"The Fed is fighting fire with gasoline!" warns Steve Forbes in an exceptional interview with Mark Skousen . Here, the editor-in-chief of Forbes magazine discusses oil, gold, the Fed, taxes, stocks, and highly valuable, advice on investment discipline.

Skousen, Mark"Steve Forbes has been a friend for many years," notes Mark Skousen, in his latest Forecasts & Strategies (for more on his service, click on his photo at left). "I knew his father, Malcolm Forbes, a flamboyant showman who flew around the world in his ‘Capitalist Tool’ balloon. I still wear one of his Forbes ties. Steve took over as editor-in-chief of Forbes when Malcolm died in 1990. Steve is more down to earth. He is one of the most astute geopolitical observers I know, and a great investor. Steve’s also just written an important book called The Flat Tax Revolution.

Skousen: You’ve suggested that oil prices would fall to $35 a barrel next year. You’re definitely in a minority position there.

Forbes: Probably a good place to be.

Skousen: So you still think that’s going to happen in the next year?

Forbes: Yes, assuming the one caveat, the Fed. It continues to be expansionary, despite its interest rate policy.

Skousen: So you think the Fed raising rates is nothing compared to expanding the money supply, that they are still too inflationary?

Forbes: They’re fighting a fire with gasoline, creating a milder version of what happened in the ‘70s, when they let rates go up, but inject too much money into the economy. It’s not enough to raise interest rates. Raising the nominal price of money is not going to do it. Only soaking up excess liquidity will control inflation.

Skousen: Do you think gold is going to go up to $500 an ounce?

Forbes: Well, if it does, it means we’re going to have a recession.

Skousen: So you don’t predict the price of gold, you just use that as a monitor?

Forbes: I use that as a barometer.

Skousen: In my new book, Vienna and Chicago: Friends or Foes, I was critical of your gold monetary policyusing gold as a monitorbecause it’s so volatile. What’s your response?

Forbes: I don’t agree. Gold is volatile because monetary policy is volatile. Markets react to that. So if gold shoots up, it’s not volatility, it’s the market saying that the Fed is overshooting. Gold is a constant. It’s like the North Star. It fluctuates based on what people perceive about the value of the dollar and monetary policy. When gold collapsed in the late 1990s, it meant that the Fed was deflating, and that helped bring about the recession. When you have deflation, it hurts commodities, commodity producers, and manufacturing.

Skousen: Do you think that an inverted yield curve is a possibility—where short-term interest rates exceed long-term rates?

Forbes: It’s a very real possibility. Again, it means that the Fed has blundered.

Skousen: You have been an advocate of government reform on many issues, such as privatizing social security, and adopting a flat tax and a balanced budget amendment. Yet nothing happens. Why does it take so long for government to solve these types of problems?

Forbes: In the public square, the way you make things happen is by having a vested interest organizing to push your interest, so that politicians respond to those interests. Petitioners have a bigger voice than the general public. The way you try to change something with the public is to put an idea out, advocate it, start organizing around it, and eventually you will triumph if people feel it has legitimacy. You have to marinate your ideas. For example, one of the things we’re doing in New Hampshire for the flat tax is asking every candidate, Democrat and Republican alike, ‘What are you going to do about this horrific tax code? If you’ve been in Congress, why haven’t you done anything about it? Why wouldn’t you go with a flat tax? Why wouldn’t you go with lower rates?’ You put pressure on that way. I hope that in the 2008 presidential primaries, at least one candidate will be entrepreneurial enough to stand out and support an issue where there seems to be some real public resentment, where the public is ready to explode.

Skousen: Would that candidate be you in 2008?

Forbes: Not me in ‘08. I’m an agitator now. But it could be a Democrat or Republican, or a couple of both. A Democrat could easily pick up on the flat tax idea and run with it. They may not endorse my version of a flat tax, but they might support a low rate like 15% that would apply to the big capital gains, dividends, death duties, income, etc. It would be a vast improvement over what we have now. It certainly could appeal to a piece of their constituency because of the high exemptions. If the Republicans don’t get serious about this, a Democrat is going to run with it.

Skousen: One of the big events here is a ballooning deficit, and a possible tax increase. It seems to me that any kind of tax reform, such as a flat tax, is off the table now. They’re not discussing it. That’s a scary thought.

Forbes: It is, and that shows why leadership, management, and politics are just as vital in the public square as in the private sector. Good management can succeed, given the diversity. Bad management can destroy even a splendid company. You see it happen all the time. Conservatives have not done an adequate job at promoting the idea that reducing tax rates leads to a stronger economy.

Skousen: The stock market has been floundering while foreign markets have really been strong. Can you address why you think the US market has not done well?

Forbes: Part of it is the Fed raising nominal rates, creating uncertainty, and not dealing with the monetary situation. Inflation is beginning to move up. Another factor that hasn’t gotten much play is taxes. All of the Bush tax cuts expire in 2008. Here in the market, that’s not too far away. Sarbox [Sarbanes-Oxley financial reporting legislation] has hurt small and medium size businesses. GM can deal with it, even with their straight finances, but for a small company, a couple of million bucks for no reasonable purpose? That hurts.

Skousen: You live and work in New York City. Do you fear another terrorist attack? Maybe not a 9/11, but a subway attack, something that would close down the stock market?

Forbes: It’s the kind of thing where, sadly, you know it can happen. But life has got to go on. So you move ahead. You can’t paralyze yourself by going through all the what-ifs. And what’s amazing about human beings is that even in difficult circumstances, they find a way to continue, find a way to move on. Even in Israel, at the height of the suicide bombings, of course it destroyed the tourism, but the high-tech economy continued to function. You have to adjust. It doesn’t mean you’re passive about it. You fight it. You pay a price for it. The economy does not do as well when you have to fight external threats. After all the money we spend on police, fire departments, defense...it’d be nice to be able to spend those dollars elsewhere. But it’s like insurance: You pay for it and hope you don’t have to use it.

Skousen: What is the most important lesson that you have learned as an investor?

Forbes: If you want to make big money, you have to run your own business and structure it in a way that’s successful. For investors, I’d follow the advice of an advisor in Connecticut who told me that unless you’re a true expert, invest as you should play tennis: Concentrate on putting the ball over the net, and you’ll do okay. You’re not going to be the pro and you’re not going to Wimbledon, but you’ll be successful. In investing, don’t try to hit a home run. Try to apply discipline and go for the singles and the walks the dividends. Be disciplined. We all say we’re disciplined until the market goes down, and then we panic. We all say we’re long-term investors until the market goes against us, and then we start making mistakes. So, diversify. If you can’t devote full time to it, bring in the advice and management of others, but baby-sit your money, and remember the value of compounding interest and compounding gains. Over time, it works. But if you try to make it fast, you’ll lose it fast. Discipline. Easy to say, but most people emotionally have a hard time with it.

Skousen: On a broader perspective, having lived a long life, what is the most important lesson that you’ve learned?

Forbes: At the end of the day, you have to have that strong sense of right and wrong, and not get caught up in whatever the fashion or the fears of the moment are. Because it’s your soul or your conscience that you answer to. The pharaohs learned that you couldn’t take it with you. So if you’ve been true to your core values, you have a chance at real happiness. Otherwise, it’s like a drug: You get the fix, and destroy the soul. I guess the other thing is, if you suffer a setbackand if you live life and take risks, you will suffer setbacks pick yourself up and move on. Don’t let the past poison the future. If you nurse grudges, and nurse grievances, you’re just going to end up doing yourself in. Yogi Berra is right: It’s not over ‘til it’s over. Ray Kroc was in his ‘50s before he stumbled onto McDonald’s. So keep going."