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GoldMoney Series E1 P1
Max Keiser: Hi I’m Max Keiser, here with James Turk director of GoldMoney Foundation. Today we are going to take a look at the history of fiat money inflation and economic collapse here in France.
James Turk: We’re going to look at two specific episodes where the currency collapsed.
Max Keiser: Twice, hard to believe.
John Law and the Mississipi Bubble
Max Keiser:Frances first experiment with fiat money lasted only 5 years but it left deep scars. In 1715, Scottish financier John Law found a willing sucker in French regent Philippe d’Orleans. Louis XIV, the Sun King’s wars and extravagance had left France heavily in debt. His successor tried in vain to square the budget, but expenses doubled incomes. Drastic cuts would have to be made unless another solution was found. John Law, heading the Banque Générale, started issuing banknotes. He said this would guarantee liquidity and increase commerce. The bank invested in some hot properties, including the Mississippi company, whose shares traded right here, in the Rue Quincampoix. The shares jumped as did the value of the banknotes… and then in 1718 the Banque Générale became the Banque Royale and they issued even more shares. The economy boomed as paper wealth became widespread and in 1720 John Law was made Minister of Finance.. but that same year the bubble popped and the shares started to fall. Law’s solution was to issue more banknotes, to attempt to prop up the share price, in rapidly increasing amounts. The notes started to trade at a discount to metal money. The government started to panic, he issued more shares and forced the State Pension account to buy more shares. That didn’t work. People started to hoard more gold and silver. The State went door to door and confiscated it. In just a few short months the shares and the bank notes, now held by everyone in France and held in all the pension accounts, became worthless. The entire country went down the drain. Oh, and by the way, if you really wanted to insult someone? You called them a banker.
James Turk: I’m James Turk, director of the GoldMoney Foundation; it’s my pleasure to be speaking with Pierre Jovanovic, bestselling author and noted historian. It’s a flaw in human nature that we’re always thinking that there’s a free lunch in this world. A free lunch comes one way from printing money, but in reality there is no free lunch and fiat money ultimately leads to a financial or monetary crisis and that’s what happened with the Mississippi bubble. The shares of the Mississippi company rose, the eventually collapsed. What where the consequences of that collapse?
Pierre Jovanovic: These where tremendous, first of all people never believed too much in paper, they thought it was nonsense.. paper instead of physical gold or silver and then there was a kind of mini revolution.. the Mississippi company was in Rue Quincampoix in Paris and there where like thousands of people coming and striking just in front, they wanted their money back.. there were like…
James Turk: It was a bank run?
Pierre Jovanovic: Yeah, it was a bank run. The bank run started with the people who were very well informed, the people around the king and then progressively, it took 3 or 4 days, information went down to the people..
James Turk:So what they were doing is, they were trying to take this paper based on nothing but promises to redeem them for actual physical gold and physical silver, because the tangible asset ultimately has value, whereas paper is only based on someone’s promise and people were fearful that those promises were worth nothing.. and in fact they were worth nothing.
Pierre Jovanovic:Don’t forget that in the beginning they said that the Mississippi was like the promised land, filled like some biblical city, filled with gold mines and silver mines and golden apples growing on trees… people really fantasised about it, so everyone wanted the shares of the company and it was such a success that John Law issued more actions.. more shares than available. That’s a very common thing through history..
James Turk: After the collapse of the Mississippi bubble.. what was the impact on the French people? Was it throughout the entire country or just in Paris?
Pierre Jovanovic: No, it was definitely throughout the whole country because; don’t forget the law which forbade the French people from using gold and silver coins were extremely active. People all over France were thrown in jail and at the time jail was very specific.. it was really a nightmare.. so people were really scared. Everybody went nuts. There was just this anger against the politicians.. we cannot use the term politician because at the time it was the aristocracy…
James Turk: The monarchy.
Pierre Jovanovic: ..but the anger of the people was already there. This anger was going to be multiplied until the French Revolution and The Terror… when they would take everyone and just send them to the guillotine. It’s like a maelstrom of anger of people who have been stolen… their wealth for which they had worked all their life.
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GoldMoney Series E1 P2
The Assignat
Max Keiser: 1789. France is in turmoil as the Ancien regime is overturned and the Assemblée Nationale abolishes feudalism and the privileges of nobility and clergy, declares the Rights of Man, the Bastille is stormed and the King is forced to accept a constitutional monarchy. A feeling of freedom and enlightenment sweeps the nation. The country’s best minds come here to the Assemblée to make impassioned speeches. But the crushing debt is a problem. Some suggest the issuance of notes to bring liquidity and prosperity.
Max Keiser: Resistance is fierce. Jacques Necker, finance minister, argues passionately that printing money would lead down a dangerous path and reminds the Assemblée of the Mississipi Bubble and John Law, still in living memory for many. Necker was savagely attacked by the proponents of the assignats. You see, they had a cunning plan: They would confiscate property from the church and they would do a one time issuance of 400 million livres. This was the Collateralised Mortgage Obligation of its day. Limited, one time, backed by property… What could possibly go wrong?
Max Keiser: The debt crisis escalated. Silver disappeared from the markets. There was an outcry for paper money, but the defenders of sound money were eloquent. They remembered John Law and the Mississippi company.. names like Necker, DuPont, Maury… For a whole year the debate raged between Paper money and Hard Money. The paper money crowd said.. “it’s gonna be one time deal, fully collateralised” ..And in the end, by just a handful of votes, 400 million livres of Assignats was approved.
James Turk: Pierre, help me understand something... in 1720, the Mississippi Bubble collapsed bringing devastation to France and to its people. Seventy years later France again turned to paper currency. How could this happen?
Pierre Jovanovic: To keep the revolution going, Talleyrand had this genius idea. He said “we are going to steal, to take everything which belongs to the Vatican” As you know the Vatican at the time was extremely powerful.. just the Pope owned almost half of Europe. So they invented this extraordinary thing which they called “la caisse de l’extraordinare”… The “extraordinary cash register”. You can’t make this up. This extraordinary cash register was made to sell everything which they take from the Vatican.
James Turk: They confiscated the land…
Pierre Jovanovic: Everything! Buildings, people, cattle...
James Turk: ..And they issued these assignats in order to sell all this property and raise money to pay for the deficit.
Pierre Jovanovic: It was not a paper currency in the beginning, because they paid interest on it. The French government paid interest… before realising that it was such a good idea that they just transformed it into paper money… and we started all over again.
Max Keiser: The second time was easier. The issue was a wonder. The government paid off their expenses. People got their shiny new assignats, commerce was stimulated and liquidity increased.
Max Keiser: However after just five months the government had spent the money and since it continued to run a deficit, soon cries were raised for another assignat issue. The second assignat issue only took three months to approve and it was passed by a large majority. 503 to 423 votes. 800 million livres were to be issued. Necker resigned. The Royal family fled the Tuilleries Palace in servant’s clothes and was arrested at Varennes.
Max Keiser: The assignats had already started to lose value. Gold, silver, copper were all driven out of circulation. But the people wanted more. The government issued another 100 million livres in assignats.. Prices kept going higher, but people wanted more. It was a vicious cycle… prices higher, more assignats. Foreigners, exiled nobles, shopkeepers, the Church… all were blamed for rising prices…
Max Keiser: …but not the assignats. Speculation was rampant as people tried to protect themselves against a depreciating currency. A new speculator class emerged who wanted more of this funny money and they pressured government to keep the printing presses rolling. In December 1791 a new issue was authorised: Another 800 million livres. Meanwhile the value of the first issue continued to drop, from 100 livres nominal to 53 livres. In March Clavière became Minister of Finance, promising to speed up printing. In April came the fifth largest issue: 500 million livres. Many smaller issues and reissues were simultaneously being carried out. Issue after issue followed through 1792, every couple of months, up to a total of three-and-a-half billion livres. Food prices continued to rise. In August of 1792 food riots lead to an end of the constitutional monarchy, the Paris Commune insurgency, the assault on the Tuilleries Palace, the arrest of the royal family and the Jacobin takeover of the Assemblée. The guillotine started to work overtime.
James Turk: So they broke their promise and instead of limiting the amount in circulation, they increased the amount in circulation. So maybe after the first year they did another one and after six months…
Pierre Jovanovic: Exactly. Like the John Law stuff. Exactly the same thing. It’s always very easy for the government to use the printing press and print money.
Max Keiser: King Louis XVI was guillotined on January 1793. War intensified and the Reign of Terror really got going. War and money printing really got prices skyrocketing. The Jacobins introduced the “Law of the Maximum” to put a ceiling on prices. This only led to shopkeepers and shops disappearing because the penalty for violating the law was death. Dragoons went into the countryside looking for food and the shops in Paris were attacked by mobs. Meanwhile assignats kept rolling off the printing press and all efforts to prop up their value failed. In 1794 total assignats issued reached 7,000 million livres, in May of 1795 they totalled 10,000 million livres, in July of 1795 14,000 million… Creditors were wiped out. Debtors rejoiced.
James Turk: So the Maximum was essentially a form of price controls, shopkeepers could only charge so much…
Pierre Jovanovic: Yes, but it never worked, just as it never worked in Rome.
James Turk: They’d be forced to accept currency which was worth less than the goods, so the shopkeeper closed up shop rather than accept the worthless currency…
Pierre Jovanovic: Exactly as it was during Nero and the roman emperors (see Diocletian’s “Edict on Maximum Prices”) who started mixing silver and copper.
James Turk: …and that destroyed the economy even worse than the currency collapse itself.
Pierre Jovanovic: Exactly, history keeps on repeating.
Max Keiser: In October of 1795, the Convention fell and was replaced by the Directory, by then the guillotine had become a standard part of governmental succession. The Directory tried to replace the, by now almost worthless, assignat with a new issue by a different name, “Mandat” which was short lived. assignats continued to circulate, but were increasingly worthless.
James Turk: So ultimately when the assignat collapsed we went to what was called the “Mandat”...
Pierre Jovanovic: “Mandat National” if I remember correctly.
James Turk: it lasted one year.
Pierre Jovanovic: one year
James Turk: And it was also a paper currency.
Pierre Jovanovic: Definitely, just plain paper. You didn’t even have the church properties to back the money. It’s amazing… just the trust o the revolutionary government, which nobody trusted anymore.
Max Keiser: The Directory marks the end of the French Revolution. Bone crunching poverty gripped the nation. They feared the rise of the army. And they were right. In 1799 Napoleon’s coup brought in The Consulate and later the Empire.
Napoleon: “While I live I will never resort to irredeemable paper”
Max Keiser: He never did. The gold franc held until World War 1.
James Turk: The bottom line is that sometimes people and particularly politicians don’t learn from monetary history.
Pierre Jovanovic: Certainly, history is repeating itself, especially right now. We can see exactly the same thing. What we are seeing today is what the French people have seen 200 years ago with John Law.
James Turk: I think that people should get their history books out and see what’s happened before.
Pierre Jovanovic: People are too lazy to open their schoolbooks.
James Turk: Hopefully they’ll be watching this video.
Max Keiser: Seem like when anyone, anywhere fools with fiat money, catastrophe follows. James.. is anyone going to learn from this history?
James Turk: Lets hope this time we learn from history so we don’t have to relive it.
Max Keiser:Let’s go to the Café… and buy some gold!
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Saturday, December 3, 2011
Thursday, December 1, 2011
Tuesday, November 29, 2011
Saturday, November 26, 2011
Friday, November 25, 2011
TRN: To Save The Revolution
TRN | Cairo Protests "To Save The Revolution" | Jihan Hafiz | 21 Nov 2011 |
Thursday, November 24, 2011
Wednesday, November 23, 2011
NOVA scienceNOW S4 E1
NOVA【新星】| ScienceNow | Season 4, Episode 1 | yk : 56 : yk |
Diamond Factory / Anthrax Investigation / Auto-Tune / Luis Von Ahn | Jun 30, 2009
Diamond Factory / Anthrax Investigation / Auto-Tune / Luis Von Ahn | Jun 30, 2009
Tuesday, November 22, 2011
NOVA scienceNOW S4 E2
Monday, November 21, 2011
Sunday, November 20, 2011
TED: Calls 4 a Moral Operating System
Damon Horowitz | Calls For a "Moral Operating System" | Jun 2011 |
TED: Fighting Viruses, Defending the Net
Mikko Hypponen | Fighting Viruses, Defending the Net | Jul 2011 |
Saturday, November 19, 2011
Friday, November 18, 2011
Wednesday, November 16, 2011
Tuesday, November 15, 2011
GoldMoney: James G. Rickards
James Turk: I'm James Turk. I'm a director of the GoldMoney Foundation. I'm here today with Jim Rickards, Senior Managing Director of Tangent Capital. Jim, a pleasure to speak with you.
Jim Rickards: Thank you.
James: We're here at the GATA Conference. There's a news announcement just out that the European Central Bank is intervening in the market to buy Italian bonds. What's your reaction?
Jim: It's really, I call it sequential hostage taking by the markets. We saw it starting in Greece, and then Ireland, and Portugal, and Italy. The problem for Europe, every time they bailout one of these economies or come up with some arrangement, or bond exchange, or extended maturity, there are different techniques for doing it, but every time they put out one fire they assume that the whole thing is over.
That they've sent a message to the markets that they're going to do this. They're going to keep the euro together and prop up these sovereign borrowers, and so the market should relax. But the markets don't relax. What they do is they say, "Well thank you very much for buying our Greek bonds. Now we're going to up the ante. We're going to attack Italy, and force you to buy our Italian bonds."
I think what's going on, James, is that the markets are basically trying to force the sovereigns to lift their positions. Obviously they take a loss but if it's 70 or 80 cents on the dollar, that's a lot better than what the market might bear, which might be down to 50 or even 40 cents on the dollar.
It's as if the markets and the banks are forcing the governments to lift their positions one by one. What's going to happen in the end game is that the ECB and the European Stabilization Fund are going to own all the sovereign bonds in Europe.
They will owe themselves money, and then it's not clear where it goes from there.
You either unload that on the taxpayers directly, or you inflate the currency and in effect steal from your own citizens. It's going to have a bad ending, but it will play out over years.
James: What is it that the politicians don't recognize that the market recognizes? Are they just being poorly advised, or do they have something in their mind that is taking them in a direction completely opposite of what the market's looking at?
Jim: It's a really good question. I think it's a number of factors. Some of it's just wishful thinking. What does it take to be a successful politician? Probably not the same thing it takes to be a Ph.D. economist or a capital markets expert.
So they get into these positions and don't really have any background in economics, necessarily. Some of them do, of course, but not a lot of them. Then they get advisors, but the advisors sort of adhere to the conventional wisdom.
Then there's sort of short termism, "Well, just get me through the next election cycle. I don't really care that much about what's going to happen in five years to 10 years." Then there's some wishful thinking, just hoping for the best without really being rigorous or analytical about that.
There are a number of factors that come into play, but I think you're right, that what's not happening is people are not confronting the problem candidly, honestly, the way they should. Perhaps some of those who are, are not willing to talk about it. Certainly our central bankers are not going to come out and say, "Well sorry. The country's broke." That's the reality in some of these cases.
James: How did the European Central Bank become a hostage of politicians? Because the EU rules were set up that it was going to be independent like the Bundesbank, and that the euro would not be involved with political influence. It would be managed like the Deutsche Mark. The euro is obviously being politically influenced, and the ECB is being, I think, politically influenced as well by politicians. How did this evolve?
Jim: Again, a good question. I think there are two answers to it. One goes back 60 years which is, the euro has always been primarily a political project. It is an economic project. It's a monetary project, of course, but it's always been a political project.
It's been about avoiding war in Europe. I mean, you take the long view. Go back to the Counter Reformation in the mid 16th century, you had a bloody Counter Reformation.
You had the Napoleonic Wars, the wars of Louis XIV, the Seven Years War, the Franco Prussian War, World War I, World War II, the Holocaust. By the time European civilization got to the late forties and the early fifties, they were literally exhausted.
They had been fighting for 400 years. So they say, "This is crazy. It's just going to happen again, so we have to find some way to prevent it."
Their theory was economic integration would be the antidote to political disintegration and warfare.
That's the big picture view of Europe, starting with France and Germany as the core and extending outward from there. That's one aspect to it.
So there's a very strong historical and political dimension to this that leaders do not want the euro to fall apart.
Of course it would make sense for Greece to leave the euro, go back to the Drachma, devalue their currency.
I remember going to Greece decades ago, and I couldn't spend $100 a day. I'd stay in the best hotel, eat in great restaurants, take taxis, go shopping, and I couldn't spend $100 a day. That's always been Greece's solution, encourage tourism, encourage exports, et cetera. Well, they can't do that anymore.
So there's some logic to leaving the euro, but Europe does not want them to. They don't want anyone to leave because they've accomplished some of their goals.
The other aspect of it really is more purely economic. Germany gets enormous advantage from being part of the euro, because in effect the rest of Europe is not competitive with Germany. Germany has always been able to export very heavily even in a strong currency environment. You go back to the Deutsche Mark in the '60s, and the '70s, and the '80s.
The Deutsche Mark went up significantly against the dollar, and yet Germany was still an export powerhouse because they're efficient, because of their technology, because labor and business management work together.
They have an ability to power through an appreciating currency. The rest of Europe doesn't, but that's OK with Germany because they have captive markets.
Italy's not going to start a company like Siemens. Greece is not going to start an aircraft company. They sort of have the best of both worlds.
I think for political and economic reasons Germany's willing to subsidize Europe and does not want the euro to break up.
James: I agree about the economic integration, and I agree that one of the objectives has been to prevent war and everybody lives happily together. Economic integration is a key element to that, because everyone raises their standards of living, the way the market works, by interchanging, creating opportunities for commerce.
But there's another element to it as well. A good evidence of that is the way the Bundesbank was created by the Allies after the Second World War.
They made it completely politically independent from the government, because both the World Wars were financed by money printing by the German Central Bank.
The best way to avoid a third World War is to make the Bundesbank completely independent. So it was until 2000. That's one of the reasons why the Deutsche Mark had a pretty good record over that period of time.
Despite that, and despite the EU rules, we're going back to the situation now where the ECB is under control of politicians, which is exactly the opposite of the way the Bundesbank was run. And is now also against logic in terms of keeping politicians away from the printing press because they're ultimately going to destroy the currency by doing crazy things like buying bonds of Greece.
Jim: Right. There's a very interesting dynamic going on in the ECB right now. I agree, James, with your big picture analysis, but remember as Jean Claude Trichet leaves October 30th and Mario Draghi comes in as the new head of the ECB. Trichet is really a short timer at this point. He's only got three months left. He's got a very good track record so far despite the difficulties.
He's not going to want to go out on an inflationary note. He's not going to cut interest rates. He's not going to print a lot of money. He's going to hold the line. He'll leave with his reputation intact for being your classic old school central banker.
So the political pressure you're talking about, and you're right, there is that kind of political pressure, it's all going to fall on Mario Draghi, and we'll see how he does.
I don't know whether the Italian French thing makes a difference, but he's certainly handpicked. He's going to be the recipient of all the political pressure you're talking about.
Now, there is another element in place, very significant. It just happened, which is of course that it's very obvious from the start that Europe had, or at least the members of the euro system, had a unified monetary policy but they had all these diverse fiscal policies.
Greece and some of these other countries, Ireland, et cetera got themselves in a lot of trouble. My analogy is to the United States where we have one Federal Reserve and one Treasury. The Federal Reserve sets monetary policy and the Treasury, along with the Congress and the White House obviously, take our fiscal policy and do all the borrowing.
You've never had a euro Treasury. I think today we do. It just happened in the past month that the ESF, that's the European Stability Fund that was set up, it looks like a sort of a special service bailout mechanism.
It's not called the European Treasury, but that's what it is.
You have a European treasury run by Germany for the first time. Germany's going to dictate fiscal policy to the rest of Europe.I call this the Financial Fourth Reich. People get upset when you use a phrase like the Fourth Reich, but I say, "Well remember the First Reich, which was Charlemagne and by extension the Holy Roman Empire."
Germany has conquered Europe financially without a shot being fired. It's something they've always aspired to.
This is the flipside of the bailout. Greece right now likes the bailout, because the austerity is not going to be as bad as it was, the bond market is not going to collapse, the Greek banking system is not going to collapse.
All those things were in play and now they've been taken off the table because those funds are going are going to use European credit at three or four percent to finance Greece. Maybe they'll charge Greece five percent, but they're not going to charge Greece 20 percent which is what the market was going to charge them.
So they've been able to extend the European credit to Greece, but the other side of that is over time they're going to dictate fiscal policy to the Greeks.
They're going to say, "You need to prioritize this. You need to sell this. You need to take a hard line with these unions. Don't start an aircraft company. Don't do certain things." And that's all going to be dictated by Germany. It was not democratic. Nobody voted on it, but that's where we are. That's going to extend through all of Europe.
So I think the big news, that's happened very recently, is that the new improved version of the ESFS is, in effect, a German controlled European treasury.
James: So you think the euro's going to survive by implication, actually?
Jim: I do. I think it's going to survive, and I'm very bullish on the euro for a number of reasons, notwithstanding all the sovereign debt crises that we're all very well aware of. A couple of reasons, number one the one I just mentioned, which is that they now are going to have a unified coordinated fiscal policy through this ESFS.
Number two, it's never been economically driven. It's been politically driven and the political dynamic hasn't changed.
Number three is gold. The euro system has more gold than the United States. We have our 8,133 tons. The euro system has over 10,000 tons. So they've got a backstop for their currency that China, Japan, UK, Brazil, Russia, and other countries don't have.
I think they don't want to go to gold, and they'll only do it as a last resort, but the gold is there. They do have something behind their currency.
James: Well, they have 10,000 tons of gold and gold receivables. The central banks don't actually report how much they have in the vault and how much they have out on loan.
Jim: Right.
James: So we really don't know how much of that is really there and intact. Just like in the United States where there's no independent third party audit of the gold, to my knowledge, with the exception of a couple of European countries like Switzerland, there is no independent verification of how much gold really exists.
Jim: Right. I'm all for transparency. I'm all for independent audits. I think those audits should take place. I think that those statements should be released. They should come from independent parties. I'm all in favor of that. Having said that, I have absolutely no reason to believe that the gold is not there. This notion that it's Tungsten bars, or it's . . .
James: No, I'm not talking about that. I'm just talking about gold being loaned out, melted down into jewelry and sold to women in India.
Jim: That's not the way the gold loan market works. The way it works is that, so I'm a depository. I'm Fort Knox, from West Point, or I'm the ECB, or I've got some gold. You're a bank, you're some party and you want to transact the market. I lend you the gold, but it's a paper transaction.
In other words, I give you title to the gold. I now take a first perfected security interest in it. I charge you some money. I charge you rent in effect so I'm getting a little bit of income on it. But the gold doesn't actually go anywhere.
James: Yeah, that's one element of the gold lending market, but then another element is where it's actually nonphysical bars that are brought into the market, and then they're sold, re fabricated into other things. As long as central banks report gold and gold receivables , and even the U.S. government now is talking about gold swaps on its official statements.
Jim: Correct, correct.
James: We just don't know how much gold is really there. I guess just coming back to the main point is that even talking about gold, are you seeing some kind of euro gold link at some future date to try to establish confidence in the euro?
Jim: Absolutely. I've said all along that the first major currency to go to gold backing will be the only currency that anybody wants. If the euro . . . It will move to gold. The only question in my mind is how.
Will it be thoughtful? Will it be researched? Will it be studied? Will it be bipartisan in the case of the United States, the way we got to the euro? Or will it be chaotic and messy and sloppy and emergency decrees because people have lost faith in the paper money?
To me, either one of those outcomes is possible. Maybe the chaotic outcome is even slightly more like than not. Either way you'll end at gold, because the paper system is clearly not sustainable. You're not going to be able to . . . There's no feasible combination of growth in taxes that's going to pay off the debt. It can't be done because the minute you start to raise taxes more to get revenue, you hurt growth.
If you don't raise taxes you've got these deficits, but at the same time, what are the drivers of growth?
The consumers are indebted. Who's going to invest if the consumer's not there to buy the output? Government spending has hit the wall.
As we've seen in the deficits, the only debate in the United States, there's no appetite for more government spending. There's no appetite for more quantitative easing. They might do it, but the political bar there is extremely high.
So what are you left with? The only thing you're left with is net exports. How do you generate net exports? You trash your currency.
How long can you trash your currency before people lose confidence in it completely? We're in a full scale currency war. That's what's going on right now. I talked to people in Zurich this morning and they said, "How long do you think the appreciation of the Swiss Franc can go on?" I said, "It's going to go on indefinitely because there's nothing to change the dynamic." The US doesn't want to take the dollar down 10 percent or 20 percent. They want to take it down 40 percent or 50 percent.
That's what it will take to get Americans to stay home, make it too expensive to go to Europe, increase sales of Boeing aircraft and IBM services, et cetera.
James: But the dollar is the world's reserve currency. The US government has a tacit responsibility to the rest of the world to maintain a currency that preserves its purchasing power. So to incur that kind of a drop in the purchasing power of the dollar from inflation or whatever means they use, you're basically having a ripple effect throughout the globe.
Jim: I agree with that completely. I should be clear, James, I'm not advocating these policies. I'm just telling you, this . . .
James: That's the way it's going to play out.
Jim: I'm not a politician. I'm an analyst. My job is to look at the dynamics, look at the indications and warnings, and call it like I see it. I'm actually an advocate of a strong dollar. I would say that if we had a strong dollar policy, and better economic policies, and stronger growth we probably would not have to go back to the gold standard.
But because we're trying to trash the currency, and because we're hurting the world, at some point people will lose confidence and you'll be forced to do it, one way or the other. So at least it's a good thing that we have the gold.
James: Just to get back to the euro, one more thing before I go into other areas. You drew the comparison between the euro and the dollar, the European Union and the United States. One of the obvious differences, of course, is the US has a common heritage, common language, et cetera. And a constitutional framework in which states have certain rights and the Federal government has certain rights.
You're lacking some of those elements in the European Union. Is that going to be an impediment to actually coming about to any kind of a position where the euro survives and we have a lot of different sovereigns and a lot of different politicians in different parts of the world?
Jim: We are lacking some of the elements, but not all of them. It is true that Europe is more diverse culturally than the United States. But although that's probably changing. Look at the Hispanic influence in the United States and other immigrant groups from time to time. So the U.S. has got its own diversity, but you're right. It doesn't have the same political diversity of Europe.
That's precisely the point. It was the political and cultural diversity of Europe that gave rise to war after war after war, century after century that they want to overcome. So how do you overcome that?
You do it through institutions. In Brussels and in the European Union and the European Parliament, they have built these institutions.
Now, it's sort of a sovereignty balance. Here's national sovereignty and here's European sovereignty. What's been going on over the last 20 years and is accelerating is that national sovereignty is declining and European sovereignty is going up.
We saw that with this new ESFS, where Greece and Italy and Ireland and Spain and Portugal have given up some of their fiscal sovereignty to this new fund which is run by Germany. But it's a European institution.
My view is I think that in Brussels they're not entirely unhappy with the euro sovereign debt crisis because the debt crisis . . . Remember Rahm Emanuel, President Obama's first chief of staff, said "Never let a good crisis go to waste."
I think we're seeing something similar in Europe. I think Brussels is saying, "We've got a good euro sovereign debt crisis here. What an opportunity to expand our euro sovereignty."
James: Maybe Brussels is happy, but what about the French farmer, or the Greek middle class, or the German taxpayer who is underwriting a lot of this stuff? How far can they go before they get a popular revolt?
Jim: It's interesting. You've got three different cases. I think the ones that are closest to revolt are probably the Greek middle class because they're going to suffer the austerity, the cuts in benefits, the higher taxes, the more rigorous tax collection, decline in exports from a strong euro. They're going to suffer the most.
The French farmer is very heavily subsidized under the common agricultural programs, so even with Europe, even with expanded European sovereignty, I don't see anybody messing with the farmers. The French farmers are a classic case, but you've got Spanish farmers, Netherland farmers, and German farmers, et cetera.
We say in the United States Social Security and Medicare are the untouchable third rails of politics. Well in Europe, agricultural policy is the untouchable third rail. Now you go to Germany, they're actually doing fine. As I said, they're an export powerhouse even in a strong currency environment.
The problem with the currency wars, of course, is that not everyone can devaluate at the same time. You have to take turns.
This happened in the '20s and '30s. France devalued in 1924. England devalued in 1931. The United States devalued in 1933. And then it was France's turn again in 1936. So you had these sequential what are called "beggar thy neighbor devaluations".
The same thing's going on today. The U.S. is trying to devalue, so who's losing the currency wars? The euro's been fairly strong, to a lot of people's surprise.
Brazilian real, we don't know what's going on there. That's going sky high relative to the dollar. The Brazilians aren't going to stand for it. The Swiss franc is the other one.
At some point, the Brazilians and the Swiss are going to cry, "Foul," and do something. They're going to put on capital controls or say you can no longer have 30 day deposits. They have to be . . .
James: Negative interest rates like the Swiss did back in the '70s.
Jim: Negative interest rates, or maybe just extend the maturity. Say, "Hey, you want to make a Swiss franc bet? Fine. No more 30 day bets. It's got to be a one year bet or a two year bet." But some kind of . . . Close the capital account in some way. If they don't do that, what's going to happen to the Swiss economy? Tourism's going to dry up. Exports are going to dry up.
And then think of the Swiss multinationals like Nestle, where most of their money comes from overseas. If you have a strong Swiss franc, those overseas earnings are going to be worth less. So when they issue their financial statements in Swiss francs they're going to suffer losses. So you're going to hurt your stock market, tourism, and exports all at the same time.
They're not going to put up with it. But then if they take steps to weaken the franc, what does that do to the dollar? You're back to the zero sum game.
James: Let's step back a little bit from the currency side and look more at the big picture in terms of what's happening. I want to bring up one of my favorite quotes from Margaret Thatcher. She said, "The problem with socialism is you eventually run out of other people's money." Isn't that really what's happening worldwide? Regardless of what they do with the currencies that something fundamental has to shift and change here?
Jim: I think it's already happened. I think the world is broke. I think if you did a hypothetical consolidated financial statement of every financial institution in the world, it would have a negative net worth. Now, there are some pockets of real money. Some of the sovereign wealth funds, some of the endowments. They're long only.
They've got these long term contingent obligations to their beneficiaries or their citizens. But particularly in the case of citizens, those are very hard to define. They're well managed. So they sort of look like pockets of capital, but they're few and far between.
The banking system and the national balance sheets, again, on a market to market basis, I think there's no capital left in the world. So I think Margaret Thatcher was not just correct, she was prophetic, and we've already reached that point.
So then the question is, where do we go from here? Well, for a while, my favorite metaphor is the old "Roadrunner" cartoon, where the coyote runs out over the cliff, he's in midair, and he doesn't realize it right away and he looks down and crashes.
James: Are we over the cliff now?
Jim: I think we are over the cliff. But we're still . . .
James: Believe we're still running.
Jim: . . . Running in midair, believe we're still running and haven't looked down yet. I think that's where we are.
James: When are we going to start looking down? Are we pretty close?
Jim: We're very close. I think this deficit debate, this debt ceiling debate that we just went through in the United States was at least a glance in that direction because it says, "Well, we can't just keep spending. We can't spend our way out of a situation of indebtedness." Now, a lot of people disagree with that. You've got Nobel Prize winner Paul Krugman says, "Our biggest make was we should have spent more." And I hear Larry Summers saying the same thing.
I hear the President saying the same thing. So there's a lot of who people think that these Keynesian remedies just haven't been tried hard enough and we ought to double down.
By the way, I think that's what the 2012 election in the United States will be all about. It's going to be these competing philosophies.
One is, if we just spend a little more and increase aggregate demand and government expenditure multiplier, we'll get self sustaining growth.
And the other side's saying, "Are you crazy? We're over indebted. We need to clean up our balance sheet, cut spending, save more, invest more, cut taxes, improve productivity." This is the debate for 2012.
James: It's clear that there's no political will to get off this road that the US government is on. I mean, they're talking about cutting from future spending. They're not actually really talking about cutting the deficit. Why should we believe that they're going to solve that problem in 2012? Because I'm the view that the government is over leveraged. You just look at it on a cash flow statement. They've got so much promises and commitments, I don't see how they could ever possibly fulfill them.
Jim: I'm not sure we should believe them. This is why I say, going back to the international monetary system and the role of gold and these four scenarios of multiple reserve currencies, SDRs, gold and chaos, I'm betting on chaos. I don't want that. I don't favor that. I don't think it's necessary. I think there are policies you could pursue to pull back from the brink and avoid that. But I agree, the political will is lacking. The political will is there in some people, certainly there in the Tea Party. It's there in some more thoughtful conservatives.
Alan Simpson and Erskine Bowles are not exactly Tea Party tub thumpers, so to speak, but they've come out in the same place.
James: But was the debt limit increase a victory or a defeat for the Tea Party? You could look at it both ways.
Jim: Well, it was certainly not a solution or an answer. It was a victory in the narrow political sense, which was it was more their way than the President's way and it was better than the next best thing. So, in pure political space, it was a victory. But if you're asking whether it was a solution, absolutely not.
This is not even a drop in the bucket, because, as you pointed out, James, spending cuts are not spending cuts.
In every state of the world we spend more, but if we spend a little bit less more than we would have otherwise, if that's the right turn of phrase, then people call that a cut. But they're not cuts at all. Spending's going up, deficits are going up, debt is going up, and there's no end in sight.
Actually, we're sitting here in London. Last night, the US exceeded a 100 percent debt to GDP ratio, I think, for the first time since World War II.
In other words, there had been a lack of borrowing because the debt ceiling had not been raised, so the Treasury had a backlog of issuance.
Once the debt ceiling was raised, I think the President signed it on Monday if I'm not mistaken, the Treasury went out with a monster $280 billion auction yesterday, and that new debt pushed us over the 100 percent debt to GDP ratio.
Now, here's the problem. GDP is about 15 trillion, give or take. Our deficits are running about 1.5 trillion, give or take. So that's 10 percent.
So we're adding 10 percent new debt every year, putting 1.5 trillion on top of a $15 trillion economy. So we're increasing the debt to GDP ratio 10 percent every year, but GDP is only growing about two percent.
Now, if you look at the Congressional Budget Office projections, they would say, "Well, GDP is going to grow four or five, and we're going to put the debt issuance on a downward path, so eventually that debt to GDP ratio will come back into alignment." But that's not happening.
James: The economy is slipping into a double dip, as they call it.
Jim: Correct. You're right. Technically, it may be a double dip recession, but that's not how I think of it.
James: Yeah, it's the same recession, isn't it?
Jim: Well, I call it a depression. This is the second Great Depression.
James: OK. I agree with you.Jim: It started in 2007. It's going to run, depending on policy, till 2014, maybe longer.
James: So a 1.5 trillion deficit is really unrealistic for this year, isn't it?
Jim: Yes, because growth will be lower, tax receipts will be smaller, although there are other factors in play. The 99ers, that's 99 weeks of unemployment benefit, that's expiring later this year. Remember, unemployment started out as a 26 week program. That's classic unemployment. Then they had it extended to 52. And then they extended it to 99, which is almost two years.
James: So maybe they'll just extend it again.
Jim: Well, back to the Tea Party. I mean, you think that was a fight over the debt ceiling; watch what happens on extending these benefits. I'm sure the White House wants that. I'm sure they'll make the case for it. But I'm not sure that that's going to pass.
And so, if they don't extend it, when did the recession hit full force? When was unemployment going up the fastest? It was 2009. This depression started in 2007 because that's when the housing bubble popped and we started to get asset price deflation in certain important sectors.
But it was 2009 was the bottom of the first recession phase of the depression, when unemployment spiked. So that cohort, those people who lost their jobs then, who haven't got jobs in the meantime, are now the 99ers.
They're going to come off unemployment later this year. That's going to cut consumption, cut government expenditure.
So there are forces driving the deficit higher. There are other forces driving GDP lower. So you're exactly right: this debt to GDP ratio's going to get a lot worse. We're going to get up to Greek levels.
James: Well, the other thing that's scaring me is, and I follow these numbers very closely because to me it's an indication of where the gold market is going, but basically, of every $100 the US government is spending, about 60 percent comes from revenue and 40 percent comes from debt. Historically, once you go over that 40 percent, you're really on the road to hyper inflation. Now, I wanted to get your thoughts. Do you see a hyper inflationary outlook for the dollar as the U.S. governments tries to fulfill its promises and just turns to Mr. Bernanke and the printing press to give ever worthless dollars to fulfill those promises?
Jim: It's certainly possible. The way I think about it, James, is they're almost like tectonic plates pushing against each other. Now, when you've got two powerful plates pushing against each other, just because there's no earthquake today doesn't mean there's not a lot of tension building up. There is. We have natural deflation coming from the depression and we have inflation coming from policy.
Now, the fact is they're pushing against each other. The actual inflation measure, CPI if you can believe it, around two percent, so economists would say that's fairly well behaved. But that's not stable at all. It's what physicists call minimally stable state.
In other words, the forces are still there and that's going to break at some point. When? It's hard to say. I wouldn't be necessarily tomorrow, but it could be tomorrow. Which way will it break? Will Bernanke, in effect, throw in the towel and say, "Look, we've done all we can do. We've just got to take our medicine and let this deflationary part of the cycle play out."
In which case deflation might prevail. Or, will he double down or triple down or do whatever it takes, as they've said. I think that's more likely. Then, you just get into the risk of hyper inflation.
What's interesting to me is that gold wins either way. Gold is, very intuitively, always been a strong inflation hedge.
What a lot of analysts don't understand is that it's a very good deflation hedge as well. During the 1930s, it was the greatest prolonged deflationary episode in US history, gold went up 75 percent. Homestake Mining was the best performing stock on the New York Stock Exchange. So, gold has a history of doing well in deflation also.
James: Yeah. I agree with you on that. The way I describe it is gold is a monetary problem hedge regardless of what that monetary problem is. Inflation, deflation, bad banks, sovereign credit crisis. You name it. People will go to gold in order to protect themselves when there's uncertainty about the monetary outlook.
Jim: Right. I think I come out in the same place. Here's how I describe gold. I say, "Gold is not a commodity, it's not an investment, and it's not a trade."
James: You sound like me.
Jim: "Gold is money."
James: Yeah.
Jim: If you want some money, you better have some gold. And in real terms its value changes very little. I was talking to someone the other day and I said, "I can see gold at $7,000 an ounce. It's not tomorrow. It might be a couple years, but I can definitely see it at $7,000 an ounce." The person was surprised and he said, "Really? Is that true? You really think it's true?" I said, "Well, I do think it's true, but bear in mind that gold won't actually be worth any more. The dollar will be worth less."
James: Yeah. We'll be paying $7 a gallon for gas, or whatever.
Jim: Correct. Exactly. But it is a way to preserve wealth. And it is the one true [indecipherable 30:44] value.
James: Yeah. I was discussing that this morning with a reporter and the way I was explaining it is that gold is not an investment because it doesn't create wealth. He was saying, "Well, the price of gold goes up." I said, "Well, the purchasing power of the currency is going down."
Jim: Right.
James: Then he said, "Doesn't gold go from undervaluation to overvaluation?" I said, "Yes, it does. But it's not creating wealth, it's just merely redistributing it from people who are holding paper currency to people who are holding gold." That's, I think, how it's going to continue playing out until at some point in time in the future, gold becomes overvalued. Then you're going to want to use it to get into undervalued assets, whatever they might be at that future date.
Jim: Correct. I think that's exactly right. I agree with that. I think there are objective ways of figuring that out. For example, the $800 gold pricing in the early '80s, that was objectively a bubble. You could say it was a bubble.
Why is that? Because when gold was $800 an ounce, the market value of all the official gold of the United States was greater than the money supply.
It was more than 100 percent. Everybody with a dollar could have walked down to the treasury, handed it in, got gold at market value.
James: Greater than M1.
Jim: Greater than M1. There would have been gold left over. Even as a gold advocate, a gold standard advocate, I can see a case for 40 percent gold backing. It depends on the politics and the mechanism, but the hard shell gold advocates say, "No. It has to be 100 percent." Nobody thinks it has to be 110 percent.
My point is, when you see it getting to that level, it's a bubble. How far away are we from that? Well, right now we're very far away. I mean, that number today would be about $7,000 an ounce, but bear in mind it's a moving target. By the time you get there, M1 may have doubled again and it'll be 14.
James: Yeah. If we're working on quantitative easing number six at that stage, who knows what the gold price could be?
Jim: That's right. It's less important to pick a number in my mind than it is to understand the dynamic. Because when you understand the dynamic you can just plug in the numbers as variables and get to the right place.
James: One other thing about the U.S. before we move on to Asia. Right now, I just looked at the numbers recently, the total government share of the economy, US, Federal, state, and whatnot, is approximately . . . Just under 41 percent of total GDP.
We have more government spending today than we did when the government was on a war footing back during World War II. This is unsustainable in my view. Do you agree? See it as unsustainable?
Jim: Well, I would say it's incompatible with growth. In other words, you can sustain it, but the price of doing so is to give up on growth and have the kind of 25 percent youth unemployment that you see in Europe.
Take away people's hope, take away jobs, take away entrepreneurship, and put a lot of what's very typical of America and American growth to one side.
I think you can sustain it by coercion, heavy taxation and government mandates, but you won't have a growing economy and you won't have a land of opportunity.
James: So, government basically has to shrink and it can do it either of two ways. Under a planned program of over five or ten years, let's say. Or chaotic.
Jim: Correct. When people talk about cuts, because as we just discussed, they're talking about cutting future spending from . . .
James: What they intended to spend.
Jim: Ten trillion to nine trillion or whatever. But they're still spending more every year. I would be in favor of radical cuts. I would go into the Department of Education and I would say the following, "We're bringing in McKinsey and IBM Global Services.
We're going to perform an audit of your programs. Let's say you have 400 programs. I want them to identify the 20 programs that work, and the 380 programs that don't work.
"And here's what we're going to do. We're going to shut down the whole thing. We're going to fire all you people. We're going to discontinue these 380 programs. We're going to take the 20 programs that work, push them down to the states, and fund them.
"We'll give the states money for those successful programs and they can administer them at the state level. But you are done. The Department of Education, done." Then go over to other departments and just keep going.
James: One at a time.
Jim: One at a time. Those are cuts. Those are not phony cuts. Those are real cuts.
James: But we're not seeing that.
Jim: We're not seeing anything close to it. I don't think you can have the discussion that you and I are having, it's a good thing we're in London because we couldn't have this discussion in Washington and be taken seriously. But I do take it seriously because I think that's the only thing that works.
James: Let's turn to Asia. South Korea just announced a big purchase of physical gold bullion. Is more of this going to be coming out of Asia in the months ahead?
Jim: Yes.
James: Particularly given the fact that South Korea is a close political ally of the US. It's a bit of a slap in the face to the U.S., isn't it?
Jim: Especially after the chairman's recent testimony. There was a colloquy at a public hearing between Ron Paul and Ben Bernanke. Chairman Paul was kind of berating Chairman Bernanke saying, "Mr. Chairman, when you wake up in the morning do you ever think about gold?" Finally, I think Bernanke lost his temper a little bit and said, "Gold is not money."
Well, now we see the South Korean Central Bank saying, "You know, maybe gold is money. We're a bank and we're going to acquire some."
I think actions speak louder than words. I think South Korea's actions speak louder than Ben Bernanke's words.
But more to the point, when I saw they bought 25 tons that came as no surprise that central banks would be net buyers. What I was interested in was where did they get it? Because I would have thought something . . . An order that size would be an official to official transaction, so maybe it came . . . I would doubt it would come from the United States, but where could it come from?
IMF or a few other places. But no, they bought it on the market. They must have acquired over time. I'm not sure who the sellers were.
Now what China's doing is even more interesting. China is desperate to increase its gold supply, but they understand that what they're . . . They're out to buy 3,000 tons. That's a far cry from 25 tons.
James: Without rocking the boat.
Jim: Without rocking the boat. And, of course, the only way to do that is to basically buy mines and strip their own mines. They've turned their domestic, i.e. Chinese mining industry, into a captive.
They're the largest gold producer in the world today. They produce a little over 300 tons. So they're taking, not all of it, but about half of those 300 tons are going to official holdings. The other half are being sold to the Chinese people. So they've turned their own gold mines into captives.
But what they do is they go to the mining companies and say, "Look. Gold's on its way to the $1,700 an ounce or whatever. Your cost of production is $400 an ounce. So we're going to pay you $900 an ounce. You're making very good profits, thank you very much. And I'm buying it for one third the world price."
They can enforce that through labor laws and environmental laws, tax laws. They've got so many guns pointed at the head of the domestic mining industry that they can do that.
So they're not having market impact because it's going straight from the mine to vault. They're buying it below market because they have a captive industry.
What are the costs of that? There are two. Number one, pollution is awful. We all know that cyanide is used in gold mining.
Canadian and U.S. miners, they have to cage it, they have to capture it, account for every drop and dispose of it, et cetera and it adds a lot of expense to mining.
In Japan, they just dump it in the rivers. So they're poisoning their rivers with cyanide. The other thing they're doing . . . I was talking to an analyst this morning. He said, "Well, to extrapolate that out enough years, they'll eventually get to their 5,000 tons or whatever." The answer is no. Those mines are going to be depleted in about four years. It's not as if there were a lot more mines.
They're mining as fast as they can. They're taking all that gold and putting it in the vault but they're going to strip those mines in four or five years, or maybe less. And so, that's not sustainable from their point of view.
All the pressure . . . Central banks going from net sellers to net buyers . . . We've seen South Korea. The Philippines have been buying. Vietnam has been buying. It's not just the big guys. Brazil looks very weak in this dimension.
James: And we know India stepped in to buy the IMF gold a year and a half ago, whenever that was. Sri Lanka, I think, bought some. Maybe South Korea bought some of the IMF gold that's been dribbled out into the market. It was accumulated over time, perhaps.
Jim: That's possible. I'm not sure, but the Indian purchase was interesting because that was a real slap in the face of the Chinese. It was the United States, because the United States, in effect, controls the IMF. It was our way of saying, "We take care of our friends and we marginalize our adversaries."
It was definitely a slap at China because China would have loved . . . That gold went at $1,050 an ounce. China would have loved to have been buying some of that gold but they weren't given the opportunity. It was given to the Indians.
India is another interesting case, because the official gold is not that great, but the private gold is huge. I don't know the exact number, but I've spoken to Indians. I've heard numbers from 5,000 tons up to 10,000 tons of private gold.
James: Yeah, I've heard even a little bit bigger than that on total private gold holdings. But big, big numbers.
Jim: Correct. They're sort of a gold power, even though they're official reserves are sort of puny.
James: Plus the production is inconsequential, so it's all imported and it has a big impact on the world price, whereas China, to a large extent, is self sufficient. At least for now.
Jim: For now. At least for now, but they . . . They've still got their agents out trying to do what South Korea just did. Can you imagine the South Korean announcement applied to China? China just bought X tons.
The last time they announced an increase in their gold reserves, it was the result of five years of covert activity.
They had intelligence agents and private agents and anonymous names doing all kinds of things in the market. They acquired . . . it was about 500 tons. And then they announced it all at once. But what they did, it was interesting. They have a sovereign wealth fund inside China called SAFE. It's the State Administration of Foreign Exchange.
SAFE actually acquired the gold. SAFE is nontransparent, whereas the People's Bank of China tries to be somewhat transparent.
SAFE acquired the gold over five years and then flipped it to the central bank in a single accounting transaction. And then the People's Bank of China says, "Hello, we've got 500 tons." But they had been acquiring it for five years.
James: But just reported it at one fell swoop.
Jim: That's correct.
James: Once they had a certain amount. Was that a political statement when they reported it?
Jim: It was partly a political statement. It was also an indication of the dilemma they have, because the market impact of the Chinese announcements are so great. Again, this was back at . . . They were acquiring it at various price levels, between $700 and $1000 an ounce.
And then, gold's gone up significantly from there. Can you imagine a comparable announcement today? It would be South Korea on steroids.
James: Yeah, particularly with what's going on in the world today. Any last comments that you'd like to share with the viewers? This is going to be viewed by thousands of people around the world. Any last comments you'd like to wrap up on?
Jim: Yeah. I think, again, for people trying to preserve wealth, I've always recommended a gold component. I never go all in. I would never advise a client to go 100 percent into gold. My view is for the conservative investor maybe 10 percent. For the more aggressive investor, maybe 20 percent. But even if you just think of yourself as a small saver with cash only and you don't bet on risky stocks. Having 10 percent in gold is a good . . . That's not risky. That's a good, prudent thing to do. So I would just ask people to think about that.
James: It's a nice diversification to be in that safe haven.
Jim: Correct.
James: Jim Rickards, Senior Managing Director of Tangent Capital. Thank you for being with us today.
Jim: Thank you. Thanks for inviting me.
James: A really great pleasure.
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