John Crudele
Journalist
New York Post
Poignant article you wrote about foreigners investing in America (http://www.nypostonline.com/business/36992.htm). Our economy is certainly fragile and is as a result of our large national debt, large trade imbalance, suppressed gold market, and large foreign holdings of US dollar assets. This list does not include what some pundits have estimated the $100 Trillion derivative markets at. Some internet sources have surmised that the Euro was introduced to supplant the dollar as the world reserve currency for oil purchases and thus most everything else. It was meant to be a safe haven currency giving an alternative on par with the dollar at a time when the dollar become overextended or near the end of its currency cycle. In other words, before the Euro's introduction, dollar holders had no alternative currency except gold to turn to. Gold's reputation has been disparaged as of the last 20 years because the dollar as a reserve currency and the world banking system could not withstand a flow of capital into gold. It would simply have ruined the dollar with no means of easily trading gold for goods and services -- it would have destroyed the dollar.
The Euro, on the other hand, represents a currency unencumbered by massive debt, a currency at the beginning of its life cycle -- one that has not defaulted twice on its gold debt, as the dollar did in 1933 and 1973 (first was a default to the US citizen, then next was to nations). These two defaults were viewed by foreigners as a last straw effort to save the dollar but one that left a very bad taste in their mouths. It was the 1973 gold default that, in my opinion, prompted the development of the Euro.
The Euro countries saw fit to back the Euro with 15% in gold reserves. They then proceeded to mark to market this gold once every quarter. Should the price of gold rise in Euro's, which it has actually, since its introduction, this would have had the effect of increasing the value of its gold reserves. Should the value of its gold double, it would have the effect of doubling the value of gold reserves from 15% to 30% of the outstanding Euros.
Internet gold pundits strongly believe that gold price suppression is being undertaken by US dollar factions to include several prominent Bullion Banks and the not-so-well known ESF or Exchange Stabilization Fund of the US Treasury. This fund's actions fall outside Congressional supervision. The belief is that this dollar "faction" is taking a three tier approach to extending the lifeline of the dollar. Suppress the Euro, suppress gold, and attract foreign dollar into the US debt and equities market. The effect of the is approach instigated by Robert Rubin in 1995 has been to create a very strong dollar. By disparaging the Euro, the Euro is seen as a non-currency, not worthy of bothering with, suppressing gold pricing prevents inflation from rearing its ugly head. Any strong and persistent rise in the price of gold would be viewed as highly inflationary. Finally, any foreign investments leaving this country for foreign markets would also cause a large problem for the US debt and equity markets.
There is some indication that a PPT or plunge protection team comprised of governmental entities (be it the ESF) or numerous large brokerage houses, have been formed to prevent large falls in the equities markets. Rumor has it that this PPT was formed after the 1987 market drop caused a grave concern that the markets could fall precipitously. The purpose of the PPT was to prevent such large drops by intervening in the future markets of the major indices. This too-large-to fail mentality and subsequent formation of such a PPT (whether officially formed or by overlooking the enforcement against such an entity) the PPT seems to have been hard at work painting the tape as of late. Too many times lately the market indices have plunged in day to day trading only to rally to insignificant losses or small gains in the late part of the day. It is as though the markets show tremendous resilience on any large down day. So, whether the PPT be real or imaginary, the resiliency of the market to recoup major down turns on too many trading days is at least a major indicator that such a PPT is at work.
So, with the markets protected by a PPT, the gold market capped by the ESF and company, and the Euro properly trashed in value from its higher priced inception, all the pieces are there for a strong dollar. Should the dollars leave the markets as a result of loss of confidence in US politics, should the price of gold rise, or should the markets crash because the PPT failed its mission, any one or all of these could spell serious trouble for the strong dollar. As the dollar goes so goes inflation.
Inflation is not the CPI or PPI. Inflation is well understood to be a result of or attributable to a large increase in credit or money supply. Since the strong dollar policy of Robert Rubin in 1995, the increase in dollar supply has gone up dramatically. As demand for US-denominated repayment of debt rose, more and more dollars were needed to pay down the US national debt, both here in the US and to the IMF overseas. Much of these excess dollars found their way into the US debt and Equities markets. Is it any coincidence that this practice started back around 1995? The practice of borrowing Yen at under 1% interest rate and then purchasing dollars to invest in higher interest rate US dollar denominated investments was also a large culprit in the larger creation of money. Now there seems to be a similar practice with Euro debt (although this may be the reason why the ECB raised the Euro borrowing interest rates to prevent or stop such a practice with the Euro). Next, it seems that this same borrowing of assets at low interest rates has infected the gold markets too. Of late, there has been a wide-spread practice of borrowing Central Bank gold at 1% or so interest rates and then buying US assets at higher rates of return. The net affect of these practices has been to create a strong demand for US dollars, thus maintaining the strong dollar policy.
In the above, Yen and Euro's can be printed at will to meet the demand for this so called "carry trade." When it comes to gold, only 2500 tons of new gold is mined each year.
This "gold carry" trade has been going on for quite some time but really got out of hand starting in 1995. It has really only been since then that a real drain on international stockpiles of gold have come to light. Several gold experts have proposed that the gold short position has grown to anywhere from 8,000 tons to 20,000 tons (or three to eight years of production). This gold, if mined, would take that long to mine. If these contracts in cheaply leased gold were to be settled in gold, those institutions (bullion banks and central banks) would be forced to liquidate assets or draw upon official reserves to do so. Central Bank gold is a political metal. It is gold that belongs to the people of each country. It would be considered politically inappropriate for a country to have loaned out or leased out its gold to international traders who bought the gold at 1% to sell it for dollar denominated higher interest rate assets, only to discover that these traders can not pay it back in gold and must settle in dollars. Should the value of gold rise before settlement, this would cause quite a stir. Imagine having to repay gold that was bought at a 20-year low at a 20-year high.
It is these carry trades that are largely responsible for the large rise in demand for dollar-based assets and may actually be one of the great impetuses for the rise in the DOW and NASDAQ since 1995. The Achilles heal of these carry trades is gold. It is now apparent that the strong dollar policy started by Rubin in 1995 was meant to extend the life of the dollar. The dollar was about to default as tax revenues were just barely sufficient to pay the national debt. Something had to be done to increase the supply of dollars and increase the demand for them. The carry trades in YEN, gold, and later Euros, did provide the liquidity to the markets to provide a strong magnet for foreign dollars into a rising equity market largely fueled by and increase in the dollars strength and excess dollar creation.
The entire equity market "bubble" therefore depends on liquidity created by raiding other currencies and gold assets. When the music stops and these other assets decide enough is enough, then the dollar will no longer be able to sustain its strong position amongst world currencies and the unraveling of the dollar will begin and it has begun.
England has reverted to selling half its gold reserves to keep several undisclosed bullion banks out of foreclosure. This is not printed anywhere but from the above it is easy to see why England would sell its gold to the cheapest bidders in a public auction. The entire intent appears to be to keep gold cheap whilst these loans or leases are repaid in gold.
Deal after deal has been struck with large hoarders of gold to give up there hoards for various trade or defense deals. Kuwait recently dishoarded 70 or so tons of gold for a large $165 million defense deal. These large unofficial gold hoards are about exhausted. Where will the gold come from now to repay these large gold loans? Central banks (see Bank of England above)? Or, will these loans or leases be paid back in currencies? I suspect currency. Do we think that these currencies will be dollars or Euros?
The Euro. The evidence continues to mount that the Euro was introduced to supplant the dollar in the settlement of world contracts in oil. Until 1995 there was -.87 correlation of dollars to gold. In other words, when the dollar rose or fell, the price of gold would do the almost exact opposite. There is almost an equally positive correlation of the price of gold to the price of oil. This positive correlation shows that as the dollar rises or falls the price of gold and the price of oil, in tandem, do the opposite of the dollar. In 1996 graphs show that the traditionally high correlation of gold to the dollar broke. It was at that time that the dollar started to rise, but gold and oil started to lower. In other words, the traditional relationships of oil, gold, and the dollar broke. It is not a coincidence that all of this started at the same time the US strong dollar policy began. In the last two years the normal relation of oil to gold has now broken. The price of oil stopped dropping with gold and took on a life of its own. The price of gold continued to fall with a strong dollar. But the price of oil broke its ties with both the dollar and with gold. It is this tie, that bodes extremely badly for the dollar. I believe this little understood bellwether correlation tells all of the health of the dollar as a world reserve currency. When the price of oil began to rise as the price of the dollar started to rise and gold languished the US dollar as a reserve currency became seriously in doubt. The fact that this occurred at a time when the Euro was about to be introduced and subsequently was introduced appears now to be closely related to the divergence of oil and gold.
When Iraq announced that they would no longer accept dollars for oil but only Euros, the world laughed and attributed this to the act of a madman. I believe that this is but another volley against the dollar that shows an underlying trend of the Arab nations to disassociate themselves from the dollar and move towards the Euro. Clearly, the dollar must maintain its overbearing strong position in order to keep itself attractive, but by all measures it can not keep this up forever and eventually it will be dragged off its pedestal by the ever mounting pressures that oil and gold are placing it under. One can clearly see the 1995 break of gold to the dollar and in 1998, 1999, one can easily see the break of oil from gold. The next break will be of gold from the dollar. When that happens, the greatest bull market in gold in US history will have begun. When more oil countries start to accept either Euros or dollars for oil, then that will mark the end of the dollar as a reserve currency. Even now, the ECB seems to be selling dollars. Most think this is to bolster the Euro, but it may really be to sell dollars while they are still strong, for other stronger assets. The below charts were made by two posters at the www.usagold.com forum. They know who they are. Thanks.
Respectfully,
Steve M. Hickel
13 November 2000