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By Nadia Papagiannis, CFA | 09-15-2010 05:14 PM

Merk: Why Equities Aren't Performing

Ineffective reflationary policy aimed at propping up weak consumer spending has been at cross-purposes with fundamental market forces, says Merk Investments' Axel Merk.

Papagiannis: Right now there is a problem in the equity markets, especially with fundamental investors. They just can't seem to get a good return from fundamental investing. Can you explain why that might be happening?

Merk: Well, there is a reason why equities are not performing as well as they do, and that is mostly because all this, this stimulus, this recovery that we are talking about cannot happen unless we allow the market forces to play out. We have consumers who have not been allowed to downsize. They are trying to do that, but both on the fiscal and the monetary side, we do anything in our power, the policymakers do everything in their power, to try to keep them going.

It's like supporting the steel industry in the old days. And what happens is that there is very little discretionary income left to anybody who has been subsidized to maintain a lifestyle that they shouldn't be maintaining. And in that sort of environment, economic growth just won't happen strong enough for equities to be doing very well. Of course, corporations have a lot of cash on their balance sheet and so forth, but still the money is not reaching the places that it should, and instead, the money is reaching the places where you have the greatest sensitivity to these things, the monetary sensitivity.

You see it in precious metals, commodities. You see the money flow outside of the U.S. dollar to finance projects outside in the rest of the world. That won't stop the policymakers from trying. They will just print and spend even more money.

And whenever people think that this recovery will happen, these reflationary trends send back in and the money flows out into back in riskier assets. But then conversely, when we have a more somber mood and people think the end of the world might be coming, well, less money is flowing back into the U.S. dollar because we have spent and printed more money in the U.S. than in other countries. We have destroyed our balance sheet at a faster pace than other countries. And at the same time, the rest of the world is putting safeguards in place to make their systems to appear safer.

And so, as long as we fight the market forces, we have a very ineffective way of spending and printing money, and we will see a lot more of that and the U.S. dollar might suffer in the process.

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