James Turk: The Path Towards Fiat Money Destruction

In this interview with James Turk I ask him about Gold as Money and why gold is not an investment. 

The distinction between money and currencies. 

The path of fiat money destruction and the loss of its purchasing power. 

Why the currency and the financial system are flawed. 

What is payment risk? Governments printing money and its consequences. 

Silver versus gold and James views on both Mene a new product from Gold Money. 

What is it and why you need to know. Physical gold and counter party risk.

- Source

Why a Bear |Market will Lead to a Dollar Collapse

The cumulative effect of central bank intervention has led to bond prices that have come badly adrift from reality. Taking a more realistic estimate of the dollar’s purchasing power than that implied in goal-sought CPI numbers, plus an estimated amount for the time preference involved, ten-year US Treasuries should yield closer to 10% to maturity, not the 1.31% implied today. If a ten-year bond has a coupon such that it is currently priced at par, the price should halve.

Those who put our monetary misfortunes down to the coronavirus have missed the point. Yes, it will be fatal, both economically and unfortunately for some of us as individuals as well. It is early days in what is definitely becoming a pandemic, that is to say an epidemic that is not restricted to national boundaries. Not only China, but other nations as well are going into a state of lock-down. Hopes that things will return to normal in the second half of this year are obviously based on a belief that there is nothing else wrong in the global economy.

This is where those who actually understand money and the credit cycle part from the economic establishment, which continuously demonstrates its cluelessness. Note these indisputable facts:

1. Economic destabilisation arises from a cycle of bank credit expansion always followed by a credit crisis. It does not arise from business, but from time to time the willingness of banks to expand credit out of thin air, creating a temporary period of economic optimism which does not last.

2. The expansion of the global money quantity since 2008 has been unprecedented, not only numerically, but in proportion to the size of underlying economies. If nothing else, logic suggests the bust that follows will be proportionately destructive.

3. While their relative magnitudes to each other were different ninety years ago, a combination of trade tariffs and the top of the credit cycle mirrors the conditions that led to the Wall Street crash between 1929 and 1932. That should be warning enough that even without a coronavirus pandemic the world is on the edge of not just a recession, but a vicious slump.

The most important difference between the Wall Street crash and the depression that followed is found in the money. In those days, both the US and UK currencies were on a gold standard, which meant that collapsing commodity prices through the dollar and sterling were effectively being measured against gold. Other factors, such as the rapid mechanisation of farming and the productivity that followed exacerbated the situation for farmers worldwide, until the UK abandoned gold in 1932 and the dollar was devalued the in 1934. In short, the link with gold meant that leading currencies were not undermined by the depression.

Nevertheless, economists in the 1930s blamed the depression on gold, and governments have sought to remove it from the monetary system. Since 1971 there has been no residual link between gold and the dollar and therefore all other state-issued currencies. The quantity of money in circulation has been free to be expanded by central banks, the only limit being the consequential limitation of price inflation. That has now been conquered by statistical method.

From their actions following the Lehman crisis it is clear central banks now feel no constraint on the expansion of the money quantity as a policy tool. The Fed, the ECB and the Bank of Japan are already expanding base money before the crisis stage of the credit cycle has materialised, which should alert us to the catastrophic failure of monetary policy. Keynes’s concept of reviving animal spirits with a kick-start of inflation has morphed into a continual and accelerating monetary inflation over the whole cycle.

Collectively, in the post-war years we all bought into monetary inflation by shifting investment allocation progressively from bonds into equities to protect long term savings. But since the interest rate spike in the early 1980s, bond yields have generally declined to the point where in dollars, euros and yen they yield less than their values of time preference. In the two latter cases investors are now even paying for the privilege of lending money to their governments.

The abolition of meaningful yields has been achieved through a combination of statistical suppression of price inflation and monetary expansion. But this is just the start of it. Imagine for a moment a collapse today akin to the 1929-32 Wall Street crash, followed by an economic slump on a 1930s scale. Freed from apparent restrictions on the expansion of money and having a mandate to do whatever it takes, combined with demands for the financing of soaring government budget deficits the expansion of money will go into hyperdrive – everywhere at the same time.

Not only do we have that problem, but we now have a viral pandemic that has all but shut down the largest manufacturing economy in the world, disrupting the overwhelming majority of supply chains elsewhere. And that assumes the coronavirus is contained to China and that early signs of it turning into a global pandemic turn out to be false. But the signs are that it is becoming a pandemic on the eve of Wall Street crash Mark II, bringing forward and amplifying the economic destruction that always follows a period of credit expansion. The effect of the virus threatens to turn an economic slump, perhaps a once in a century event, into an outright production and consumption collapse.

What lies before us will be radically different from the past. Understanding money and the effects of changes in it as a circulating medium have rarely been more important. This article outlines the effects of what lies ahead, likely to commence in a collapse of financial asset values and the purchasing power of currencies.

- Source, Goldmoney

The Euro: Can it Survive?

A dusty concept called the regression theorem suggests the most fragile of the major currencies is the euro. This states that in the users’ collective mind its validity as money is derived through experience. The fact it was money yesterday, and in the days, weeks, months and years in the past confirms its status: the longer the better. For the fiat currencies with the longest history, their status as money was derived from their role as a gold substitute, linking their credibility to sound money in the distant past.

In the euro’s case, it derived its original status from the fiat currencies it replaced and is only twenty-one years old. In a generally stable economic and monetary situation the lack of a longer history of regression may not matter, but it could be more easily destabilised than a more established currency at a time of crisis. Despite the Lehman catastrophe, the subsequent banking crisis in Europe and negative interest rates, the euro has so far survived intact.

The fact it has done so is in large measure due to the lack of any alternative for the 340 million eurozone residents. Perhaps its survivability has been enhanced by the convenience of non-cash transactions. In any event, a population mandated to use a state issued currency finds it is in its interests to accept its validity as a circulating medium and only abandons it as a last resort. It is when approaching that point that the regression theorem will matter.

That is a consideration for domestic users of the euro. Meanwhile, foreigners have voted with their feet, driving the rate down in recent years from $1.60 in 2008 to $1.05 in 2016, and from $1.24 in 2018 to $108 recently. It has been the principal counterpart to a rising dollar expressed in the latter’s trade weighted index. Behind these moves there is the net effect of trade balances and speculative flows.

In 2019 the Eurozone’s balance of trade was a positive $175bn, while the US trade deficit was $667bn. The sharp difference between the two economies represented a strong headwind in favour of the euro and against the dollar, but since 2018 it was more than overcome by the pull of interest rate differences. While the ECB maintained a negative deposit rate, US-based hedge funds through the fx swap market shorted the euro and bought dollars to benefit from interest rate differentials.

Since April 2018, when it became clear that President Trump’s tax policies would stimulate the US economy the fx swap trade was on. There can be no knowing the true size of it, but it was significant enough to force the Fed to intervene in the repo market to provide extra liquidity from last September to this day.

The Fed has now reduced its funds rate by fifty basis points to 1.0-1.5% and the 13-week T-bill is leading the way to yet lower yields by yielding only 0.675%. Given that prime brokers fund their inventory at the fed funds rate, they are still losing money, so the Fed will be forced to lower the FFR again to 0.5%-0.75% to avoid disrupting the T-bill market. Even that assumes no further fall in T-bill discounts, but it does mean that interest differentials between dollars and euros will fall again, with consequences.

The declining profitability of fx swaps out of both euros and Japanese yen and into dollars plus increasing liquidity and counterparty risks means hedge funds should be aggressively unwinding their positions. Already, in recent days we have seen the yen rise from 112 to the dollar to 106.9 (note that a decline in the rate signals a stronger yen). And the euro against the dollar has gone from under 1.08 to 1.1175. The effect on the dollar’s trade weighted index has been dramatic, as shown in Figure 1 below.

The start of the fx swap trade for hedge funds is highlighted by the solid arrow, when in April 2018 it became clear that President Trump’s fiscal policies would lead to higher dollar rates and bond yields relative to both those of the euro and the yen, but particularly against the euro due to the index’s weighting in favour of it. While the bull market persisted, for most of the time it has been in the form of a weak broadening top delineated by the pecked lines. It is in this context we can see the impact of the coronavirus on dollar exchange rates, with the TWI suddenly falling by about 2½%. If it breaches 96.5, we will have technical confirmation the dollar is due to fall significantly, possibly quickly, against the euro.

In the short term, the unwinding of fx swaps combined with the relative trade imbalances with the dollar are the reason their closure could drive the exchange rate for the euro higher, likely to provoke the ECB into attempts to offset it. Policymakers enamoured of the Taylor rule will argue for deeper negative rates, a move that favours spendthrift governments but does nothing for the real economies in the EU. Worse, it comes at a time when overleveraged eurozone banks will be reducing outstanding bank credit, as loans reflecting dollar swaps positions taken out by both hedge funds and commercial entities are being wound down. And they will also be trying to reduce their loan exposure to businesses whose cashflows are being undermined by the coronavirus. In short, bank credit faces an imploding pull.

- Source, James Turk's Goldmoney

Will Brexit and Coronavirus End the EU?

Brexit came as a shock to the political bureaucracy that comprises the European Union. They had, and still have an ostrich-like stance with their heads in the sand and their rear ends exposed to passing dangers. Their economic incompetence has been exposed for all to see as well as their political ineptitude.

Professional politicians with any semblance of a democratic mandate do not work in Brussels but run the nation states that comprise the union. We can criticise national politicians for their ignorance on what makes their electorates wealthier and happier. They are elected by the ignorant for their own ignorance, but soon learn the political ropes that keep them in power. Or they fail and are rapidly ejected, often ending up in Brussels.

The EU is divorced from the need for realistic political representation. It is the collective dustbin for the power-seekers who have either been ejected by their own national electorates, or who are simply unelectable. It is heaven for power wannabes unwilling to face the consequences of their actions. And as the body of these dangerously inept individuals has grown, they have ensured a bureaucratic cancer has spread into national administrations. You can’t do this minister, because Brussels over-rules it. A bureaucratic statis has spread throughout the administrations of member states.

This was what Brexit challenged and exposed. The establishments in Whitehall and Westminster have become full-on eurocrats, dismissive of Britain’s own parliamentary democracy and remain fully committed to the European project.

Our dictionaries tell us that a moral statis is a condition where things do not change, move or adapt, which is definitely true of the EU’s economic policies. Other than the one change, which is its relentless acquisition of power to intervene and distort, this describes Brussels to a tee. The Eurocrats despise free markets, the source of external change, and seek to control them through mountains of suffocating regulations. As arch-protectionists they find it impossible to permit free trade except under duress. The overwhelming majority of the EU’s free trade agreements are with small insignificant states which are immaterial to the bigger picture. As an entrepôt, Britain’s escape will show by comparison just how much the EU has become a socialising command economy. It has too much in common with the old, centralising USSR and its satellites, a lighter touch perhaps and without the gulags.

However, change is a fundamental part of the human condition, and it is coming from a wholly unexpected direction. The spread of the coronavirus is shutting down the European economy. In increasing numbers people are no longer travelling. The spread of the virus, whether through fear or fact, is sharply reducing both production and demand. Indebted businesses will not have the cashflow to pay debt interest and supply chains will be riddled with payment failures. Previously acceptable debt is becoming junk. Banks will need to be rescued from defaulting customers and the euro’s future will be increasingly questioned.

For the moment, eurocrats might be able to get tables in their favoured restaurants more easily while national governments take it on the chin. But this is a temporary situation, which could easily evolve into a threat against the union, serious enough to either end or emasculate it when diametrically opposed interests are enhanced by the course of events and become unreconcilable.

Following Britain’s exit, the squabbling will now begin. Germany, with some commonality with the Netherlands, Austria and Finland has suffered the pain of unsound money to see its citizens’ savings taxed by negative interest rates and having them recycled into supporting bad debtors in the Mediterranean states. The Mediterranean states will demand even more money, taking their debt-to-GDP ratios into the stratosphere. The new boys in the East, Poland, Hungary, the Czechs, Slovaks, Bulgarians, and Romanians, who still think they can change Brussels will realise that as the subsidies from Brussels dry up, they have been sold a pup.

The eurocrats in Brussels lunching on their langoustines will conclude nothing need change and the ECB can deal with it.

If only it was so simple.

- Source, Goldmoney

Oil Markets Predicting Risk of a Global Recession

Oil prices have sold off sharply over the past month. Despite a series of bullish events – the US airstrike targetting Qasem Soleimani, Iran’s retaliation attack on US troops in Iraq, the shutdown of almost the entire Libyan production and the US’ tightening the screws on Venezuela by sanctioning Rosneft and potentially refusing to renew waivers to US companies stating in April - oil prices are now substantially lower than before these events. Brent front month prices peaked at $72/bbl in early January and are now at below $50/bbl (See Exhibit 1).

Moreover, by mid-January, the geopolitical tensions and supply losses had pushed the Brent curve into severe backwardation. June-December 2020 time-spreads for example traded as high as $4.50/bbl just one month ago, reflecting prolonged physical tightness. Those time-spreads are now in contango (see Exhibit 2).

This massive change in sentiment happened as the Coronavirus situation in China unfolded. Importantly, while we do expect a significant impact on Chinese oil demand from the massive travel restrictions in China, that alone would not warrant such a move in the curve in our view. Instead, we think the recent moves in oil prices is reflecting expectations for a significant slowdown in global economic growth. In fact, we think the oil price move is now pricing in a significant probability for a global recession in 2020.

Commodity markets are the only markets which currently reflecting this view. Equity markets, despite the recent sell-off, do not. Importantly, we believe commodity markets are still underpricing the risks to aggregate demand. The question is not longer whether the economic impact from the Coronavirus outbreak will be short-lived or whether it will be more pronounced. The question is whether the economic impact will be pronounced or catastrophic. In our view, energy markets are currently pricing in a pronounced impact with substantial fiscal and monetary stimulus down the road. There is substantial downside risk if that view turns out to be too optimistic.

That said, in either case we expect central banks to return to the 2008 playbook soon. Nominal interest rates will only decline from here and we are likely going to see a reacceleration in quantitative easing. However, in the catastrophic scenario, we believe central banks will quickly realize that the tools they have been using since 2008 will not get them very far this time. Hence, we would expect central banks to become more creative, by deploying something like “helicopter money”. This is not far-fetched. Hong Kong announced a few days ago that it would give every adult citizen HK$10’000, around $1300, in order to combat the economic fallout Coronavirus-crisis. We believe this would push gold prices sharply higher medium term.

- Source, Goldmoney

Goldmoney 2020 Outlook Roundtable

As it has become tradition, Goldmoney’s leadership team – Roy Sebag, James Turk, Alasdair Macleod and Stefan Wieler – were joined by a special guest, former Member of the European Parliament Godfrey Bloom, to discuss the state of global economy, financial and systemic risks, the developing threat of the coronavirus, and outlook for gold and financial markets.

- Source, Goldmoney