Originally posted on ZeroHedge here

Jamie Dimon Has Issues

When just one firm accounts for 99.3% of the physical gold sales at the COMEX in the last three months it’s not what most of us on this side of the rainbow would consider “broad-based” selling. Of course discovering this kind of relevant information requires an internet connection, 2nd grade math and reading skills, and the desire to do a teeny-weeny bit of reporting. Sadly they’ve wandered so far down the rabbit hole that the concept of “physical demand” (i.e. people actually wanting to take possession of the stuff) is puzzling to them because the vast majority of the world’s so-called “gold-trading” takes place in the realm of make believe (which is their natural habitat). It’s all fun and games until somebody loses their metal and “somebody” has lost one hell of a lot of metal in the last 90 days.

This is the CME Group’s COMEX metals issues and stops year-to-date report, which can be found here everyday for free. It chronicles the physical delivery notices of various metals, including gold. Let’s have a look:

“I” is for “Idiot”
That’s how I remember it, anyway. “I” actually stands for “issues,” meaning the firm parted with its metal (@ 100 troy ounces a shot), and “S” stands for “stops,” meaning the firm took delivery of gold. “C” is for customer accounts, “H” is house accounts. The first thing you should notice is that most transaction net out to zero in a given month (blue boxes), meaning the firm’s gold holdings didn’t change. What they delivered one day they got back the next, or vice versa. The green boxes show firms who received more than they delivered and the red boxes indicate firms who coughed up gold for Bernanke bucks (aka idiots). Note that Deutsche Bank’s massive take in February more than offsets its deliveries in December and April.

Notice one more thing before we move on: Despite Goldman’s much ballyhooed “Gold Sucks!” call a few weeks ago, the squid has not parted with any yellow metal whatsoever in 2013. Hmmm.

Now for the main event:

J P Morgan has fumbled ownership of 1,966,000 Troy ounces of gold since February 1. That’s 74% more gold than the US mint delivered through the US mint’s American Eagle program in all of 2012. I mention this because there’s little doubt in my mind that the US government is one of JPM’s gold “customers.” So (if I am correct) the same US government who just let the Morgue dump its gold on the COMEX floor will once again be suspending gold sales to peasants.

Maybe Jamie Dimon figures he’ll buy back all that gold on the cheap when the rest of the world realizes how smart he is. Or maybe he’s once again displaying that his firm doesn’t have the slightest idea what “hedging” is and is teetering on the brink of collapse. That would explain the April 11th meeting between President Obama and the Pig 5 bank CEOs, wouldn’t it? And you just have to get a little misty that Lloyd Blankfein was nice enough to provide some hot-air cover for his competitor, don’t you?

One thing’s very clear: When it comes to selling physical gold, J P Morgan is acting alone. The 130 contracts NOT delivered by JPM in the last three months (of which 110 were fromABN AMRO) are but a footnote. If Jamie’s right, he’ll look like a genius in a few months, if not he should be able to recycle his quote regarding the infamous “London Whale” losses: “Just because we’re stupid, doesn’t mean everybody else was.” Time will tell.

100 years ago John Pierpont Morgan famously testified to Congress, “Money is gold, and nothing else.” (Note: That is the exact quote, the full testimony can be found here). One has to wonder what the big guy would think of his legacy’s disregard for sound money, $70 Trillion derivatives book, and “House of Cards” “Fortress” balance sheet.

One more very, very important thing.
Anybody who says there’s been gold selling in the GLD is a freaking moron (Bob Pistrami, I’m looking in your direction). The GLD works much like a coat check. Unless you think checking your coat constitutes a real transaction of some kind you shouldn’t think of changes in the GLD’s gold holdings as sales. They’re not. When you check your gold into the GLD you get shares (like a claim check). Where it gets wierd is you can sell these claim checks to nimrods who seem to think they’ve bought your coat, but aren’t actually allowed to wear it.

What nobody seems to appreciate is that every share of GLD is allowed to be sold TWICE (long and short, and it’s really important to understand that). If you’re foolish enough to doubt me (and foolish enough to short gold), go short GLD shares and see if anyone knocks on your door demanding gold. Saying the GLD is 100% backed by gold is a bold face lie because they’re can be twice as many shares in play as gold backing them, which means GLD shares may be only 50% backed by gold before any rules are broken.

When GLD (or any ETF for that matter) shares sold exceed the existing shares PLUS all the shortable (double-sold) shares, legitimate shares can not be found for settlement and that must be reported to the SEC’s “Fails to Deliver” list, which is published twice a month with about a four-week delay (here).

April 15, 2013 was this biggest volume day ever for GLD (93.7mm) and I’ll guarantee you right now that record fails to deliver will be reported on or around that date, which should have required more gold to be deposited with the GLD (but that didn’t happen). So instead of the half-assed explanation Pistrami offered (here) of how he thinks the GLD works, he should have raised the question of whether or not there were enough legitimate shares of GLD to facilitate trading (I say no way in hell).

Gold continues to be pulled from the GLD (which really means people want their coats back) and still no one’s concerned about the number doubled-owned shares. Worse yet, the responsibility for sorting this unholy mess out falls to SEC chief Mary Jo White who is celebrating her 16th day in office.

I can’t wait to see what happens next….

Notes for Nerds: This piece is not intended to describe the inner workings of the COMEX or GLD in detail, so don’t bust my balls with minutiae, unless it is relevant to the discussion of JPM’s massive gold sales or the double-ownership of ETF shares. Double-owned ETF shares are huge problem with ETFs in general, but the misrepresentation (by omission) of this fact by ETFs supposedly backed by tangible assets like gold and silver seems more egregious to me.

In addition to the YTD CME Group metals report, you can track the hilarity on a day-by-day basis here.

The February 1 to April 25 delivered gold contracts info referenced included only transactions between firms. For that reason Morgan Stanley’s 307 contracts transferred from house account to customer account was excluded from the calculations.

Total Net gold deliveries Feb 1 to April 25:

Vision Financial – 1 contract
R J O’Brien – 2
ADM Investor Services INC – 2
Marex – 5
Citigroup Global Markets – 10
ABN AMRO – 110
JP Morgan – 19,660

So the US government is trying to re-acquire Gold, and they want to do it highly visibly on Comex so the selling can drive the price down. Do they have a plan for when the physical runs out ?

Interesting comments on GLD as well.

In summary, own physical and keep it away from the banking and exchange system as eventually the govt will just come and steal it. They’re dangerous and stupid.

Originally posted here

Comex to go bankrupt as it eventually dawns that there is not enough inventory to supply demand at current prices, leading to longs electing to take delivery, in turn leading to massive squeeze ?

One of the more curious revelations of the New Normal is the fundamental dichotomy when investing between paper “investors”, or those who chase returns based on intangible, fiat-based and central bank-backed promises, such as capital appreciation or cash flow streams, and those who would rather convert their paper money into hard assets, even if said assets can not be, in the immortal words of Warren Buffett, fondled, or otherwise generate a cash-based return. Such as gold.

Today provides perhaps the perfect example of how the former increasingly trade on nothing but momentum and speculative mania (such as the previously reported record inflow of foreign capital into the Japanese stock market well after the bulk of the easy upside has already been made and at this point there is mostly downside) and where buying begets only more buying, while rampant selling only leads to liquidations, while those who invest in hard assets (and thus have little to no leverage) have become the true value investors, purchasing more as the price of the underlying asset drops. Yes, a novel concept to most High Frequency Trading vacuum tubes, and the momentum-chasing, equity trading “expert” du jour, but nothing new to Indians, Australians, Chinese or the Japanese.

And apparently to at least some Americans.

According to today’s data from the US Mint, a record 63,500 ounces, or a whopping 2 tons, of gold were reported sold on April 17th alone, bringing the total sales for the month to a whopping 147,000 ounces or more than the previous two months combined with just half of the month gone.

Punchline number one, as the chart below shows, is that the more the price of gold fell, the more aggressive the purchases of physical gold through the Mint became, rising to 96,500 oz in the last two days alone. Buying more of something you want when the price drops: what a stunning concept – explain that to the algos who nearly crashed the German stock market overnight.

Punchline number two, of course, is that the US mint charges a hefty premium for purchases: much more so than traditional vendors like Apmex or Gainesville Coins, and is usually the last resort for when nobody else has any physical at a lower premium to spot (or any metal in inventory).

So how long until the US mint “runs out” of American Eagles and Buffaloes in inventory, along with the depletion of all other precious metal vendors? And what happens if the price of paper gold hits zero (or goes negative) courtesy of bank and financial institution liquidation selling of paper derivative contracts nebulously referencing some yellow metal somewhere, even as suddenly there is no physical to be delivered to anyone, anywhere?

Inquiring minds really want to know.

Great stuff in Gold yesterday as the market finally broke the multiple lows which have been in place since mid 2011, and continued its correction. This should flush out some ‘weak longs” and set up a test of the 1396 – 1404 area.

Click to expand.

There’s still so much excess debt that deflation is still the dominant force.

originally posted here and here

Authored by Detlev Schlichter; originally posted at DetlevSchlichter.com,

We are now five years into the Great Fiat Money Endgame and our freedom is increasingly under attack from the state, liberty’s eternal enemy. It is true that by any realistic measure most states today are heading for bankruptcy. But it would be wrong to assume that ‘austerity’ policies must now lead to a diminishing of government influence and a shrinking of state power. The opposite is true: the state asserts itself more forcefully in the economy, and the political class feels licensed by the crisis to abandon whatever restraint it may have adhered to in the past. Ever more prices in financial markets are manipulated by the central banks, either directly or indirectly; and through legislation, regulation, and taxation the state takes more control of the employment of scarce means. An anti-wealth rhetoric is seeping back into political discourse everywhere and is setting the stage for more confiscation of wealth and income in the future.

War is the health of the state, and so is financial crisis, ironically even a crisis in government finances. As the democratic masses sense that their living standards are threatened, they authorize their governments to do “whatever it takes” to arrest the collapse, prop up asset prices, and to enforce some form of stability. The state is a gigantic hammer, and at times of uncertainty the public wants nothing more than seeing everything nailed to the floor. Saving the status quo and spreading the pain are the dominant political postulates today, and they will shape policy for years to come.
Unlimited fiat money is a political tool

A free society requires hard and apolitical money. But the reality today is that money is merely a political tool. Central banks around the world are getting ever bolder in using it to rig markets and manipulate asset prices. The results are evident: equities are trading not far from historic highs, the bonds of reckless and clueless governments are trading at record low interest rates, and corporate debt is priced for perfection. While in the real economy the risks remain palpable and the financial sector on life support from the central banks, my friends in money management tell me that the biggest risk they have faced of late was the risk of not being bullish enough and missing the rallies. Welcome to Planet QE.

I wish my friends luck but I am concerned about the consequences. With free and unlimited fiat money at the core of the financial industry, mis-allocations of capital will not diminish but increase. The damage done to the economy will be spectacular in the final assessment. There is no natural end to QE. Once it has propped up markets it has to be continued ad infinitum to keep ‘prices’ where the authorities want them. None of this is a one-off or temporary. It is a new form of finance socialism. It will not end through the political process but via complete currency collapse.

Not the buying and selling by the public on free and uninhibited markets, but monetary authorities – central bank bureaucrats – now determine where asset prices should be, which banks survive, how fast they grow and who they lend to, and what the shape of the yield curve should be. We are witnessing the destruction of financial markets and indeed of capitalism itself.

While in the monetary sphere the role of the state is increasing rapidly it is certainly not diminishing in the sphere of fiscal policy. Under the misleading banner of ‘austerity’ states are not rolling back government but simply changing the sources of state funding. Seeing what has happened in Ireland and Portugal, and what is now happening in Spain and in particular Greece, many governments want to reduce their dependence on the bond market. They realize that once the bond market loses confidence in the solvency of any state the game is up and insolvency quickly becomes a reality. But the states that attempt to reduce deficits do not usually reduce spending but raise revenues through higher taxes.
Sources of state funding

When states fund high degrees of spending by borrowing they tap into the pool of society’s savings, crowd out private competitors, and thus deprive the private sector of resources. In the private sector, savings would have to be employed as productive capital to be able repay the savers who provided these resources in the first place at some point in the future. By contrast, governments mainly consume the resources they obtain through borrowing in the present period. They do not invest them in productive activities that generate new income streams for society. Via deficit-spending, governments channel savings mainly back into consumption. Government bonds are not backed by productive capital but simply by the state’s future expropriation of wealth-holders and income-earners. Government deficits and government debt are always highly destructive for a society. They are truly anti-social. Those who invest in government debt are not funding future-oriented investment but present-day state consumption. They expect to get repaid from future taxes on productive enterprise without ever having invested in productive enterprise themselves. They do not support capitalist production but simply acquire shares in the state’s privilege of taxation.

Reducing deficits is thus to be encouraged at all times, and the Keynesian nonsense that deficit-spending enhances society’s productiveness is to be rejected entirely. However, most states are not aiming to reduce deficits by cutting back on spending, and those that do, do so only marginally. They mainly replace borrowing with taxes. This means the state no longer takes the detour via the bond market but confiscates directly and instantly what it needs to sustain its outsized spending. In any case, the states’ heavy control over a large chunk of society’s scarce means is not reduced. It is evident that this strategy too obstructs the efficient and productive use of resources. It is a disincentive for investment and the build-up of a productive capital stock. It is a killer of growth and prosperity.
47 percent, then 52 percent, then 90 percent…

Why do states not cut spending? – I would suggest three answers: first, it is not in the interest of politicians and bureaucrats to reduce spending as spending is the prime source of their power and prestige. Second, there is still a pathetic belief in the Keynesian myth that government spending ‘reboots’ the economy. But the third is maybe the most important one: in all advanced welfare democracies large sections of the public have come to rely on the state, and in our mass democracies it now means political suicide to try and roll back the state.

Mitt Romney’s comment that 47% of Americans would not appreciate his message of cutting taxes and vote for him because they do not pay taxes and instead rely on government handouts, may not have been politically astute and tactically clever but there was a lot of truth in it.

In Britain, more than 50 percent of households are now net receivers of state transfers, up 10 percent from a decade ago. In Scotland it is allegedly a staggering 90 percent of households. Large sections of British society have become wards of the state.

Against this backdrop state spending is more likely to grow than shrink. This will mean higher taxes, more central bank intervention (debt monetization, ‘quantitative easing’), more regulatory intervention to force institutional investors into the government bond market, and ultimately capital controls.
Eat the Rich!

In order to legitimize the further confiscation of private income and private wealth to fund ongoing state expenditure, the need for a new political narrative arose. This narrative claims that the problem with government finances is not out-of-control spending but the lack of solidarity by the rich, wealthy and most productive, who do not contribute ‘their fair share’.

An Eat-the-Rich rhetoric is discernible everywhere, and it is getting louder. In Britain, Deputy Prime Minister Nick Clegg wants to introduce a special ‘mansion tax’ on high-end private property. This is being rejected by the Tories but, according to opinion polls, supported by a majority of Brits. (I wager a guess that it is popular in Scotland.) In Germany, Angela Merkel’s challenger for the chancellorship, Peer Steinbrueck, wants to raise capital gains taxes if elected. In Switzerland of all places, a conservative (!) politician recently proposed that extra taxes should be levied on wealthy pensioners so that they make their ‘fair’ contribution to the public weal.
France on an economic suicide mission

The above trends are all nicely epitomized by developments in France. In 2012, President Hollande has not reduced state spending at all but raised taxes. For 2013 he proposed an ‘austerity’ budget that would cut the deficit by €30 billion, of which €10 billion would come from spending cuts and €20 billion would be generated in extra income through higher taxes on corporations and on high income earners. The top tax rate will rise from 41% to 45%, and those that earn more than €1 million a year will be subject to a new 75% marginal tax rate. With all these market-crippling measures France will still run a budget deficit and will have to borrow more from the bond market to fund its outsized state spending programs, which still account for 56% of registered GDP.

If you ask me, the market is not bearish enough on France. This version of socialism will not work, just as no other version of socialism has ever worked. But when it fails, it will be blamed on ‘austerity’ and the euro, not on socialism.

As usual, the international commentariat does not ‘get it’. Political analysts are profoundly uninterested in the difference between reducing spending and increasing taxes, it is all just ‘austerity’ to them, and, to make it worse, allegedly enforced by the Germans. The Daily Telegraph’s Ambrose Evans-Pritchard labels ‘austerity’ ‘1930s policies imposed by Germany’, which is of dubious historical and economic accuracy but suitable, I guess, to make a political point.

Most commentators are all too happy to cite the alleged negative effect of ‘austerity’ on GDP, ignoring that in a heavily state-run economy like France’s, official GDP says as little about the public’s material wellbeing as does a rallying equity market in an economy fuelled by unlimited QE. If the government spent money on hiring people to sweep the streets with toothbrushes this, too, would boost GDP and could thus be labelled economic progress.

At this point it may be worth adding that despite all the talk of ‘austerity’ many governments are still spending and borrowing like never before, first and foremost, the United States, which is running the largest civil government mankind has ever seen. For 5 consecutive years annual deficits have been way in excess of $1,000 billion, which means the US government borrows an additional $4 billion on every day the markets are open. The US is running budget deficits to the tune of 8-10% per annum to allegedly boost growth by a meagre 2% at best.
Regulation and more regulation

Fiscal and monetary actions by states will increasingly be flanked by aggressive regulatory and legislative intervention in markets. Governments are controlling the big pools of savings via their regulatory powers over banks, insurance companies and pension funds. Existing regulations already force all these entities into heavy allocations of government bonds. This will continue going forward and intensify. The states must ensure that they continue to have access to cheap funding.

Not only do I expect regulation that ties institutional investors to the government bond market to continue, I think it will be made ever more difficult for the individual to ‘opt out’ of these schemes, i.e. to arrange his financial affairs outside the heavily state-regulated banking, insurance, and pension fund industry. The astutely spread myth that the financial crisis resulted from ‘unregulated markets’ rather than constant expansion of state fiat money and artificially cheap credit from state central banks, has opened the door for more aggressive regulatory interference in markets.
The War on Offshore

Part and parcel of this trend is the War on Offshore, epitomized by new and tough double-taxation treaties between the UK and Switzerland and Germany and Switzerland. You are naïve if you think that attacks on Swiss banking and on other ‘offshore’ banking destinations are only aimed at tax-dodgers. An important side effect of these campaigns is this: it gets ever more cumbersome for citizens from these countries to conduct their private banking business in Switzerland and other countries, and ever more expensive and risky for Swiss and other banks to service these clients. For those of us who are tax-honest but prefer to have our assets diversified politically, and who are attracted to certain banking and legal traditions and a deeper commitment to private property rights in places such as Switzerland, banking away from our home country gets more difficult. This is intentional I believe.

The United States of America have taken this strategy to its logical extreme. The concept of global taxation for all Americans, regardless where they live, coupled with aggressive litigation and threat of reprisal against foreign financial institutions that may – deliberately or inadvertently – assist Americans in lowering their tax burden, have made it very expensive and even risky for many banks to deal with American citizens, or even with holders of US green cards or holders of US social security numbers. Americans will find it difficult to open bank accounts in certain countries. This is certainly the case for Switzerland but a friend of mine even struggled obtaining full banking services in Singapore. I know of private banks in the UK that have terminated banking relationships with US citizens, even when they were longstanding clients. All of this is going to get worse next year when FATCA becomes effective – the Foreign Account Tax Compliance Act, by which the entire global financial system will become the extended arm of the US Internal Revenue System. US citizens are subject to de facto capital controls. I believe this is only a precursor to real capital controls being implemented in the not too distant future.

When Johann Wolfgang von Goethe wrote that “none are more hopelessly enslaved than those who falsely believe they are free” he anticipated the modern USA.

And to round it all off, there is the War on Cash. In many European countries there are now legal limits for cash transactions, and Italy is considering restrictions for daily cash withdrawals. Again, the official explanation is to fight tax evasion but surely these restrictions will come in handy when the state-sponsored and highly geared banking sector in Europe wobbles again, and depositors try to pull out their money.
“I’ve seen the future, and it will be…”

So here is the future as I see it: central banks are now committed to printing unlimited amounts of fiat money to artificially prop up various asset prices forever and maintain illusions of stability. Governments will use their legislative and regulatory power to make sure that your bank, your insurance company and your pension fund keep funding the state, and will make it difficult for you to disengage from these institutions. Taxes will rise on trend, and it will be more and more difficult to keep your savings in cash or move them abroad.

Now you may not consider yourself to be rich. You may not own or live in a house that Nick Clegg would consider a ‘mansion’. You may not want to ever bank in Switzerland or hold assets abroad. You may only have a small pension fund and not care much how many government bonds it holds. You may even be one those people who regularly stand in front of me in the line at Starbucks and pay for their semi-skinned, decaf latte with their credit or debit card, so you may not care about restrictions on using cash. But if you care about living in a free society you should be concerned. And I sure believe you should care about living in a functioning market economy.

This will end badly.

This is from Graham Summers of Phoenix Capital Research via zerohedge here

As noted in yesterday’s piece concerning how and why Europe could bring about systemic risk, EU banks are likely leveraged at much, much more than 26 to 1.

Indeed, considering how leveraged and toxic US banks’ (especially the investment banks’) balance sheets became from the US housing bubble, the chart I showed you should give everyone pause when they consider the TRUE state of EU bank balance sheets.

This fact in of itself makes the possibility of a systemic collapse of the EU banking system relatively high. Let me give you an example to illustrate this point.

Let’s assume Bank XYZ in Europe has a loan portfolio of €300 million Euros and equity of €30 million Euros. This means the bank is “officially” leveraged at 10 to 1 (this would be a great leverage ratio for a European bank as most of them are leveraged to at least 26 to 1 or worse).

So… let’s say that 10% of the bank’s loans (read: assets) are in fact worth 50% of the value that the bank claims they’re worth (not unlikely if you’re talking about a PIIGS bank). This means that the bank’s actual loan portfolio is worth €285 million (10% of 300 is 30 and 50% of 30 is 15).

With equity of only €30 million, the bank, at some point, will have to take writedowns or one time charges on its loan portfolio that would erase HALF of its equity. At this point, the bank becomes leveraged at 19 to 1 (€285 million in assets on €15 million in equity).

This announcement would result in:

Depositors pulling their funds from the bank (thereby rendering it even more insolvent)
The bank’s shares plunging on the market (raising its leverage levels even higher as equity falls further).

Thus, at a leverage ratio of 10 to 1, even a 50% hit on 10% of a bank’s loan portfolio can result in the bank needing a bailout or even collapsing.

Now, what if that €300 million in loans is actually the amount the bank’s in-house risk models believe to be “at risk” and the REAL loan portfolio is around €800 million?

Immediately, we realize that the bank is in fact leveraged at 26 to 1. At this level even a 4% drop in asset prices erases ALL equity rendering the bank insolvent.

And yet, based on Basel II requirements, this bank can claim in all public disclosures that it is only leveraged at 10 to 1. With this in mind, you should understand why the banks lobbied so hard against a rapid implementation of Basel III capital requirements (which would require equity and capital equal to 10.5% of all of risk-weighted assets.)

Indeed, Basel III requirements which were meant to go in effect at the end of 2012 will now gradually begin to be implemented in 2013. And banks will have until 2015 to adjust to the new capital requirements and until 2019 conservation buffers in place.

With that in mind, take my XYZ bank example, apply it to all of Europe, assume leverage ratios of 26 to 1 at the very minimum (Lehman blew up when it was leveraged at 30 to 1), and take another look at the housing bubbles in the above chart.

In simple terms Europe’s entire €46 trillion banking system is in far worse shape than even the US investment banks were going into 2008. And this is based on their leverage ratios alone.

Originally posted on ZeroHedge here

From Paul Brodsky and Lee Quaintance of QBAMCO

Another Perspective (pdf)

Two weeks ago, before Jamie Dimon’s thoughtful diversion, Charlie Munger of Berkshire Hathaway instructed viewers of CNBC that “civilized people don’t buy gold, they invest in productive businesses”. Munger was right in that civilized people invest in productive businesses and was right to imply that gold is a non-productive rock, but, in our humble opinion, he was wrong to suggest that gold does not have significant upside as an investment currently (even more than BRK/A?).

Gold has always been money, as are dollars, euros and yen. It is not a currency or media of exchange presently because no one directly exchanges it for goods, services or assets and it has not formally collateralized other currencies since 1971. However, were gold to once again back today’s baseless currencies, then it would be astonishingly cheap at today’s exchange rates with them (i.e. gold prices), and by extension cheap to most operating businesses denominated in today’s currencies. Gold today is a speculation that someday it will again have recognized monetary status.

Gold is a store of purchasing power bought at certain exchange rates to other currencies – as we write this, about $1,600 an ounce to the dollar, €1,232 an ounce to the Euro, £988 an ounce to sterling, and ¥127,790 an ounce to yen. In the current monetary system in which all global currencies are uncollateralized, the perception of gold’s exchange rate (price) ultimately derives from its status as potential monetary collateral that might someday back government-sanctioned (fiat) money.

Thus, when gold is money or formally backs currencies, people save gold. Given its un-sanctioned monetary status today, gold may be considered an investment. Given its intrinsic cheapness vis-à-vis paper currencies today and economic conditions that make it highly likely it will become even cheaper to them, very civilized people across the world have been replacing a portion of their fiat cash and financial asset portfolios with gold not held in their investment portfolios. (The only way to hold physical bullion in a financial asset portfolio would be to own shares in mining companies, which provide direct ownership of physical bullion inventories held below ground.)

Despite the incessant negative chatter about gold by people in positions of influence, (or more likely because of it), there has been only a trifling allocation to it among financial asset investors. The vast majority of dedicated financial asset and derivative investors, including pension funds, mutual funds, individuals, and even futures speculators, remain either; a) unable to invest in it by charter, b) unconvinced that gold’s price will appreciate over a time horizon that matches their mandates, c) convinced that gold is a poor investment at today’s pricing because authorities will let bank system credit fail, or d) oblivious to what gold is and the economic forces behind it.

Precious metals allocations account for only about 0.15% of global pension fund assets. Within the gold futures market, only 0.50% of front month contracts typically take delivery of bullion, implying gold futures remain a source of financial return among speculators, not a means of amassing a physical position. Meanwhile, all gold and silver ETFs combined held only 90 million gold-equivalent ounces as of the end of April, which at about $1,650 an ounce equaled only about $150 billion. (Compare that to Apple’s market cap.) And perhaps the most telling indicator of indifference to gold among financial asset investors: the total market capitalization of all publicly traded precious metal miners (representing trillions in below-ground physical reserves) is only about $360 billion.

We think there are four main questions to be asked and answered: 1) how does one handicap what would be a multi-sigma event – whether or not gold will again gain formal monetary status; 2) over what time horizon might the perception of a significant change in the global monetary system occur (and would it include gold); 3) what would be a range of investment outcomes should such an event occur; and 4) how would such pro forma returns compare with the range of returns of other investments? We have devoted much of our research since 2007 to these questions and have written extensively about them. This paper, however, will only seek to place gold in proper perspective for Mr. Munger (and perhaps Mr. Dimon too).

What’s it all About, Charlie?

The difference between saving and investing is that savers seek to maintain their purchasing power and investors seek to increase theirs. In the current environment it is impossible to save at a positive real rate of return given that interest rates are near zero and central banks are diluting purchasing power through monetary inflation. Everyone is forced to speculate – even cash and (especially) bondholders.

Currently, cash, bank deposits and bond holdings denominated in baseless currencies are being diluted by global central banks and losing significant purchasing power, which means “savers” in these instruments are actually speculating this established trend will stop. Their real (inflation-adjusted) returns are already negative (against CPI), and so, by implication, they believe the return of the majority (but not all) of their purchasing power is better than “speculating” in productive businesses to try to generate a positive return on their current purchasing power.

In this, we agree with Charlie Munger’s partner, Warren Buffett; productive assets are better than cash and bonds denominated in baseless currencies. We agree with any implication that saving in fiat cash or fiat-denominated fixed-income instruments is a loser’s game at current pricing. But we would disagree with any implication that it is not the right time to exchange baseless currencies or most productive businesses denominated in them for gold.

A Bit of Theory

Consider that price is the quantity of money assigned to a good, service or asset, yet changing prices may not necessarily have anything to do with the changing value of goods, services and assets. For example, the value to society of a good, service or asset in relation to its quantity can remain constant or even fall; yet its price can rise substantially if the quantity of money increases more than the increase in demand relative to supply. The more monetary units available to chase the same supply/demand equilibrium, the higher the general price level for goods, services and assets must be.

This means that expectations of increasing or decreasing demand in an economy can only partially rationalize future price changes. The more moving parts (e.g. immigration, innovation, government spending, the whims of independent money issuers, etc.) that affect the supply and demand for goods, services, assets, AND MONEY; the less visibility there will be for prices — even if expected value is reasonably knowable. So, in the current monetary system, currencies are indeterminate claims on wealth and purchasing power kept in currency is an imperfect marker of wealth. (Of course, we know currency, per se, is not wealth because if it were then wealth could be created simply by creating more currency.)

An easy way to envision how to quantify purchasing power is to imagine two buckets: the first contains all of the world’s money and the second contains all things not-money. We may debate about the proper relative value of the various items in the money bucket (e.g. dollars, euros, yen, gold, etc.), and debate even more vociferously (and do) about the proper relative values of the items in the all-things-not-money bucket (e.g. toothpaste, labor, accounting fees, stocks, bonds, commodities, iPods, etc); however, it would be illogical to think that the aggregate value of the money bucket should not equal the aggregate value of the all-things-not-money bucket at all times. Conceptually, all the stuff in the world that can be purchased must have a means to be purchased, and so the aggregate value of each bucket must always equal the aggregate value of the other.

So then: if wealth is current and future sustainable purchasing power, and judging the future value of goods, services and assets relies on also judging the quantity of money, and the quantity of money and all the stuff it can buy must always be at equilibrium, then one of the first-order economic considerations among all members of society should be to judge the money in which he or she a) is compensated in, and b) chooses to invest or save in.

Practicalities

Very few people today think about the sustainable value of their money, including, it seems, Messrs. Munger and Buffett. If stocks are cheap to baseless cash, as they rightly argue, and stocks are cheap to gold, as they seemingly imply, then nothing has been determined (or even implied) regarding the relative value of gold to fiat cash within the money bucket. Somewhat strangely, their argument reduces to the contention that money in whatever form it may take – dollars or gold — has no economic function of value. They argue one should hold stocks as a residual claim on productive assets instead. We would vehemently disagree. We see the value in productive businesses; however, one must also consider the possibility that, even if they are intrinsically undervalued in fiat cash terms, productive business may be intrinsically overvalued in gold terms. (Judging by subsequent performance, it certainly seems BRK/A shares were quite overvalued vis-à-vis gold in 2000.)

When objectively defined and properly priced by the marketplace, the presence of money as a savings vehicle enhances the well-being of society. When subjectively rendered and manipulated by goal-oriented policy objectives, the value of money becomes distorted vis-à-vis goods, services, assets and labor. The difference today between investing in baseless currency-denominated productive businesses and exchanging baseless currencies for gold defines the difference between solving for nominal vs. real returns. Investors in most financial assets denominated in over-leveraged currencies today will receive nominal relative returns while gold holders store absolute real purchasing power (save in real terms).

Which is the better bet? The global gold stock increases about 1%-2% a year as compared to the global fiat money stock which increases many multiples of that. This should be the fundamental consideration when it comes to choosing a money form in which to speculate or in which to price one’s investments: which will have its purchasing power diluted less? If Berkshire Hathaway shares rise 25% in the coming years but the US dollars these shares are denominated in fall 35% versus consumer goods and services, then Munger and Buffet will have invested in productive businesses that made profits yet they would have lost purchasing power in the aggregate for shareholders. This dynamic illustrates precisely what has occurred since 2000.

(Safe) Harborous Relic

What exactly are the economics of shiny rocks as they relate to our very civilized contemporary society? The working figure for the amount of all the above-ground gold ever mined is about 170,000 metric tons, which converts to almost 5.5 billion troy ounces (5,465,619,000). At $1,600 an ounce this implies the recognized total value of all the mined gold in the world is a bit over $8.7 trillion today ($8,744,990,400).

Should we believe the 170,000 metric ton figure? Well, annual worldwide production of gold is about 50 million troy ounces. If we were to assume 50 million ounces mined over the last 200 years, (perhaps generous but this assumption would also be sufficient to include ancient mining since the time of the Aztecs), then there would be about 10 billion ounces mined since antiquity. Unlike other metals with industrial uses, gold is not consumed. Every ounce ever mined still exists. At $1,600 an ounce, the total amount of above-ground gold would equal about $16 trillion. So let’s say gold is currently valued somewhere between $8 trillion and $16 trillion.

Governments and their designated central bank currency issuers do not own most of the above-ground gold in the world. The World Gold Council reports that total official gold holdings throughout the world totals almost 31 thousand metric tons (30,878.2 tonnes), which, at today’s pricing, equals about $1.6 trillion ($1,588,357,750,464). Depending on how much gold has actually been mined, 5.5 or 10 billion ounces, the world’s treasury ministries and central banks only have somewhere between 10% and 18% of it.

This presents a problem for governments that would like to control the perceived value of money. There are no currencies today (since 1971) formally linked to gold or any other relatively finite collateral. This implies that virtually all global governments prefer to have direct control over their budgets, rather than allowing the collective will of their societies determine the scale of government spending. Authoritarian and representative governments alike prefer a global monetary system in which money is effectively issued by fiat and directed by appointed monetary policy makers (usually central banks).

The great challenge for elected and appointed monetary policy makers is to try to manage the quantity and pricing of their fiat currencies consistent with the multi-faceted and unpredictable dynamics of the global economy. Fiat currencies must be widely perceived to be priced more or less equitably, not only by the factors of production and wealth holders within each society but also by the various global governments overseeing economies with greatly different resources, social values and natural economic growth rates.

If global money, formally comprised today of all various baseless fiat currencies, were to begin to be perceived in the commercial marketplace as an insufficient marker of the future value for goods, services and assets, (domestically or internationally); then the global monetary system would be in jeopardy. In short, confidence is lost if and when currency is no longer perceived as a sufficient store of value. In such a scenario currency holders would discard it for goods, services and assets at an accelerating pace. Importantly, they would not necessarily exchange their baseless currency for labor or production, which would be an economic stimulant (or for shares of BRK/A). Prices would rise as economic factors of production, private wealth holders, and participating governments further accelerate their consumption of goods or assets they feel would store value better. Baseless currencies would ultimately lose credibility and the the global monetary system would fail.

When systems fail it does not mean that the values of goods, services and assets change, only that the numeraire of money is reset. (The numeraire is the value reference used to base a unit of account.) Global monetary systems periodically need resetting, most frequently in 1933, 1945 and 1971. Changing the numeraire requires the support of global economic agents, including the private marketplace and international government authorities. This, in turn, requires widespread confidence that the value and nature of the re-setting would not lead to an imminent need for further re-settings. This is precisely why gold remains relevant today.

The more “sophisticated” unreserved credit and its uses become, the more unknowable future purchasing power becomes. The more remote baseless currencies that comprise our global monetary system stray from being sustainable stores of value, the likelier it becomes they will be called into question. (Enter JP Morgan’s public recognition that it has an unwieldy balance sheet.)

Perhaps this is why governments and central banks have continued to own gold? You may recall not too long ago Ben Bernanke was asked if he considered gold to be money and he said “no”. When asked why the Fed still owned it, he shrugged and murmured something about “tradition”. You may also recall that more recently he was asked if the Fed owned gold, and he seemed to do his best to appear perplexed. He looked back and forth over his shoulder until finally an aide confirmed that indeed the Fed does hold gold certificates (which give the Fed rights to Treasury’s bullion).

It shouldn’t be shocking that the manufacturer of the world’s reserve currency expresses public bewilderment with the fascination over anachronistic, inert rocks by a few gentlemen with southern accents. What else could he say: pay no attention to gold’s long history of resetting societies’ wealth valuation mechanism against failed currencies? Or pay no attention to other central banks buying gold hand over fist currently? (Perhaps they are doing so because they want to be more traditional?)

All the Right People, Darling

The absolute amount of gold held in official hands – 10%, 18% or even 25% — is meaningless. The important concept to keep in mind is that the stock of official gold holdings throughout all economies is quite small relative to privately held bullion. Somewhere in the world there is between $7 and $15 trillion of gold wealth (at current spot pricing) held in private hands (vs. $1.6 trillion in official accounts). Private wealth holders across the world have been saving gold bullion for generations; in Europe, the Middle East, China, India, Japan, Russia, South America and the United States (even in private pockets on Wall Street, believe it not, where there’s an old saying: “make it on Wall Street, bury it on Main Street”).

It should not be surprising that global central banks have begun buying gold bullion in ever increasing amounts. It was just reported this month that Hong Kong shipped almost 63 metric tons of gold to China in March, a 59% increase over February and a 587% increase year over year. Russia has been a consistent buyer of about 5,000 tonnes each month and has recently accelerated its purchases. Other high growth economies including India cannot seem to get sufficient supplies of bullion. Clearly the governments of these countries want to exchange their baseless and diluting reserves for a scarcer money form. And just this week the IMF – yes, the same IMF that had been selling its bullion to central banks of emerging economies with surplus reserves – announced it was buying $2 billion of gold. The reason: “there is a need to increase the Fund’s reserves in order to help mitigate…elevated credit risks”.

Meanwhile, central banks of developed debtor economies are being pressured by their contracting debt-based economies to manufacture more fiat currencies through the process of debt monetization – issuing even more debt and paying for it with newly-created base money (currency and/or bank reserves held at central banks). They are devaluing their currencies for savers and investors and destroying the future purchasing power of surplus reserves held abroad.

If past is prologue, the baseless currencies of developed economies will eventually be subjected to asset monetization. Greece could solve its debt problems tomorrow if it sold Mykonos for $400 billion and the US could halve its Treasury debt if it sold Alaska for $8 trillion. However, such asset sales seem far more unlikely (and in Alaska’s case, impossible – who could buy it?) than simply revaluing an asset already held in official hands — the asset monetary issuers have always used; the only monetary asset on their balance sheets that can be re-valued higher against the currency they manufacture; (one might say the “traditional” one): gold.

We argue the final outcome must be to devalue current baseless currencies against gold and that governments of high-growth economies are buying official gold in increasing amounts so they have a representative share when gold becomes the basis for a new global monetary system.

Have global private gold savers/investors that comprise the great majority of its holders been buying in advance of a more formal currency reset (devaluation) of baseless paper against gold? Who are central banks buying their physical gold from currently? (Certainly they are not buying it from global commodities exchanges.) The only answer is that they must be buying all they can from the 80% to 90% of private gold holders in the world. And we should ask ourselves this: who has been buying gold consistently since 2000, when it traded around $250 an ounce, 11 years before central banks became net buyers? Could the buyers have been private holders around the world that understand wealth doesn’t begin and end with leveraged Western financial assets and baseless fiat currencies? This would make sense.

Still, the volume of physical gold traded relative to its stock remains tiny, implying that relatively few physical holders are willing to part with most of their gold. If central banks want to stock their shelves prior to devaluation then they would have to employ a bit of finesse. If we were a sovereign in search of gold we would short gold futures and take physical bullion off the market at synthetically low prices (the same way other sovereigns might manipulate, say, interest rates).

And finally, who are the private bullion-owning wealth holders that are leaking gold out to hungry governments and central banks? By definition they are collectively The Powers That Be. Whether they are disaggregated or conspiratorially linked, private gold holders are the true unencumbered savers among us. They are the ones that have a chunk of their wealth in a money form that stores purchasing power no matter what. And unlike fiduciaries overseeing the encumbered wealth of financial asset investors, there is no one and no system between them and their purchasing power.

We suspect most of these quiet savers are quite sophisticated, know exactly what they are doing, and view the preponderance of levered financial assets with suspicion regardless of whatever value they may have relative to one another. (Would it be that much of a stretch to believe these individuals holding trillions in inert rocks might also have great influence over global resources, monetary systems, banking systems and governments?)

Sophisticated Sophism

While Mr. Munger’s comments represent those of a power structure nominally larger and far more organized than private gold holders, it is a power structure that is unsustainable. Financial assets denominated in baseless paper currencies are marked-to-market many times higher than gold presently; however this pricing is only supported by the full faith and credit of a temporary authority, not by sustainable power. Functionally insolvent banking systems are supporting rotating politicians and policy makers, who, in turn, are furiously trying to reverse declining real output stemming from organic pressures for systemic de-leveraging. (During the leveraging process productive capital was greatly misallocated. During the de-leveraging process, it is logical that real productivity is declining.)

It would seem sustainable power no longer resides with the fellows, the institutions or the policies that promote a system in which higher numbers equal the false perception of sustainable wealth. It must reside in the commercial marketplace and among capital holders (those who own sustainable resources or sustainable savings that can buy resources no matter what the inflation-adjusted price is).
The list of well-known baseless money promoters is long. We can start with virtually all central bankers, current, retired or passed-on, throw in virtually all economic and political leaders of the modern era, add icons like Messrs. Munger and Buffett sitting atop a pile of numbers, and, for good measure, leaven the whole meringue with journalists calling upon financiers posing as capitalists for instruction and guidance. It is obvious that the preponderance of people that have ascended to positions of authority has directly benefitted from the financial system and has no incentive to question its merits today.

Is it any wonder Bob Rubin, who gamed the capital markets so well at Goldman Sachs and the FX markets so well at Treasury, chose the academic Larry Summers to follow in his footsteps? Summers, the child of two highly regarded Keynesian economists and the nephew of Paul Samuelson, (the man who literally wrote the book for all budding economists on how to manage economies), leant an air of intellectual rigor to Rubin’s market manipulations. True to form Summers recoiled and shrieked “gold is the creationism of economics!” this past winter in response to a question of whether he thought a gold standard might provide more discipline to runaway fiscal spending. The particular economic canon he and the vast majority of contemporary economists worship is a theory called “political economics“, which assumes sustainable and growing economies are best ensured by actively synthesizing constant demand growth through fiscal, monetary and trade policies, not by overseeing human commercial incentives and the private marketplace. We ask you: which requires more faith?

Nor should we be surprised that Paul O’Neill and John Snow, actual businessmen, were run out of Washington after a couple of years and replaced by a money man, Hank Paulson. The Republican Paulson and the Democrat, New York Fed President, Tim Geithner, (who would replace Paulson after the peaceful transition of power in 2008), bought “illiquid” (i.e. mismarked) bank assets with newly created base money. Demand was temporarily synthesized by bringing future purchasing power forward and effectively transferring it from taxpayers to commercial banks. Though the pain would have been felt only in the financial sector had nothing been done, “independent” policy makers were able to avoid a counter-factual called “deep depression”, and both parties were able to take credit. While politics may stop at the water’s edge, it clearly begins on the corner of Wall and Broad.

Calvin Coolidge said in January 1925 that “the chief business of the American people is business”. He did not say (although 85 years later he certainly might have); “the business of America is having banks create unreserved credit so that the broader economy would then have to focus on repaying its debts to banks.” The difference between the two principles is that the former suggests human industry sorts resources best while the latter institutionalizes producers and consumers into an encumbered mass to be managed by a few. (Again, please forget politics here. We are not advocating how much to tax, who to tax or what to spend it on, only pointing out a corrupt and failing monetary system.)

Whether they know it or not, our authority figures today are working on behalf of banking systems. Banks borrow capital from the factors of production and create bookkeeping assets many multiples of that capital for themselves in the form of unreserved credit. Meanwhile, the credit they extend becomes debt for their borrowers, fully-collateralized for banks by the borrowers’ assets and future labor. Fractionally reserved banking systems effectively permit banks to conjure future claims on currency where no currency exists today; creating “when-issued money” from thin air that must eventually be settled by their central banks. This ensures inflation.

Political economics not only accommodates fractional reserve lending — it relies on it. Its aim is to perpetuate nominal demand growth at all times to achieve full employment. This is a noble goal but it has a dark side too. Consistent demand growth requires consistent credit growth, which requires consistent debt growth and, in turn, public servitude to bank lenders. Policy makers ultimately find that inflation becomes an economic imperative in their effort to ease the nominal burden of repaying debts. (The business of America, the next President might say, is finance. This would seem entirely reasonable given that the next president will either be a proven budget buster or a professional leverager – a dismal tie in economic terms, a win in gold terms.)

Piffle & Baffle

Against this backdrop, Munger, Buffett, Bernanke, Geithner, Draghi, Lagarde, Rumpuy, Obama, Romney, McConnell, Boehner, Reid, Pelosi, Kudlow, Krugman, Roubini, Wolf, Hilsenrath, Kernen, etc. etc., seek to instill confidence among the factors of production and investors they influence. They are good and kind, highly intelligent and well-intentioned. But so what? Collectively they are wrong-headed. The fractional reserve banking system and debt money system they help sustain is directly responsible for the wealth and income inequality currently being experienced. (When they yell at the mention of this assertion ask them to disprove it.)

Promoting finance for the sake of financial return when it no longer produces capital cannot work. Arguing about taxes or austerity or budgets or infrastructure spending or political platforms is simply noise as more debt accrues and employment participation rates decline. What exactly is there to be confident about?

And why should perpetuating confidence be the foundation for all centrist economic policies? People at all income levels and of all political persuasions can no longer save their wages in the same currency it is paid. Are we to be confident that the real economy can expand when real wealth declines? Or that investing our excess baseless currency back into shares of productive businesses (denominated in the very same wasting currency) will provide investors with lasting purchasing power? Are we to be confident investing in a system where government, mortgage, corporate and municipal debts are priced at negative real rates because central banks, who will always have more money at their disposal than all bonds outstanding, threaten to continue buying them if need be?

We have met such authority figures and yes, they are usually charming, smart and dynamic. But almost without exception it seems they confuse their theories, (rationalized with econometric models filled with unrepeatable observations), for physical science.

Confidence in productive assets may be more warranted than confidence in bonds and baseless cash, but this does not mean one should have confidence about future real production, wealth creation, economic growth or the post-Bretton Woods monetary system. When the global monetary regime reduces to the solvency of one global banking system with interconnected, uncollateralized receivables, as it does today, then its sustainability relies on: a) the ability and/or willingness of depositors to keep savings in the banking system, (love those debit cards!), and, b) the willingness of the factors of production to continue accepting unreserved currency as compensation and the willingness of capital holders to save and invest in it. As workers, savers, investors, consumers, taxpayers, policy makers and politicians, why should we count on such unwarranted confidence to continue?

It is within this context that Mr. Munger and others urge those curious about gold to start walking upright, to stop dragging their knuckles on the pavement. They counsel civilized people to reinvest their baseless wages into baseless shares of productive businesses selling goods and services in return for baseless revenues and earnings. Do not save in a relatively scarce form of money, they say or imply, (because saving starves creditors and leads to nominal output contraction)! Again, it’s not about nominal anything; it’s about the purchasing power of wages, savings and investment.

Finance may be doomed but commerce is not. Total global bank assets are about $95 trillion and total bank reserves are not quite $10 trillion. This fractionally-reserved global banking system does not necessarily imply immediate economic contraction because there is no obvious catalyst that would force the leverage gap to suddenly close (though the JPM news just hit…). However, substantial bank leverage in combination with already highly-leveraged depositors, capital holders and consumers, are significantly retarding demand and real economic activity. There simply is no natural incentive for lenders or borrowers to leverage their balance sheets further, which in turn means that output growth and asset prices must continue to decline in real terms.

And so we think it would be fair to caution against heeding the advice of a self-interested financial establishment trying to fit a flawed, unsustainable and quickly deteriorating set of theories into what they would like us to believe is a noble and patriotic goal. The common good is not necessarily expressed accurately by past financial asset winners and the ambitious policy makers they support. Their barking is becoming more frequent — a clear sign that their baseless protestations and accusations are failing to turn the tide (not against squeaky pipsqueaks like us, but against fundamental logic, human incentives and the mathematical power of compounding nominal debts).

Don’t Worry, Be Happy

There is no reason to expect the demise of Western hegemony and no need to promote gold. Gold will be priced significantly higher in fiat terms over time, (or next week, who knows), either by the markets or by an administered fiat devaluation. There can be no fiscal solution over any amount of time; growth, austerity or some optimal combination of the two can no longer work. The only way out is massive currency dilution and we expect leaders across the political spectrum in all debtor nations to ensure this occurs.

We have no doubt the same misguided establishment will reverse course to save the day. They will ultimately choose to destroy the burden of repaying domestic debt through monetary inflation, a process that would reward the great majority of voters. They will choose this route because the alternative will be to keep exporting Western capital to developing economies and continued domestic unemployment. (Krugman wins.) By doing so, the West will have successfully shorted its currencies to export economies and will have received cheap imported goods and resources in exchange.

The developed economies of the West will become more vibrant afterwards because the prices of goods, services, labor, assets and liabilities will again reflect market clearing real (de-levered) values. Nominal prices may be unrecognizable but affordability across all income levels will improve. Debtor nations will wipe the slate clean and their factors of production will again be globally competitive.

The key to a successful transition is a credible monetary reset. Gold is the default collateral for money because it has a long and established precedent in this role. All that would be needed would be a fairly equitable distribution of gold among global monetary authorities (taking place now?), and an agreed-upon exchange rate vis-à-vis baseless paper. It would have to be an exchange rate at which central banks could successfully monetize assets by tendering for physical gold with newly manufactured paper money, an exchange rate high enough to attract enough gold to cover unreserved credit held in the banking system. It’s a high figure. The relative cost of holding physical gold today is minimal, (above-ground bullion or in-ground bullion through mining shares), against the negative real returns offered by the preponderance of financial assets in float.

We suggest one keep identities straight; invest with central banks, not against them; and consider the hollow rhetoric of the establishment that may temporarily suppress its paper price “a gift”. They are working for physical gold holders, not against them.

Lee Quaintance & Paul Brodsky

Sovereign Man
Notes from the Field

Originally posted here

Date: February 28, 2012
Reporting From: London, England

[Editor’s note: Tim Price, a frequent Sovereign Man contributor and Director of Investment at PFP Wealth Management in London, is filling in for Simon today.]

In December last year, the poet Alice Oswald withdrew from the TS Eliot poetry prize on the grounds that the prize was being sponsored by an investment company (Aurum, a fund of hedge funds manager).

How you feel about this principled stance may depend on whether you are a UK taxpayer. If you are a UK taxpayer, you will probably feel relieved that your tax pounds are no longer being squandered on the Arts Council’s sponsorship of the prize in question “a tiny victory” but a victory nevertheless against the arrogant dissipations of the state.

Ms Oswald seems to believe that poetry prizes should be funded with everybody else’s money, rather than by a private patron grown-up enough to be responsible for its discretionary expenditure (private patronage being what you might call “traditional” in the arts).

As a graduate in English Language and Literature, this commentator has no animus against poets. But I am not sure we want them in charge of the economy. They are notorious for starving in garrets for a reason.

Ms Oswald’s “protest” is part of a wider intellectual malaise that lazily conflates government spending with the real economy and which conveniently ignores the fact that without a flourishing private sector, there would be no government and certainly no government spending to speak of.

It is part of that lazy thinking that inspires journalists to keep speaking of “the government” spending money on this or that, as if “the government” were somehow sitting on an infinitely large pile of “government money” that most of the time it was unreasonably withholding from worthy causes.

The reason our economy is knackered is because successive governments have indeed pandered to subjective worthy causes with money that those governments did not possess.

Tomorrow and tomorrow and tomorrow, taxpayers will be paying the bill. It is not government money because the government doesn’t have any. It has liabilities only. It is taxpayers’ money.

The finest achievement to date of the UK’s coalition government has been a triumph of PR’ as one might expect, given that PR appears to comprise the only work experience our current Prime Minister has ever had outside politics.

A myth has arisen, polished frequently by an ignorant media, that the British government has started to deal with the grotesque debt inherited from the previous government. But as Prosperity Capital’s chief economist Liam Halligan points out, government spending was actually higher for the fiscal year 2010/11 than under the last year of the last government.

The UK debt figures are also much worse than conventionally believed because 2011 debt including “interventions” stood at ~£2,270 billion as at September 2011, or 150% of UK GDP. To this we should add public sector pensions (~£1,100bn+), PFI (~£400bn+) and sundry other off-balance-sheet obligations of the state.

Liam Halligan’s bleak summary is that after five years of supposed austerity, UK government spending will be back to 2005 levels… but with twice as much debt.

Just as there has been no real austerity in the UK, yet’ there has been no real deleveraging in the global economy at an aggregate level. Paul Marson of Lombard Odier points out that global credit market debt stands at $220 trillion, having grown by 11% annually since 2002, versus 8% nominal GDP growth:

[Credit Market & Debt to GDP]

In debt markets we are seeing a catastrophic example of the law of diminishing returns. As Marson makes clear, it takes greater amounts of debt to have the same marginal impact on GDP. The marginal effectiveness of debt has collapsed during the period since the end of the Second World War.

For the USA, for example, 1 unit of debt generated 0.63 units of GDP between 1953 and 1984; that same 1 unit of debt generated 0.24 units of GDP between 1985 and 2000; since 2000, 1 unit of debt has generated just 0.08 units of GDP.

The problem is insuperable. More debt has been created in the past forty years than will ever realistically be paid back… which leads us to the existential financial problem of our time:

The modern, debt-based economy requires constant economic expansion if only to service all that debt. So what happens when the modern economy goes ex-growth and stops expanding?

Iceland already found out. Greece is in the process of discovering. But we will all get a chance to participate in this lesson.

Runaway fiscal and monetary stimulus throughout the western economies is in the process of destroying the concept of creditworthiness at the centre of the modern monetary system. Private investors, we suspect, have little or no conception of the extent to which the state is now the predominant player in the financial markets.

Central banks control the money supply and interest rates. Central banking and commercial banking interests have essentially become fused.

The ECB’s long-term refinancing operations are banking bailouts by the back door. Central banks are now also the swing players in government bond markets which directly influences the price for corporate credit. Central bank monetary stimulus also directly influences equity market direction and confidence.

Be careful, be very careful about the sort of government debt you hold. You may well end up being paid in whole- but in such depreciated terms that being “kept whole” will be meaningless in real terms.

In all other respects, our investment choices remain what they have always been: high quality, high yielding defensive equities; uncorrelated systematic trend-following funds; gold, silver, and gold and silver mining companies.

There will come a point, and it may admittedly be some time in coming, when a major government bond market goes bang. Perhaps Japan, some peripheral market in the euro zone, some core market in the euro zone, the UK, or even the US.

You will hear the echo throughout the world. We intend to be a very long way away when that time comes.

After the most awful piece that was published in Bloomberg last week [not linked] I was very glad to come across this clip and strongly recommend you listen to it. It’s about 27 minutes long.

Martin Armstrong Interview

Read all his stuff at http://www.martinarmstrong.org/economic_projections.htm

Secret Iran Gold holdings leaked: Iran holds same amount of Gold as United Kingdom and is buying more.