THE GOLD CHRONICLES
with James Rickards and Alex Stanczyk
Cyber financial warfare is a new factor that did not exist in 1980
Fed balance sheet has a foundation of marked to market gold
The Fed has a gold certificate issued to it by Treasury that is valued at the entire US Treasury gold position calculated at $42.20 per ounce
Audio version of the new book read by Jim will be available on Amazon
Expecting gold price to rise in all currencies
Major central banks are acquiring gold, which will be the chips at the poker table when the monetary system is re-negotiated. Japan, UK, Australia will rely on the US position
The non-deflationary price of gold under a new gold standard would be $10,000 per ounce or higher
Expecting near zero interest rates for an extended period of time
Windfall tax on gold would require an act of Congress – no expectation this is likely, if it happened there would be plenty of advance warning and time to reposition a portfolio
Jon: Hello, I’m Jon Ward on behalf of Physical Gold Fund. We’re delighted to welcome you to the latest webinar with Jim Rickards in the series we’re calling The Gold Chronicles. Jim is a New York Times bestselling author and the chief global strategist for West Shore Funds. He’s the former general counsel of Long-Term Capital Management and is a consultant to the US Intelligence Community and the Department of Defense. He’s also an advisory board member of Physical Gold Fund.
Hello, Jim, and welcome.
Jim: Hi, Jon. How are you?
Jon: Just great, thanks. It’s good to have you on board here. We also have with us Alex Stancyzk, Managing Director of Physical Gold Fund.
Alex: Hi, Jon. It’s great to be here for another Physical Gold Fund Gold Chronicles podcast.
Jon: Alex will be looking out for questions that come from you, our listeners. Let me just say that your questions for Jim Rickards today are more than welcome. You may post them at any point during the interview. You’ll see a box on your screen for typing in your question, and as time allows, we’ll do our best to respond to you. By the way, we’re making an effort today to create a little bit more time than previously for your questions, so look forward to that.
Jim, as I said, I’d like to keep our conversation today a bit shorter to allow more time for questions from our listeners. First, let’s briefly check in on the current monetary situation. The March Federal Open Market Committee meeting is taking place today and tomorrow. I’m wondering if you expect any surprises from the FOMC this month.
Jim: There is one thing in play. Clearly, they are not going to raise the interest rate. If they did, I would be shocked and so would everybody else. As you know, Jon, I’m not shy or averse to being out of consensus. I’ve made a number of out-of-consensus forecasts and have never been troubled by that. If my analysis points me in a certain direction, that’s where I go. I don’t do it just to be contrary; I do it because that’s where the analysis takes me. But there are times when I think the consensus has got it right, and this is one of them.
I’m not expecting a rate increase by the Fed, and I don’t know anyone else who is. I saw that something like 97% – 98% of economists surveyed, plus other indicators such as the Fed funds futures market, all agree. The Fed’s not going to raise interest rates in March. The problem is that they go from meeting to meeting, and when they take a certain action, the debate is never over. It’s only moved to the next meeting. Well, what are we going to do then?
Just to give a little background, after seven years of zero interest rates, the Fed did achieve what they called “lift off” last December. They raised interest rates 25 basis points. This is the target Fed funds rate. But they laid down a path and said, “We want to raise interest rates 300 basis points, to 3%, over three years. We want to do it slowly, not to shock the markets and not to be too tight too fast.” Logically, this would be 100 basis points, or 1%, a year for three years to get their total of 3%. The minimum increment, to all intents and purposes, is 25 basis points, or one-quarter of 1%. They could do less, but there wouldn’t be much point in that, so let’s assume 25 basis points.
If you say, “I’m going to do 100 basis points a year, in 25 basis point increments, and I have eight meetings a year,” which they do, it suggests that at every other meeting, you would do 25 basis points. That would achieve the target. The last meeting when they raised rates was December, so skipping January, they were on track to raise rates in March.
Now, it’s data dependent. They always put in disclaimers and caveats, “This is data dependent. We’re going to see how the markets do,” etc. Based on its own criteria – this is not to say I agree, because I say that they blundered by raising rates in December – they should not have raised rates in December. They raised into weakness. The Fed’s job is to ease into weakness and tighten into strength to try to modulate the extremes of the economy. The Fed had no business tightening in December, as far as I was concerned, but my opinion and my vote don’t count. It’s the Fed that counts, and when I do this analysis, I try to think about it from their point of view.
What they were saying is labor markets are tight, job creation is strong. Some early signs of inflation recognized as monetary policy act with a lag. They wanted to stay ahead of inflation. GDP was on track to get to their targets. That was barely the case in December, but you could argue it. A lot of those things have actually gotten stronger since then. In other words, fourth-quarter 2015 growth was fairly positive, but first quarter of 2016, at least according to the best data as measured by PCI core year-over-year, looks like it’s coming in over 2% or maybe 2.2% inflation. It ticked up a little bit and got closer to the Fed’s goal. Job creation has continued to be strong as indicated by a very strong February jobs report.
Using the criteria the Fed says they use (growth, jobs, and inflation), they should raise rates at this meeting tomorrow, but they’re clearly not going to. Then the question is, “What happened? Why did they back off?” We know the answer, which is market volatility. The Fed was spooked by the market drawdown, correction, and then borderline bear market, steep, scary drops in January and early February in the markets around the world, the US stock market in particular. They felt that to raise rates in that environment could cause further market meltdown. There’s a lot of systemic instability, and they don’t want to be the cause of another panic, so they backed away.
That’s an interesting thing. In December they go to great lengths to lay out a path, and signposts along the path say they should be raising rates in March, at least as the Fed sees it. Yet they get spooked by the market. This is like a game of chicken where the Fed is behind the wheel of the car that swerves out of the way at the last minute or you can say the Fed blinked in a staring contest; describe it any way you like. The problem now is, how does the Fed get back on track?
Just to put that 300-basis-point-per-year program in perspective, the Fed doesn’t see a recession although I do. I think the US economy is setting up for a recession. The Fed does not, but that’s not unusual because they never see a recession. The Fed staff, using Fed models, have never forecast a recession. They just never see it coming. But there is some other research Larry Summers pointed to recently in which he said that when a recession does hit, it takes 300 basis points of cuts on average to get the economy out of the recession. That’s how much interest rate policy has to do to get the economy out of a recession.
If a recession is coming, even though the Fed doesn’t see it, they’ve got to raise interest rates 300 basis points in order to cut 300 basis points in order to get out of a recession which is probably on the way. They’re not going to get there, because we’re going to have a recession long before they get to 300 basis points. They’ll be lucky to get to 75 or 100 basis points, maybe a little higher, before the US economy goes into recession.
They’re in this absolutely impossible situation. They need to raise rates so they can cut them when the recession comes, but the act of raising rates makes the recession itself more likely, and we’ll probably have a recession before they ever raise rates enough to cut them enough to get out of the recession. That’s a mouthful, but that’s where we are. The Fed waited too long to raise rates; they should have started years ago. That’s pretty obvious at this point. Not only did they wait too long, they waited so long that they raised them not only too late but probably at the exact wrong time in terms of business cycles. I do think they’re going to try to play catchup.
The other problem they face is the difference between their own intentions and market expectations. This was the key to concluding that they’re not going to raise rates this time, which again at this point is fairly obvious. Looking back to December, which was not that long ago, markets expected the path I just laid out, and they believed that there would be a rate hike in March.
After the turmoil of January and February, markets adjusted expectations and priced in almost zero probability of a rate hike in March. If the Fed wanted to hike rates in March and the market wasn’t expecting it, and they actually went ahead and did so, that would be a shock. When the markets don’t expect it and you do it anyway, that’s the kind of shock that can sink the stock market. It’s the Fed’s job to steer the expectations where they want them to be so they can pursue policy without causing a shock.
They didn’t do that; they did the opposite. Speeches from Bill Dudley in early February and Lael Brainard more recently (a week or so ago) were very dovish. The only quasi-hawk was Stanley Fischer, and even he wasn’t that hawkish. The Fed did nothing to signal the market that they were going to raise rates, and it’s quite certain now that they won’t.
If they want to raise rates in June, which I do expect and will get them back on the track I described, and the markets don’t expect it – right now markets are pricing in about a 50% probability, a little bit less – the Fed’s going to have to get expectations up. The Fed’s will have to tell the markets that they plan to raise rates, so I expect they will do so probably in speeches and leaks to key reporters like Jon Hilsenrath at The Wall Street Journal and some others over the course of April and May.
As the markets reprice for further Fed tightening, and as the dollar strengthens based on that, look for more volatility and more drawdowns in the stock market, because the markets are priced for this Pollyanna world where the Fed never hikes rates again. If the Fed actually does proceed to hike rates, that will not only be the actual rate increase but also the change in expectations that will probably cause US stock markets to go down. There’s more volatility in store, Jon, so just fasten your seatbelt.
Jon: Thanks, Jim. I’d like to turn to a different topic: your latest book, The New Case for Gold, and I’d like to focus briefly on the word new. There are several insights in this book that really are unique to the present-day situation. Would you share with us one in particular that casts a new light on the role of gold today?
Jim: I’d be very glad to do so, Jon. The book is available for preorder right now on Amazon by the title The New Case for Gold. I’m very happy to say that Physical Gold Fund has worked with my publisher to come out with their own special edition. You’ll be hearing more about that in the weeks ahead.
There are two aspects to the word new in the title, one backward looking and one forward looking. The title itself is a play on an earlier book from the early 1980s. From 1933-1975, it was actually illegal for American citizens to own gold. As with drugs or any other contraband, you could be put in jail for the mere ownership of gold.
In 1975, under the President Ford Administration, that law was changed. Suddenly it became legal for Americans to own gold, and a lot of them did so. Although America has the American Gold Eagle coin now, they didn’t have a gold coin at the time, so people bought Krugerrands and Maple Leafs from Canada, and others.
Nixon went off the gold standard in 1971. It was only nine years later in 1980 when Ronald Reagan was running for President. While we were in the thick of a presidential campaign, as we are today, there was a lot of pressure among Reagan supporters and conservative Republicans to go back to the gold standard. Reagan did what a lot of politicians do when there are two sides to a story. He said, “Let’s appoint a commission.” After being sworn in in 1981, he appointed a blue-ribbon commission consisting of a lot of prominent economists and public figures to study a return to the gold standard.
The commission voted in favor of not going back to the gold standard, but like a lot of commissions of this type where the members are divided, there was a minority who felt strongly that we should go back to the gold standard. They were permitted to write a minority report. As a public commission, their report recommending a gold standard was a public document in the public domain. An enterprising publisher took the minority report, put it in book form, and called it The Case for Gold. That’s kind of a legendary cult classic, if you will, among gold aficionados and people who like financial history.
When my book was in the works and I worked with my publisher on the title, they said, “Why don’t we call this The New Case for Gold,” just to hark back to The Case for Gold by echoing that old title a little bit. I think some of the readers familiar with The Case for Gold will appreciate that.
But there’s more to it than nostalgia. There is substance behind the word new. There are 21st century arguments in favor of having gold that simply were not part of the debate in the ‘80s, ‘90s, and even in the early 2000s. A number of them are in the book. The one I think is probably the most important is cyber financial warfare, i.e., the ability to wipe out digital wealth.
I happen to live not far from Greenwich, Connecticut. It’s a pretty wealthy town, and I’ve got some friends who are in the billionaire category and some pretty well-known names in the hedge fund world. They say, “Well, I’m very wealthy. I’ve got that.” I say, “Really? Tell me about it.” They say, “I own stocks. I own bonds. I have these money market funds,” and whatever. I say, “No, you don’t. What you have are electrons. Your wealth is all in digital form. You get online statements. You might get a paper statement in the mail.”
That’s nothing more than a representation of wealth, if you can call it that, which is stored in digital electronic form on the servers and hard drives of brokerage firms, stock exchanges, and the Depository Trust Corporation (DTC), which is the main record-keeper for all the book-entry securities. All of the market wealth in the developed world and certainly the United States is in digital form.
Our friend Vladimir Putin has a 6,000-member cyber-brigade outside of Moscow working day and night to be able to hack, infiltrate, and ultimately destroy Western financial markets. I’m not saying he’ll do that tomorrow, he might never do it, but they have that capability, and that digital wealth can be wiped out in a heartbeat. If you don’t have some tangible wealth, your so-called wealth is extremely vulnerable to hacking, erasure, destruction, disruption. They can shut down exchanges, shut down banks, wipe out records, and make them impossible to restore.
When I say things like this, this is not 22nd century science fiction. This is 21st century reality. These things are happening. There are financial wars being fought now. If you notice, the stock exchanges have been closed, NASDAQ and New York Stock Exchange, at various times for unexplained reasons. They always say it’s some technical computer glitch or reconfiguration problem. Well, every computer problem is some kind of configuration problem.
The other thing that troubles me a lot is not so much intentional warfare, although that is a real threat, but accidental warfare. In other words, if you’re going to try to infiltrate a stock exchange, you have to probe it. You have to launch sleeper viruses and get your viruses implanted. What if something goes wrong in that process? You’re not intending to shut down the stock exchange that day or wipe out some bank records, but you do it anyway by accident.
People who remember the Cold War and nuclear war-fighting scenarios recall that the two most famous movies about nuclear war were Fail Safe and Dr. Strangelove. One was an accident, a computer glitch that gave a B-52 nuclear attack bomber the orders to drop nuclear weapons on Moscow. They couldn’t call it back because the pilots had been trained to ignore any callback orders for fear of Russian infiltration. The other was Dr. Strangelove about a rogue general who ordered an attack. These kinds of accidents are probably more likely.
You have to have some tangible wealth. It doesn’t have to be gold, but gold would be my first candidate. It could be silver, land, fine art or a number of things, but if you’re 100% digital wealth, you’re vulnerable to 100% wipeout. I recommend about 10% of your invisible assets in tangible wealth, hard assets, and I would make gold my number-one candidate in that category.
Gold has been around as a form of money for thousands of years. It has been debated hotly at least since the 1970s when President Nixon suspended the redemption of dollars for gold. The arguments in the ‘70s, ’80s, ’90s, and even early 21st century are the ones I referred to earlier.
The gold commission report, the minority report, and the original Case for Gold never mentioned cyber financial warfare because it didn’t exist. The Internet barely existed, certainly not the way we know it today, and these attack viruses didn’t exist at all.
There are new arguments and new reasons to have gold that were not part of the classic debate. These are the ones I include in my book and why the word new is in the title, The New Case for Gold.
Jon: Before I pass it to Alex, there’s one other particular observation in your book that struck me as really new. It was a revealing comment on the Federal Reserve’s balance sheet. It’s probably a big story and too long to tell in detail, but would you give us a glimpse of what was going on there before we hand over to Alex?
Jim: As a bit of background, I am an advocate for gold ownership for the reasons I just described. I’m not someone who’s been sitting in his basement for 35 years counting gold coins. My experience is in the bond market, derivatives, hedge funds, and government securities markets primarily, but also a lot of derivatives from that. I’m a lawyer in addition to being an economist. That’s all my training and background in this area.
I have occasion to speak to Fed officials, not necessarily about gold, but about monetary policy. I’ve spoken to members of the Board of Governors, regional Reserve Bank presidents, senior staff from the Monetary Research Division of the Fed, and I’ve had a lot of colleagues of mine at Long-Term Capital Management with 16 PhDs who are the leaders of modern financial theory, so I have a pretty strong immersion in that world.
I’ve had occasion to speak to Fed officials about Fed solvency. In my book, I put it as, “Is the Fed broke?” That’s actually the first sentence in Chapter 1. The way I get at that is to look at the Fed balance sheet. This is all publicly available. You can go to the Federal Reserve System website and find the balance sheet, find the consolidated balance sheet, and its broken down by regional Reserve Banks.
The Fed balance sheet today looks like a really bad hedge fund. If you look at the assets, they’re predominantly US Treasury securities at different maturities. If you look at the liabilities, it’s money. That’s what the Fed prints. Whenever I talk about the Fed being insolvent, people say, “Oh, that can’t be a problem. They can just print the money.” People don’t understand that when the Fed prints money, that’s not an asset for them; it’s a liability.
If you pull a dollar bill out of your wallet and read it, right across the top it says, “Federal Reserve note.” Where I went to law school, a note is liability, and indeed it is. What we call money is actually a perpetual non-interest-bearing liability of a sometimes-insolvent central bank. That’s the liability side of the balance sheet.
Their capital right now is down to sliver. It’s about $45 billion. Their total assets are in excess of $4 trillion. The Fed has leveraged about 100:1. I repeat 100:1. A normal broker dealer or bank is leveraged between 8:1 and 15:1, and that’s considered pretty high leverage in the financial institution world. The Fed is leveraged 100:1, which means that on a mark-to-market basis, it only takes a 1% decline in your assets to wipe out your capital.
If you’re leveraged 100:1, your capital is 1% of your assets. Assuming your liabilities are constant, which they would be because it’s money, and you take your assets down 1%, your capital has been wiped out. Just to be clear, this is on a mark-to-market basis meaning take the assets, price them not where they’re held on the balance sheet, but at actual market prices, and see what you get.
This is something hedge funds, mutual funds, and banks to some extent do every day. Mark-to-market accounting is pretty widespread. To be clear, the Fed does not use mark-to-market accounting. You can stare at the Fed balance sheet all day long or look at it every day and you’re always going to see a solvent institution, because they hold their assets at cost, not at market.
My thought experiment, or my exercise and research, was, “What if we did mark-to-market? What if we treated the Federal Reserve like any other financial institution that has mark-to-market? Would they be insolvent?” The answer I came up with is that from time to time, using the bond portfolio only – in other words, marking the bond portfolio to market – they would be insolvent.
Not today, because, again, you have to say, “When did they buy the bonds? What was the original maturity? What was the coupon? What’s the market price today? Do you have a ten year note that you’ve had on your books for three years? — That makes seven years left.” That would be how you would compute the duration of the bonds. There’s a lot of technical bond math in this, but cutting through all that, they have been insolvent from time to time if you just reprice the bond portfolio.
Over dinner I asked one of the Fed Governors in a nice way about it. This individual took offence when I said, “I think you’re insolvent on a mark-to-market basis.” The individual said, “No, we’re not.” Then I pressed a little bit, and the person said, “No one has done that math.” I said, “I’ve done it, and I think others have. That’s the conclusion I’ve reached.” Then the person kind of sheepishly said, “Well, maybe,” and then finally said, “Well, if we are, it doesn’t matter.” The person went from, “No,” to, “Maybe,” to, “Yes, it doesn’t matter,” in a matter of a minute over the course of dinner. Then our topic changed to skiing and wine. I dropped it, because I had made my point.
I had occasion to speak to another Fed official. This person was not on the Board of Governors, but was even more connected, more inside Bernanke and Yellen’s right hand, on a lot of very important policy issues. This individual is a PhD and a lot more rigorous than the Governor I was speaking to. I pressed him as well because, like a dog with a bone, I just didn’t want to let go of it. This guy was a lot more adamant. He said, “We’re not,” period, full stop. “Look at the balance sheet.” He didn’t say, “You don’t know what you’re talking about,” but he was very clearly pushing back on this point. I have a lot of respect for this individual, and I had done the bond math. I knew that if you reprice the bonds – not always, but at certain times when interest rates had gone up – when these bonds were worth a lot less, the Fed was insolvent on a mark-to-market basis applied to the bond portfolio. But this individual was adamant that this was never the case.
I went back and said to myself, “Maybe I’m missing something.” I looked at the balance sheet. Lo and behold, the first thing I saw was the gold account. The Federal Reserve does have a form of paper gold. The Federal Reserve used to have all the gold, and then the Treasury took it and gave the Federal Reserve a gold certificate to replace it. If you think about it, that was probably necessary because the Federal Reserve is private and the Treasury is public. When a public entity takes property from a private entity without compensation, that’s a violation of the Fifth Amendment. You’re not allowed to take property without compensation.
It looks like the Treasury gave the Fed this gold certificate as compensation, but theoretically it must be worth something. It must give the Fed at least a moral claim, if not a legal claim, on the Treasury’s gold. Interestingly, that’s one they carry at a historic cost of $42 an ounce. Of course, we all know gold today is around $1,230 or so. It’s volatile, but way north of $42 an ounce.
If you take the certificate of value on the Fed’s balance sheet, which isn’t very high, divide it by $42 an ounce, and multiply it by $1,200 an ounce to see how much gold is represented by that certificate, what you discover is that the certificate represents about 8,000 tons of gold at today’s market. That’s almost exactly the amount that the Treasury has.
The Treasury had 20,000 tons in 1950. It then lost 11,000 tons to our trading partners in the ’50s and ‘60s during Bretton Woods. By 1970, it was down to about 9,000 tons. That’s when Nixon closed the gold window in 1971. Between 1971 – 1980, the US dumped 1,000 tons in an effort to suppress the price. This is just a continuation of the London gold pool, except now the US had to do it on its own. We twisted the IMF’s arm, and the IMF dumped 700 tons.
Between 1971 – 1980, the IMF and the United States together dumped 1,700 tons of gold on the market to suppress the price of gold. That failed. It can last for a while, but it always fails in the end. The price of gold went from $35 to $800 an ounce over that time period. But one question has always bugged me. Why did the Treasury get to 8,000 tons in 1980 and stop? Why didn’t they sell another thousand tons, and then another thousand, and another thousand? That was always a bit of a mystery to me.
Look at what the US did. In 1999, we got the British to sell their gold. In stages between the ten-year period 1999 – 2009, there was the Central Bank Gold Agreement. We got France, Italy, and others to sell some gold. In 2010, we got the IMF to sell 400 tons of gold. Poor Canadians, they sold the last of their gold just the other day, just a couple of tons. The Swiss sold thousands of tons of gold in the early 2000s.
Look around, add it all up, and you’re talking about upwards of 10,000 tons of gold that was sold by these central banks and multilateral institutions since the ‘90s to suppress the price. Why did the US not sell any?
Suddenly I connected all these dots and a light bulb went on. I said, “If the Treasury dipped below 8,000 tons, they wouldn’t have enough gold to back up the Fed, which has 8,000 tons on its books.” Furthermore, when you take the 8,000 tons, valued at $42 an ounce, and revalue it at $1,200 an ounce, lo and behold, Fed becomes very solvent and is only leveraged about 12:1, which looks like a normal bank.
In other words, the answer to the mystery is that the Fed is not insolvent. The Fed is well capitalized not because of the bonds or the money it prints, but because of the gold. The gold is the Fed’s hidden asset. Gold is what’s propping up the balance sheet of the Federal Reserve. I’m pretty sure this hasn’t even occurred to a lot of the Fed officials.
It’s one of those deep, dark secrets of the United States financial system that’s kind of hiding in plain sight. You can look at the balance sheet and do the math I just described. Look at the Treasury reserve position and see the 8,000 tons. That’s exactly how much the Fed has on their books, and if you add in that gold, then it comes to about $400 billion. With $400 billion on $4 trillion, now you’re leveraged 10:1 and look like a normal bank.
The good news is that the Fed is not insolvent. They have a hidden asset that if you mark-to-market, they would be just fine. The bad news for the Fed – and maybe the good news for investors – is that the secret asset is gold. Gold is still propping up the Federal Reserve.
I use this to illustrate the fact that we’re still on a gold standard; I don’t care what anyone says. It’s a shadow gold standard that’s not acknowledged publicly or spoken about, but I do write about it in the book. There’s a lot more in The New Case for Gold along these lines.
The world is on a secret shadow gold standard. When I say that, it’s not a deep, dark conspiracy. Like I say, it’s there in the numbers. We know what China is buying. Why does the IMF have 3,000 tons? Why does Germany have 3,000 tons? Why does the United States have 8,000 tons? Why is China on the road to acquiring 8,000 tons to match the United States? Why has Russia doubled their gold reserves in the last six years?
Why are all these countries buying gold if it has no role? The answer is it does have a role. If it’s good enough for the Chinese, Russians, the Fed, and the Treasury, it’s good enough for me.
Jon: Thanks, Jim. A note to our listeners, this is an example of the kind of insights you’re going to find in his latest book. It really does validate that term, new, in the title, The New Case for Gold.
Now, over to you, Alex. What questions do you have today from our listeners?
Alex: Thanks a lot, Jon. Jim, the entire time you were talking about the gold on the Fed balance sheet, I couldn’t help but smile. I was thinking back to the episode where Ron Paul was questioning Ben Bernanke about the role of gold, and Ben basically said, “The reason we hold it is just out of tradition.” I thought that entire thing was pretty funny.
Jim: Right. I’ve testified before Congress a few times. If you have an investigatory subcommittee – and I did that once – you’re under oath. You have to raise your right hand and take an oath, but I don’t think Ben Bernanke was under oath during that particular exchange.
Alex: We’ve got a lot of different questions coming in from different parts of the world. Some of these are obviously non-US. I’ll mention a couple of quick items. One is, we’re getting questions about the special edition of the book. That special edition is being produced by Physical Gold Fund in combination with Penguin. It’s going to have an extra chapter, part of which is going to be written by myself. Also, there’s a special part of it that’s written by Jim that doesn’t exist in any other version of the book.
This version will be available sometime after the standard edition is published. If you want more information about it, I recommend going to the PhysicalGoldFund.com website where you can subscribe for more information. If you’ve registered for this webinar, you’re already on our mailing list, but if there’s anybody else that you know of who might be interested, they can go there and enter their information.
A question that’s coming from Amir A. is asking about the book audio version. “How can I purchase the audio version? I drive a lot and would love to listen to it.”
Jim: Thank you for that question. Yes, there will be an audio version. It might not be up on Amazon yet, but it will be by the publication date. The reason I know that is because I actually recorded the audio version. This is my third book. I had Currency Wars in 2011 and The Death of Money in 2014. I’m very happy to say that both books continue to sell very well. They’re timely, because currency wars are not over, and threats to the international monetary system are not over. Those books are still selling well.
I did not read the audio versions of those since my publisher sold them to a producer. I understand the people who did read them were great voice actors, and they have their own fans and their own following. I think they were good audiobooks, but I didn’t hear them.
Like the caller, I drive a lot and listen to audio books a lot. I always like the ones read by the author, because I think there’s no one other than the author who can give it just the right nuance in the right places, because he or she is the person who wrote it. With The New Gold book, I was happy to hear my publisher say they were going to produce the book themselves in-house and not sell the rights to another production company. I immediately raised my hand and said, “I’d love to read it.” They said, “You really don’t want to do that, do you? You’ve got to sit in the studio for days.” I said, “I would love to do it.”
It was an interesting experience of literally two days in the studio with earphones on reading the book. I had a world-class voice director, a great guy, and we got along very well. He was sort of the Stanley Kubrick of voice directors. The standard was perfection, and he was so tough on me with the number of times we had to do things over. He was always friendly, never got acrimonious, but he would say, “You know, Jim, I’m not hearing the D in connected.” I just had to enunciate my consonants a little more clearly. I tried to talk in a relaxed way, but this was holding my feet to the fire!
We got through it, and it’s being edited as we speak. It’ll be an unabridged version with nothing cut out other than my mistakes. So there will be an audio book read by the author available on Amazon. I don’t think they put those out for presale because it’s an instantaneous download, so there’s really no point in doing that. It’ll be up on the Amazon site soon under The New Case for Gold, so check back.
Alex: Excellent. I’m looking forward to that as well. We have a question coming in from HBK, Bangalore. The question is, “What will be the impact of decisions of the central banks of the Western world, such as the Bank of Japan, the ECB, and the Fed, on gold prices in emerging market currencies like India, Russia, and countries that are net importers of gold?”
Jim: The one sure impact is that the gold price is going to go up in those local currencies. Of course, I expect it to go up significantly in all currencies in the fullness of time. On any given day, I think of gold as money, not as a commodity. I don’t even think of it as an investment in the classic sense. I think of it as money, and if you want money, you should have some gold because of the vulnerabilities of other forms of wealth that we talked about earlier.
I said that the Fed is not going to raise interest rates this week, and they’re not, but that ease is already priced in. This was something that was signaled, partly through Fed inaction, as early as late January and certainly increasingly through the month of February. If you originally thought they were going to raise, which everybody did, and then you came to the conclusion that they’re not going to raise, which is the conclusion, that actually represents a form of ease in terms of expectations. If you have expectations for a hike and they don’t hike, that’s a form of it.
This accounts for the stock market rally since February 12th. The rally we saw even through Friday, which was pretty significant from the February 11th lows, was all based on this idea that the Fed was not going to raise rates. The problem is, we already got our pop or our market benefit out of this. Again, the Fed is not going to raise, but the benefit of that is already priced in.
Now the market is saying, “What’s next? What else have you got for us, Fed?” I think what the Fed is going to say is, “What we’ve got for you is a rate hike. We’re going to hike in June.” That’s going to, at the margin, obviously be a form of tightening and make the dollar a little bit stronger.
The ECB also tightened. When I say, “tightened,” I should be clear what I mean. It’s tightening relative to alternatives and relative to expectations. On March 10th, the ECB actually lowered their interest rates. They’re already into negative territory and went further into negative territory. I think they’re now about -40 basis points.
That’s a form of easing except that Draghi, in the same breath, came out and said, “We think that’s as far as we’re prepared to go.” He was signaling that they’re not going to take interest rates lower. If markets have priced in lower rates and Draghi is saying they’re not going to take them lower, that’s a form of tightening relative to expectations. Indeed, the Euro rallied on that news.
The same thing with the Bank of Japan. There was some expectation they would get out the bazooka, and they didn’t. They did nothing.
All three major central banks – US, Japan, and Europe (ECB) – are in a tightening frame relative to alternative courses, relative to expectations. That’s going to make all these developed-economy currencies a little bit stronger relative to emerging-markets’ currencies. It looks like risk off, in terms of the emerging markets. What that means is the price of gold in your currency goes up faster than the price of gold in dollars, euros or yen.
The currencies of Bangladesh, India, and Malaysia have strengthened recently based on all this ease coming out of Japan, US, and Europe. But it looks like, literally, as of the last few days and as of tomorrow, that easing is over. It’s now into tightening mode. That’s into risk-off mode, which is going to weaken the emerging market currencies and make the price of gold go up higher in your currency than it will in dollars.
Alex: This next question coming in from Dale H. I personally find really interesting. He asks, “Why isn’t Japan concerned about obtaining gold to the same degree as China?” I would add to that: Why are, for example, Japan, Canada, and UK different than, say, China and Russia at accumulating gold?
Jim: Economically, they’re not different. The question is, why have they dumped gold? Japan has about 700 tons. It’s significantly low relative to their GDP, but it’s not nothing. The UK has completely inadequate gold. The guys who are completely unprepared who have gold relative to GDP that you can’t find under a microscope are Australia, Canada, and a few others. Even those who still retain significant gold have sold a lot. Switzerland is a good example. They still have over 1,000 tons, but they’ve sold over 1,000 tons in the last several years.
The question is, if Russia and China are acquiring gold and the US is sitting tight keeping the gold it’s got, why are some of these countries selling gold? I think the answer is that they don’t understand what I’ve been describing now and in my book, The New Case for Gold, and elsewhere – namely that we are still on a shadow gold standard.
If confidence in paper money is maintained forever, then you don’t need gold. But the history of fiat money is that confidence is not maintained. There are panics from time to time. The international monetary system has collapsed three times in the past 100 years, and it will collapse again. When it does, probably sooner than later, we’re going to need to take steps to restore confidence.
I’m not saying there will automatically be a gold standard although there could be. But even if gold is used as a reference point, or even if it’s just a matter of the major economic powers sitting down around a table and rewriting what they call “the rules of the game,” in other words, reforming the international monetary system. Think of it as a poker game. When you sit down at a poker game and win a big pile of chips, in the scenario I describe your chips are going to be gold.
The gold powers are going to decide the future of the system, as happened at Bretton Woods. The gold weaklings are going to be sitting not at the table, but against the wall, and not have very much to say. If you’re the UK, Australia, Canada or even Japan to some extent, you’re just going to tag along with the US and accept whatever deal the US cuts, because you don’t have enough gold to stand up for yourself.
Conversely, countries like Russia and China are going to have a very big voice, because they’re going to be in a position to say, “You know what? If we don’t like the deal the US or the IMF is proposing, we’ll just go our own way, start our own currency, use gold to restore confidence, and set the price of gold at what would be maybe 500% higher than what it is now.” That’s where this $10,000 figure comes from.
If you have enough gold, you can “start the game over” on your own. Gold is going to be your chips in the poker game. The gold powers are going to dictate the future of the international monetary system, whether it’s a gold standard or not remains to be seen. It might be an SDR standard (that’s IMF world money, Special Drawing Rights), it might be a hybrid or it might even be a gold-backed SDR, which actually makes a certain amount of sense.
The one thing I can guarantee is that any reference to gold will be at prices of $10,000 per ounce or higher. The reason I say that is any lower price is deflationary. In other words, any gold standard – it doesn’t matter how you design it – is some relationship between gold and paper money. That’s all it is.
You might say, “Okay, what’s the dollar price of gold in the standard? How much paper money do I have? How much gold do I have? How much trade and commerce do I have? What does the price have to be to be non-deflationary?” The problem is that gold right now in the market is approximately $1,200, a little higher than that, but we’re not on a gold standard. Gold can be wherever the market wants to take it, taking into account manipulation and other factors.
If you were going to have a gold standard and you did want to cut the money supply by 80%, which is comparable to what happened to the UK in 1925, you’d have to set the price of gold high enough so that the amount of gold you had could support enough money to run the financial system.
This is one of the canards I talk about in the book. I not only give all the arguments for gold, but I list the arguments against gold and knock them down one by one kind of like sending a bowling ball right down the middle of the alley and knocking down the 10-pin. I hope the readers enjoy that part of it also.
Just to give an example of what I’m talking about, when you’re on TV, in a debate, at a cocktail party or whatever and say something about gold, the gold bashers will come out and say, “You can’t have a gold standard, because there’s not enough gold to support world finance.” That’s nonsense. There’s always enough gold; it’s just a question of price. At $1,200 an ounce, no, that would be extremely deflationary, but at $10,000 an ounce, it works just fine.
When I talk about $10,000 gold, it’s not a made-up number I pull out of a hat to get some attention. It’s actually the result of a calculation using gold-to-money ratios without having to destroy the money supply. There’s always enough gold at the right price. That would be one way to reform the international monetary system, but the gold weaklings, as I call them, are just not going to have a voice in that.
Alex: That’s a very interesting answer. When you say that any price for gold under $10,000 an ounce is deflationary in any kind of a gold-backed system, a lot of people would say that’s a pretty big number.
The other day I was watching a wealth manager for JP Morgan on CNBC. He was almost insulted that gold was even $1,200 an ounce, as if there’s this resistance to the idea that gold should not be higher than a certain amount. I think a lot of people are going to be shocked if it gets out of that range.
Jim: I won’t be shocked, because I’ve talked about it a long time. Actually, if you go to my second book, The Death of Money, I think it’s chapter 9 or 11 – one of the chapters towards the end of the book – where I talk about gold, there’s a quote from Paul Volcker.
Again, I’d like to emphasize the fact that when I talk about these scenarios – cyberwarfare, stock exchanges being closed, the price of gold going up, deflation and inflation – they’ve all happened. They’re all documented.
The quote I found from Paul Volcker was exactly what I just said. He said, “You don’t have to have a gold standard, but if you do, the price of gold would have to be,” I mean, he just kind of rolled his eyes and used some strong language. I won’t repeat his exact words, but he said it would have to go to the moon. It would have to be sky high for that system to work. He’s right, so I quoted him. But again, I did the math myself just to put a finer point on it.
By the way, $10,000 is the low end of the range. It assumes that you want to back up M1 (one measure of money supply) with 40% gold. If you wanted to back M2 with 100% gold, which is another way to do it, the price is $45,000 an ounce.
Alex: To get into some other questions we have here, this one is coming in from Arthur S. He’s talking about the equity markets, and his question is, “If the S&P falls to, say, 1,300-1,400, what do you expect the response is going to be from the Fed? Will it have any kind of an effect long term?”
Jim: At that level, assuming it’s precipitous, which I assume is what the question implies, they would, first of all, obviously not raise rates. One of the questions I ask myself when thinking about the Fed’s rate-hiking path, is what would it take for the Fed not to raise rates? That’s one of the scenarios.
I don’t think we would even have to go that low. If the S&P dropped from around 1,900 or so down to 1,650 in a matter of a few weeks, that would be enough to put the Fed on hold.
Beyond that, what would the Fed do if it continued to fall or if we were clearly in a recession? When I say, “clearly,” I think we’re going into a recession based on the data I see. If it were so clear that even the Fed saw it, they would, first thing, not hike rates. The second thing would be to cut rates.
I said that they wanted to get them up to 300 basis points in order to cut them 300 basis points. They may get to 75 or 100 basis points when the recession hits, in which case they would cut 75 or 100 basis to get back down to zero. We’ve heard this a lot: “They will get to zero before they get to 1%,” meaning they would have to turn around and cut and go back down to zero before they ever got far enough along. I think that’s probably right. At least it’s a pretty good estimate.
Beyond that, first you stop hiking and then you cut. What else could they do? They could use forward guidance and basically say, “Not only are we not raising, not only are we at zero, but we’re going to stay there for a considerable period.” Pick your adjectives. Pick your phrase. “We’re going to be patient.” Remember all these famous buzzwords? Take the period of forward guidance from about 2010 – 2015 when they finally ended it. They said extended period, considerable period, patient, you name it. They could get the thesaurus out and come up with some new phrases, but that would be next.
The toolkit contains currency wars, QE4, and negative interest rates. There are a lot of things they could do, but they’ll certainly be easing heavily if the stock market falls that much.
Alex: We are getting close to the end of our time, and we have a ton of questions left, so we’re going to try to lightning-round a couple of these. One particular question is coming from multiple people including Vince W. and Michael K. I’m going to paraphrase it, because they asked it in a slightly different way.
The question essentially is, “What do you think the likelihood is of some kind of massive windfall profit tax on gold? Is this a likely event? What could anybody do to mitigate such a risk? Should you still buy gold?”
Jim: I’m certainly not going to give tax advice, but I would say that a windfall profits tax would have to be an act of Congress. The President is not shy about using executive orders and emergency powers. When gold was confiscated by FDR (Franklin Delano Roosevelt) in 1933, it was by executive order, not an act of Congress. Later on after the fact, Congress did pass a law that ratified what the President did, but it was an executive order the day he did it.
You may ask, “What was President Roosevelt’s statutory authority for giving an executive order confiscating all the gold in America and making it a felony to own gold?” It was the Trading With the Enemy Act of 1917 that was enacted during World War I so the United States could seize German assets in the United States, which we did. That’s how we got Bayer aspirin. Bayer AG was actually a major German chemical and pharmaceutical company, and we seized their US affiliate in World War I under the Trading with the Enemy Act.
I’m not sure who the enemy was in 1933. It must have been the American people! But FDR never let statutes stand in the way of a good executive order. However, taxation is a step too far. The Constitution is crystal clear that tax bills have to originate not only in the Congress, but in the House of Representatives specifically.
What I would say to investors is I find it unlikely. I’ve written about that, and as an analyst, I think it’s my job to point out all the risks. That’s not one you could rule out. I don’t rule it out, but I think it’s unlikely because it would have to be approved by Congress. Even if it somehow got through the Congress, you’d see it coming. The unlikely prospect of a windfall profit tax is not a reason to not own gold.
It’s amazing. I remember talking to people not that long ago about gold when it was $700. I’d say, “You really want to have a little gold in your portfolio, 10% or whatever.” The person would listen to me and say, “You’re right. I should do that.” Then I’d see them six months later and ask, “Did you get the gold?” They’d reply, “Oh, no.” Then six months after that, “Did you get the gold?” “No.”
Even people who are intrigued by it, people who are persuaded by the argument, people who see the benefit of having gold in their portfolio don’t actually go out and get any. To take it a step further, they look for excuses not to get it. People are lazy. They hate to do anything. There’s a lot of behavioral science to back that up.
I’m not saying the questioner is one of them. I’m simply using this as a platform to make the point. You run into people who say, “Yes, gold will go up a lot, but the government is just going to have a windfall profits tax. I’m not going to get the profit, so I’m not going to buy any gold.” That is not a reason to not buy gold.
Again, the profits tax is unlikely, and even if it did happen, you would see it coming. In theory, there will be plenty of time to swap out of gold and get into land, fine art or some other hard asset. I think the more likely outcome is that even if somebody thought that was a good idea, it wouldn’t go anywhere. But it is certainly not a reason to not own gold.
Alex: For those of you who have been on this webinar and like this format where we’re allowing more time for people to ask questions, we’ve been considering doing a full hour entirely of Q&A or something along those lines. If you would be interested in that, please give us feedback. Email us or message us on Twitter so we know what everybody would like to do in regards to that.
We have time for just one more quick question coming from Michael M. He wrote quite a bit, so I’m going to summarize it down into a short question. “How possible is a scenario where there is no major crash and we all may avoid pain and misery?”
Jim: First of all, it is possible. I’ve never ruled it out. The question you have to ask yourself is, “It’s not going to be mystical, so what set of public policies would it take to help the economy grow and get it out from under our debt burden not through inflation or default, but through legitimate growth with price stability where the dollar value of gold would not change very much because we had a monetary anchor and a stable international financial system and price stability?” That’s the happy outcome. “What would it take?”
The problem with the economy – and this has been true since 2008 or maybe going all the way back to 2001 – is structural. We have structural problems. Everything the Fed has done is monetary, but you cannot solve a structural problem with monetary solutions. That’s why we still have lousy growth, why we have 50 million Americans on food stamps, why, despite job creation, we can’t get wages up, why we can’t get aggregate demand up, etc.
What are structural solutions, and what would they be? I would suggest how about zero capital gains tax? How about a reduction in the income tax? What about less regulation, more liberal labor laws? In Europe, you would look for labor mobility. In Japan, you would look for more inclusion of women, more liberal immigration. Let the Filipinos, who now go to the Middle East, go to Japan to take up a lot of jobs and help that economy overcome a demographic hurdle.
There is a long list of very positive things you could do to generate real growth. Then the next question is, “What’s the likelihood of any of them?” The answer is pretty close to zero. I don’t see the political will, the political leadership or the consensus to do any of these things. What I see is delay, denial, overreliance on central-bank voodoo, and an unwillingness to confront the problems, which leads me to conclude that the system will collapse.
Alex: With that final rosy remark, I guess we’re done! Jim, I really appreciate it and always enjoy these conversations with you. With that, I’m going to turn it back over to Jon.
Jon: Thank you, Alex, and thank you, Jim Rickards. It’s always a pleasure and an education having you with us. Most of all, thank you to our listeners for spending time with us today. Let me encourage you to follow Jim on Twitter. His handle is @jamesgrickards. Goodbye for now. We look forward to joining you again soon.
Physical Gold Fund presents The Gold Chronicles with Jim Rickards and Alex Stanczyk offering insights and analysis about economics, geopolitics, global finance, and gold.
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