Sunday, December 20, 2009

The People's Wisdom: A New Gold Standard

In a most insightful commentary published in the Financial Times of last Wednesday, Martin Taylor, himself a former banker, quipped:

"All business people know that you can carry on for a while if you make no profits, but that if you run out of cash you are toast. Bankers, as providers of cash to others, understand this well. They just do not believe it applies to their own business."

The reason bankers have trouble judging their own cash flow, he writes, is that "[i]n general, banks have no measures of cash flow that work for banking." He describes (with a great sense of humor) how bankers got us into this Great Recession by paying out "colossal accounting profits" in cash that were "largely imaginary.... Not only has the industry--and by extension societies that depend on it--been spending money that is no longer there, it has been giving away money that it only imagined it had in the first place. Worse, it seems to want to do it all again." (He's referring to the banking bonuses, which are at a new high.)

He ends the piece perfectly:

"How depressing the shame and folly of it all is, when one considers that the system was brought down not because risk management was deficient (though it was), nor because greed was rampant (though it was), but because bankers could not count. Merry Christmas."

This really states it all in one newspaper column.

adding machine
[Thanks to for the image.]

It also causes one to think: Do we really want the world's money supply punch bowl to depend upon government-employed academicians and government-fed bankers, through a government/bank monetary power hierarchy?

For that is what we have today. With the too-big-to-fail policy, we now have fewer and bigger banks than we did before the crisis, and a government that is too worried about its own survival to care what happens to us, the Forgotten Men and Women. The Fed has been pumping billions of dollars into the banks and into certain markets, like the mortgage market. By doing so, the Fed is trying to juggle the general price level, the mortgage rates, and unemployment--to wit, the whole economy.

Taylor's astute observation about bankers' inability to judge their own cash flow is key here. The observation also seems to apply just as well to Federal Reserve bankers. As long as the Fed offers the opportunity to turn short-term credit into cash, bankers apparently will take advantage of it. This is Taylor's point. No one knows how full the punch bowl really is, nor do they care.

The Fed believes that it can judge the proper amount of created cash through observation of the CPI. But bankers' pay, no matter how outrageous, will never raise the general price level. So the upside potential for this game is limitless.

As long as the Fed's generosity only extends to the small community on Wall Street, they can continue to inflate the bonus bubble at will, along with the speculative and unfair redistributive profits their actions engender. No matter what they do to the dollar, to our savings, or to our purchasing power, they can say they were "just doing their job."

How can we protect ourselves?

In another very good Financial Times article entitled "On the flip side," written by Javier Blas, these lines jumped off the page at me:

"For the first time in decades, investors are allocating a fraction of their portfolios to gold on a long-term basis. That marks a return to normality, some argue. For centuries, gold has been central to savers. 'The aberration had been the last 20-30 years in which gold moved out of most investors' portfolios,' says Mr. [Jonathan] Spall [a director at Barclays Capital in London and author of Investing in Gold: The essential safe haven investment for every portfolio.]."

Once again, we the people are smarter than the politicians or the bankers. We have taken up a kind of individual gold standard, to take the place of the one the politicians and bankers destroyed when it got in their way starting in 1933 and ending in 1971.

Gold may be only a speculative commodity to some, but to many it is still an ideal store of value and the only weapon at our disposal to combat (1) political expediency, (2) the legalized embezzlement that is monetary inflation (with or without price increases--see this post and this post for more on this detail), and (3) bankers' inability to count.

I don't believe gold has hit its high yet. Push must still come to shove if and when the general price level does start to rise. At that point, to prove their goodwill and their capacity to control prices, the Fed would have to make a show of starting to increase rates and stopping "printing money;" but at the same time, they will have their other eye on unemployment.

If unemployment doesn't start to decrease, they will see their choices as between doing nothing, thereby allowing some inflation (general price increases as measured by the CPI), or raising rates thereby stopping the employment "stimulus." My bet is they will choose some inflation, in the wild hope that unemployment figures will improve soon.

Their inaction will signal to the marketplace that they will tolerate a further devaluation of the dollar, and gold will rise up again. How far this game will go is anyone's guess.

If the CPI remains low, they can continue to "stimulate" as long as the bond market will absorb it. This is also good for gold, and for the bankers, if somewhat less so for the Chinese, Japanese, Arabs, and the others who hold US bonds.


You can take gold out of the standard, but you can't take the standard out of gold.

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