Signed in December 1992 during "lame duck" days of the Bush administration, North American Free Trade Agreement (NAFTA) took nearly one year of intense lobbying by Clinton administration before it was ratified by the United States Congress over vigorous opposition of Patrick Buchanan, Ralph Nader, and above all Ross Perot who predicted time and again a major devaluation of Mexican peso once the ink on ratification papers was dry.

NAFTA was ratified in November 1993, with the effective date of January 1, 1994, and in November 1994, the best informed hedge funds, which upon ratification moved into Mexico in a big way, began to exchange their pesos back into dollars. Within a month before December 20, 1994, "no less than $4 billion left the country" in the estimate of Mexican officials reported in the New York Times. On December 20, new Finance Minister Jaime Serra, who two years earlier happened to be Mexico's chief negotiator for NAFTA, announced devaluation of the peso by 53 centavos. Later, the announcement came that in addition to devaluation Mexico was also abandoning its currency trading band, and the peso was now floating freely. The flood gates for exit of capital from Mexico were open.

When Mexican reserves melted to $6.5 billion, the stand-by swap arrangements were made for Mexico to receive $6 billion from the United States and $1 billion from Canada to keep the exit door for escaping capital open. Everybody and his brother became peso speculator, and would the last investor out of Mexico please turn the lights off!

To keep this traffic going, Bill Clinton asked Congress for $50 billion loan for Mexico, but his request raised too many eyebrows to stand any chance of approval. This was not what Bill Clinton and Al Gore were promising during the prior year of intense arms twisting and horse trading in Congress when they wanted the NAFTA pact ratified.

It was at this point that the existence of an obscure institution named Exchange Stabilization Fund came into public attention. The Fund was created by the same Gold Reserve Act of January 30, 1934, that authorized Franklin Delano Roosevelt to devalue gold standard dollar. It was initially endowed with $2 billion out of the money generated by gold nationalization and dollar devaluation, and it had authorized Secretary of the Treasury to expend its resources in any transaction that in his sole discretion was necessary for stabilizing US dollar abroad.

Invoking emergency on which Congress would not act timely, Bill Clinton arranged on February 1, 1995, for $20 billion credit line for Mexico in the form of loan guarantees by the Exchange Stabilization Fund. Only $12.5 billion of that credit line were actually used, most of it apparently supplied by the Bank for International Settlements (BIS).

On October 27, 2000, Reginald H. Howe brought to our attention most illuminating fact that establishment press managed to overlook for much too long, that upon "formation on January 1, 1994, of the European Monetary Institute, a predecessor organization to the European Central Bank", the Fed, "reversing almost 65 years of prior official non-involvement ... decided in September 1994 to occupy the two seats on the BIS's board to which the American tranche entitled it."

Not being able to supply any more dollars to Mexico under swap agreement, and in the face of Congressional opposition, Alan Greenspan supplied them through BIS loan, guaranteed by Exchange Stabilization Fund. And to add proverbial insult to injury, he apparently made advance preparation to meet this contingency.

And that was how Alan Greenspan taught Bill Clinton that Congress was redundant as long as a mere guarantee of Exchange Stabilization Fund was available. Backstopping naked gold derivatives, written, inter alia, by Secretary Rubin's cronies from Goldman Sachs, came as the next logical step on this road.

No sooner the BIS billions under ESF guarantee were made available to Mexico, when most strange developments began to emerge on foreign currency markets. Rather than rolling back the peso's decline, the BIS billions caused dramatic decline of the dollar itself against yen, mark and other European currencies. By April 18, 1995, dollar hit the bottom at 80 yen and 1.45 marks while buying 6 pesos at the same time. This correlation suggested that it were yen and mark that were rising against dollar rather than dollar falling against yen and mark, if one appreciates the difference.

To understand what was happening, we must retrace the steps of the best informed "lead investors" who were the first to take their money out of Mexico in November and December 1994.

NAFTA was ratified by US Congress in November 1993 to take effect on January 1, 1994. Between November 18, 1993 and February 22, 1994, dollar-peso rate of exchange was kept religiously at 3.11 pesos level. There were only five days when the exchange was 3.12 and five days when it was 3.10. So, our "lead investors" brought their, say, $5 billion to Mexico when NAFTA became effective at 3.11 pesos for each dollar, i.e., their $5 billion became 15.55 billion pesos.

There were 20 business days between November 21 and December 19, 1994, one month preceding peso devaluation day of December 20, during which "no less than $4 billion left the country". On 11 of those days, the rate of exchange was 3.45 pesos, on 5 days 3.44, on 3 days 3.46 and on 1 day 3.47. Thus on the average our well informed "lead investors" exchanged their 15.55 billion pesos back to dollars at the rate of 3.45 pesos to a dollar into a grand total of $4,507,246,376.812. The creeping depreciation of the peso under currency trading band between February and December 1994, apparently cost them nearly ten percent, or half a billion of their original five billion dollars investment.

For the sake of clarity we shall assume that the entire sum was then converted into yen only, rather than splitting it into several currencies. On the average, during the same twenty business days between November 21 and December 19, 1994, one dollar was buying 99.6320 yen. Our well informed "lead investors" have thus acquired 449,065,971,014.5 yen.

During the 23 business days between April 10 and May 10, 1995, when dollar's rates of exchange were at their all time low, the average rate of exchange was 83.1861 yen. So, when exchanged back into dollars, the capital of our "lead investors" appreciated to $5,398,329,420.594, which enabled them to return to Mexico with 32,648,016,669.87 pesos.

From 15.55 billion to 32.65 billion in six months! And this is not yet the end of the Mexican story.

If 7 billion dollars were not supplied to the central bank of Mexico under swap agreements with the central banks of United States and Canada, and if 12.5 billion dollars were not made available under ESF guarantee, Mexico's only option would have been the Malaysian option of 1998, i.e., textbook solution of temporary exchange control and standstill order.

Under such an option, our "lead investors" would have found themselves self-deported from Mexico with a half-a-billion dollar loss on their original investment into the bargain.

In order to drive yen, mark and other currencies high enough to make this circular charade work, yen and mark denominated markets had to be invaded with much greater force than $4.5 billion. "Lead investors" are those who initiate the stampede, while ordinary investors are those who go where the stampede will take them. But to generate the stampede plenty of dollars are needed. That's why Bill Clinton turned to Congress with all too familiar a line: Hey! We need to replenish IMF cash reserves quick, or better yet, lend directly to Mexico as much as fifty billion dollars, otherwise American working people and retirees who have invested heavily in mutual funds that are now stuck in Mexico are going to loose their savings! Congress ignored such requests in the past and a hole in the sky never resulted. But this time Congress found itself ignored, when financing of the stampede out of Mexico was obtained from BIS by way of ESF guarantee.

The point of the Mexican story is, that mere existence of "hot" short-term funds, jumping from one currency to another in search for higher yields and rate of exchange shifts, is not enough to generate monstrous volatility afflicting currency markets in our time. Once the "hot" money is exchanged into local currency, its ability to move on depends on international liquidity available in the country it is "parked" in. If the local supply of international liquidity is limited, and the local government imposes temporary exchange control and standstill order, the part of "hot" money affected by such order is thereby withdrawn from the world pool of "hot" money, which brings world volatility down.

Volatility in rates of exchange between dollar area, euro area, yen area, and IMF area occurs because certain governmental agencies within the dollar area actually arrange financing for this volatility.

Without billions of dollars under swap agreements and under ESF guarantee that were made available to the central bank of Mexico, dollar-yen and dollar-mark exchange rates would not go down by twenty percent and then go up by twenty percent within the time span of six months.

It is the US fiat dollar that is used for financing volatility in foreign exchange rates, and the only lasting way to stop this volatility is to terminate the US dollar's reserve currency status. Paying meekly for the damages wrought by this fiat dollar will only make this volatility go further. And yet, paying meekly for the damages wrought by this dollar is what Professor Mundell advocates.

In his address to IMF panel in Prague, Professor Mundell said:

"The three major currency areas [dollar, euro and yen] have each achieved a high degree of price stability, more or less consonant with desired targets of 0-3 per cent inflation. Why between such areas of price stability is it necessary to have exchange rate changes? We have seen the euro drop by almost 30 percent from its starting point against the dollar, and this in less than two years. Can this volatility be expected to continue?"

Mundell offers no answer to his own question: "At best only hints can be got by looking at the predecessors of the euro, the ECU and its backbone, the DM."

Rather than focusing on the source of this volatility (which we have, by no hints, explained herein for his learned consideration), Robert Mundell proposes that the euro, as "the new boy on the block", should assume the task of controlling this volatility in order to create conditions suitable for monetary union between euro and dollar areas. And how this union would in his view be accomplished?

By reducing European Central Bank to a dollar currency board, that's how!

"It is very convenient" - explains our Nobel laureate - "to have a division of responsibilities. Suppose the ECB - the new boy on the bloc - were given the task of fixing the euro to the dollar and does nothing else; in other words purchases and sales of foreign exchange determine monetary expansion or contraction as in a currency board system. If then a committee of both the Federal Reserve and the European Central Bank made decisions about expansion and contraction (or raising or lowering interest rates), by buying or selling either European or American bonds, the monetary union would be in full swing. Adding the third member would not be any more difficult. It makes things easier to choose one of the three currencies as the leading currency, while the other two currencies would be locked to that leading currency, and monetary policy would be based on a decision to expand or contract according to the decision the joint G-3 open market committee judged was needed to fulfill their planned inflation target."

In other words, once the Europeans will reduce their central bank to a dollar currency board, all they need to do to make the union with dollar area fully functional is to invite Alan Greenspan to sit on that board, just as he sits on BIS's board.

It is with this target in mind, that Robert Mundell advocates that ECB should adopt a policy to intervene in foreign exchange markets in support of the floor of euro (at 85 cents) or the ceiling of euro (at 115 cents), and parallel with this policy should mint a gold 100-euro coin, "an overvalued legal-tender coin", in order to "heighten general interest in the euro".

To avoid any misunderstanding, let us quote the entire "Digression on Euro" from Mundell's address at the IMF meeting in Prague:

"My main concern today is with a permanent improvement in the international monetary system. But I cannot refrain from making a digression to speak about the sagging euro. I do believe that two measures would be of great help. The first would be for the European Central Bank to put a floor to the euro against the dollar. And because the future may bring the other problem of a too rapid fall of the dollar, I would put a ceiling on it as well. I would start today with a floor at 85 cents and a ceiling at 115 cents, but over time it would be possible and desirable to narrow these levels substantially. Of course I am aware that such bands will require that monetary policy take account somewhat of the balance of payments and the exchange rate. Optimally, intervention should: (1) have a clearly-stated objective (e.g., support the floor or ceiling); (2) take place in the forward as well as the spot market; (3) not be sterilized; and (4) be concerted with partners.

"The second measure I would suggest would be to utilize some of the vast gold reserves of the EU to produce a gold coin, a europa equal to 100 euros, that would be an overvalued legal-tender coin. It was a mistake to delay for three years the introduction of the paper currency and coins and the production of a gold currency would heighten general interest in the euro at the same time put the EU's excess gold reserves to good use."

With all the respect due the Nobel laureate an exception or three will be in order here.

Euro is not sagging. It's the dollar that is bloating. And the cause of its bloating is that the price of gold is being manipulated down.

According to Gold Anti-Trust Action Committee (GATA), the market price of gold is being suppressed by "prominent New York bullion banks" acting in concert with "US government officials".

"Why would anyone want to suppress the price of gold?" - GATA document asks, and offers two explanations, one for bullion banks and one for US government officials: For bullion banks, suppressing the price of gold is essential to continue "gold carry trade" which consists of borrowing gold from central banks for as little as 1 percent per year and then selling it into the market to obtain cheap capital for themselves and their clients; for US government officials, "suppressing the price of gold gives a false impression of the US dollar's strength as an international reserve asset and a false reading of inflation in the United States."

Because Senator Lieberman's inquiry on behalf of GATA to the Chairman of the Federal Reserve Board in effect narrowed the US government's involvement to the Exchange Stabilization Fund, "US government officials" in question appear to be former and present Secretary of the Treasury and the President himself. (Incidentally, by way of this inquiry, Senator Lieberman may have elbowed his way into Vice Presidential nomination; Gore's choice was simple: either Lieberman's nomination or Lieberman's inquiry into GATA complaint.)

GOLD DERIVATIVE BANKING CRISIS, a 118-page document GATA delegation presented to US Congress on May 10, 2000, can be obtained by clicking on its icon "GDBC Report" on GATA's web site http://www.gata.org For those whose schedule allows for condensed documents only, an essay "Gold or Dross?" by Reginald H. Howe will do well.

The only aspect of gold price manipulation that so far has not been adequately presented by these sources has been the actual origin of the whole charade.

The reality on the ground is that gold price is being manipulated down from within the dollar area. And because the euro, by virtue of the fact that its value is a composite of the purchasing power parities and trade weight of its constituent currencies, is necessarily tied to Gold Standard Index, the euro had to decline in terms of US dollar in proportion to the decline of the price of gold in terms of US dollar.

The average exchange rate of euro in terms of US dollar for 23 business days of August 2000, calculated from noon buying rates in New York City for cable transfers payable in euros, as certified by the Federal Reserve Bank of New York to the Board of Governors of the Fed http://www.bog.frb.fed.us/releases/ was... $0.9045. Because on its first trading day January 4, 1999 euro was certified at... $1.1812, the decline for the month of August 2000 was... 23.42533 percent.

Thus, as of August 2000, euro declined 23.4 percent, and gold 23.2 percent.

The figures for September are 26.4 and 23.8 percent, and for October 27.8 and 24.94 percent respectively.

Euro declined in terms of US dollar because gold declined in terms of US dollar.

The primary consequences of the euro's one-fourth decline against dollar, and the dollar's one-third appreciation against euro, are the following: (1) Every product priced in dollars is automatically subject to de facto one-third tariff upon entering euro denominated market; (2) Every product priced in euros is automatically afforded de facto one-fourth subsidy upon entering dollar denominated market.

The avalanche of dollars, generated by these outlandish terms of trade should ordinarily cause the euro to appreciate against dollar, and the dollar to decline against euro. Why do they not?

Because the Europeans channel their dollar proceeds back to America to finance their acquisitions of US companies and other real assets. Most emphatically, they consider the present situation a one time bonanza whose proceeds should be converted into real assets on the American side of the Atlantic, rather than be allowed to distort well calibrated equilibrium on European continent. There is nothing they can gain and a lot they can loose by allowing dollar proceeds of their exports to flood their currency markets.

Before the euro was launched on January 1, 1999, Gold Standard Index stood in December 1998 at $338.81 per fine troy ounce. At its New York launching price of $1.1812, euro was therefore worth 120 milligrams of standard monetary gold .900 fine. At this parity, the weight of Mundell's 100-euro coin would be 12 grams of gold .900 fine.

By introducing such a coin now, ECB would simply put the gold of Europe on the market at the present depressed prices, and thus would pay for depressing the price of gold even further, because it would in effect bail out the overextended bullion bankers who are writing naked gold derivatives. In the broader scheme of things, Euroland would be re-enacting London Gold Pool charade of 1960s: selling physical gold, in order to keep its market price far below the Gold Standard Index, in order to keep fiat dollar's exchange value high, in order to keep favorable terms of trade for European exports.

If ECB in fact contemplates restoration of honest money,the road to this goal leads not through 100-euro gold piece of 12 grams .900 fine, but through 5-euro silver piece of 5 grams .900 fine.

In the year 2002, euro currency will be phased in and local currencies will be phased out, so, beginning in 2003, only euro will remain in circulation. In 1-euro and 2-euro denomination, euro will circulate as token coin, and in higher denominations as ECB note.

If in January 2003, ECB will introduce a 5-euro coin made of 5 grams of silver .900 fine (the size of Franc Germinal of 1803), and in addition will offer free minting of silver, with silver certificates issued on the spot for all silver brought to the mints:

(1) Euro will automatically be defined as one gram of monetary silver .900 fine, and (2) World price of silver will automatically be lifted to the level of purchasing power parity of euro.

At euro's launching value of $1.1812, the dollar price of one troy ounce of fine silver will jump to $40.82. Even when reduced by one-fourth to $30 per ounce, to conform to euro's present rate of exchange, the new price of silver will still be six times higher than the present level. Such price will pull the silver even out of people's teeth.

Once the price of silver is fixed at 1 euro for 1 gram of silver .900 fine, and dollar is taken out of its present business of distorting world prices by the simple expedient of repricing oil in grams of silver, i.e. in euros, the price of gold will then be fixed by the bullion market in terms of silver only, bypassing dollar rather than defeating it. When technological demand for silver is taken into consideration, the ultimate silver/gold ratio may be as low as 12/1 or even 10/1. But whatever this ratio may turn out to be, it's high time to rediscover that gold can be satisfactorily priced only in terms of silver.

Whether ECB will pursue such course of action is an open question. Fiat money confers so much power, disguised as "flexibility", upon central banks and governments that speculating upon possibility that they may actually abolish it is nothing short of daydreaming. Counting on central banks and governments to abolish fiat money is like counting on mafia to abolish organized crime.

To make realistic assessment how the game of chess between Euroland and Dollar Empire for the world dominance actually progresses, it is necessary to reconstruct the exact causes of the present suppression of the price of gold below the Gold Standard Index.

We know how the gold price suppression is maintained. We know how the foreign exchange gyrations are financed. We only need to answer the WHY question.

Part I of this essay ended with the same question: "Why this gold-standard-like stability of the price of gold was abandoned, and the long term policy of suppression of the price of gold was adopted? How this policy actually evolved?"

"Golden Gyrations", published in Gold-Eagle on November 24, 2000, by Adam Hamilton, also known as Zelotes www.gold-eagle.com/gold digest 00/hamilton112700.html came in the proverbial nick of time to give us an answer on equally proverbial silver plate.

I was nearly hypnotized when I was reading about Hamilton's discovery of mysterious manipulation of gold price in 1994 and 1995. During these two years, "...gold traded in a very odd tight sideways range. Every gold rally was capped, but every gold slump was quickly met with heavy physical gold buying and another rally attempt. This period of time is so strange technically that it has only one historical precedent. The last time gold traded for years in this rigid of range was when the US government had an official price ceiling on gold and it was illegal for US citizens to own. We believe another London Gold Pool type operation was launched during this time frame, and once again gold was officially suppressed. The initial line in the sand appeared to be US$400."

And so, what it looked to us as gold price volatility gradually dying down on its own until it reached gold points in 1995, Adam Hamilton correctly diagnosed as deliberate compressing from both sides.

How can we interpret Adam Hamilton's discovery?

(1) A cabal of bullion bankers, using modern derivatives, can push the price of gold down. But to push it down and up at the same time until its volatility is reduced to bare gold points had to be done by the government, the American Government.

(2) Most emphatically, it was NOT "another London Gold Pool type operation" because the price supported was way above Gold Standard Index. The purpose of London Gold Pool operation was to give a lift to fiat dollar by suppressing the price of gold below GSI.

(3) Instead, it was an attempt to make it look like an effort to restore pegging dollar to gold at $384 per ounce, and the purpose of this simulation was to throw monkey wrench into development of euro.

(4) If the "Eurols" (as they are colloquially called) were simpletons, they would begin their task to calibrate euro on the assumption that $384 per ounce would be the new gold parity of US dollar. And when, two years down that road, the price of gold would suddenly drop like a rock, they would have to redesign the whole project. That's why when the falling gold price was crossing the level of Gold Standard Index in 1997, a broad press campaign calling for "delaying of euro" was in the full swing. (It was at that time that I wrote "Don't Delay EURO, but...".)

(5) But Eurols apparently calibrated their calculations correctly, i.e. to Gold Standard Index rather than to the "new Dollar gold parity" that was created specifically for their use ("ad usum Euroli"?). In addition, they may have deliberately pumped up the gold-carry trade beyond the point of no return by making immoderate amounts of their gold available for leasing. By doing so, they may have walked Anglos into their own trap.

(6) When the Eurols rolled back their golden carpet in September 1999, the Anglos had no option but to begin throwing their own gold into derivative black hole just to avert the ultimate catastrophe.

(7) Now, when Anglos are stuck at paying one-fourth subsidy to the exports of Eurols and subjecting their own exports to one-third tax, Eurols are sitting pretty and counting their acquisitions in America, while euro elbows dollar out of its world reserve currency status.

(8) Eurols have no compelling reason to change the existing state of affairs until the dollar will be gasping for its very life.

(9) It is entirely possible that euro has already been accepted as the ultimate world reserve currency, and that decision has already been made to eventually merge dollar into euro.

If you can learn only one thing from this essay, learn to think in terms of Gold Standard Index. It's like the Greenwich Meridian in navigation.

J.N. Tlaga
tlaga@shadow.net

Copyright 2000 J.N. Tlaga

December 22, 2000