Reflections in a Golden Eye

by Michael J. Kosares, Gold Seek Let the seller beware! The German citizen/investor who put away a few rolls of 20 mark gold coins (.2304 tr ozs. shown below) in 1918 would have done so at 119 marks per ounce. By early 1920 the previous rapid inflation had suddenly given way to deflation. Had that gold owner decided to cash in on gold’s significant gains thinking runaway inflation was over, a 100,000 mark investment would have made him or her a millionaire. The glow, however, would have quickly worn off. By late 1921 the runaway inflation had resurfaced but now with a vengeance. Gold shot to 4,000 marks per ounce. By mid-1922 gold reached 10,000 marks per ounce and the wholesale price index went from 13 to 70. By late 1922, the roof caved in. Gold traded at 134,000 marks per ounce. In January, 1923, it cracked 1,000,000 marks per ounce. By midyear, it broke the 100 million marks per ounce barrier and at the peak of the hyperinflationary breakdown, it sold for over 100 billion marks per ounce. The individual who thought he or she had the cat by the tail and cashed-in his or her golden chips during the 1920’s deflation became a millionaire. In short order though, that millionaire became a pauper as wave after wave of hyperinflation washed over the German economy. One moral from this somewhat frightening tale is that becoming a millionaire or even a billionaire on one’s gold holdings was inconsequential. Another is not to give up one’s hedge until there is ample evidence that it is no longer needed. Momentary nominal profits can be illusory. notes TrailerNote – From The Nightmare German Inflation by Scientific Market Analysis: “Those who held funds in dollars, pounds or other stable currencies, or in gold, saved their capital. The government set up rigid exchange controls as the inflation proceeded. As usual under such conditions, a black market flourished. The ones who fared best were the small minority who had the foresight to exchange marks into foreign money or gold very early, before new laws made this difficult and before the mark lost too much value.” The currency image (left) illustrates the rapid depreciation in Germany’s paper money with single notes going from a 20 mark value in 1918 (the paper equivalent of one 20 mark gold coin) to a 20 million mark value in 1924. Fast forward to 2015, nearly one hundred years later, and we find that all currencies are being deliberately devalued against one another in an on-going global currency war. That hedge is no longer available. Only gold stands outside the fray. Perhaps that is why former Fed chairman Alan Greenspan recently said, “Remember what we’re looking at. Gold is a currency. It is still, by all evidence, a premier currency. No fiat currency, including the dollar, can match it.” Reflection #2 New Fix same as the old Fix Though Financial Times, quoting reliable sources, reported that the new London Gold Fix would be comprised of eleven members, three of which would be Chinese banks, in the end only six banks made the cut, all of them familiar names, all of them western banks – Barclays, HSBC, SocGen and Bank of Nova Scotia, UBS and Goldman Sachs. Governing the Fix, we will now have two British banks (Barclays and HSBC), a French bank (Society Generale), a Canadian bank (Bank of Nova Scotia) and an American bank (Goldman Sachs) but no Chinese banks. Notably absent is another American bank, JP Morgan. I should add that in one announcement on the new participants, room was left for the entry of Chinese banks at some later date. No date-certain was offered. Little seems to have changed with this player roster. All six are currently under investigation by the U.S. Department of Justice for gold market rigging, so we are left to wonder whether or not anything meaningful in terms of reform has been accomplished. The new Fix, in short, looks pretty much like the old fix only on an electronic platform. At the very least, the London Bullion Marketing Association should be more forthcoming about why Chinese banks were rejected for membership at the outset. It would also be helpful to know if Chinese banks might play a role in the future and, if so, when.

TrailerNote – China is now pressuring the physical gold market the way Europe led by France did in the late 1960s, early 1970s. The blunt tool employed last century was physical delivery. China employs the same tool today and, at this juncture, one can only speculate whether or not its interest in physical delivery might have played a role in its being left out of the new price setting club. I will stick with my original contention that once the London–Zurich–Hong Kong–Shanghai runs dry, China’s best interest lies in higher gold prices against all currencies including the U.S. dollar. I hasten to add that it is likely to act in its best interest whether or not it takes a seat at London’s price setting table. It seems to me that London would be better off with China in the club than outside. The British establishment seems to have applied that kind of logic in joining the Asian Infrastructure Investment Bank despite American criticism. Thus far though, it has failed to apply the same logic to the new London Fix. China is not likely to sit back and wait forever for a membership invitation when it is fully capable of starting a new club on its own. That is where the Shanghai Fix might still play a role in setting the price of gold. Subsequent chapters to this tale, it seems to me, remain to be written. By the way, here is a food for thought on the AIIB situation from the Telegraph’s Ambrose Evans-Pritchard: US risks epic blunder by treating China as an economic enemy

Reflection #3 Federal budget myths and reality The gap between the “political” deficits and the “real” deficits remains a constant source of irritation among economic conservatives. For fiscal year 2014, the political deficit, played up by the press, was $483 billion – the politicians’ feel good number. Here’s the reality: On October 1, 2013, the beginning of the federal government’s fiscal year, the national debt stood at $16.747 trillion. By the end of the federal government’s fiscal year, September 31, 2014, it was $17.824 trillion. In reality, the federal government added $1.077 trillion, not $483 billion, to the national debt. The inability of the Beltway to confront the budget deficit reality is at the basis of its inability to deal with it.

TrailerNote – The politicians complain about the deficit but they never really do anything about it – Democrat or Republican. Dick Cheney, George W. Bush’s vice-president, went so far as to say that “Reagan proved that deficits don’t matter.” One wonders what Ronald Reagan, a life-long critic of over-blown government spending and the irredeemable national debt, might have thought of that comment. Another myth promoted by many within the political class (mostly the Keynesian variety) is that the national debt doesn’t matter because we owe it to ourselves. First, deficits do matter because as a practical matter the taxpayers ultimately must pay the interest on the national debt. In fact roughly one-third of the real deficit quoted above is interest on the national debt, money that would be better spent elsewhere. Secondly, we no longer owe the money only to ourselves. We owe a big chunk to China ($1.24 trillion) and another big chunk to Japan ($1.24 trillion). In total, the United States owes the rest of the world $6.22 trillion – or about one-third of the total national debt. To redeem this debt with the bullion in U.S. Treasury coffers, gold would need to be priced at $23,800 per troy ounce.

Reflection #4 How gold benefits from the yuan’s challenge to the dollar The United States government reacted strongly to China’s introduction of financial institutions to rival the International Monetary Fund and the World Bank. The United Kingdom, Germany and France – Europe’s core nation states – have become (or are in the process of becoming) members of China’s news Asian Infrastructure Investment Bank (AIIB) much to the chagrin of the U.S. government. China set up the AIIB to rival the International Monetary Fund and the World Bank – two institutions at the heart of the dollar’s global hegemony and top reserve currency status. Last week, the United States, in a rare public criticism of the United Kingdom, complained of a “constant accommodation of China, which is not the best way to engage a rising power.” Japan, Australia and New Zealand have also joined the AIIB, so none of those countries is engaging China in “the best way” either. China has designs of making the yuan an international rival to the dollar and with its nearly $4 trillion in currency reserves, it has the financial muscle to make it stick. So what does all this have do with the demand for gold? The World Gold Council’s Juan Carlos Antigas offers this interesting take on the situation: Continue Reading>>>

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