Also see new article at:
Essay of the Month
Best of Bob Bishop
Best of Mogambo Guru
Best of LeMetropole
The Silver Deficit Revisited
By Theodore Butler
(The following essay was written by silver analyst Theodore Butler. Investment Rarities does not necessarily endorse these views, which may or may not prove to be correct.)
The word deficit is one of the most commonly used modern words. It means loss or shortfall. We use this word to describe so many different types of shortages, or losses, that sometimes we blur its true meaning. Most people, upon hearing the word, think of government deficits. That’s a shortfall between government revenues and expenditures. But governments can monetize their own debts and postpone the day of reckoning. That’s one of many reasons to own silver.
In commodities, when we consume more than we produce, we also have a deficit. Since you can only consume that which physically exists, a commodity deficit must be balanced by physical withdrawals from previously produced inventory. Prices determine whether we have a deficit or a surplus. Low prices encourage demand and, thereby, cause a deficit. Low prices also discourage production. High prices do just the opposite, demand drops and production increases. We call these rules the laws of supply and demand. They are the cornerstone of free markets. As I have written previously, this is basic stuff that we expect our children to learn in school.
Deficits, no matter where they exist, are not permanent. Prices must rise to get the material necessary to meet the deficit. In commodities, a deficit guarantees higher prices, eventually. Guarantee – that’s a pretty strong word. But there is nothing stronger than the law of supply and demand. That’s why I say that higher silver prices are a sure thing. I wouldn’t say it if the law of supply and demand didn’t guarantee it. Don’t buy silver just because I say it is a great investment and a sure thing. Think about the facts. The publicly reported statistics show a deficit for more than 13 years running. The dramatic reduction of above ground inventories confirms that there is a deficit. The complete evaporation of the U.S. Government’s six billion ounce silver supply of 60 years ago offers further proof of a deficit. So does the two hundred million ounce decline in COMEX inventories over the past eight years. These are public statistics. If these facts are correct, as I believe them to be, then a lifetime opportunity is staring at you and your family.
I’m saying that, according to the law of supply and demand, the price of silver is guaranteed to go higher. That’s not my personal guarantee, but a guarantee backed by the immutable laws of nature and of markets. A commodity deficit guarantees higher prices. No, I can’t give you a precise timetable. Nor can I tell you how high the price must go, except to say high enough to eventually eliminate the deficit. How many investment guarantees does one get in a lifetime? There can be no more powerful guarantee of higher prices then to have the rock-solid certainty of a deficit.
What could invalidate this guarantee? Could the deficit be misreported? A deficit must be confirmed by a corresponding decline in inventories. Every measure of known inventories has shown a precipitous decline over the past 60 years. We don’t have to worry that the deficit has been misreported. But what if the inventories weren’t actually depleted, but moved to different locations? The U.S. Government admits it’s now out of silver. The COMEX has experienced a 70% drop in inventories and a corresponding decline in warehouse facilities. The fabled hundreds of millions of ounces of silver in the Delaware warehouses are now included in the COMEX’s shriveled totals, and, in essence, have disappeared. In addition, the Chicago Board of Trade has been closing its silver storage facilities and consolidating them in New York. The thought that all this silver has been shifted to other warehouses and is still available to be dumped on the market is ridiculous. The silver inventories are gone. Period. The guarantee stands.
The only other way the guarantee of higher silver prices could be invalidated is if the deficit could be balanced, (the current mine supply plus recycling production could satisfy industrial and total fabrication demand). Here, you would have to envision sharply increased mine and recycling production. But every public mining report I read suggests postponements of silver mining projects at current prices. Recycling can’t increase without a big increase in silver usage, and that would only increase the deficit.
In a world economic slowdown, could demand shrink? That’s what we’re going through, and deficits are still accruing. In a world depression, it wouldn’t be just silver demand that suffers – so would copper, zinc and lead demand fall off, thereby killing the silver supply coming from base metal mining (75% of silver supply is a byproduct of other types of mining). Remember, stocks of base metals have grown dramatically over the past two years, but not silver inventories. Evidence is starting to roll in that, as we dig deeper in the ground for base metals, silver grades are falling off sharply, due to the well-known “epithermal deposition” of silver. Namely, because silver deposits are close to the earth’s surface, you find less silver per ton of ore the deeper you dig. All this means that in no way does the current deficit get eliminated without higher prices. The guarantee is still good.
So, if the law of supply and demand is guaranteeing higher prices for silver, what’s taking so long? The answer is the twin manipulative forces of leasing and excessive COMEX short selling. These are delaying devices, since nothing can repeal the law of supply and demand permanently. In fact, these manipulative tactics make the guarantee of higher silver prices more ironclad. That’s because leasing involves extra inventory dumping that unnaturally lowers the price. Excessive short selling also artificially depresses the price. This price suppression encourages demand and discourages production – exactly the opposite of what is needed with a commodity deficit. Talk about throwing gasoline on a fire! Actually, it’s like throwing a drum of gasoline on a fire. It doesn’t burn immediately, but eventually it explodes. Time is on the side of the person who expects a conflagration.
Here’s a thought a friend passed along to me, which describes the nature of deficits and inventory liquidation, and may help towards explaining why it seems to be taking so long for silver prices to respond to the deficit. (But please keep in mind, if my portrayal of the silver market is accurate, a couple of years in the 5,000-year history of a commodity is hardly taking too long.) Anyway, my friend observed that as long as you have inventories, or money, to willingly sustain a deficit, it doesn’t matter what the size of the deficit is. Whether a deficit is shrinking or growing doesn’t matter, only that there is a deficit. When there is insufficient material to sustain a deficit, the impact will be seen. He went on to describe how the biggest company could fund losses for many years, totaling billions of dollars, but once they ran out of capital, the smallest creditor demand would send them immediately into insolvency. The correlation in silver is that, even though we have been running a structural deficit of some 100 million ounces for some 60 years (based upon known inventory liquidation), it is not a requirement that 100 million-ounce deficits continue in order to launch the price into the stratosphere. All it takes are insufficient available inventories, a condition we draw closer to each day. In fact, a deficit of only one million ounces will do the trick. When we can’t get enough silver to feed the deficit, the price must soar.
Nothing will ever restore the billions and billions of ounces of silver inventory that we have used up over the past 6 decades. These inventories took thousands of years to accumulate. We appear to be minutes, or seconds, away using the clock of history, from destruction of the very last ounce of inventory available at current depressed prices (leasable inventories). At that precise moment, we must switch to inventory liquidation by free market price alone. Most silver holders won’t sell unless they get higher prices. This will be a shock to the system. Delays in deliveries to industrial users will appear. Faced with concerns about shutting down factory assembly lines, the users will attempt the only logical remedy; they will attempt to build inventories of silver. But I ask you, from where and from what? Some users will step ahead of other users, creating panic buying. Forget investment buying, a slight deficit with only free market inventories available can, by itself, drive prices ten times higher, in weeks or months. It is in this coming industrial user panic that paper silver will fall by the wayside, as only real silver qualifies. In fact, the short sellers and other paper silver issuers will have to join the buying, adding to the silver free-for-all. You cannot underestimate the power of a commodity deficit with insufficient available inventory and a sudden ratcheting up of demand.
I don’t know how much time we have until we hit the wall. Neither do you, or anyone else on this planet. But I know that, because of the deficit, the wall is guaranteed to be there. A radical change lies dead ahead; when pent up demand is finally let out of the bag to go after a finite supply of silver. That’s why, when you accumulate silver today, it comes with a guarantee. You cannot argue with the facts. You cannot poke holes in my case for silver. I’ve spent the better part of my adult life studying silver. We are going shockingly higher in silver, and at today’s low price, it remains the opportunity of a lifetime.
Ed. note: After working with Mr. Butler for the past 2 ½ years, we are quite certain that he knows the silver story better than any living person. Nobody ever attacks his arguments successfully. He’s like Muhammad Ali – you don’t want to get in the ring with him. A few critics may slur him, but they never face him or his argument head on. Although we can’t see into the future, we think his predictions will be exactly what the future holds.