With friends like these

On Sunday the Swiss vote on the "Save our Swiss Gold" initiative. If you solely consumed gold blogosphere content, you think this brilliant proposal still has a chance of succeeding. The reality is that the proposal:

• is a wasted opportunity due to a stupid fatal flaw;
• has little public awareness and is unlikely to pass.

While there is a high degree of awareness of the proposal within the professional and pumper segments of the gold market, it seems all those donations have been of little help, with Jordan Eliseo, Chief Economist at Australia Bullion Company, quoted by Reuters as saying that:

 

"I was actually in Switzerland a couple of weeks ago - and no one - outside of the gold traders I met with - had even heard of it - I asked waiters, bar men, taxi drivers and hotel clerks etc - even some old friends that I had a drink with when I was there - and literally not one had heard of it."

 

It seems mainstream Swiss attitudes towards gold have only weakened further since they voted to remove the link between the Swiss franc and gold in 1999. Given that political reality, you would think it would be wise to put forward a modest proposal that would provide as small a target as possible.

 

But no, goldbugs do not know such restraint and so it was with dismay when I read the proposal and its moronic ban on any gold sales by the Swiss National Bank (SNB). As many commentators and the SNB itself noted, this restriction in combination with the 20% minimum would "mean that gold eventually accounted for the bulk of the SNB's assets - it would be obliged to buy gold every time its balance sheet expanded and to sell euro every time it contracted."

 

If the drafters of the proposal had just required a 20% backing ratio, it would have a much better chance of being approved. A ratio requirement would have cut away a key argument against it (lack of monetary policy flexibility) and would have accorded with basic portfolio management, which is to choose an asset allocation and then constantly rebalance. Such a policy would have been a lot easier for the average voter to understand. Indeed, even within the pro camp there were concerns, with Zurich economics professor Hans Geiger saying that:

 

"the absolute ban on selling gold in future is doubly wrong." First says Geiger – who has long supported the initiative – the SNB should be able to reduce its gold reserves if its balance sheet shrinks overall. Secondly, "If Switzerland were to face crisis, it must be able to use the central bank's gold." 

 

Unfortunately for gold advocates, the pathetic insecurity of the goldbugs behind this proposal meant that they only wanted the SNB to buy buy buy and never ever ever sell. I was going to ask whether those behind the proposal themselves personally follow the investment strategy they expect the SNB to implement, but they probably do hold 100% of their investments in gold.

 

I have seen commentary arguing that the point of the proposal is to restrict the SNB, particularly in its 1.20 floor policy. However, as Barclays notes, "the gold initiative’s imposition of balance sheet costs would encourage the SNB to pursue “balance sheet light” policies like negative deposit rates instead". Probably not something the proposal proponents thought about, or would prefer.

 

In any case, even if it was the correct thing for the SNB to end up with 100% gold backing and that was the end objective, it was still politically naïve to go with the never sell requirement. Politics is about the art of what is achievable, about compromise. One is never going to move an electorate from one extreme to another in one step. Yet such nuance is beyond one-eyed goldbugs who feel oppressed and thus must have it all, now.

 

Keith Weiner, noting the Swiss banks' euro-denominated loans, concluded that the proposal would impose "a bitter dilemma on the Swiss people. They have a choice of slow losses by devaluation, or total losses by bankruptcy. They deserve a better option, a practical roadmap to the gold standard. It’s great that the Swiss people are striving to move towards gold. I am a passionate advocate of the gold standard, and I want to cheer for my Swiss friends. Yet I must caution them today. I realize they have spent a lot of money and political capital to come so far, but I don’t want to win this battle and lose the war."

 

Unfortunately I think that political capital has been wasted. When gold has friends like these, who needs conspiracies of price suppression.

135 years of US Fed Earmarked Gold

Inspired by this post by Koos Jansen, which included a chart back to 1999 of earmarked (custodial) gold held by the US Federal Reserve Bank for other central banks, Nick Laird at Sharelynx went sleuthing for more data and was able to pull together from multiple sources data going back to just before 1880.

The resulting 135+ year chart of the US Fed's custodial gold, as well as the US' gold reserves, provides a fascinating insight into gold's monetary role. I have an article in the latest journal of the Gold Standard Institute featuring the chart and providing some commentary.

One of the more interesting periods is 1950 to 1965, during the Bretton Woods. While the total amount of gold held by the Fed over these 15 years was relatively stable at 25,000 tonnes, in 1950 only 15% of the gold stored in the Fed was owned by foreign central banks but by the end of 1965, 48% of the gold was owned by foreigners. Any guesses why?

Also of interest is the spate of recent withdrawals, which Koos Jansen has speculated are repatriations by Germany. Since June 2013, 75 tonnes has been withdrawn and if all are related to Germany, then they are on track with their plans to transfer 150 tonnes from New York to Frankfurt by 2015 and another 150 tonnes by 2020.

You can find my article the Gold Standard Institute's November journal here.

A metallic standard to save the economy and one central bankers will accept

Forget the gold standard people, central banks are never going to go for that. However a UK professor has unwittingly identified a metallic standard a central banker can live with - from this BBC article on why humans have always tended to choose gold as currency:

"Take iron. In theory it looks quite a good prospect for currency. It is attractive and polishes up to a lovely sheen. The problem is rust: unless you keep it completely dry it is liable to corrode away. 'A self-debasing currency is clearly not a good idea,' says [professor] Sella."

Not a good idea? Hasn't he heard of inflation targets - debasement is the stated policy of central banks. So forget this talk of a Gold Standard, an Iron Standard is what we need.

One great advantage of an Iron Standard is that everyone has some rusted piece of metal lying around, so it would be a form of QE/monetisation for the common people. Everyone will be instantly wealthy, that has got to get everyone's animal spirits going and turn the economy around. Every country also has iron, so it should get worldwide support. China's got a lot of it, just knock down those empty apartments.

It will also market well with the public - iron is "strong" - and I'm sure Obama's political advisers will see the spin/MOPE benefits of the following announcement:

"An indispensable element in building a new prosperity is closely related to creating new jobs. We must protect the position of the American dollar as a pillar of monetary stability around the world.

Accordingly, I have directed the Treasury Secretary to sell all of America's gold reserves, which is a soft, ductile and wimpy metal, and institute convertibility of the dollar into strong Iron, in amounts and conditions determined to be in the interest of monetary stability and in the best interests of the United States.

Now, what is this action — which is very technical — what does it mean for you?

Let me say that this new Iron Standard will make all Americans, who buy American-made products in America, wealthier and your dollar will be worth just as much tomorrow as it is today. The effect of this action, in other words, will be to strongize the dollar."

To sex it up a bit, politicians might also want to consider Izabella Kaminska's idea of central banks issuing their own digital crypto currencies. Iron is heavy to carry around, so do away with physical coins and notes and issue BitIron instead.

Finally, an Iron Standard will encourage a lot of recycling, which is a Good Thing. It will also probably result in people scrapping perfectly good goods to monetise the iron in them - economists will love that as it is similar to Keynes' idea of filling old bottles with banknotes, burying them, and having people digging them up.

There is one potential problem with an Iron Standard, being that iron's debasement rate, or rustment rate, is constant and thus out of control of the central bankers. However I think an Iron Standard is a fair compromise between the hard money advocates and meddling central bankers who think they alone know what the one right interest/inflation rate is for a massively dynamic and complex economy. Come on guys, compromise. Central bankers - give up your omniscient delusions and omnipotency. Hard Money - give up your rigid money stock, a little rustment will discourage hoarding and encourage people to spend spend spend, and what could be wrong with that?

Gold holds its value

On a recent trip to Sydney I visited the Reserve Bank of Australia's Museum of Australian Currency Notes. From the displays comes the following interesting information about prices in "the 1900's":

6 shillings a week for meat
16 shillings a week for groceries
25 shillings a week for rent
£250 for a Model T Ford
House equal to 10 times annual earnings
During war years average weekly earnings were £3

Given that there are 20 shillings in a pound and a pound is equal to a sovereign, which is equal to 0.2354 ounces, we can convert those prices at say AUD 1400 ounce into today's money:

$99 a week for meat
$264 a week for groceries
$412 a week for rent
$82,500 for a Model T Ford
$514,800 for a house

Of course this is a bit imprecise given the prices are as at "1900's" and wages are as at "war years", but it is a reasonable holding of value and certainly more than if one had just held on to paper money for a hundred years. See also this post on the same theme regarding the 1966 50c coin.

Counter to Ben Bernanke's The World on a Cross of Gold

Extract from Gold Standards and the Real Bills Doctrine in U.S. Monetary Policy by Richard Timberlake. The references to "Bernanke 1993" are to Ben Bernanke's 1993 article "The World on a Cross of Gold" in the Journal of Monetary Economics.

Ben Bernanke, in a laudatory review of Golden Fetters, agrees with its main thesis. “Eichengreen,” Bernanke states, “has made the case that the international gold standard, as reconstituted following World War I, played a central role in the initiation and propagation of the worldwide slump” (Bernanke 1993, 252). “In this masterful new book,” he notes approvingly, “Barry Eichengreen has gone well beyond his previous work to marshal a powerful indictment of the interwar gold standard, and of the political leaders and economic policy-makers who allowed themselves to be bound by golden fetters while the world economy collapsed.” The United States, especially, absorbed and sterilized gold, “largely reflecting conscious Federal Reserve policy. . . . Monetary policy became tight in the U.S. in 1928. . . . High returns on both bonds and stocks attracted gold into the U.S., but the Fed, intent on its domestic policy goals, sterilized the inflows” (Bernanke 1993, 253-258).

Bernanke’s words, much like Temin’s and Eichengreen’s, contradict his argument. If central banks could absorb and sterilize gold, “reflecting conscious Federal Reserve policy,” the central bank, not the gold standard, was running the show.

...

Bernanke finally poses a very apt question that he leaves unanswered. “Why was there such a sharp contrast between the stability of the gold standard regime of the classical, pre-World War I period and the extreme instability associated with the interwar gold standard?” (Bernanke 1993, 261).

Here are two commentaries that may help answer his question. The first is from Lionel D. Edie, a prominent economist of the time. At a conference of economists in early 1932, he stated,

The Federal Reserve Act cut the tie which binds the gold reserve directly to the credit [money] volume, and by so doing automatically cut off the basic function of the gold standard . . . in an essential respect we abandoned [the automatic money supply function] some time ago. . . . We are not now on the gold standard . . . and we have not been for some time . . . it is time to recognize that the Federal Reserve mechanism does not constitute an automatic self-corrective device for perpetuating a gold standard. (Edie1932, 119-128)

And Leland Yeager in 1966 described the “gold standard” of the 1920s in these words:

The gold standard of the late 1920s was hardly more than a façade. It involved extreme measures to economize on gold. . . . It involved the neutralization or offsetting of international influences on domestic money supplies, incomes, and prices. Gold standard methods of balance of payments equilibrium were largely destroyed and were not replaced by any alternative. . . . With both the price and income and the exchange-rate mechanisms of balance of payments adjustment out of operation, disequilibriums were accumulated or merely palliated, not continuously corrected. (Yeager 1966, 290)

These commentaries provide the answer to Bernanke: “The” interwar gold standard was not a gold standard. It was an entirely different system than the pre-1914 gold standard that had existed for 100 years.

Also quoted in the article is the following from Joseph Schumpeter's 1954 History of Economic Analysis:

An ‘automatic’ gold currency is part and parcel of a laissezfaire and free-trade economy. It links every nation’s money rates and price levels with the money-rates and price levels of all the other nations that are ‘on gold.’ It is extremely sensitive to government expenditure and even to attitudes or policies that do not involve expenditure directly, for example, to foreign policy, to certain policies of taxation, and, in general, to precisely all those policies that violate the principles of [classical] liberalism. This is the reason why gold is so unpopular now [1950] and also why it was so popular in a bourgeois era. It imposes restrictions upon governments or bureaucracies that are much more powerful than is parliamentary criticism. It is both the badge and the guarantee of bourgeois freedom—of freedom not simply of the bourgeois interest, but of freedom in the bourgeois sense. From this standpoint a man may quite rationally fight for it, even if fully convinced of the validity of all that has ever been urged against it on economic grounds. From the standpoint of etatisme and planning, a man may not less rationally condemn it, even if fully convinced of the validity of all that has ever been urged for it on economic grounds.

Know your customer

Interesting experience by Market Skeptics with GoldMoney. Leaving aside the way it was handled or the time taken, but it does not surprise me with what happened.

The ability to transfer balances between GoldMoney accounts means that operation really is more akin to a bank than a custodian. As a result I can see that they are more diligent about knowing their customer and what the account will be used for, otherwise they could get shut down by regulators. Just see what happened to e-gold and the changes they have had to make in this DGC Magazine article.

The money laundering/terrorism rules these days puts the onus on the business to know their customer, make assessments about the potential for their customers to be engaging in illegal activities and if the risk is considered high, either declining the account, reporting it, or seeking further information from the customer to establish whether their use of the account appears legitimate.

There would be no doubt that GoldMoney would not want to go through the e-gold experience, hence the rigorous due diligence. This tells me they are serious about becoming a real "gold bank", which is something true gold money advocates would have to support. Yes, this means they become part of the regulatory "system" and will thus not appeal to those buying gold for privacy reasons, but I think GoldMoney's objectives are to target the wider market and it will be interesting to see how this develops.

Golden Avalanche

Nick from www.sharelynx.com shared some quotes with me that I'd like to pass on. They are from a book written in 1939 by Graham & Whittlesey called Golden Avalanche:

“Before leaving the subject of gold supply it is interesting to relate present gold reserves to the monetary circulation of this country and the world. The gold reserves of the United States are almost two and a half times the total of all ordinary money now in circulation in this country. We could replace at its present value every piece of paper money with a gold coin and would still have enough left over to do the same for every country in Europe. There is enough gold in the monetary reserves of the world to replace all ordinary currency of the entire world 100 per cent with gold coins. Never until the present decade was such a situation as this even approached.” p.15

"It has been estimated by a number of writers, on the basis of conditions prior to 1914, that the production of gold would have to rise by about 3 per cent a year in order to preserve approximately stable price levels. The best known of these calculations are those of the Swedish economist, Professor Cassel. This estimate tends to exaggerate the rate of expansion in the demand for basic reserve money. It is based on a period when population and production, and, therefore, the money-work to be done, were increasing at an exceptional rate, and when the non-monetary demand for gold was at its highest. During these years, moreover, the need for gold rose as rapidly as it did partly because of the extension of the international gold standard system to embrace a growing list of countries.

Even if the gold standard system were again established as it was in 1913 the need for gold could not be expected to increase as it did in the half century before the World War, simply because there would not exist the same possibility of extending the use of gold over a steadily widening area.

As was noted earlier, the monetary reserves of the world are today nearly three times as great as in 1929. If commodity prices were to return to the 1929 level, if business activity were to increase at an annual rate equal to that maintained in the sixty fat years prior to 1914, and if all the countries then on the gold standard should return to it, we should still have enough gold to meet all monetary requirements for many years to come, even though not one single ounce was produced during that time. If the gold standard is not restored on such a scale, then the world is long on gold to a corresponding degree. It is absolutely fair to say that, ignoring entirely the possibility of increasing the efficiency of our monetary and banking systems and making the most liberal assumptions as to growth in the monetary and non-monetary demand for gold, there is not the remotest prospect of the world’s needing to have another ounce of gold mined for several decades." p. 18-19

The Story of the Gold Standard

While this Australian Radio National program on the Gold Standard is a bit one sided, worth a read. Summary:

Once upon a time currencies were backed up by gold - piles of gold bullion sitting in bank vaults. When the gold standard was abandoned during the Great Depression, there was public panic, and the end of Western civilisation was predicted. Luckily that didn't happen, but could the present crisis be a reason to return to the gold standard?

Is a deflationary gold standard bad?

I've never really got why a gradual deflationary bias was a problem. Consumers know, for example, that just about any electronic good (computers, plasma screens etc) will get cheaper in the future, yet this does not seem to stop them from being made and bought. The fact that only those people who really really want the good will buy it and those are no so enthused will wait until it gets cheaper does not seem to stop business from making money.

If it was conspicuous consumption fueled by debt (and an inflationary bias) that got us into this mess, then would not a system with a deflationary bias be the solution? It has a built in frugality: your money will have more purchasing power in the future, so only buy today what you actually need. People would also only want to take on debt if they were actually going to be productive/efficient rather than just trying to bubble up asset prices. Now maybe if we can convince Greenies that a Gold Standard would work against consumerism and thus be good for the planet, we've got a chance.

The above thoughts were prompted by these comments left at this article Gold Standard ... Debunked or Another Bubble?:

Dirk, on November 24, 2008 at 12:58 pm, said:

I’m happy someone gets it- that constraining global economic activity based on a single metal that doesn’t really correlate to economic activity makes no sense.

Clearly, the gold standard is deflationary in absence of either major gold finds, or major negative economic shocks. More goods and services chasing a fixed money pool will create massive downward pressure on prices. And downward pressure on prices and assets equals lower incentives for investment, more difficulty paying off debt, and a negative wealth effect that creates real economic stagnation.

Inflation, on the other hand, creates pressure to invest money- not hoard it. As long as a currency promises a future redemptive power, it will keep its value. Perhaps fixing currency values to a “total energy” metric- the sum of all oil, coal, gas, solar, nuclear, etc. reserves- would allow for both economic growth and a guarantee of some future redemptive power for something really useful.

16 Stanley Pinchak, on November 25, 2008 at 2:03 pm, said:

Wow so much muddled thinking in one place. It is amazing that my browser didn’t pop up a warning.

1) Any stock of money sufficient to be accepted by the public as a money and selected as the medium of exchange is capable of serving as money. There is no need to grow the stock of money. Despite this false criticism, the gold stock does grow at a predictable (by mining engineers) and low rate between 1% and 3% per year.

2) The purchasing power of a money is related to the stock of money and the demand for money. Its purchasing power is also related to the supply and demand for all other goods in society for which it is exchanged. Thus as productivity increases, the purchasing power of a stable or slowly increasing money will increase. This has the effect of making daily expenses of those with debts easier to bear.

The only time a debt would become harder to pay off would be if the debtor was in a field of employment where his pay decreased in line with the increase in purchasing power of money. This might be a possibility, but at the same time that human actors today judge their debt burdens based on future expectations of income, those operating under a regime of increasing purchasing power of money would be capable of determining their expected future debt load capabilities. Those who guess wrong in such a situation are no different than those who bite off more debt than they can chew under our inflationary regime.

The biggest improvement that increasing purchasing power has is for savers and those on fixed incomes. Savers would earn interest + the difference in purchasing power between when they started saving and when they start consuming. This is the opposite of today where the difference in purchasing power subtracts from the interest and reduces the incentive to save. This will have the effect of greatly encouraging saving and the stock of loanable funds, driving interest rates to natural and sustainable low levels. This will benefit the saver/consumer in the future as well as the entrepreneur and the durable good consumer in the present.

Inflation on the other hand encourages debt based financing. It favors instant gratification, but since there are fewer savers since debt is the preferred method of financing, the purchases of today are not sustainable. The increase in consumption fueled by new money is not fully offset by the preferences of a ever shrinking class of savers who abstain from present consumption. This results in a business cycle like we see continuously under a system of bank credit expansion (ex nihlo). Inflation encourages capital consumption and not investment as Dirk claims. Empirical evidence of this is present in the dilapidated factories and rotting machinery of the American Rust Belt.

3) All business cycles (as in repeated and not caused by something like war or famine) are the result of fractional reserve banking and its concomitant ex nihlo credit expansion. There can be no stable and sustained economic growth under a fractional reserve banking regime. There will always be over-expansion combined with malinvestment, and and then retrenchment as the bad investments are liquidated. Attempting to tie a money to a commodity standard while maintaining a fractional reserve banking system is unsustainable. There will inevitably be calls for the creation of a central bank and lender of last resort as the bust causes bank runs.

The only viable solution is to realize that fractional reserve banking on demand deposit money is clearly a case of conflicting views of a contract and thus an untenable and invalid contract. How can a depositor demand a physical object which the banker (rightly?) assumes is lent to him for his purposes. A physical object must have a clear owner and can not be subject to control simultaneously by two parties of differing opinion under which direction to place the object. Thus demand deposits must be maintained in a warehouse fashion with 100% reserve maintained at all time. This eliminates the possibility of a bank run (in the historical sense and in the practical sense of potential damage to the depositor). Furthermore by limiting bank loans to funds deposited in time accounts (i.e. true saving) there will cease to be a business cycle.

4) The idea of a world central bank is superfluous with a free monetary system and 100% reserve banking. The main purposes of the central bank are to ease governmental expansion and to act as a lender of last resort. A world central bank will only lead to world bureaucracy. If banking is on a firm economic and legal foundation, there is no need for a lender of last resort. A world central bank is only an excuse for the establishment of world government. It can not prevent world wide business cycles while maintaining a fractional reserve banking system. Furthermore, if it maintained a 100% reserve banking system, it would still be subject to political considerations in open market operation and would still cause misallocations of resources, though not of the intertemporal kind as explained by the business cycle theory. The misallocations would result in privileged borrowers being able to bid resources from those who obtain the increase in the money supply last.

5) The myth that a gold standard would limit growth is preposterous. One of the greatest periods of economic (and population) expansion was obtained under a gold standard and under a period of increasing purchasing power of money (Cf. the 19th century). There is no theoretical nor physical restriction on the growth of economy based on a sound monetary system besides the subjective actions of individuals to save which allows for the implementation of longer and more productive production techniques.

The claim that unemployment is higher under a gold standard is also ridiculous. All non voluntary unemployment is the result of artificial restrictions on the movement of labor or its price. One must be careful not to make the mistake of comparing the unemployment rates of a central bank and fractional reserve banking boom period to an average or bust phase unemployment rate under the fractional reserve banking system which has persisted in the United States prior to its inception. Under a free market, all labor wishing to be employed will be. All state intervention attempting to reduce the ranks of the unemployed can only be obtained by reducing the well being of other actors in the economy. As such interventionist attempts to reduce unemployment, though they may increase productivity (doubtful), will not be optimal as compared ex ante in terms of the satisfaction of wants of all economic actors. On utilitarian and natural rights grounds, state intervention in the labor market is counterproductive, misguided, and should be avoided.

6) The idea that there is not enough gold to back all of the fiat currencies of the world is the most foolish statement of all. Logically one can take the stock of gold available and divide it by the weighted sum (by exchange rate) of the currencies of the world. This could provide backing for every single dollar, ruble, yen, etc. However, this is a bad policy, for the market should be left free to choose its own money, it should not be instituted from on high via state decree or central bank policy.

All that needs to be done is to eliminate legal tender laws and taxes on market selected monies. Since we have several thousand years of history showing that Gold and Silver are typically selected as money, we should start by eliminating taxes on them. If there is a push for a different medium of exchange, it should be treated in the same fashion. At the same time, all fractional reserve demand deposit banking must be subjected to traditional legal principles regarding property rights.

This means a reversion to 100% reserve banking. From these two changes, the market will perform the transition to a sound money with the minimum disruption and transfer cost. A state imposed system can only result in higher costs, as well as a retention of particular privileges for the state, most commonly in the form of a central bank, liable to interfere in the money supply through open market operations and subject to the political whims of demagogues.

Money, an essentially useless substance?

Dmitry Orlov recently posted an article titled Definancialisation, Deglobalisation, Relocalisation.

For those not familiar with Dmitry, he is the author of Reinventing Collapse, which is all about "prepar[ing] for life without much money, where imported goods are scarce, and where people have to provide for their own needs, and those of their immediate neighbours."

In this article, Dmitry has a go at money and suggests barter can do the job but then suggest this is probably a better solution:

One option is to organise as communities to produce certain goods that the entire community wants: food, clothing, shelter, security and entertainment. Everyone makes their contribution, in exchange for the end product, which everyone gets to share. It is also possible to organise to produce goods that can be used in trade with other communities: trade goods. Trade goods are a much better way to store wealth than money, which is, let's face it, an essentially useless substance.

I can't say I share Dmitry's belief in this socialist nirvana. The catch for me is “everyone makes their contribution” bit. Anyway, my main beef is with his belief that trade goods are a better way to store wealth and that money is essentially useless. Now I'm not going to discuss why money is better than barter (either between individuals or “communities” it doesn't matter), as I think most people reading this get it. I'm more interested in why Dmitry would be so negative on money given its obvious efficiency it brings to exchange. The explanation is in this statement later in the article:

When we use money, we cede power to those who create money (by creating debt) and who destroy money (by cancelling debt). We also empower the ranks of people whose area of expertise is in the manipulation of arbitrary rules and arithmetic abstractions rather than in engaging directly with the physical world.

This has to be one of the best examples of the infiltration of the idea of fiat into society. This guy's whole shtick is about radically challenging society yet he can't conceive of money as anything but debt, so much so that he proposes returning to barter rather than retaining the benefits of money, but money which is directly engaged with the physical world – gold.

Another example of this misguided thinking is his statement that a lack of money “makes it more difficult to hoard wealth”. Professor Fekete has often debunked this demonisation of hoarding. Dmitry himself is confused on this matter – he thinks it is OK to hoard wealth in the form of trade goods, but not money.

I considered replying to Dmitry's article on these matters, but thinking about how brainwashed (I can think of no better word) he is on money, I considered it a futile task. I could see a stereotypical negative perception of gold as some goldbug doom and gloom eccentricity. I see a need to condense Professor Fekete's work into an easy (and quick) to understand case for sound money. Another one for the to-do list.

The War on Gold II

Further to my post of 6 May on the book Sutton, A.C., The war on gold, 1977, '76 Press, California, USA, below are some extracts from the book I've made for my personal reference:

Page 59: It is this disciplinary function of gold that is irksome to politicians and managed-economy bureaucrats and academicians. Politicians are always eager to buy votes with promises of perpetual prosperity, and bureaucrats are happy to go along to expand their own empire building.

Page 60: Of course, a market clearing price for gold (assuming a 100 percent cover for all present paper debts), might suggest a price of $800 to $1,000 an ounce. This would be a pleasant windfall for those with the foresight to own gold, but it would mean psychological devastation for those who have built their careers on the philosophy of helping everyone to live at the expense of everyone else. The latter need to conduct and anti-gold crusade for their own self-preservation.

Page 111: Defeat turned to disaster between November 1967 and March 1968, as the U.S. lost a staggering $3.2 billion from its gold stocks. By this time other European central banks followed the French example and told the United States that further defense of the dollar would require U.S. gold; none of theirs would be available. The end came on March 14, 1968, the day the Gold Pool lost 400 tons of gold to private buyers. The loss of 20 percent of the U.S. gold stocks within five months finally galvanized the Treasury into action. At the request of the Federal Reserve Bank and the U.S. Treasury, President Lyndon Johnson asked the Bank of England to close the Gold Pool operation.

Page 122: Certainly, a paper system will not last in open competition with gold and silver coins. It is recognition of Gresham's Law that forces the U.S. Treasury to be vehemently against the issue of any gold coins, even and innocuous gold bicentennial memorial coin. While at the same time the Treasury must keep a damper on the price of gold in the market place.

Page 143: The remaining question is not whether the debt structure will collapse, but when. What do we mean by “collapse”? H.A. Merklein defines collapse as a “combination of unemployment and inflation so rampant that the market ceases to function effectively.” (“Can the U.S. economy collapse?” World Oil, December 1975.) Merklein suggests that, given a 50-percent inflation rate, “public confidence in government issued fiat money tends to break down ... and barter begins to replace the money economy.” According to Merklein's calculations, with a ten-percent unemployment rate, collapse could begin at 30-percent inflation - a figure exceeded by the United Kingdom, Argentina, and Italy in 1975. Even granted the existence of many unknowns, Merklein's evidence does suggest the early 1980s as Doomsday for the United States.

Page 151: It was, in effect, a declaration of bankruptcy. When President Nixon closed the gold window he did not, as he said, demonetize gold. On the contrary, he demonetized the dollar! Regardless of his words, his actions emphasized the premium value of gold over fiat dollars. The propaganda war on gold by the U.S. since 1971 has been designed to prevent this single fact from penetrating the consciousness of the American public. When the real significance of the demonetization of the dollar is fully grasped by Americans, the result will be monetary panic, probably followed by the collapse of the debt pyramid.

Page 153: Then, on December 31, 1974, the United States removed the official ban on gold ownership by U.S. citizens. At the same time it began a massive internal propaganda campaign, with the help of an unquestioning media, against gold holding.

Page 157: The current battle – one the U.S. Treasury must win or go down in disgrace – is to prevent significant numbers of American investors from acting on the paper-gold equation. At all costs the American citizen has to be persuaded that paper dollars are at least equal to, if not better than, gold.

Page 159: The Treasury, the Federal Reserve System, and the Congress are under the illusion that they can decree what is money. They cannot. They can legislate legal tender, but that is not necessarily the same thing. Money is what people and countries will accept in exchange for goods and services. This may, or may not, be paper dollars. Historically, as we have seen, money has been gold, silver, copper, and even iron. These currencies have led to stable monetary systems. Money has also been leather, mulberry leaves, and rice paper; today it is wood pulp and ink and the present debt system. Historically, the latter have been the unstable systems. Why? Because at some point holders of these latter moneys look for something of intrinsic value as a store of wealth, and the find none.

Page 172: In early 1975 only about ten percent of South Africa's gold output was used to mint the Krugerrand, the one-ounce coin that is held mostly by individuals, not central banks, as a hedge against inflation. By the end of 1975, 25 percent of the South African gold production entered the Krugerrand presses. As a result, significantly less gold reached the world bullion market. Test marketing promotion of the Krugerrand in Philadelphia, Houston, and Los Angeles had “staggering” and “incredible” results, according to coin dealers. A major New York advertising agency, Doyle, Dane, and Bernback, was hired by the Krugerrand distributor, Intergold, to promote gold coins directly to the America public, which previously had been exposed soley to the bear-market tactics of the U.S. Government. The response was truly “staggering.” By the end of 1975, Krugerrand sales were running at the rate of 5,000,000 coins annually – an amount equal almost exactly to the total proposed IMG annual sale for 1976.

Page 180: The Treasury plan obviously is to maximize uncertainty in the market to depress price, and it cannot maximize uncertainty by regular sales. It can do so only by random sporadic actions at critical market turns, for example in deflationary periods accompanied by maximum propaganda.

Page 200: The legalization of gold in the United States in 1975 was probably not a withdrawal from coercion but an interim effort to make the propaganda war on gold more credible. History suggests that gold will once again be made illegal in the United States and subject to arbitrary seizure by a police-state apparatus. Looking back over monetary history, we see that gold has always been prominent as a protector of individual sovereignty. Private gold ownership is inconsistent with the aims of dictatorship; a war on gold is a necessary concomitant to centralized political power. Wars and fiat currencies have always gone hand in hand.

Page 203: As we look into the future (in competition with the professional prognosticators), the domestic war on gold looks like this: there will be an increasing realization by the public that the ratio between paper-debt and gold in inexorably shifting in favor of gold. That public confidence is the all-important requirement to keep a paper-debt money system afloat . . . and this confidence is eroding. Surges in confidence-erosion will account for short-run increases in the price of gold, while for intermittent periods the government will regain some public confidence; when this occurs, gold will settle back to its approximate long-run ratio to paper-debt units. At some point, however, there is a distinct probability of panic – if debt holders see the debt pyramid collapsing or even anticipate its collapse. Particularly this will be true if there is general realization that paper assets are actually someone else's debt and are inherently worthless. However, it is important to note a distinction between “realization” and “action.” Investors may “know” the pyramid is illiquid and in danger of collapse; they may not “act” on this knowledge. The herd instinct suggests that only a few will bale out in time; the majority will act in panic, too late.

The death of gold

While I have only been blogging for a short while, I have been following goldbug chatter since 1998 when I took up a position in the Depository division of the Mint. At that time it was all doom and gloom with the price in a downward trend, helped along by Gordon Brown with his auction.

This unheard of method of selling central bank gold (usually it was done on the quiet and announced later) was not endorsed by anyone and really only left two conclusions: either he was stupid or it was a conspiracy. For an example of the latter, see this 25 May 1999 posting by GATA: "A political decision was made by the British to make sure the price of gold did not rise above the key $290 gold carry trade borrowing point of the bullion dealers and to make sure that the price would tank when the first pre-gold sale announcement in more than 20 years was made."

Since that time the the gold price has risen from $250 to $1000, which implies a very unsuccessful manipulation. In some sense this is true. Consider that around 2001/02 the total amount of gold leased out was estimated between 10,000 and 16,000 ounces (see this Golden Sextant commentary) compared to approximately 30,000 oz of central bank holdings. One could conclude the increase in gold from 2002 to 2009 is proof the manipulators ran out of firepower (ie gold to lease to support short selling) over that time.

If indeed central banks have leased all they can, then one would assume that the market is finally poised at the crucial tipping point that the commentators from those early days have been waiting for, where further physical buying that is already in excess of mine and scrap supply will overwhelm supply from short sold leased gold, resulting in a parabolic rise in the gold price as the shorts are broken, scrambling to cover their positions being unable to post sufficient collateral to cover the huge rise in gold.

This is the 1980 spike revisited, but at a much higher inflation adjusted price. How high? There are as many guesses as their are commentators - $2200, $5000 or more? This is the end game that many goldbugs have been waiting for, when they can shout "we won"!

But will they have won? I would argue not. I would argue that such a scenario would actually be the death of gold.

Those who welcome a 1980s spike have lost sight of the real war. There are others who are driven by base greed. They have fallen into the trap of seeing gold as an investment. It is no such thing. It has no power to create wealth - it is an inert thing. It is only the entrepreneur and inventor who create wealth. Hawking gold as an investment is bubble behaviour, no different to the debt fueled bubbles in stocks and real estate. Such people are no friends of gold.

Gold is money. Often stated, but what does it mean? Gold is for storing wealth, not making it. I can only suggest reading Whither Gold? by Antal Fekete if you want to get what I am talking about. Those who understand this understand that the real war is gold as money versus fiat as money. The winner is the one that can demonstrate an ability to store wealth.

One may argue, how can fiat win when it has lost 95% of its value since the Federal Reserve came into power in 1913? This is too broad a sweep of time for the average person. They look only year to year, and single digit inflation looks stable to them. There is some vague understanding that money loses value, but it is not dramatic and anyway, the way to deal with this is to "invest".

To beat gold in this war, all you have to do it make it look unstable. This is why a parabolic rise in the gold price is counterproductive. It makes the average person see gold as a speculative investment, worst still, one that does not pay a dividend. Parallels to 1980 will be drawn, focusing on the bust after that bubble. This does nothing for gold's image as a stable store of wealth.

From this point of view, the theory of suppression of the gold price misses the point. To kill gold you don't manipulate its price, you manipulate its volatility. If gold looks unstable, it is unlikely that a gold standard will ever be accepted.

Therefore, at the one moment in time when people may lose faith in debt based investing as a way to beat inflation and preserve wealth, when they are looking for something else more stable, gold will fail to win them over.

I mentioned earlier about a tipping point. I would like to conclude with one last idea: one other advantage of manipulating volatility rather than price is that your firepower lasts longer. All you need to do is start a trend, or help a trend along. Herd behaviour and chartist momentum will do the rest. Bullish or bearish, it doesn't matter. As long as the price moves wildly, your ends are served. For those that believe in manipulation this thesis means we are not at a tipping point and the manipulation has many more years to run.

The War on Gold

Next to the Perth Mint's CEO office is an old bookcase filled with many dusty titles from CEOs past. The title "The War on Gold" on the spine of one of them caught my eye today. Published in 1977 by Antony Sutton, it is a bit of a depressing read as little seems to have changed - consider these statements from its back cover:

* The US debt pyramid - what do municipal bonds, domestic bank, and other institutional failures mean for the price of gold?
* Confidence in the monetary system - is panic just around the corner?
* Manipulation of the market price - how long can the US Treasury keep the price of gold down?
* Gold and freedom - why totalitarians always forbid the private ownership of gold.

Same issues being discussed today, over 30 years later. Anyway, I found Mr Sutton's glossary amusing. He prefaces it with the statement "Common words or phrases used by money manipulators, and their meaning is laymen's language." Some selections:

* A Crisis in Confidence - general public discovers it has be conned by politicians and bureaucrats.
* Run on the Bank - general public discovers it has been conned by the bankers.
* Hoarding - precautionary saving of wealth (usually gold) by individuals.
* Reserves - precautionary saving of gold by Governments.

Mad Witches' Dance

An extract from the book Money by Hartley Withers, 1935:

Since, then, it seems to be true that prices vary with fluctuations in the quantity of money, and since the quantity of gold, and consequently of gold-paper money, has certainly varied considerably in the past, and price have varied with them, the critics of the gold standard have logic on their side when they argue that stability in buying power has not been secured by it; that money is defective as a measure of value when the amount of commodities that it will command is subject to variation; and that it would be just as sensible to use, for measuring lengths of timber or pieces of land, a yard-stick made of an elastic material.

But having thus seen that there is much truth in the premises of the critics' argument, is it necessary that we should follow them to their conclusion and abolish the gold standard? It is a long step from admitting that the gold standard has not been perfect to replacing it by one which, when tried, has shown the same imperfection in a highly exaggerated form. During and after the war we had no gold standard, but money that was paper, issued, at the will and pleasure of governments, by governments or by central banks acting at their bidding; and prices whirled up in a mad witches' dance. It is true that the circumstances were enormously exceptional, but the experience has left, in the minds of most of us, a deep mistrust of any change that would leave our money in the hands of politicians who could multiply its amount whenever they preferred that mode of paying their way to taking money out of our pockets by taxation.

It is so easy and tempting, and politicians are so human. In fact, Mr. Stanley Baldwin, an austere but kindly judge, has stated publicly that there was no government on earth that he would trust to manage a currency, and the one outstanding advantage to his mind of a gold currency was that, so far as anything in the world could be, a gold currency was knave-proof. Moreover, recent exceptional experience has shown that the power of public authority to endow pieces of paper with buying power fails if it is worked too hard. A government can make certain money legal tender for the payment of debts, but it cannot compel shopkeepers to party with their goods in exchange for it if they do not want to, as was shown in Germany when the printing press was producing its most monstrous effects, and the trade and business of the country began to be done in dollars and other foreign currencies.

For the present the gold standard, in spite of the hard truths that are behind many of the criticisms with which it is bespattered, holds the field as a working scheme, under which, during the century before the war, immense and unprecedented progress was made in improving the material conditions of man's existence. The circumstances which led to its collapse in 1931, chief among which were panic in America and political funk in Europe, seriously though unreasonably discredited it. But its loss showed how valuable was the work that it did, in steadying rates of exchange, and so promoting commercial and financial intercourse between the nations.

Defend the Gold Standard

Nice reply to Michael Sesi's Bloomberg piece "Gold Standard Fans Yearn for Great Depression" by Robert P. Murphy of the Mises Institute:

But that is clearly not what Sesit is arguing in his Bloomberg piece. No, he is arguing that the gold standard is a bad idea because it keeps the central bankers from using all the latest, cutting-edge macro models to fine-tune the economy.

Rather than his proposal, I would far prefer the classical gold standard. It's true that the government can always renege on its pledge to maintain a fixed peg to gold, but at least everybody would know exactly when the government cheated. You would at least avoid absurdities such as the present crisis, in which people are actually praising the Fed for pumping in unprecedented amounts of new money in order to "help."

And while we are on the topic of the Gold Standard, this is a handy link list The History of the Gold Standard: 25 Great Web Sites to Research Its Rise and Fall, although some of the links are pretty simplistic.

1966 50c piece

Excellent demonstration of inflation and precious metals in the latest Global Speculator newsletter:

Back in 1966 each coin [the 1966 50c round coin composed of 80% silver and 20% copper versus the 12 sided 50c copper/nickel coin] would have purchased roughly:

· 250g of bacon rashers.
· A dozen eggs.
· 12 domestic stamps.
· 1 kg of lamb chops (loin)
· 2kg of bread
· 2kg of sugar

Today the 12 sided 50c piece will buy:

· 25g of bacon rashers (10%)
· 1 egg (8%)
· 1 domestic stamp (8%)
· 25g of lamb chops (loin) (2.5%)
· 125 grams of bread (6%)
· 300g of sugar (15%)

The 1966 50c silver round sold on EBAY for conservatively A$7.00 (silver price A$20/21 oz) buys:

· 350g of bacon rashers (150%)
· 18 eggs (150%)
· 12 stamps (100%)
· 350g of lamb chops (loin) (35%)
· 2 kg bread (100%)
· 4 kg of sugar (200%)

A pound is not what it used to be

The text below comes from someone I know in the industry, lets call them "InsideMan":

ONE SILVER PENNY (at the time of Offa in the 8th Century) = 22 ½ troy grains (1 grain = 64.8 milligrams) = circa 0.05 of a Troy ounce.

240 of these silver pennies used to equal ‘one pound of Sterling’ which is around 11 ¼ Troy ounces of silver. That is worth around £92 today. So the £1 at the time of Offa was currently 92 ‘new’ pounds.

Fast forward 900 odd years. In 1663 the guinea was introduced. I remember it well. 44 ½ guineas made 12 Troy ounces of gold (11/12 or 22 carat). It was originally meant to represent 20 shillings (one pound) but this lead to gold being accumulated at the expense of silver. In 1717, it was officially fixed at 21 shillings. This implied a gold/silver ratio of 44 times – much higher than in Continental Europe – with their currencies. This led to silver flowing out and gold flowing into the United Kingdom– the young Empire with silver lacking and gold in abundance was in a pickle. Foreigners would only accept gold at much lower prices (relative to silver) in payment. So surprise, surprise…

In 1816, it was decided that silver was not appropriate for the backing of the currency. Even though it had run parallel to the exponential growth of Western civilization from Greece the Renaissance and onwards to the industrial revolution. Silver was binned, and gold favoured – unlike everyone else on planet Earth.

1817 saw the gold sovereign introduced (valued at 20 shillings) containing 113 grains of 22 carat gold. One gold sovereign was equivalent to a pound, but a pound was now defined terms of gold. One pound in 1817 is equivalent to £150 today.

Conclusion…

One C8^th pound = Ninety two C21^st pounds
One C19^th pound = One hundred and fifty C21^st pounds

A pound is not what it used to be. It is around 1/100 of what it used to be. When one compares the price of bullion to the price of other assets (like government stock, housing) it is even more undervalued. If only bullion could yield…

Gold Standard

With thanks to Tim Iacono's blog, here are some recent articles on the gold standard he has found that in some form argue for or raise the idea of gold as the solution to the current problems:

The Christian Science Monitor, 17 Nov: Forget Bretton Woods II – we need a gold standard
The Wall Street Journal, 17 Nov: To Prevent Bubbles, Restrain the Fed
The Wall Street Journal, 14 Nov: Stable Money Is the Key to Recovery

Also found by New Kontent blog I follow:

Eric Janszen, President iTulip.com, 16 Nov: A return to the Bretton Woods international gold standard is inevitable

And to The Calgary Herald, 15 Nov I present my Stating The Obvious Award: "But it seems central bankers and governments around the world have already put a stop on a comeback of the gold standard as they prefer monetary policies without being restrained by gold reserves."

GSUL

Back in the office and just cleaned up the inbox. I'm sure all 52 present at GSUL 5 would agree that it was very productive. All the formal presenters had valuable insights: Professor Antal E. Fekete, Darryl Robert Schoon, Tom Szabo and Nathan Narusis; but just as much was learnt from the insightful questions of the attendees. This is not surprising, as they were, as Nathan so aptly described, "self made wealth, independent thinking" people. I sensed early on that the presenters were initially a bit taken aback at the directness of the questioning, but maybe that is just the Australian way and commendations to the organisers for going with the flow. Also productive were the after session sessions down at the bar. The internet is a valuable technology for communication, but so much more seems to get done face to face - we are social creatures after all.

A few ideas/things I thought needed work on from the session:

1. AUD basis - does this really exist (eg we need to use aussie cash rates and aussie spot price) or since USD trading dominates the gold market, should we really study USD basis and trade/interpret that, only converting profits back into AUD?
2. Confiscation - my speculations on this and the application of Part IV of the Banking Act 1959 (see my August blog for background) seemed to be of interest and I will finish my blog on this shortly.

3. Warehousing of precious metals - what is the real warehousing cost, and particularly the correct relative storage charge between gold and silver? Also consider that where gold can be lent, or stored "free" as with the Mint's unallocated, there is no warehousing cost so how does this affect the basis, particularly the AUD basis?

I look forward to the continuing discussions.

Gold Standard University Live

Currently in Canberra for the Gold Standard University Live session V. Will post something up if I get time between the sessions and riding the Mt Stromlo mountain bike park.