What You Need to Know About Bailouts to Plan and Grow Your Finances

This is a guest post from Simit Patel over at Informed Trades, a Web site that offers free courses for aspiring and professional traders. Patel is a currency trader, and he specializes in the U.S. dollar. He has worked as a Series 3 licensed currency broker, and has helped others learn currency trading online.

While I’m not a straight-up free market person, I do agree that the current bailout business is going to affect out economy — and the sort of buying power you have. Patel’s analysis is informative and interesting. And he offers a way for you to hedge (at your own risk, of course).

What’s the most popular word on the national news in the US and many other parts of the world these days?

Answer: bailout.

Yes, bailouts are quite the frenzy these days. Yet in spite of the hype, there is still much uncertainty regarding what exactly a bailout is, and what it means for individuals in terms of their own personal finance. So here’s a no-nonsense breakdown.

To put it simply, bailouts are an attempt to prop up troubled industries. The argument for bailouts is that allowing failure will be too detrimental; it will result in systemic economic problems. The argument against bailouts is that allowing collapse causes prices to fall and stagnant industries to be expelled from the market.

Personally, I’m staunchly in the anti-bailout camp, as are most free market proponents who come from the Austrian school of economics, which tends to view government intervention as the problem rather than the cure. But regardless of whether you are in favor or opposed to the bailout,
everyone should understand the economic implications of the bailout, so that they can plan their finances accordingly. And the simple analysis of bailouts is that they will likely lead to currency devaluation — meaning the US dollars you have will be worth less, so that you will need more of
them to buy the same goods and services.

Why do bailouts result in currency devaluation?

Here’s the breakdown:

1. Bailouts mean the respective government is going to spend more money. Like you or I, government can only spend money it acquires through its revenue generation capabilities (i.e. taxation). If it wants to spend more, it needs to go into debt — the same as if you or I want to spend more than we earn.
2. The US government is currently at record levels of debt, with debt currently over 11 trillion — and still rising.
3. The problem is that as the global economy weakens, there are fewer and fewer debt buyers will to give the US a loan. China, one of the largest buyers of US bonds thus far, recently announced a large stimulus package of its own to help boost its own economy. The more it spends on its own economy, the less money it will have available to buy US debt.
4. So what happens if the US government cannot find a debt buyer? It will have to pay its debt obligation simply by printing more money.

So, how can you protect yourself against this risk? Two simple answers: foreign currencies and precious metals (gold and silver).

Over the past eight years, the US government has maintained a very lax monetary policy — meaning it has been significantly expanding the money supply. This has resulted in devaluation of the US dollar, while foreign currencies and precious metals have risen relatively. And while problems in the global economy and a tightening of credit markets have allowed the US dollar to strengthen for much of 2008, the risk of further US currency devaluation remains likely so long as government spending continues to rise while the tax base diminishes due to a sluggish economy.

So keep this in mind as you plan your finances over the next few years. Remember: it’s not how much money you have, but rather how much your money can buy.