Author Archives: Keith Weiner

 

Putting the Hurt on Labor

Interest rates have been falling for over three decades. Conventional economics has two things to say about this. One, inflation expectations are falling. Monetarists believe that the interest rate is set based on bond traders’ predictions of future price increases. Two, if employment and GDP are weak, then the central bank should increase the money supply. By increasing the money supply, it will cause rising prices, and somehow that causes workers to get hired. Federal Reserve Chair Janet Yellen wrote a paper defending this absurd claim (which I criticized).

 

danger

 

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The Concept of Money

I wrote what I thought was a fairly simple article for Forbes on Tuesday. I noticed that some people really got it, and they were very excited. However, others were skeptical or asking questions that went into the weeds. The former tells me that I said something important, but the latter says that I said it in a way that not everyone could relate to.

I started with the observation that many people argue (vehemently) that money should be defined as the medium of exchange. In the US, the dollar is used to purchase everything. Therefore the dollar circulates as the medium of exchange. Therefore the dollar is money. Q.E.D. The catch is that the dollar only circulates because the government forces it to circulate, and forces gold not to. This means that the very concept of money is under the control of the government.

Ayn Rand noted that force is not essentially about a physical push, or a bullet hitting flesh. She said, “Force and mind are opposites…” She added, “To force a man to drop his own mind and to accept your will as a substitute, with a gun in place of a syllogism, with terror in place of proof, and death as the final argument—is to attempt to exist in defiance of reality.”

 

aynrandAyn Rand: no friend of government coercion

Photo credit: Henry Talbot

 

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Approaches to Gold Price Forecasting

It’s the start of a new year. The question on everyone’s mind is whither the prices of gold and silver? This Brief presents our answer (and the full Monetary Metals Outlook 2015 report gives our reasoning).

 

chart-1-gold

One approach to the question of price is to draw a line, extrapolating the past trend into the future. Here is the graph for gold – by Monetary Metals – click to enlarge.

 

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The Swiss Franc Will Collapse

 

I have worked to keep this piece readable, and as brief as possible. My grave diagnosis demands the evidence and reasoning to support it. One cannot explain the collapse of this currency with the conventional view. “They will print money to infinity,” may be popular but it’s not accurate. The coming destruction has nothing to do with the quantity of money. It is a story of what happens when interest rates fall into a black hole.

 

swiss tattered flag

 

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Decades of Falling Rates

The old joke is, “(with a Russian accent) In America, you correct newspaper, but in Soviet Union, newspaper corrects you.” Switzerland is now experiencing the bond market equivalent. In America, the government pays you to borrow but in Switzerland you pay the government. All Swiss bonds have a negative yield out to 9 years. Negative means you pay them to lend them your money. The 10-year Swiss government bond has effectively zero yield. For comparison, the 10-year US Treasury is 1.8%.

Here is a graph of the Swiss yield curve.

 

chart-1-Swiss Yield CurveSwiss yield curve – bond yields to maturity are now negative out to 9 years – click to enlarge.

 

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From Shortage to Ample Supplies

We don’t normally analyze the crude oil market. However, there has been a huge price move (which may not be complete yet). With the endless rumors of deals that explain the move, we thought we would look at the spreads. The data shows a startling picture.

You should approach supply and demand in this market similarly to gold and silver. The difference is that there is very little inventory buffered in the system. Notwithstanding what you read about China “buying up” the oil to take advantage of “cheap” prices, oil requires specialized storage facilities. There is a significant cost to store it, and finite capacity too.

Below is a 3D graph of the futures curve taken at various times, from before the crash through January 9. Each line represents the curve at a given moment. Red lines are where there is backwardation. Yellow is a flat curve. And green indicates contango.

Unlike our regular Supply and Demand Report for gold and silver, this shows just the price of various futures contracts and does not compare to the spot price. So here, backwardation is when a farther-out contract is cheaper than a nearer one. Contango is when the nearer one is cheaper. As with the monetary metals, backwardation is a sign of shortage, and contango is a sign of adequate or abundant supply.

 

chart-1-crude futures curveYou can see backwardation from May through September, with a gradual lessening of the slope. What really stands out is that, abruptly, the backwardation disappeared – click to enlarge.

 

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CPI and the “Wealth Effect”

In Poker, to go all in means to bet everything you have. I do not think it is an exaggeration to say that, at least so far as the mainstream audience is concerned, we gold advocates have gone all in. We have made one argument: we should adopt the gold standard, because inflation. By inflation, it is generally meant rising consumer prices (this is not my definition), again at least so far as the mainstream audience goes.

It’s true. Prices have been rising relentlessly since the Federal Reserve Act of 1913. We certainly have made the argument that inflation happens in paper money, but not in gold. I think most people believe that, despite the obfuscations of the diehard apologists for the Fed.

I think people care about inflation—but not that much. People who work for wages mostly get mad at their boss for not giving them a big enough raise. People who are retired on a pension mostly get mad at the politicians for the same reason. They complain that the cost of living adjustment is not enough.

What about the rich? This graph explains why the rich are not at all unhappy.

 

chart-1-stocks-vs-CPIThe SPX vs. CPI, via Monetary Metals, click to enlarge.

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The Problem of Contingent Data

Have you ever been in an argument about whether we should raise taxes and then someone tosses out a real whopper? “The top tax rate for decades after World War II was over 90% and look how the economy boomed!”

Or perhaps you read a Paul Krugman column where he said that, “there’s a big problem with the claim that monetary policy has been too loose: where’s the inflation [he means rising prices]?”

Both the Internet troll and Professor Krugman are making the same mistake. Let me explain.

Economists love to use the Latin phrase ceteris paribus. It means all else being equal. It’s great in a thought experiment. For example, what would happen if we made a change in America today? Suppose we criminalized all use of fossil fuels. We can’t really do that (I hope!) but it can serve a pedagogic purpose.

It should be pretty obvious that the consequence of shutting off the motors is to shut off production, and people will soon starve. If this isn’t obvious, then you don’t need my blog entry on economic argumentation. You need The Moral Case for Fossil Fuels by Alex Epstein.

Every economist is aware that in comparing a historical time to the present, or comparing two different countries all else is not equal. There is not one difference between the immediate postwar period and today. There are innumerable differences. You can’t just assume that the one difference you’re debating is the only one that matters.

 

supply and demand

Cartoon via Washington Post

 

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Only Number Two?

A story has been echoing around the financial news for a few weeks. One article about it, It’s official: America is now No. 2 by Brett Arends at MarketWatch, came to my attention. Arends asserts that the Chinese economy is now larger than the economy in the US. Here’s what he said.

 

“We’re no longer No. 1. Today, we’re No. 2. Yes, it’s official. The Chinese economy just overtook the United States economy to become the largest in the world.”

 

With GDP data from the IMF, we can easily see that the US economy is bigger than China’s. The IMF estimates 2014 GDP at $10.4T for China and $17.4T for the USA. So how does Arends claim the contrary? He uses different data that IMF adjusts. By this methodology, the Chinese economy is “really” $17.6T.

 

china-gross-national-productChina’s GDP in hundreds of million yuan

 

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Begging the Question on Minimum Wages

The battle over minimum wages is raging. Emotions are running hot. Some cities are setting the bar very high. For example, Seattle is mandating a $15/hour wage.

Economically, the issue is very simple. Minimum wage laws do not raise anyone’s wage. This is because it’s not sustainable to overpay.

Suppose you run a small tailor shop. Customers are willing to pay $20 to repair a pair of slacks. Why are they willing to pay that, and no more? It’s not just their budget, but also the relative value of fixing their old trousers compared to buying new ones. A higher wage for your employees will have no effect on customer willingness to pay.

You have rent, utilities, insurance, wear and tear on your sewing machines, etc. that add up to $10. Therefore your maximum gross profit is $10. You cannot pay someone $11, much less $15, to do this work. If the law attempts to force you to overpay, then you have to lay off workers or even close your doors. Going out of business is no fun, but it beats losing more money.

This is black and white. Minimum wage law can destroy jobs and businesses but it cannot raise wages. However, many people become very emotional on this issue. So let’s look at the issue from a different angle.

There is an endless outpouring of sympathy and support for the unskilled laborer. How is this poor downtrodden helpless victim supposed to feed a family, cover medical expenses, and save for retirement earning only $7.25 per hour?

I don’t know.

My lack of an answer to this question is no justification for minimum wage laws. This is not even the right question. It is an example of the logical fallacy known as begging the question—when you presume what you should be asking. We should ask if one man’s need creates a duty for anyone else. Then the answer is a lot clearer.

The last time I checked, we had not adopted the Communist Manifesto as our new constitution. There is no law saying that each is to be given according to his need.

 

manifesto1Not quite adopted just yet: the communist manifesto by Marx and Engels.

(Amazingly, they actually charged 40 cents for this)

 

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A Republic – If You Can Keep It

As the famous story goes, when Ben Franklin left Independence Hall after the Constitutional Convention in 1787, Mrs. Powel of Philadelphia had a question she wanted answered.

“Well Doctor, what have we got, a republic or a monarchy?”

Franklin replied, “A republic, if you can keep it.”

No one today (well, seemingly other than the current president) wants a monarchy. However, too many call our once-Republic a “democracy”. They love the idea of the will of the people, directly determined by vote and imposed by force of law.

The primary argument against this form of government is that it’s tyranny. A majority has no right to take away the rights of any individual, no matter how unpopular he may be. However, that is precisely the consequence of giving the people the power to vote for anything, with no constitutional limits to the power of government.

 

800px-Benjamin_Franklin_1767

Benjamin Franklin: founding father, prolific inventor, and frequent purveyor of political wisdom.

(Painting by David Martin, 1767)

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A Key Flaw

There is now a very interesting initiative on the Swiss ballot, which will require the Swiss National Bank (SNB) to hold 20 percent of its reserves in gold. The voters will decide on November 30. I won’t predict the vote, but I want to discuss the likely impact of a yes vote.

Much of the analysis of this initiative is about the price of gold. A typical prediction is that it will go up, as SNB buying will exceed supply. However Mike Shedlock notes that, “Nearly all of the gold ever mined is available…”

That’s because gold is not consumed. The SNB is small compared to worldwide gold inventories, so it won’t move the price much. Shedlock adds, “It is entirely possible that SNB purchases could significantly alter perceptions…” I agree sentiment is ripe for a change.

The price isn’t very interesting, unless you’re a gold trader. It’s much more important that the referendum brings the first positive monetary change in decades. It reintroduces a link between gold and banking, and imposes a barrier to currency debasement. For this, the Swiss are heroes.

There is a key flaw in our system of floating currencies. Every financial asset is someone’s liability. When a currency moves, it creates winners and losers. Big moves can harm banks with loan portfolios outside their home.

That’s why the SNB currently doesn’t allow the euro to fall below 1.2 francs. To maintain this currency peg, the central bank sells francs and buys euros. There is no limit to this deliberate franc devaluation, which robs Swiss savers, investors, and businesses.

Big exporters, like Swatch and Nestle, may have lobbied for a weaker franc, hoping to make their products more competitive, but that’s a sideshow. The real purpose of franc devaluation is to shield the Swiss banks from euro devaluation.

They’re vulnerable, because they do a lot of lending outside the country. They have assets denominated in euros and liabilities denominated in francs. They suffer losses when the euro falls, or the franc rises.

 

EUR-CHF

EUR-CHF exchange rate – pegged at a 1.20 minimum floor by the SNB since September 2011 – via StockCharts, click to enlarge.

 

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Drivers of Financial Implosion

I proposed seven drivers of financial implosion in my dissertation. My recent writing has focused on two of them. One is the falling rate of interest on the 10-year government bond. As interest falls, the burden of debt rises. Since the falling rate incentivized more and more people to borrow, the number of indebted people, businesses, corporations, and of course governments is large. When the rate gets to zero, the burden of debt becomes theoretically infinite.

In the US, the downward trend is still in a deceptively mild phase (though there was a vicious spike down on Oct 15 to 1.87%). The rate on the 10-year Treasury is 2.3% today. In Germany, it is down to 0.82% and in Japan the metastatic cancer is much closer to causing multiple organ failures, with a yield of just 0.46%.

Two is gold backwardation, which has also been quiescent of late. Although it is worth noting that with these lower gold prices, temporary backwardation has returned. The December gold cobasis is over +0.2%).

I haven’t written much about a third indicator yet. What proportion of government bond issuance does the central bank have to buy? I theorized that when the central bank is buying all of the bonds issued by the government, that this is another sign of imminent collapse. I phrased it, as with the other indicators, as a value that is falling. Collapse happens when it hits zero, if not earlier. Here is what I wrote:

 

“The average amount of new Treasury bond issuance minus new central bank Treasury bonds falling towards zero (i.e. the central bank is buying a greater and greater proportion of Treasury bonds issued).”

 

Bloomberg recently published an article about the Bank of Japan’s announcement of a new bond-buying program. Bloomberg presents two facts. One, the Bank plans to buy ¥8 to ¥12 trillion per month. Two, the government is selling ¥10 trillion per month in new bonds. This is an astonishing development.

The Bank of Japan will buy 100 percent of the new government bond issuance.

 

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Monetary Metals Supply and Demand Report: 2 Nov, 2014

Woe unto the gold speculators, and a curse laid upon the house of silver.

At least, that’s how it may feel. In more clinical terms, the gold price fell from $1,230.90 to $1,172.59, or $58.31. The drop this week was 4.7%. The price closed the week below the level set after the crash of 2013, which was $1180 (by the way, an intraday dip). The gold price has never closed a day below $1188 since 2010.

The silver price fell from $17.17 to $16.13. $1.04 is 6.1%. It’s never been lower in years, except briefly in 2010.

On April 9, we said:

“The neutral price of silver is in the $16’s today. If the price overshoots as far to the downside as it is now stretched to the upside, we could see silver with a 12 handle.”

We got hate mail.

In the first place, one would hope that people don’t shoot at messengers. We are of the firm belief that gold and silver are money, and the paper issued by the Fed is not. At the same time, we argue that this view is not a trading strategy. For trading, we look to market data.

Second, we were right. While other analysts called every blip with renewed forecasts of $50 and $250, the silver price has spoken. It had a false breakout in June, and has been falling steadily since then. It has traded with a 15 handle this week. Incredibly, the fundamental price we calculate for silver is still below the market price.

To see the fundamentals, read on …

 

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Fans of Central Banking Have an Achilles Heel

Most of my writing about the gold standard is about how it works, and how the paper dollar standard doesn’t. A casual conversation I had with someone recently underscored that there is an even stronger argument.

Our opponents, those who support central banking and irredeemable paper money, have to make two cases. One is to defend the theory and practice of central banking, that central bankers are wise and honest and that their debt-based paper money works. They have to argue that the dollar does everything you want money to do, such as hold its value, enable proper accounting, encourage savings, support a stable economy, etc. Well, they can go through the motions and fool the ignorant.

The other is that they have to defend the use of force against innocent people.

 

five year plan in four

Full speed ahead for the fourth and final year of the five year plan! (this poster was made when Stalin decided the 5 year plan had to be fulfilled in four years)

 

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THE GOLD CARTEL: Government Intervention on Gold, the Mega Bubble in Paper and What This Means for Your Future

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