Category Archives: gold

Cruz Champions Sound Money

By Barry Elias | Thursday, 03 Dec 2015 11:05 PM

The primary function of the Federal Reserve should be to stabilize the U.S. Dollar.

This view has been voiced recently by former Federal Reserve Chairman Paul Volcker and 2016 republican presidential candidate Senator Ted Cruz from Texas.

By stabilizing the dollar, real income for the masses will once again increase tremendously, thereby reversing a 40-year trend of income stagnation for the bottom 90 percent (the striving majority), according to Put Growth First, an organization that advocates for pro-growth monetary stability and supply side tax reform, and has provided advice to the several 2016 republican presidential candidates, including Senator Ted Cruz of Texas.

(Disclosure: I am an economic advisor to Put Growth First.)

Annual inflation-adjusted GDP growth from 1790 to 1971 averaged nearly 4 percent.

However, since 1971 – the advent of the floating paper dollar backed only by empty political promises, but no real intrinsic value – yearly growth slid to 2.8 percent, and since 2000, it fell further to 1.7 percent per annum.

Moreover, the future prospects are dismal: the Congressional Budget Office and Social Security Trustees now project real economic growth of slightly more than 2 percent.

From 1948 through 1971, the bottom 90 percent experienced a cumulative rise in real income of 85 percent according to the 2012 World Income Database.

Why was this happening?

During this time, the value of the dollar was stable and the Fed did not employ a single labor market variable on its dashboard of indicators. It was up to business to invest so productivity kept pace with wage growth.

A stable dollar permitted more stable material costs for businesses and less demand for expensive financial hedging.

This allowed capital to flow toward more productive investments that generated employment and income for the many – instead of exotic financial products that tend to rely on arbitrage and speculation that extract equity rather than enhance wealth.

The result was faster economic growth. And, despite strong income growth for the striving majority, business profits relative to GDP remained strong and steady.

The situation changed drastically in 1971 when the U.S. dollar lost its intrinsic value anchor and began floating. Since then, real income for the bottom 90 percent (the striving majority) stagnated while that for the top 10 percent grew an additional 140 percent.

Lost economic activity due to the lower growth rate since 1971 totals $104 trillion: $75 trillion since 2000 and nearly $9.2 trillion in 2013 alone. The total inflation-adjusted cost of all U.S. military wars is $7.7 trillion, according to the Congressional Research Service and Stephen Daggett, a specialist in Defense Policy and Budgets. In other words, stagnation has caused more destruction than all wars combined.

Had the 1948-1971 trend for real income of the striving majority continued, the bottom 90 percent would be earning 2½ times more than they do now. If income for the striving majority was 2½ times greater today, how many of our current problems would still be problems?

What happened?

Since the dollar was no longer stable, the Fed surreptitiously began targeting wage growth as an indicator of inflation that needed to be curtailed.

This is because inflation was redefined to mean an increase in a price index rather than a decline in the value of the dollar. To keep the index from going up, they have raised interest rates every time we’ve had decent wage growth in the last 30 years. This squelched the growth along with wages and employment opportunities, causing volatile business cycles and stagnation.

This theory was promoted in the 1970’s, which suggested there was a tradeoff between unemployment and money wage inflation as depicted in the Phillips Curve.

However, empirical evidence has contradicted this model over several decades and it has become more apparent that inflation is a function of the supply and velocity of money relative to the total quantity of goods and services provided in the general economy.

Also, the Fed was given a dual mandate by Congress in the late 1970s, to minimize and stabilize unemployment in addition to inflation. Unfortunately, the Fed lacks proper tools to deal with unemployment, since it involves fiscal policy to a large degree.

In essence, the Fed was acting in a reactionary manner, since inflation and unemployment are lagging indicators, have subjective measurements and are constantly revised.

Moreover, the policy intervention has lag built into it; by the time it became operational, the underlying conditions that were being addressed may have changed. Therefore, too often we were treating the wrong problem with the wrong solution at the wrong time, causing severe business cycle volatility.

During Senate testimony, Janet Yellen (now Federal Reserve Chairwoman) said, “A key lesson of the 1970s is the critical importance of maintaining well-anchored inflation expectations so that a wage-price spiral like we saw back then does not break out again.”

There have been numerous times that Yellen has referenced strong labor market conditions as a potential source of inflation, which the Fed needs to keep in check – primarily via increased interest rates.

However, the goal of the Fed should be to maintain the stability of the dollar as a unit of measure, and not guided by fiscal parameters, such as wage levels, that the Federal Reserve Bank has little control over.

Partially backing credit and currency formation with the production of real assets, such as gold, silver and virtual currencies using market-driven pricing, would couple money supply growth with the productive use of resources, including land, labor, and capital, and lead to more productive investment of that credit. In addition, business borrowing will be predicated on well-developed ideas that have greater likelihood of being executed effectively.

As a result, the increase in money supply will be absorbed by money demand in a more timely and complete manner, thereby maintaining a stable and predictable value of the U.S. Dollar – a requisite frame of reference, since all economic activity is based on its value.

Real time, market based prices of commodities, foreign currencies and future investment opportunities (bond yields) provide better signals for altering the money supply. The market would set interest rates and determine the money supply, which would require much less monetary intervention by the Federal Reserve.

In fact, it is advantageous for wages to rise so long as they are met with commensurate gains in productivity.

This will ensure cost-effective unit production and strong purchasing power, where unit wage increases tend to be small, stable and roughly equivalent to unit commodity price increases over similar time frames.

Predicating credit creation on the production of real assets will help ensure strong productivity gains in the future, thereby creating an environment ripe for employment, economic growth, moderate and stable inflation, and strong and stable purchasing power.

Direct domestic investment has been weak over the past few decades as a result of this misguided monetary policy. This is the worst economic recovery precisely because this is the worst recovery in business investment.

A volatile dollar inhibits business investment. Business investment acts as the fuel for the train engine that drives economic growth. Consumption is the caboose that follows: it does not push the train. One only consumes what has already been produced.

Currently, Put Growth First is actively working with members of Congress, including the House Freedom Caucus led by Rep. Jim Jordan, R-Ohio, and will soon launch a Growth Task Force with input from caucus members such as Rep. David Schweikert, R – Arizona.

Put Growth First has also been involved in helping to advance House of Representatives bill 1176 in the previous 113th Congress, sponsored by Rep. Kevin Brady, R.-Texas, that would establish a Centennial Monetary Commission to examine United States monetary policy, evaluate alternative monetary regimes, and recommend a course of monetary policy going forward. It was reintroduced to the House of Representatives on June 25, 2015, as H.R. 2912: Centennial Monetary Commission Act of 2015.

Senator Cruz is right to promote a stable U.S. Dollar, which is backed by real assets that are produced with an efficient use of limited resources.

It will increase business investment, productivity, income and purchasing power over the long term for the masses.

It is important to couple this sound monetary policy with a pro-growth tax reform plan to ensure optimal results.  I will elaborate on my tax proposal in the following column.

© 2015 Newsmax Finance. All rights reserved.

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Barclays Bankers Bilk Their Clients

By Barry Elias | Thursday, 19 Nov 2015 10:45 PM

“Obfuscate and stonewall.”

That was a June 2011 directive from a Barclays managing director and head of automated electronic foreign exchange (FX) trading. It was the recommended response to inquiries from clients, the sales department, or virtually anyone else regarding bank transactions related to its BATS Last Look functionality, according to the New York State Department of Financial Services (DFS).

The managing director further stressed in the email that one should “avoid mentioning the existence of the whole system.”

Barclays’ “Last Look” functionality enabled traders to cancel the execution of client foreign exchange orders if they were deemed unprofitable to the bank, even if they would be profitable to the client.

Milliseconds became the difference as to whether a trade was executed profitably. Since it could take this amount of time to transmit an order across the globe, the bankers were at a disadvantage relative to the high frequency traders, who can execute within nanoseconds. Instead of quoting greater buy/sell spreads to accommodate potential price movements, which would disenfranchise the algorithmic traders, Barclays opted to possess the right of first refusal for the trade on behalf of its client.

Clients and others were not told the trade terminations were the result of this business policy decision. Senior employees instructed traders and information technology employees not to inform the sales staff of Last Look and the underlying policy. Instead, the information conveyed was vague, misleading, or inaccurate – and sometimes they were not given any explanation. Blaming the malfunction on technical latency issues was a recommended strategy from management.

This case was unleashed during the forex rigging probe, for which Barclays agreed to pay about $2.4 billion to the DFS, the U.S. Justice Department, and other agencies, which included $485 million for its manipulation of forex spot trading. This settlement was part of the more than $5.6 billion agreement by six banks for manipulating the $5.3 trillion daily foreign exchange market. The other five banks include Bank of America, Chase, Citigroup, JPMorgan, Royal Bank of Scotland, and UBS.

Barclays recently agreed to pay $150 million to resolve the “Last Look” allegations of abuse in the foreign exchange market through its electronic trading platform: a very serious charge, since it intentionally sought unfair advantages over clients and counterparties through this venue. The DFS also required the bank to fire its global head of electronic fixed income, currencies and commodities automated flow trading. Barclays has not named the dismissed individual and has admitted to wrongdoing in this case.

This settlement will bring the total litigation provisions for Barclays Bank to about $13 billion since the beginning of the financial crisis. Litigation costs for all financial institutions since 2008 have reached nearly $219 billion, most of it borne by U.S. banks, led by Bank of America with about $70 billion, according to Moody’s, a rating agency. They expect more to come, especially from Deutsche Bank’s exposure to foreign exchange litigation and the Royal Bank of Scotland’s exposure to U.S. mortgage litigation.

Barclays is still not off the hook: It is being investigated for other potential misconduct, including possible manipulation of precious metals markets and payments to Qatari investors in its 2008 rights issue.

Even after the crisis, Barclays continued down the road not to be traveled.

© 2015 Newsmax Finance. All rights reserved.

Economic Growth Will Be Restored With Reforms to Protect Dollar

Fifty years ago, the United States began actively debasing the dollar, and the results are now readily apparent: low price-adjusted productivity and total compensation growth, extraordinary wealth and income disparities, and a more treacherous employment environment.

From the beginning of our republic, in 1792, the U.S. dollar was able to purchase 0.77 ounces of silver on a relatively consistent basis, until 1965. That year, President Lyndon Johnson signed the Coinage Act, which permitted the circulation of coins made from less valuable metal alloys instead of the original silver composition.

Since 1965, the dollar’s purchasing power has been in free fall – reaching a nadir of 0.02 ounces of silver in 1980, and recovering minimally to 0.06 ounces of silver today.

Further insult occurred when the dollar lost its backing by gold in 1973 under President Richard Nixon. As the value of the dollar slid, so did productivity. From 1947 through 1973, productivity expanded at an average annual rate of 2.8 percent. However, since 1973, this figure plummeted to a paltry 1.8 percent, according to the Bureau of Labor Statistics.

As productivity declined, many households required more than one earner to maintain comparable living standards.

The civilian labor participation rate for prime-age workers, from 25 to 54 years, was 64 percent in 1948, and by 1965, it reached 70 percent, according to the Federal Reserve. However, following the dollar debasement that year, this figure reached a zenith of 84.6 percent in January 1999 — a staggering rise given the relatively small improvement in living standards for many.

The labor participation rate has since retreated to 81 percent, not because we are experiencing an economic renaissance, rather because many workers in this age group are unable to get absorbed into the labor market due to poor business conditions or less than adequate skill levels.

How can we improve productivity?

Private currency creation is a critical way. Money creation predicated on a creative and innovative use of resources will provide the foundation for stable productivity and income growth.

Effective currency creation will stimulate more prudent long term investment in real goods and services, generating strong economic growth and a more consistent relationship between the money supply and the quantity of goods and services produced. In this scenario, labor productivity will rise, business cycle volatility will fall, and income and purchasing power will increase.

This is the premise behind the virtual currency movement.

Recently, Representative Paul Brown, R-Georgia, reintroduced the Free Competition in Currency Act, an idea originally promoted by Ron Paul, the former Texas Congressman, and based on the work of Friedrick Hayek, a Nobel laureate in economics.

This bill would end legal tender laws, permit private coinage and eliminate capital gains taxation on gold and silver. Also reintroduced recently was the proposal for the Centennial Monetary Commission by Representative Kevin Brady, R- Texas, chairman of the House-Senate Joint Economic Committee, to examine United States monetary policy, evaluate alternative monetary regimes and recommend a course of monetary policy going forward.

In addition to monetary reform, fiscal changes are essential to resuscitate labor productivity and economic growth. Principal among the possible initiatives is the simplification of the tax code.

My proposal, in collaboration with my wife Billie, can balance the budget at current spending levels with lower rates, fewer deductions and smaller compliance costs. We have work to do America – let’s get started!

© 2015 Newsmax Finance. All rights reserved.

Why Reagan Supply-Side Economics Did Not Work: Part III

While President Reagan had excellent intentions and some good policy prescriptions, his economic platform ultimately fell far short, as I suggested in two previous columns: Part I and Part II.

The key underlying fault lines were tax reform and monetary reform.

He succeeded in lowering tax rates — the individual rate from 70 percent to 28 percent, and the corporate rate from 46 percent to 39 percent, according to the Tax Foundation. The problem: tax rates on personal income were lower than that for corporate income for all income levels.

This dynamic caused a huge increase in the formation of Subchapter S corporations, whereby proprietors transform corporate income into personal income to minimize tax liability. By 2003, nearly 62 percent of all corporations were S corps, according to the Internal Revenue Service. This environment lowered the incentive to retain earnings and reinvest in employees, equipment and infrastructure.

Investment as a share of GDP fell from 21.75 percent at the start of 1981 to 19.5 percent in the beginning of 1989, a 10 percent decline, according to the International Monetary Fund. Following the financial collapse in 2009, investment relative to GDP hovered near 15 percent, a 31 percent drop from 1981.

Concurrently, consumption as a share of GDP began to rise, from approximately 60 percent in 1981 to 64 percent in 1989. For the previous three decades, this figure held steady at 60 percent. Consumption is now approaching 70 percent of the economy.

High levels of consumption have less of an impact on overall economic growth than does investment, since the expenditure comes at the end of the production process instead of at the beginning. With investment, collateral spending takes place, which acts as an economic multiplier that sustains activity for the long term.

As consumption grew, the merchandise trade deficit as a share of GDP expanded, from close to zero to as high as 3 percent, before declining briefly when the U.S. dollar was devalued during the Plaza Accord of 1985, according to Haver Analytics. This deficit caused a drain on domestic savings, falling from 10 percent to 8 percent, according to the Federal Reserve. Lower savings reduced the quantity of funds available for investment.

Monetary velocity, or money turnover, declined 23 percent during Reagan’s presidency (33 percent in the first six years alone). While some of the decline was due to high interest rates that reduced demand and inflation, the decline was significant. Today, this figure is 61 percent below the 1981 level.

Less direct investment in the real economy was replaced with the creation of huge swaths of financial products and services, which began in earnest during the 1980s. From 1950 to 1980, financial assets were four times the size of the economy. By 2007, this figure rose to 10 times. Financial speculation and arbitrage became the order of the day, which tend to transfer income and wealth rather than create it.

Irresponsible financial deregulation was another impediment. Despite large losses for the savings & loan industry due to mismatched assets and liabilities (they received lower rates on long-term loans than what they paid for short-term deposits), S&Ls were permitted to operate with lower capital standards and received greater deposit insurance. The implicit loan guarantees provided by the government lead to a $124 billion taxpayer financed bailout of the industry in the late 1980s and 1990s, an ominous precursor of the 2008 financial and economic collapse.

As investment declined and consumption rose, income and wealth inequality began to increase after declining for the previous four or five decades, according Emmanuel Saez and Gabriel Zucman of the National Bureau of Economic Research in the graphic below.

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Today, we are starting to near the disparities that existed prior to the Great Depression.

The principal reason that our economy was able to transform from a real economy to a financial one was the ability of the Fed to extend massive amounts of credit to the financial institutions, which was then transferred to their clients many times over.

When the U.S. completely abandoned the gold standard in 1971, credit and debt were created more readily, since they were no longer backed by a real resource produced with an efficient allocation of land, labor and capital.

During Reagan’s term, total debt relative to GDP rose from roughly 160 percent to 230 percent, the steepest rise since the Great Depression, according to the Bureau of Economic Analysis and the Fed.

This type of irresponsible credit and debt creation would not have been attainable if Reagan instituted an asset-backed currency that was included in both the 1980 and 1984 republican presidential platform.

Money creation that is partially backed by tangible assets, such as gold, silver and virtual currencies, provide incentive for responsible growth that maintains purchasing power.

The assets backing the money stock would serve as a capital cushion to absorb potential losses due to insufficient management or uncertain and unpredictable geopolitical and economic conditions. Embedded in the value of the currency is the production cost of these products, thereby acting as a proxy for price control through market mechanisms. This monetary mechanism would be less susceptible to manipulation by sovereign or special interests.

Unlike the previous gold standards that had a fixed price of gold, this model would be based on a floating rate that could adjust to changing economic conditions. The Bretton Woods agreement in 1944 collapsed in the early 1970s because the U.S. dollar was not permitted to fluctuate fully relative to global currencies and the price of gold was fixed at a specific dollar value.

Foreign entities were able to purchase gold and dollars relatively cheaply. By the early 1970s, the quantity of U.S. dollars abroad exceeded the value of gold in the United States at the fixed price. In 1971, President Nixon disbanded the gold standard policy.

A strong economy is predicated on major tax and monetary reform.

© 2015 Newsmax Finance. All rights reserved.

Gold: The Next Global Reserve Currency

Gold is on a path to become the next global reserve currency.

A macroscopic perspective of our global economy suggests the world’s financial crisis was caused by an inordinate accumulation of debt relative to GDP.

However, the excess debt relative to income was the result of fiat currency regimes.  These regimes are based on the faith and credit of governing institutions, not physical capital reserves, and permit an infinite amount of credit and undercapitalized debt formation.

Well capitalized debt formation is predicated on a stable currency regime that cannot be easily manipulated, one that is partially backed by tangible capital reserves.

Global macroeconomic environment remains highly overleveraged, where total debt (private and public) relative to GDP is still unacceptably high.  Future economic prosperity requires further debt reduction.

A sustainable level of total debt/GDP is roughly 150% – 200%.  During the US depression, this figure reached 260%.  By 2008, it was over 350%.

According to the Bank for International Settlements, total debt/GDP in the advanced economies grew from 167% in 1980 to 314% today.  Further debt reduction is essential to improve the global economy.

Debt accumulation also hindered long term investment.  Both severely undermined the economic multiplier, or monetary velocity.  Monetary velocity is the number of transactions per unit of currency over a given time period, where GDP equals Money Supply multiplied by Monetary Velocity.  Given a stable money supply, income rises as the monetary velocity rises.

From 1980 through 2008, monetary velocity in the US fell over 50% and investment as a percentage of GDP dropped 32%. This level of investment is roughly half the global average of 24% and is a major impediment to long term economic prosperity.

Healthy economies produce a monetary velocity greater than 1.5.  Today, this figure is below 1 for the entire world. Debt reduction and increases in investment are needed for global economic recovery.

Debt reduction and an increase in long term investment require a stable medium of exchange backed by tangible assets, such as gold.

Gold possess unique attributes that mitigate geoeconomic and geopolitical uncertainties.  Therefore, it tends to preserve purchase power parity and wealth over long periods of time and across geographical locations.

Attributes of gold include the following:

1.  Gold production is a proxy for general economic activity in terms of resourceallocation and input productivity (i.e., the cost of labor, capital and raw materials per unit of output).  The cost structure for gold production more accurately reflects that of other essential commodities, thereby preserving purchase power parity more readily.

2.  Gold is a physical product that cannot be manipulated easily, since the marginal cost of production per ounce ranges between $500 and $1,000.

3.  Gold is highly durable and reusable, such that the total supply continuously increases.

4.  Gold possesses economic diversity:  this includes investment, both industrial and financial, and consumption (i.e., 10% industrial, 40% financial, 50% consumption).

5.  Gold serves as a historic medium of exchange.

6.  Annual production of gold increases total supply by approximately 2% per annum.

Some believe the supply of gold may be inadequate to support future economic activity.  This may not be the case for the following reasons:

1.  According to the World Gold Council, known supplies will maintain this rate for the next 25-50 years

2.  Future technological innovations may increase gold supplies.

3.  Should future supplies wane, lower capital reserves provide a better stabilizing force than fiat currencies.

4.  Given a constant supply, price appreciation will protect purchase power parity.

If additional capital reserves are needed, other tangible assets with similar properties can be incorporated..

At this time, gold seems to be the most effective candidate based on its economic diversification.  Silver would be a likely addition in the future.

The demand for gold has been increasing significantly.  Currently, there are significant public and private financial resources available to satisfy this increase in gold demand.  These resources include sovereign currency reserves of nearly $12 trillion and private financial assets of $200 trillion.  Investment in gold represents only 0.2% (2/10ths of 1%) of private financial assets and 10% of sovereign currency reserves.

Future portfolio allocations that provide greater weight in gold seem very likely.  Recently, many governments have made large gold acquisitions, especially China.

The global market value of gold is approximately $8.5 trillion and the global narrow money supply totals approximately $26 trillion.

A stable currency regime using gold as a reserve asset can be achieved if the total value of gold approximates the total value of the narrow money supply.  This implies a three-fold increase in the value of gold, from $8.5 trillion to $26 trillion. Therefore, I anticipate a three-fold increase in the unit price of gold in the future.  Deteriorating global economic conditions, including the Eurozone and elsewhere, place greater pressure on achieving this equilibrium more rapidly.

A decade or two is a plausible and realistic time frame for this to occur.  During this time, I expect the price of gold to reach $4,000 per ounce.

The lack of confidence in undercapitalized fiat currencies is accelerating at a rapid pace.   Stable, long term economic prosperity is predicated on a different global reserve currency.

In my view, gold represents the most likely candidate as the next reserve currency.

Copyright 2012 Barry Elias.  All rights reserved.