In mid-August, I wrote a post that mentioned that the softening in the US ad market was going to force me to start burying Krugerrands in my backyard. The reference to burying gold was only partially in jest – the state of the US economy has become more and more fragile, and it seems to me to be trending in all the wrong directions. The question is what we, as consumers, can do to protect ourselves. Fortunately for me, for the past 6 months, I have had the chance to interact with some of the biggest brains in financial services over the last 20 years, and each time I get the chance, I ask one simple question: “What is the best way to hedge my risk against the dollar declining in value?”

The answers I got were surprising: Most folk felt that a devalued dollar would make US imports all the more attractive, and that since 45+% of revenue of the S&P companies comes from customers outside the United States, all would work out in the end. To me that seemed, in the face of record trade deficits and a massive federal deficit, a pretty optimistic view of the US economy.

Some folk, however, fell into the “super-bear” camp, and painted compelling reasons that the US had yet to see the full impact of its irresponsible fiscal policies. They also felt that the shock that would be felt, when it came, would be pretty profound. Now, I am usually an optimist myself, but over the last year, the level of economic angst I felt grew pretty materially, so I found myself moving closer and closer to the bears.

What were some of the major angst creators for me?

The war budget: A projection that, in the end, our folly in Iraq will wind up costing us $2.5 trillion dollars – that’s a mind-blowing $8,000 per man, woman and child across the entire US for something that at best has neutral strategic economic contribution to the US, and, some might say, has had material negative consequence, due to its destabilizing effect on light crude supplies.

No forward headway in addressing our economic relationship with China: With an artificially low Yuan creating a tactically compelling reason to drive most manufacturing to China, and the “creeping peg” plan to try to get the Yuan to a fair market value over time against the dollar a disaster, we are in a position of a profound shock to the system when the eventual true-up of the the dollar/yuan exchange rate becomes a reality.

Our failure to develop a viable alternate energy program: The dialog on nuclear power in the US has become a third-rail topic for politicians, even though it is the only proven, scalable, economically viable, least carbon dioxide-generating solution that has a shot at making a material impact on our alternate energy supplies over the next 10-15 years. The problem is that no one, including Al Gore (who certainly deserved his Nobel Prize for awareness building on our climate crisis), has the fortitude to talk about it as a strategic imperative. I think about nuclear power in the content of the Iraq spending. The entire nuclear buildout in France, who now obtains 75% of its electricity from nuclear power, cost them less that half of the Bush administration’s proposed 2008 war budget for Iraq (2008 proposal: $250B) – that’s a mind-blowing misallocation of resources by the US.

Our complete lack of a concrete program to address the other crisis of this century, our global water shortfall: If you look at the trend line, it is manifest destiny that, even with proactive carbon reduction steps in the US, the global global warming picture will result in a three plus degree temperature increase globally this century, and that will serve to exacerbate the global fresh water supply situation. The WHO estimates by 2050, up to 4 billion people will face a fresh water shortfall. You are starting to see leading indicators of this issue even in the US. Towns in the Southeast are having to truck in water to keep operating. Atlanta is on the verge of a major water crisis (Lake Lanier is at a 20 year low). In the face of all this, we have a water bill targeting $23B in projects that involve bringing no net new water supplies online. Just a $10B incremental investment in desalination plants would potentially bring 500 million gallons a day of desalinized water online. Instead, we are spending money on water initiatives that generate the best 20 second sound bites for TV, and that’s just plain irresponsible. This is a two party issue – neither Democrats nor Republicans are showing any leadership here. How bad can things get? Some experts believe one of the fundamental causes of the genocide in Darfur was related to their water crisis.

Spending money we don’t have: Just understanding the US annual Federal deficit is a challenge. Let’s look at 2005. The government reported a $318B deficit, but if you followed the reporting of the GAO, and followed standard accounting practices, the number was $760B. If you do the right thing and also include the impact of Medicare and Social Security, the number is $3.5 trillion – over $11,000 per man, woman and child in the US! How we continue to allow the dialog on our deficit to use these two sets of books (one for safe public dialog, and the real books) is beyond me.

What has been the real impact of US fiscal policy? I think the best context for this dialog rests on an understanding of the global purchasing power of the US dollar, ignoring the artificial lift of an undervalued Yuan. To me, that can be done in understanding the trends relating to two constrained-supply commodities: Gold and Oil.

If you look at gold, you see a 30+% price increase since mid-August (from $652/ounce to $850/ounce as of 11/7/2007)

The story for light crude oil is very similar. During the same 3 month period, we has a 32+% price increase.

The question to ask is whether or not we have now seen the bottom. In simple terms, no. The tough love journey to create a strong dollar, in terms of a truly balanced budget using the real GAO figures, a fair but aggressive trade policy, and the strategic investments require over the next 20 years to implement viable alternate energy and fresh water programs are things we will make no progress on during this election cycle (not with AARP lobbying pieces already hitting the airways, etc.). That means 18-24 months ahead of us with the same market dynamics.

To my friends, I recommend you start shorting the USD by being long oil and gold, investing in foreign equity markets, and perhaps consider other currency hedging / commodity strategies (titanium, etc.). We haven’t seen the bottom here – we’re not even close. If you need to borrow my shovel to start burying your own coins, give me a call…