John Paulson made three important points when he spoke to Les Echos, a French publication, recently.
1. Financial reform could hinder the recovery. It is text-heavy (2,000 pages!) and thought to be very difficult to implement. It was precipitated by an emotional reaction. The result is that it creates numerous conflicts and uncertainties. As Alan Greenspan says, I think it will create market distortions.
2. Inflation is a risk. Quantitative recovery is not without consequences and creates the potential for inflation. Currently we have no inflation because we still have overcapacity. But the risk exists. It is undeniable that this monetary expansion is equivalent to running the printing press. It remains to be seen whether the Fed will reduce the recovery before it becomes inflationary.
3. U.S. debt levels will sooner or later reach a “very serious” problematic threshold. There are serious uncertainties about the exit strategy of the Fed. I’d be very surprised if there was a third round of QE. While many economists believe that the U.S. debt remains at a manageable level, sooner or later it will reach a threshold that will be a problem. Today, our federal debt is still at a relatively reasonable (around 65% of GDP), but if we add the local debt of the States and local governments are approaching the level of 100% of GDP which begins to be close to that of Greece or Portugal. It is a very serious potential problem. The U.S. does not have the ability of unlimited borrowings.
Note: Paulson also talked his book a bit (he’s betting on a housing recovery and gold strength):
“The major risk for the U.S. recovery is stagnating housing market.”
“We must look at the currencies in relative terms. The UK is committed in the same way that the United States in terms of monetary stimulus. The euro has its own problems. In these times of uncertainty for paper based currency, I feel more secure in holding gold. Given the risks of inflation in three to five years and the volatility of the euro, gold offers good protection against the paper currencies devaluation and even the possibility of generating a return on fixed investment.
Also interesting: 40% of Paulson’s investors chose to invest in his gold-denominated fund. Only 3% of the Paulson fund’s assets are invested in gold.