Friday, 30 September 2011

Is The Euro System the Next Monetary Order ?

The world gets a new monetary system every 30 or 40 years, and it is past due for a change. We had the classical gold standard from 1873 until World War I(43 years), the gold exchange standard between the two world wars(21 years), the Bretton Woods 1 system from 1944 until 1971(27 years), and since 1971, the entire world has been on the Bretton Woods 2 system or the dollar standard.(40 years and counting)

Now let's look back at Bretton Woods 1 again. Earlier I pointed out that the US trade deficit used to be settled by the US running down its monetary reserves—gold. But that was back when gold was a monetary asset and not just another commodity thrown on a futures market. After 1971 they demonetized gold which forced the US into the second option which is running up debt. If you are running a trade deficit you can either run down your reserves or run up your debt.

Before 1971, the trade deficit was settled by exporting gold (via the gold window) to those running a trade surplus with the US. The problem with this system was that gold was fixed at a dollar price. So the US reserves were quickly run down by maybe 65% in 20 years. This was a problem because it was clearly unsustainable.

After 1971 the trade deficit was settled by exporting US Treasury debt bonds. And as we can see, this system is also clearly unsustainable. It cannot be reversed without collapsing the system. The way the US sells Treasuries to China means the US has a "capital account surplus." And China has a "capital account deficit." You see, when the US ships currency to China in exchange for real stuff, that's a deficit for the US. But when China ships currency to the US in exchange for Treasury bonds, that's a deficit for China. I know, it's confusing, but this is how the modern monetary wizards make things balance today. They call it the balance of payments!

Two Historic, World-Class Bubbles are About to Pop

Bubble #1: Government Debt (with a nominal value in the tens of TRILLIONS)

Bubble #2: Perceived Wealth, denominated in purely symbolic, un backed, unsustainable-Ponzi-debt-based currency (with a nominal value in the HUNDREDS of trillions)

Darryl Robert Schoon writes:
For 50 years, not one Dollar of new debt created by the US government to fund the activities it does not wish to tax for has been repaid. The debt has simply been “re-financed” with new debt being sold to retire the existing debt.
(Stocks, bonds, currencies, precious metals - Our Analysis Begins Where Your Information Ends)

At some point, the end finally arrives. Ponzi-financing cannot service debt forever. Investing in unhedged paper assets is the bet that it can. Gold is the bet that it cannot. [5]
Amazingly the mathematical upper limit of Ponzi-finance coincides perfectly with the mathematical limit of the 28-year rise in past-issued bond valuations.

It is the 28-year expansion of the US$-denominated debt asset bubble that is about to pop. When interest rates are falling (like they have been for the past 28 years), the value of past-issued debt assets rise. Anyone who has been playing the bond market since 1981 has made a killing.

Here is the chart of interest rates since 1981:




Flip it over and you will see the rise in the value of bonds.



When interest rates hit ZERO, they only have one way to go. And that means that the value of past issued debt, the very kind of TRASH that China is sitting on a land-fill mountain of, only has one way to go... DOWN

The only way for a purely symbolic store of value to survive the sudden, self-reinforcing and complete coup de grĂ¢ce (death blow) from its nemesis, gold, is for the central banker to get ahead of spontaneously exploding interest rates without completely demolishing the economy on which it feeds like a mutant parasite.

In 1980 this was possible, but only barely, through a drastic interest rate increase to 20%, and only because the economy and the national debt load was much different at the time. If the same thing was tried today the economy and the government would come to a standstill, followed by a complete and utter collapse. For this reason it is not only unlikely, it is impossible. In 1980, the US was a net creditor nation with a balance-of-payments surplus. The financial industry was small and stable. And the US was not subservient to foreign creditors. Today the national debt is over $14 Trillion, the US Treasury Secretary must kowtow to the Chinese, and the financial industry is a brittle behemoth built on derivative quicksand.

Because of these fundamental differences in 1980, Paul Volcker was able to successfully defend the dollar against the same existential threat which WILL take it down this time. That threat is capital flow into the dollar's lifelong nemesis, gold.

To make a long story short, the Euro architects anticipated this. They identified the major flaw in the Bretton Woods 2 dollar system, the use of debt as a store of value. They designed the Euro to use gold as a store of value rather then debt. That is why gold is on the first line of the ECB balance sheet. That is why I was saying earlier that the idea of Euro bonds is just.......fuct. They might do it to buy some time but its just not meant to be.

Bonds was/is the store of value for the last/current monetary system and bonds went up for 30 years and counting. Bonds have since gone even higher in price. Gold is the store of value in the next monetary system and it will  go up for an equal and longer amount of time. We cannot include the last 10 year rise in price of gold because we are still in the Bretton Woods 2 system. Bonds have actually out-performed gold this year so far for that reason.(only after the latest gold dump)



GLD is the gold exchange traded fund, TLT is the treasury ETF. This chart is just for observation purposes. This has been the trend since gold started rising 10 years ago, which is also exactly when the Euro was introduced. That is no coincidence.



I am not interested in points that refute Euro freegold. What I am interested in, is a quick concise explanation on how SDR's will be the foundation of the next monetary order, as Jim Rickards talks about or about how a "tri-metal "standard will be the foundation of the next monetary order,  as Mike Malony contends, or how a "classical gold standard" will be the next monetary order as Peter Schiff and many other gold bugs contend.

To answer the question, Euro freegold is the next inevitable free-market driven monetary order unless somebody can prove otherwise....

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18 comments:

  1. Hey M

    Get yer own blog now didya? :P

    “After 1971 they demonetized gold.. “ Demonized you mean? :P

    “Gold is the store of value in the next monetary system and it will go up for an equal and longer amount of time.”

    This is not a fair comparison. Gold won't go up like bonds did. It will start with a huge spike. Then it will only go up as the wealth of the world is increased, which, granted, will happen due to the new system being much better for unleashing human innovation and wealth creation. This will hover go up much more slowly than bonds, and I don't foresee it failing in a mere 40 years.

    “We cannot include the last 10 year rise in price of gold because we are still in the Bretton Woods 2 system.”

    We can include some of the rise, as the functional use of gold has changed to a degree over the last ten years. Some( very small part) of it's store of value function has been realized.

    Peace

    TF

    ReplyDelete
  2. Hello MF, nice to hear from you.

    I was actually in some arguments on a few internet forums about the subject. I wrote this post and it seemed to resonate well with people on the forum so I decided to put it on record on Blogspot. It is rife with plagiarism but oh well, Im just trying to get a point across.

    "This is not a fair comparison. Gold won't go up like bonds did."

    Fair point...I was basically making the comparison so readers can start to visualize the idea that gold is replacing bonds.

    "We can include some of the rise, as the functional use of gold has changed to a degree over the last ten years. Some( very small part) of it's store of value function has been realized."

    I don't necessarily agree on this point. Gold has been lagging the expansion of world monetary aggregates for 10 years by a long shot. As Ben Davies notes, foreign exchange reserves have gone from 500 billion to 11 trillion in 9 years. If gold was judged only by its rise in price compared to the expansion of monetary aggregates then the last 10 years would actually be considered a bear market.

    I also don't think $260 was a legit unmolested market bottom. Gordon Brown's not-for-profit sales drove the price to these levels and that is only based on what we know. Canada was also dumping gold. I find it hard to believe that the IMF wasn't dumping gold then too. $400 is a more realistic bottom which would knock a few years off this 10 year price rise.

    Good day

    M

    ReplyDelete
    Replies
    1. ( M ) or Free Gold Observer, please clarify:

      Did you copy and paste this from Fofoa’s December 9, 2009 Gold: The Ultimate Un-Bubble [link here].

      Or, did you write this article back them?

      Looking forward for your explanation.

      Delete
    2. This is far from a carbon copy of "the ultimate un bubble" but there is a few paragraphs from FOFOA on here.

      I don't make excuses for plagiarism btw..Read the first paragraph of the above comment.

      Delete
  3. Hi M

    Comparisons such as gold versus money supply are a bit dicey.

    Simply answer, has any gold been bought as a store of wealth and has this affected the price of gold at all?

    I'm sure we can agree this is the case. Perhaps you would have been happier if I had said very very very small part. :P

    Sorry to nit pick, when I'm not the intended audience.

    Overall a nice piece.

    Peace

    TF

    ReplyDelete
  4. Great article! Looking forward to more! A question: I'm just reading this economic history book "A splendid exchange" and at some points it seems to argue positively for protectionism, my question is: if the world were to now enter another age of trade tariffs and protectionism do you think that would impact/delay/bring closer the coming of a freegold age?

    ReplyDelete
  5. Hi JOL

    Protectionism only favors certain people and certain industries. In the big picture, protectionism lowers standards of living and slows down productive gains.

    Your second question is a good one. I think it depends on how long and drawn out the collapse of Bretton Woods 2 is. If it happens fast then there wouldn't be enough time for governments to act on new tariffs and trade barriers. If it happens slowly, which it seems to be considering the market action of the last 2 to 3 years, then governments will mess up the process and possibly delay the collapse of the old system and the birth of a new system.

    Freegold would have taken hold already if there was no bailouts in 2008. Without the bailouts, tax revenue would have collapsed in the US and there would be minimal tax revenue to service the debt that backs the dollar. Sure, there was a run to the US dollar/debt in 2008 but the run out would have been just as fast as the run in if there was no bailouts.

    Cheers

    M

    ReplyDelete
  6. @ MF

    "Comparisons such as gold versus money supply are a bit dicey."

    I agree, when it comes to M1 or M2 or anything the quantitative crowd harps on about but when world monetary aggregates in general are exploding all over the world, the gains in gold over the same period has actually been quite disappointing. Even to this day.

    "Simply answer, has any gold been bought as a store of wealth and has this affected the price of gold at all?"

    Yes, I agree on that. The reason I wouldn't include the rise in price over the last 10 years though is because in this system, it is traded as a commodity.

    ReplyDelete
  7. So does anyone have a blueprint on using Gold as a basis for the world monetary system.
    The IMF has come up with a very detailed one for SDRs, who speaks for Gold?

    I've seen viewpoints offering that Government should just step out of the way and let private money systems compete, but what are the alternatives?

    There seems to be many forms of "Gold Standard".
    One additional factor is today's use of digital money and debit cards. Frankly I don't see any chance short of 'TEOTAWKI' that we return to passing coins back and forth. So what are our options?

    ReplyDelete
  8. Hello Anonymous

    "So does anyone have a blueprint on using Gold as a basis for the world monetary system ?"

    Yes. The Euro is built to use gold as the premier long term store of value while using digital currency as the premier medium of exchange for transactions. Gold is the first asset on the ECB balance sheet and it is market to the market price every 3 months. There is also a 0% tax on gold sales within the Euro zone.

    "I've seen viewpoints offering that Government should just step out of the way and let private money systems compete, but what are the alternatives?"

    If a currency is only being used as a medium of exchange and not a store of value then there will be no incentive for a government or central bank to print the currency because there is no purchasing power saved in it.

    "There seems to be many forms of "Gold Standard".
    One additional factor is today's use of digital money and debit cards. Frankly I don't see any chance short of 'TEOTAWKI' that we return to passing coins back and forth. So what are our options?"

    We will never return to passing coins around because we don't have to. There doesn't need to be equity behind a transactional currency for it to perform its function. Nobody of any net worth saves their money in Jamaican dollars yet the Jamaican dollar still works fine as a transactional currency.

    ReplyDelete
  9. Glad to see you blogging! Always enjoy your comments on zero hedge.

    I know this is a bit off topic, but I was wondering what your thoughts would be on how many gold ounces it's going to take to survive the transition period between the current dollar system to the next freegold system? I know this is relative, and every person is different, but what would a minimum amount be for a regular worker drone.

    Also, I have more silver than gold, would you recommend selling silver to gain more gold?

    Thanks!

    - Jason

    ReplyDelete
  10. Hello Jason

    I would think the average worker could accumulate gold monthly or semi monthly within their budget. Even if it is only a half oz a month. Also, the average person, if they don't have savings tied up in registered accounts, should convert 90% of it into physical gold. If you have $10,000, buy 10k worth of gold. If you have a $100,000, buy 100k worth of gold. Sounds kinda extrem at first but what else do you do with a 100k these days ? Gold, even if you don't fully understand the situation, has the least downside risk.

    I would sell silver to buy gold. Time it at your own will though. Who knows...Maybe silver will go on a another run and outpace gold, making for a better sell point but maybe not. I would ease out of silver and into gold.

    ReplyDelete
  11. I have both silver and gold. The gold is kept as a store of value for the majority of my net worth that isn't paper. The silver is purely for living expenses if things really get bad. It's tough to change a gold coin and silver is less likly to invite a home invasion.

    #1 reason I prefer gold over silver: Central banks are stacking gold, not silver (unless you believe the rumors). When they have enough gold stacked, we are going to get a new monetary system based on gold. It's possible there will be a role for silver, but gold will definitely have a role. Once that new system is in place, the price of gold will skyrocket. No doubt, silver will go up too, but the full power of central banks will be behind gold.

    Smiddywesson

    (first visit, love the site)

    ReplyDelete
  12. Your post seems to have ignored what is going on with the Euro system in the last year. Without complete legal union, monetary union can't work because there will always be one or two players who will game the system (e.g., the Greeks and Spaniard). So yes, in theory the Euro System as applied for the US would work but not the Euro system for Europe.

    ReplyDelete
  13. @ Anon

    What is wrong with the Euro system in the last year is what is right with it. Ideally the Euro stalemate will lead to default and liquidation.Rather then printing which is what really destroys currencies.

    They also have separate bond markets.

    ReplyDelete
  14. M

    Good article. Similar outlook as FOFOA. Regards silver, stock to flow not as good as with gold, so not as valuable as a monetary meatal, but silver has different values. IMHO, silver has been more forcefully held down than gold by the CB/BBs because it is a: smaller and easier market to control, and b: it is linked in people's minds as a monetary metal similar to gold. Once gold is let loose, there will be no need to control silver prices, either. Since peak silver is close, and demands are rising, it may be that gold will indeed preserve your wealth, but silver might make you rich.

    ReplyDelete
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