- Uncertainty Banished!? Central Bankers are the high priests of continual growth
- Central Banks now buying everything – crowding out those who need income
- No war, no crises, yet $2 trillion expansion of deficit in 2 short years…
The McAlvany Weekly Commentary
with David McAlvany and Kevin Orrick
IMF: The Days Of Being Paid Interest May Be Over Forever
July 10, 2019
“If you say to yourself, ‘Yeah, yeah, yeah – rah, rah, rah – I don’t like the gold bug thematic there,’ savings, even if you don’t like gold, must be preserved from the scourge of academic entitlement, because that is what you find in this paper, and that is what will be employed in the next financial crisis. And savings must be preserved against public policy poison. You’ve been forewarned.”
– David McAlvany
Kevin:We were meeting last night, Dave, and talking about a monologue that your wife is going to do from Macbeth. She enjoys Shakespeare. I guess they were working on some of the histories, the Henry plays, last night. I know that the two of you are very deliberate with what your kids are using for education, and I just love your eldest, he reminds me a lot of you, actually, at that age. He is just a voracious reader, and in the hot summer days, did you choose Fahrenheit 451for him, or did he choose that?
David:No, in fact, my wife is the guide to literature. It’s interesting, I haven’t read much literature in probably 20 years. Nonfiction is where I end up spending more time so she has to dominate that list and she does a great job of it. So on hot summer days we have our oldest son reading Ray Bradbury’s Fahrenheit 451. When I think of the book, I ponder about some of the things that are in current events today, a Georgetown University professor who is promoting the idea that the Betsy Ross flag is on par with a Swastika or a burning cross.
Kevin:I’m so offended. I’m so offended.
David:Charlottesville, Thomas Jefferson’s hometown, is dropping his birthday as a holiday. San Francisco, according to the AP newswire, according to the AP newswire, is painting over a big mural of George Washington because it is viewed as racist and degrading. And it feels to me like we’re hurling through space and time to the year 2026. That’s the year when Bradbury was imagining in his novel which he wrote in the 1950s, 1952-1954, somewhere in between there. He wrote Fahrenheit 451as this future tense time when books were being burned and this is the dystopian novel where technology influences culture. Specifically, books become irrelevant as television captures the mind of the public.
Kevin:What he really was addressing was censorship.
David:Yes. 451 Fahrenheit is the temperature at which a page burns, and then they celebrate the burning by burning the ashes all over again. It is interesting that that is almost what our history is moving toward, being censored, and it is not a surprise, I think, that the news media, academia, and politicians are all kind of a part of it. And I think maybe literal book burning is something that we see within the decade.
Kevin:Ray Bradbury and other authors at that time were very forward thinking. You look at what George Orwell was seeing as he looked forward. Even the guys who were looking forward and creating the first computers back in the 1940s, von Neumann and those guys. They were looking forward and seeing that this could end very badly.
Let’s go to the 1960s. In the 1960s we started doing things that we really as a nation had never done. We started deficit spending like never before, guns and butter policies. We started looking at the gold standard. It used to be a promise to people worldwide to use the dollar as the reserve currency. That promise started getting weaker and weaker and weaker. It’s like censorship creeping in, except in this case it’s delusion of money.
David:From a social standpoint it was a period of political contentiousness. There were “radical movements” being birthed everywhere. We had the tumult in the 1960s, the implications of the guns and butter policies for the financial markets. We had gold, a bear market in equities which began in 1968 and it lasted to 1982. Again, the similarity between then and now is that we have a lot of political turbulence today, and the last time we had the amount of political turbulence and vituperative nastiness was the 1960s, and it was reflected on college campuses, it was in the streets, it was all over the world. I’m thinking particularly of the summer of 1968 and if it got to 451 (laughs). But it was awfully hot in the summer of 1968 if you were in Paris.
Kevin:There was a gentleman’s agreement that could not be broken that came from the Bretton Woods system. The gentlemen’s agreement was, yes, the dollar is backed by gold, but please, do not ask for any. De Gaulle ran for cover. By 1968 he was thinking, “You know what? No, that’s not true. I’m being told that you’re going to go off the gold standard, so give me some.”
David:Yes, he pulled out of the London gold pool and within a few years you had Nixon closing the gold window.
David:And then by October 1976 – Bill King recalls 1976 of October, I don’t recall much from that year, I think I was two years old – the U.S. changed the definition of the dollar and removed references to gold from the federal statutes. Well, we have the political anger in the air today. We have the talk of modern monetary theory. We have a fiscal policy largesse – that’s essentially what it is. We are setting the stage right now for a great repression.
Kevin:Let’s identify what you’re talking about. Carmen Reinhart, when she was on our show, said the only way this thing can continue to work is if we create a captive audience.
David:That’s right, so you corral investors like so many head of cattle and the investor’s savings are the captive assets. And those assets are needed to grease the gears of the global economy and ensure continuity. I don’t know of what – is it of political office for the elites, is it of empire? What is it that we care about so much in terms of continuity? But certainly this is something that the powers that be like to pencil out.
Kevin:Do you think this is going to be a slow creep, or do you think they are just looking for the next crisis? What I’m seeing with Deutsche Bank – these guys in suits with boxes, walking out with all the contents of their desks, 18,000 people. This reminds me of Lehman. Look at the change that we had after the last global financial crisis. We could say, well it just caught everybody off guard, or we could say, no, this is a crisis they were waiting for so that the central banks could take control.
David:Did you say this caught everyone “Lagarde?” Or off guard? (laughs)
Kevin:(laughs) We’ll get to that.
David:Yes. Deutsche Bank seems to be the investment theme of the week, cardboard boxes, because there were a lot of them waiting for employees as they showed up Monday morning. They said, “We’re exiting the global equities business, commissions have been compressed, computer algorithms are replacing traders, we have 18,000 jobs to be cut.
Kevin:Remember when Lila was on and she was talking about this type of thing?
David:Yes, and this week, in fact, she commented on Lehman similarities as folks were walking out, commenting that this is the beginning of a larger trend in the financial sector. Again, a little bit like a roach problem, you know the first one when you see it, but it’s definitely not the last one. There is a lot of activity out of sight and in dark places. There is so much rot internally in the financial markets. What is this? It is a direct result of the malinvestment made possible by a level of central bank activism that hasn’t been seen before in history, at least, not to this degree. So you have the revelations of bad assets and big write-offs and massive layoffs, and what does this mean for Deutsche Bank?
Kevin:Dave, there are people who are listening right now that we were talking to back in 2006-2007 when Bear Stearns – and those of you who are listening, I know you are out there, remember the conversations we had about Bear Stearns when Bear Stearns came out and it looked like there was a problem, and they said, “Oh, nothing to see here.” So they pulled the investments, about 400 million bucks, they pulled this toxic debt back off of the market. But the problem was, it had been seen. It was like exposing – opening the kimono.
David:What we have now in the headlines, 18,000 layoffs, that was the headline Monday, along with the pictures of people in expensive suits walking out with those boxes and bags. But what was buried, I think, is even more important, and that is, Deutsche Bank is going to bundle 74 billion euros’ worth of assets. If you do the currency conversion to dollars, 83 billion dollars, they are going to bundle those assets into a separate bad bank. That is 40% more than they disclosed a few weeks ago.
Kevin:So pay no attention to what is behind the curtain, just bundle it up, put it behind the curtain, and it never existed.
David:Exactly. So on top of that they will take a 3 billion dollar charge for the 2ndquarter, and they will eliminate the dividend for 2019 and 2020, and two words come to mind. You said Lehman Brothers, I say daisy chain. (laughs)
Kevin:Daisy and chain, yes. Okay, but 400 million dollars was not a lot of money, even back in 2007, but it exposed billions of dollars behind the curtain. Now, 400 million is a lot less than what we are talking now. You said 74 billion in euro assets, 83 in dollar denomination.
David:A couple dollars more than the 400 million at the Bear Stearns hedge fund circa 2007. So go back to June 2007. You have J.P. Morgan, you have Goldman-Sachs, you have Bank of America, scrambling to find a home for CDOs from the Bear Stearns portfolio, and everybody knows what it means for these assets to be marked to market, and they want to find a home as quickly as they can. Merrill is working on selling 850 million dollars of collateral that it seized from the Bear Stearns group, and lo and behold, liquidity was gone except for the highest quality paper in the mix. So one day you have it, that is, liquidity – and the next day you don’t.
Kevin:But there are people who still get on TV and say everything is fine. Do you remember Lehman? The same thing. That week was an amazing week because they said, “No, don’t worry about it. We got it.”
David:But it was not a lie. It wasn’t like they were covering something up. The Lehman CEO assured the market that the firm had adequate capital and liquidity.
Kevin:This is in 2008, right?
David:Yes. So you have the Bear Stearns problems in 2007, emerging with those hedge funds, and by 2008 Lehman is in real trouble, and the CEO is assuring the markets that the firm has capital – has liquidity. By the end of the week, the firm is gone. “We have the money, we’ll be fine,” and then poof! They’re gone.
People forget in a market melt-up just how tenuous liquidity actually is. And then when prices reverse you have bids which soften dramatically as a sign of inadequate liquidity. It doesn’t matter what the asset class is, this is classic liquidity dynamics. If you see a bid dropping precipitously, it is because there is no one who wants to put money into that market – liquidity has dried up.
Kevin:How is that going to work in a world of algorithms and passive investing?
David:That’s why this particular chapter, I think, is going to be more dramatic. You have the popularization of algorithms, you have the quantitative strategies, you have the ETF popularity, with many of these liquid vehicles holding illiquid assets, which we’ve talked about in recent weeks.
Kevin:But these algorithms don’t know how to determine – you’re talking about forensic accounting. That’s one of the things that Lila does. Lila Murphy looks at things and digs deep and says, “Wait a second. This is a good bank, this is a bad bank. This is a good investment, this is a bad investment.” A lot of that has to do with just years of dealing with that. If you are an algorithm, just a cold machine that is running an algorithm, you’re not going to know the difference. So explain the bad bank concept a little bit.
David:On the algorithm side first, it is something that is driven by headlines. So if a headline pops up, the algorithm reads that. It is not reading into 20 years of history with an executive committee. It’s not reading into the history of trading, or dividend delivery over a 5, 10, 15, 35-year period. None of that matters. The headline determines the next trade. And that is why momentum and volatility become more extreme with algorithmic trading.
Kevin:Exactly. It’s like talking to Siri. Sometimes she gives you the right answer. Sometimes she has absolutely no idea what you are talking about.
David:Literally, I’m in the kitchen, and I’m frustrated this weekend about something the boys and they’re arguing. I say to myself out loud, “What am I going to do with the boys?” And Siri responds on my phone, “Who should I call? Which Bruce?”
David:And it really made me angry because I’m thinking, “First of all, this is not about Bruce. And second, I didn’t ask Siri about anything.
Kevin:Who invited you to this party?
David:Who invited you into this conversation?
The bad bank concept is fascinating because you take a bunch of assets that are impaired and can’t easily be liquidated, and you shove them into a shell that keeps them from coming to market and creating price discovery for those or comparable assets in other portfolios.
Kevin:Right. They just disappear.
David:Think in terms of comparatives in real estate. How do you get a value for the house that you are trying to sell? What did the last three houses sell for on that street? And you get the comparables. That’s what you do with price discovery if you don’t have actively traded assets. Price discovery on illiquid assets is what triggers the daisy chain of events in the financial system when one set of assets gets priced below expectations.
Then all of a sudden counter-parties start looking side to side. They relook at the collateral they have. They get worried about the implications, and again, in a world of leveraged assets, a little price move means a big shift in capital adequacy. So banks that were fine can moments later be not so fine, or not even solvent. Counterparties get twitchy when assets aren’t priced to perfection.
Kevin:Do you think this is why gold has been moving? We haven’t seen much in the way of silver moving or platinum moving – the safe havens.
David:Exactly. I think that is a reason why gold and a few of the safe havens like treasuries and bunds are moving. The collapse in sovereign yields is a part of it.
Kevin:Somebody knows something.
David:Yes. People are moving to liquid assets, and they are prizing liquidity over almost anything, even yield. They will take a negative return if they can have the positive affirmation that when you need it you can sell it, there’s enough demand for it.
Kevin:So the central banks have given us relatively good weather and kept us away from financial storms, and 2007 was the beginning of a storm, but it actually was just the time when the gray clouds were gathering. You could hear the thunder in the distance. 2008 was when it hit.
David:We are going back into the financial storm. I know you have economic figures here in the U.S. which are somewhat positive. That is not the issue. The structures within the financial markets are what leave assets and asset prices vulnerable.
Kevin:But there is liquidity. They tell us there is liquidity.
David:It is implied liquidity. And there is a lot of implied liquidity out there without a lot of actually liquidity. The bad bank provides this dumping ground for assets that would test the liquidity idea, the liquidity provisions within the market. I think if Deutsche Bank wasn’t shoveling this 74 billion euros’ worth of garbage into a bad bank, you would be repricing hundreds of billions, or even trillions, in other illiquid assets that are spread around within the global financial system. Again – two words, daisy and chain.
Kevin:One of the things I remember about the 2007 going into the 2008 crisis was how many articles came out saying that things are just going to be fine, over and over and over, just like the Lehman thing on Monday. Lehman on Monday – things were fine. By Thursday, or was it Friday, they were gone.
Kevin:Yeah, it doesn’t matter. I mean, cardboard boxes.
David:Yes, so New York Timesarticle June 21, 2007 said, “Still, analysts note that credit remains easy by historical standards, and the market seems to be weathering the current storm well.” That’s June 21st.
Kevin:But you could hear the thunder in the background, Dave. The thunder rolls.
David:And minimizing it to create a sense of calm within the marketplace. Please don’t panic. To say the least, this is an understatement, a mild underestimation of the depth and breadth of impact from structured and leveraged financial products. And I think it is worth recalling the name of the Bear Stearns fund. Again, small fund, but think about it. The Bear Stearns High-Grade (which was anything but high-grade) Structured Credit Strategies Enhanced Leveraged Fund. (laughs).
Kevin:Say that again. Bear Stearns.
David:Bear Stearns High-Grade Structured Credit Strategies Enhanced Leveraged Fund.
Kevin:Otherwise, everything’s good inside.
David:(laughs) Yes, turn that into an acronym, and it starts with BS. We could just leave it there, but we go on for HGSCSELF. I don’t know if you have ever studied German, but that is exactly what this is like, just piecing words together to make it into something meaningful, almost like practicing German. Structured finance – who would have guessed?
Kevin:You have to think that you live in the upside-down – there is a Netflix show on that I have been watching with my wife called Stranger Things. It’s a big deal right now. It’s about a right-side-up world and an upside-down world, and how the upside-down world interacts with the right-side-up world. There are monsters in the upside-down world. We, in a weird way, have been living in the upside-down world for quite a while because every time good news comes out about the economy the stock market goes down. When bad news comes out, the stock market goes up. Why? Because Powell is going to feed the market.
Kevin:And before it was Powell it was Yellen, and before it was Yellen it was Bernanke, and before it was Bernanke it was Greenspan. But people have grown to love bad news because they love the Fed more.
David:That’s right. Good is bad. Strong June employment report last Friday – these are your non-farm payroll numbers – good news for the economy, bad news for the financial markets.
Kevin:They went down.
David:They’re not going to get as much credit as cheaply as they had hoped for. So 224,000 non-farm payroll – that’s what was reported, 120,000 was expected. And the malady in the markets is a dependence on cheap credit.
Kevin:It’s an addiction.
David:That’s the malady in the market. If the justification for loosening monetary policy by lowering rates is at all diminished, like having the strong non-farm payroll number, then asset prices suffer. And the opposite is also on display. Give the Fed a reason to lower, bad news, and they have determined that they will just step right in and take care of it, and the markets feel like on that basis you are free to speculate on the upside on the basis of bad news because the Fed is waiting in the wings to accommodate and take care of it.
Kevin:It reminds me of a MASH unit, the military units that are out on the field. They have some pretty strong measures that they can use to keep these soldiers alive and maybe do whatever you would do in an emergency room out in the field. The problem is, you don’t administer that type of medical treatment on a continual basis any time in medicine.
David:Right, so that’s maybe where the role of the central bank community has migrated, and it is not very different from an ER doctor, and you can respect the work that they do. You can appreciate that in an emergency they are harnessing a vast education for the benefit of others if you just give them the benefit of the doubt. Well-intentioned, well-educated. You can also see…
Kevin:And lots of morphine.
David:Yes, well, there is a conversation on triage which differs from a conversation on wellness and health outside the ER or Intensive Care Unit. So to a degree, and I know this is kind of a social issue, but to a degree our opioid epidemic stems from a medical community that has liberally prescribed what was supposed to be a very temporary aid. And certainly, if you look at the central bank community it is not very different. And I know the opioid issue is more complex than that, but there is a significant contributing factor that drugs are being normalized, they are being rationalized, to the point of addiction.
Kevin:Dave, when I had my eye surgery I never thought I’d be this guy, but when I had my eye surgery and I was on some pretty heavy pain killers for a while. I remember negotiating with the doctor for more. And he shook his head and said, “No, I think Tylenol will do from this point forward.”
David:Exactly, so as a patient it is difficult to remain objective about continuing with a prescription because systems adapt, and sometimes to accommodate things that are not healthy. So with positive economic news we have a president that continues to go to the Fed and try to influence stocks higher. And what do we have again, positive non-farm payroll numbers on Friday, stocks are selling off. Trump gets out and starts saying, and this is a quote, “If we had a Fed that would lower rates, we would be like a rocket ship, but we’re paying a lot of interest and it’s unnecessary. We don’t have a Fed that knows what they are doing.”
Kevin:And rates are already low and the Fed is already easy. Trump is being true, however, to what a politician does. They need the easy money. They can’t drink the actual cure because there is an election coming.
David:Yes, and I don’t know that the Fed is opposed to lowering rates, or a negative rate regime, they are just not in sync with Trump’s political expectations and re-election needs. So actually, I do think they know what they are doing. I don’t necessarily agree with how they conduct policy. But he’s not as clueless as Trump makes him out to be.
Kevin:If they start doing it now, though, we have 16 months until the election.
David:That’s the date …
Kevin:The markets are already high. The stock market is already hitting highs.
David:That’s the danger for Trump. If he is trying to game the stock market at these levels and get the Federal Reserve to intervene at record levels in equities, you then have to sustain those levels for 16 months. That is pretty near impossible. Easier said than done. And I think when you look at the ADP report it sheds an interesting nuance on the jobs picture. Last week the ADP showed a decline in small business sector jobs of 23,000 for the month of June. So positive non-farm payroll numbers, but the ADP is showing an important indicator.
We had the economist David Rosenberg point out that small business sector leads the cycle, and employment here has plunged 61,000 in the past two months, says Mr. Rosenberg. Haven’t seen this in over nine years. Same decline we saw in February and March of 2008 when the consensus was calling for a soft landing. Again, March 2008, you don’t have to go back very far. You were going into the gauntlet. March 2008 to March 2009 was the worst of it and that is when you began to see this disconnect in the ADP where small businesses are pretty sensitive. They’re the first ones to react. They don’t have as much cushion, capital cushion or anything else, and they will be the first to cut when necessary.
Kevin:But we’ve had a false start. Look at 2016. Is this going to be just 2016 again where it looks bad and then all of a sudden we recover?
David:Not a repeat of 2016, at least in David Rosenberg’s opinion. But you know, we said Friday Trump was on the warpath. Well, he was even more so on Saturday. It was almost like he got irritated over the weekend. Our most difficult problem, he said, is not our competitors, it is the Federal Reserve.
Kevin:The new enemy.
David:And then also from last week he said, “China and Europe are playing a big currency manipulation game. They’re pumping money into the system in order to compete with the U.S. We should match, or continue being the dummies who sit back and politely watch as other countries continue to play their games.”
Think about that. We should match. It’s not that currency manipulation and devaluation are problematic. According to Trump, it’s that we’re watching it and not joining in the fray. It’s amazing, and it makes me ask the question, “What currency do you want to denominate your savings in?” Because we’re talking about a casual conversation – well, it’s not casual for him, he’s actually quite angry about the fact that we’re giving them an advantage. If we want to neutralize the advantage, what we have to do is compete on the downside in terms of currency values. “And I have no problem with that,” Trump would say, “as long as we’re doing what they’re doing. Just don’t let them do it. It’s manipulation and it’s bad if they’re doing it alone, but it’s fine if we’re all doing it.”
Kevin:It’s almost like looking at a frat party where they’re all doing competitive devaluation and Trump says, “Here, hold my beer. I’m getting in there.”
Kevin:(laughs) That’s one of the last things you want to hear a president say, “Here, hold my beer. I’m going to devalue the currency.”
David:(laughs) You’ve got some issues.
David:Well, worthy of note is when Trump nominated Shelton to be considered for a seat at the Federal Reserve. Gold meandered. Really, it spiked, $31 higher. So when you start looking at the implications of who is doing what at the Federal Reserve, granted, she has been a fan of the gold standard in the past, and she is also an outspoken proponent of zero and negative rates, and I think that certainly got gold’s attention and the market’s attention, the implications that has for the U.S. dollar.
Kevin:And don’t we see slowdown in other regions of the world. You were talking about good economic numbers in America, but over in Europe and China we are starting to see the signs of an impending recession.
David:Right. And so the accommodation that the eurozone is getting through the ECB – lower rates, cheaper credit – it is in response to a deteriorating economic picture in Europe. You have PMIs, Purchasing Managers’ Indexes which are a measure of manufacturing and service activity, in 70 different countries looking shaky. You have the May German factory orders down 2.2% month-over-month, down 8.6% year-over-year. That is the biggest decline since September of 2009.
Recall that just shortly thereafter, we fast forward a few years, you had the Chinese goosing the global economic system with trillions and trillions of liquidity, and a lot of that flowed through to the benefit of German manufacturing. Big benefits flowed to the German manufacturing firms because the Chinese were essentially retooling their factories with high-end German products. And I don’t think Europe gets that benefit this go-round. So as the global economy slows, we can expect to see a little bit more pain out of Europe and a little bit more pain out of Germany, in particular.
Kevin:Now wait. You say Europe doesn’t get that benefit this time around, but they do get a benefit, as far as loose money. I saw a picture the other day of Lagarde, the soon to be President of the European Central Bank. It was her as Mary Poppins. She is going to be able to magically give them anything that they need.
Kevin:That’s very, very appropriate.
David:“What do you have in that bag?” “Everything, and more.” Whatever you need, we’ll buy it and stuff it in the bag. Christine Lagarde nominated – I think she still has to be confirmed, but there is no one else competing with her. She will be the President of the European Central Bank.
Kevin:Now, she’s highly experienced in banking and finance, isn’t she?
David:Well, not exactly. She does have some financial experience as the French Finance Minister. She currently is the head of the IMF, the International Monetary Fund, but no banking experience. She is not an economist. She is an established politician and I think she is very well-regarded.
Kevin:Which means she will be very careful with money. Politicians, especially, are careful with money.
David:Well, I think she is very positive on negative rates, and I think that is one of the things where it doesn’t matter if she was an economist or had banking experience because it has become the rule that you have to think in those terms. You have to think that zero rates and the zero bound is the place where rates should be.
Kevin:Which, by the way, is the retired person paying for the low rates. In other words, we don’t get to earn interest anymore.
David:It’s a re-allocation of capital from the saver to the spender. She has very positive views of negative rates, sub-zero rates in Europe and Japan, she says, are net positives for the global economy. And this last Tuesday she said, “Look, there may be side effects. It is unorthodox central bank policies, but you just closely monitor those.” As occasionally happens, I ran into a paper from the IMF late last night and I couldn’t put it down.
Kevin:So the IMF wrote the paper. Dave, what is the title of the paper if someone wants to look it up?
David:Enabling Deep Negative Rates to Fight Recessions: A Guide. That’s an IMF working paper, WP/19/84 – Enabling Deep Negative Rates to Fight Recessions: A Guide. I was tired…
Kevin:That’s so you, though, Dave. You ran into a paper from the IMF at 11:30 at night, you couldn’t put it down. A lot of the listeners would say, “Who is this guy?”
David:It was a little late. I had fresh energy, but I think it was anxiety-driven. As I was reading it, I was on the edge of the couch. And I want you to read the paper, if you’re listening to this, at least the abstract. We’re going to put a link on the site to it. Read the abstract. That’s like the executive summary, there on the first page. The gist is that positive interest rates are arbitrarily limited by the zero bound. In other words, these academics would say, “We’ve always thought that rates could be 10,000 on the high side, or down to zero on the low side, but we’ve just set zero as an arbitrary number. Monetary policy of the future recognizes that the range of rates can go far lower than you ever imagined. Zero is an arbitrary number. You can go as low as you want.”
Kevin:This is what the paper was talking about.
David:As we just discovered in the past decade. So the advocacy in the paper, the IMF – did I mention that? – where Lagarde is coming from, you just basically create negative rates, have it administered through commercial banks, and you have basically a paper money/electronic money exchange rate, paper, of course, being discounted as you phase out and move toward a cashless type economy.
Kevin:This reminds me of what Carmen Reinhart was talking about. I mentioned it earlier. She also co-authored a book back in 2009 called This Time Is Different.
David:I don’t know that Reinhart’s views are consistent with Rogoff’s. This is for longtime listeners, you will recall our conversations on this going back to 2015 and 2016 when Ken Rogoff was making a popular argument for use of financial repression, that is, the use of negative rates, to help repair and mend.
Kevin:And he was saying you had to go cashless.
David:Yes, and we’ve seen this through a Chinese banking crisis. It’s not like this is without historical precedent, but it really is a choosing of winners and losers, as Reinhart commented on. But to do this, to operate in an environment of negative rates, you need to move to a cashless, or as Rogoff would modify, a less cash society, get rid of all big notes.
Kevin:And this is not a new idea either. This goes back a ways. This was suggested many years ago before we had the technology.
David:Yes, 1916. So over a hundred years ago you had Silvio Gesell, and there are a dozen academics today who have picked up the torch in the last few years, but I think I’ve talked about this as cash having a sell-by date. What we should have said is cash having a Gesell-by date. (laughs) because he came up with the notion of negative rates, at least theoretically.
Kevin:Explain what you just said. Cash having a sell-by date is basically cash that would devalue over time.
David:Yes, so let’s say you put a dollar in the bank and you don’t use it this year. Next year you can have 99 cents. If it sits there another year the following year you get 98 cents.
Kevin:Have you ever bought a gift certificate to some place that has very fine print that says if you don’t use it within a year it’s worthless. That’s horrible. You don’t get a discount when you buy the gift certificate, yet it still expires at zero after a year, or five, or whatever.
David:I’ve had that happen. A $25 gift card that I just put in my top drawer and figured I would use it at some point. And after the first year it starts reducing by $3, and all of a sudden you think, wait a minute, what is the interest that they are getting on that?
Kevin:You’re saying it is a similar type of thinking with cash.
David:That’s right. And in my mind, these are all – within the paper it looks at all the different approaches that you can take. Some are more of a battering ram style and some are very, very subtle, but they are all forms of taxation, theft, redistribution, or whatever you want to call it. But one way that it is discussed in the paper is where cash is treated as a rented asset where you pay for the privilege of use. You get to use the dollar and when you give it back, you get 98 cents back instead of the dollar, and it was like renting the dollar for usage.
Kevin:But it is closing the monetary system. What you are basically saying is, you are closing the system around the person.
David:Yes. One of the pictures that they give is, would you expect to go to a car dealership and drive away with a car, and then return it and not have some lesser value given to you in return because you just used it after all. So the returned used car should be worth less than the new car. I was blowing my mind last night thinking, “Wait a minute. Seigniorage is so different than a manufactured tangible asset like a vehicle (laughs).”
Kevin:This is a paradigm shift, though, Dave. This is like before we went off the gold standard in 1971, people were talking about it possibly happening, and a lot of people said, “Oh, no way. That would never happen with the U.S. dollar.”
David:The next financial crisis we have negative rates as the way we proceed, and it is already happening in Europe, it will happen through the Federal Reserve, and there are lots of ways of framing this. I think particularly important in this paper was the observation on the political implications of closing the monetary system. So there was a deep realism within this paper which I thought was important. The pragmatic shift was toward orchestrating monetary change and doing it through the commercial banks.
You do it through the commercial banks and thus you diminish the direct political blowback while allowing for the private sector to cushion any angst by using their customer service outlets. So if you have a problem with what changed, just call our customer service. And all of a sudden it’s not monetary policy, it’s Bank of America, it’s Wells Fargo, it’s J.P. Morgan/Chase. They have teams of people, maybe ironically, in India who are answering your questions about what just changed in the monetary system.
Kevin:Have we any motivation at all to have money in the bank anymore anyway? They’re not paying us interest. I look at my Vaulted account, Dave, where I can just buy and sell gold. Look at the last month. I have savings in Vaulted that I’m not using as an investment, I’m using it as a savings alternative to the bank because I’m not earning any interest. Fortunately, gold is up $100 so my Vaulted account has paid me many years of what would have been interest just by sitting there.
Now, I have a bill to pay, and I’m going to pull out of the Vaulted account, shift it to my bank account, write the check, pay the bill, but it was in gold until the day that I paid the bill.
David:Right, so you don’t have to be subject to the vagaries of the currency market. These are public policy moves that have a direct impact on the value of money. We talked about the change in the definition of money going back to October of 1976. This is, again, saying, “We can arbitrarily change the value of money. This unit of account is not going to be what you expect it to be, and we can determine that on an arbitrary basis to our benefit and your detriment, without notice.” Without notice. This is a new form of taxation without representation, and it is absolutely galling.
I think anyone that reads this paper, even the first page – pleaseread the first page of the paper. I think if you don’t read the first page, or the paper in its entirety, and go straight to Vaulted.comand open an account, I don’t think you understand what is at stake here. The financial system is under pressure. Internals to the financial system are incredibly unhealthy. Malinvestment through a decade of central bank largesse has created the perfect environment for financial market collapse. There are economic implications to that which we don’t see today, but we can clearly tie out the frailties within the financial system.
Kevin:So this is the response to the next crisis.
David:This is the solution. It has already been prepackaged. This is like having 9/11 occur and within hours having a tome that we know as the Patriot Act come off the shelf. It is dusted and ready to go. The solution to the next crisis has already been designed, and your savings will be the means by which the system is held together. So if you are feeling like subtle manipulation and coercion are things that you love, that you live for – just stick around (laughs). But if theft in a subtly twisted form of taxation – again, it’s not sanctioned by the Treasury.
Kevin:Yes, but they’re going to do it for the good of the people, Dave. This is how you solve a crisis. The central banks – listen how they will talk about Bernanke. Even to this day they will say, “He saved us from a depression.”
David:Go to the people maintaining stability in the financial system. I think if you have some concerns about that you may wish to consider an alternative to your current banking arrangement. That is precisely what Vaulted is. Gold in any form makes sense. I think the next few years for the gold investor are going to be fantastic.
But savings – even if you don’t like gold, if you say to yourself, “Yeah, yeah, yeah – rah, rah, rah – I don’t like the gold bug thematic there,” savings, even if you don’t like gold, must be preserved from the scourge of academic entitlement because that’s what you find in this paper, and that is what will be employed in the next financial crisis. And savings must be preserved against public policy poison.
You’ve been forewarned.