Economic Doomsday for 2012? Gold Bugs Shouldn't Get Their Hopes Up


Can you imagine filling up your gas tank or doing your grocery shopping and then handing the cashier a bar of gold to pay for it? Neither can I. But that doesn't stop an avalanche of media from getting you in the mood to buy the shiny metal. There's an entire network devoted to the daily reinforcement of paranoia and conspiracy theories so people will buy more of one of its sponsor's products: gold.

As I understand it, those who buy gold believe central banks are out-of-control money printers. They see paper currency as "fiat money" that declines in value right along with the rise in the money supply, the increase in the national debt, growing federal budget deficits and massive unpaid corporate debt. For them, the only stable solution is to buy gold (preferably surrounded by an arsenal of guns).

Et Tu, Times?

The gold bugs got a lift just yesterday, when Moody's (MCO) warned that the the U.S. and Britain are "substantially" closer to losing their triple-A ratings. Moody's also said the ratings are stable for now, but "their 'distance-to-downgrade' has "substantially diminished." And in writing about the Moody's report, The New York Times described those current triple-A ratings as "gilt-edged." Even the Times, it seems, is falling victim to the idea that gold is the supreme measure of value.

Behind all the hand-wringing at Moody's is its concern that the U.S. and Britain (and to a lesser extent, Germany and France) can't cover their interest payments without budget cuts that will "test social cohesion." However, it's too bad for those Armageddon-lovers that things have gotten better since President Barack H. Obama took office. According to the Times, the ratio of interest payments to revenue peaked at 10% in 2008 and has now fallen to a more manageable 8.7%.

Still, the pressure to restrain debt remains high. The deficit-to-GDP ratio will hit 10.6% in the current fiscal year, total federal debt will take 64% of annual GDP and government spending will climb to 25.4% of annual GDP, a level not seen since World War II. But as they say in Australia, no worries, mate. That's because the president is just trying to revive a national economy that his predecessor left in a shambles, and he'll drive that deficit down once the economy starts to create jobs on its own.

Repaying Debt With More Debt

The gold lovers, however, have other trends to obsess about. The Times is also raising the warning flags on junk bond debt refinancing. It argues that $700 billion in junk bonds -- much of it used to finance leveraged buyouts (LBOs) during the previous decade -- will be coming due by 2014. The annual amounts needing refinancing are rising fast: $21 billion in 2010, $155 billion in 2012, $212 billion in 2013 and $338 billion in 2014.

An interesting thing about junk bonds is that so many of them were sold with the idea that they could simply be refinanced when they came due. Consider the 2006 deal by Bain Capital and KKR to take over hospital chain HCA for $33 billion. It has $13.3 billion in debt payments coming due from 2012 to 2014. In a more credit-conscious world, however, that debt may not be so easily refinanced, especially if massive borrowings by governments worldwide to finance their debts suck up all the available funds -- the "crowding out" scenario that the Times article envisions.

Of course, the masters of the LBO have other tricks they can use to forestall a day of reckoning, such as the payment-in-kind (PIK) options on bonds. The PIK option, which was was quite popular during the credit bubble that preceded the financial crisis, allows borrowers to make interest payments by issuing more debt instead of making the payment in cash. According to Financial Week, back in 2008 HCA bondholders decided to skip a cash interest payment on a $1.5 billion senior loan -- paying with a new bond instead and saving $145 million in cash annually. Unfortunately, the delayed cash payment will add $156 million in new debt each year to HCA's balance sheet.

So the private equity guys have it all under control: They'll just issue more debt to make their interest payments on existing debt. OK, so maybe all that low-quality debt coming due soon is something to fret about.

Sorry, Folks. It Ain't Over Yet

But Moody's warnings about cutting the U.S. sovereign credit rating are being made as if the government isn't aware of the problems of debt and deficits and will do nothing to stop them. That's going to be a huge disappointment to Fox News junkies -- particularly the Glen "Passion for Gold" Beck fans who wasted an hour last week listening to his interview with former Rep. Eric Massa (D-N.Y.).

Gold bugs feeling blue about that can always watch 2012, Roland Emmerich's end-of-the-world disaster flick from last year, again.