just been in the same range it's generally been in. For sure, Luke's right that we changed the value of long-term treasuries because interest rates went from the lowest in history on March 7, 2000, to the highest in 15 years on October 18, 2023.

When you have that change happening that quickly, no question about it, your bonds will be underwater, especially if you bought them right at the top when everyone was panicking in March 2020. It is not the first time I've ever heard of people regretting they bought the top, but in this case, it happens to be bonds.

You say all that, but where we are right now, having lived through that horrendous adventure that has hurt many people who did the wrong thing at the wrong time. The shareholders at Silicon Valley Bank are unhappy about this; all that toll, the dollar, bond yields, the Fed funds rate, and all these things we're looking at are back to normal levels before the great financial crisis. We are not seeing abnormal things. The only abnormal thing is the debt-to-GDP ratio. The debt-to-equity ratio is better.

John Hathaway: The question was, do you agree that using the S&P as a proxy for future earnings power is valid? It's two different ways of looking at it. One is a stock to flow, and the other looks at it as a mortgage banker.

Luke Gromen: We wrote about that. The S&P to the debt I'm referring to is popularly known as the Warren Buffet Metric. The Warren Buffet metric is equity market cap divided by GDP. Warren Buffet has cited this famously, and I agree with it.

Don Luskin: Excuse me, fine, Buffet's a great expert, and you can use his name to get credibility, but comparing the market cap of the S&P to GDP is just committing the same sin as comparing debt to GDP.

Luke Gromen: Hold on.

Don Luskin: That's an invalid thing to do.

Luke Gromen: We wrote about this in 2018, and we found that if you subtract the debt from the equity at the top, the S&Ps, the global equity, or the U.S. equity market cap, and then compare it to GDP, you find that the debt and an enterprise value EBITDA basis, you end up finding that equities aren't that expensive. We do that because it ties back to our initial view that, ultimately, the debt has to run to sustain 120% debt to GDP. You either need a productivity miracle, or you will have to run and sustain negative real interest rates, which means higher inflation, and then higher negative real interest rates are very good for equities.

To be clear, what I'm saying is not dire for equities. It's very good for equities. It's just not good for bonds. It's very good for gold. It's not great for the dollar. The key is that you say we're getting the productivity, but you just cited that the debt to GDP has been flat for the last three years. If we were having a productivity boom, per your prior point about post-World War II, the debt to GDP would've not stopped falling at 120. It would already be back to 110, 100, or 90.

Don Luskin: What? You don't get to say that.

Luke Gromen: You just said that.

Don Luskin: Productivity is its real output divided by hours worked and has nothing to do with government debt computation.

Luke Gromen: If debt is growing as fast as GDP, you're not having a productivity increase.

Don Luskin: Productivity does not include debt as part of the calculation. You're just making up your own definition of productivity. It's not the one that everyone else on earth uses.

Luke Gromen: What is your calculation for productivity?

Don Luskin: I will use the same one every economist uses: real output divided by hours worked.

Luke Gromen: Real output divided by hours worked. What's in real output? 25% of real output is U.S. government spending. How does the US government fund their spending? Debt.

Don Luskin: By the way, that's not true. The productivity statistics provided by the Department of Labor are from the private sector. They exclude the government. If you look at it that way, now I understand. When I say real GDP, I mean real private output, the private part of GDP. That's the official way of doing it.

Now, you could include the government, and that's fine. It won't look as good because the government isn't as productive as the private sector, but it has its own benchmark. If you go back to the beginning of history and norm it for that, you'll still see a productivity boom. It'll have a lower baseline, but the debt has nothing to do with it.

Luke Gromen: You're having a productivity boom. It would be best if you were having a tax receipt boom, which would lead to a lower need for the federal government.

Don Luskin: You're having a tax receipt boom. Right now, corporate tax receipts are higher at a 22% corporate tax rate than the CBO forecast in 2023, when they thought the rate would be 28%.

Luke Gromen: And yet debt to GDP isn't falling.

Don Luskin: Yes, it is. It depends on what year.

Luke Gromen: Since 1Q23, debt to GDP has risen every year.

Don Luskin: It’s lower than it was four years ago.

Luke Gromen: Well, four years ago, yes. But since 1Q23, debt to GDP has been up every quarter.

Don Luskin: You say it's up; it's up by such a tiny little amount that you'd need a magnifying glass to win your point.

John Hathaway: I'm not sure this gets resolved by minuscule changes quarter to quarter on debt to GDP. We're trying to look ahead here. I would just summarize by saying, Don, do you feel like the economic growth will trump the debt issues that Luke is worried about? I think Luke says that continuing inflation can only resolve those debt issues. Pretty diametrically, as I understand, the stats and you are both way above my pay grade on this, which includes government activity.

One of you said that GDP consists of 25% of the government. Without the government being 25% and maybe an increasing amount in future years, you don't get that GDP growth. The private sector may be robust, but is it being eclipsed? I guess this is the question I should ask. Is it being eclipsed by government spending and the need to finance that? I'm trying to ask an intelligent question to which both of you can respond.

Luke Gromen: I think it will be. We had the Eisenhower Highway system with government spending to help drive massive productivity booms in the '50s, into the '60s, and beyond. I think that government spending is spent on the right productivity-enhancing things, and there are signs that some of that might be happening. Some of our energy investments could prove to be driving productivity enhancement, as Don suggests, and I agree, may occur. Supporting a war with Russia and Ukraine doesn't drive productivity in the long run.

It depends on our choices, but ultimately, in terms of our choices, the productivity gains depend on our choice but ultimately, nominal GDP is nominal GDP, and so if you can keep nominal GDP well above the rate of interest, that takes care of the debt problem over time that is good for stocks and particularly industrial stocks. That's good for gold and commodities. It's not great for the dollar but good for inflation.

John Hathaway: Don, I've never seen you speechless.

Don Luskin: May I interject with one sidelong point? That is, whatever else we may say about these things, I suspect a point of agreement is that we are in at least a risky or fragile place, where I'm staking it all on saying we can grow our way out of this, but shocks can happen. Things can happen, where some event happens in the world where it's enough of a thing to put you in a recession for a while, and so now you go for two or three or four quarters with contracting or poor growth, but the debt doesn't go away.

The way politicians act nowadays, if you're in that recession, they're going to crank up the debt to get you out of the recession. I'm self-critiquing here and saying that a vulnerable point in my argument is that it amounts to, so far, so good, as the man said when he was passing the 47th window of the Empire State Building on the way down. That hasn't happened yet. That is a contingency. If history is any guide, we do have recessions every once in a while. Let's admit that.

John Hathaway: I guess the last thing on my mind is that Sprott has a very large faith in the precious metals business. I want each of your ideas on why gold is trading at an all-time high in US dollars right now. Don, I don't know how much you've thought about it, but I'd like your take if you have one. You don't have to have one, but I'd just be curious.

Don Luskin: It's a little bit of a conundrum to me. I'm the kind of guy who likes to tie up events, changes, sentiments, and expectations to market moves in real time while they're happening. I note that this move by gold to new all-time highs is not exactly running away, but it's new all-time highs. That's the thing, you can't ignore that. That is happening at a time when not so much the Fed. Still, I think ordinary market participants are looking at how inflation has been coming this year in January and February. They're thinking, "Well, it's just going to be a replay of 1976," where Powell has been warning us for the last three years, and now it seems like he's almost ignoring his own warning.

He was saying we don't want to overstay our welcome in this hiking cycle, but on the other hand, we don't want to leave too soon, as Arthur Burns did in December 1976. Where you think that your whip inflation now buttons have worked and you've conquered inflation, only to come back three or four years later and hire Paul Volcker and engineer a double-dip recession to slay the dragon.

Here we are with a contracting money supply. My going-in assumption is that the slightly hotter January and February inflation readings are anomalous. They're one-offy, or I guess there are two of them now. That's not good, that's two-offy. While that's been happening, gold's broken out to new highs. If I'm anywhere near right in believing in what Milton Friedman said in the '60s and '70s, which is, "Inflation is everywhere and always a monetary phenomenon.", you are not going to get an Arthur Burn-style, 1976-style resurgence of inflation like you got when the money supply was growing at 14% year over year which is what it was doing in December 1976.

It's now contracting by 2% a year. The resurgence of inflation is impossible; according to my model, but on the other hand, gold is the price of the output of a global supercomputer of the smartest people in the world coming up with their idea of where inflation is going. Well, that supercomputer and my model disagree right now, so we'll see.

John Hathway: Great. That's great because you're looking at it in terms of the Fed, money supply, Fed policy and all that sort of thing. Luke, what's your thought on why gold is trading at all-time highs in US dollars?

Luke Gromen: I think there are two reasons for it. Number one, the market recognizes that the U.S. cannot afford its debt level on a sustained basis with positive real rates. They're going to need to go back to negative real rates and an inflationary policy again, so they're buying gold. Number two, the BRICS are using gold as their neutral reserve settlement asset for Intra-BRIC trade. To the extent that commodities largely drive it, those imbalances among trade are largely driven by commodities, particularly oil.

The oil market is some 12 to 15 times the size of the physical gold market globally. I think you will continue to see a relentless bid for gold. It may not be sexy, it may not be a spike, but it's just going to be one of these things where we come in, and every week, every month on balance, gold's going to be higher because effectively, BRICS' oil is bidding for gold.

Don Luskin: Can I say that if anybody—I have quite a lot of gold, I'm a believer, had it for 40 years. If anyone comes and offers me Venezuelan bolivars for my gold, I'm not selling.

John Hathaway: You're a smart guy. I want to thank both of you. I thought that was a great conversation. Thanks so much.

Don Luskin: Thank you, John. Thank you, Luke. Thank you all.

Luke Gromen:. Thank you, Don. Have a great day.

Stewart Ellis: Well, there you have it—our first Sprott Radio debate. I want to echo John and thank our guests today, Don Luskin and Luke Gromen. Both gentlemen have websites, and we encourage you to visit them. To learn more about Don's work, head to trendmacro.com, and for Luke, go to fftt-llc.com. My name is Stewart Ellis. Thank you for listening to Sprott Radio.