The Gross Mispricing in the Gold Market Risks the Global Financial System - A Fraud Too Far

With a physical commodity like gold, as several others have pointed out, 'supply' is not how much there may be, since most of the gold that has ever been mined is closely held in treasuries and private vaults, and is not on offer, available for purchase.

It is a monetary metal, a store of wealth, with some industrical applications.

The amount that has ever been mined would likely fit in a modern four bedroom house. In other words, there is not a lot of it, and the supply is increasing at a fairly slow rate over time.

Physical Supply On Offer

So 'physical supply' is that which is thought to be for sale at the current prices.

At the Comex, this bullion is designated as 'registered' or deliverable to someone who chooses to exercise a contract for it at the current price.

Demand

And also at the Comex, 'demand' is synonymous with open interest, that is, a contract created when someone goes long, or buys a contract that had not previously been owned by another. 

Yes, there are significantly larger physical markets for gold bullion, almost all of which exist outside the US.  But let us put those aside for now.

Rising open interest with rising prices and a steady or rising supply is easy enough to understand. More people are seeking to go long or buy a claim on some gold bullion, and the price rises to entice more who have their gold in storage to meet that demand.

What is also easy to understand, if you have a mind to open your eyes, is when demand is steady and historically high, but the price and the physical supply for delivery is falling. The explanation is naked shorting, the creation and selling of contracts based on increasing leverage.  

That is, speculators, of whatever size and for whatever reasons, are nakedly meeting demand with an artificial inflated supply that ordinarily could not possibly be met in an efficient physical market.

This is why I have come to think that the Comex precious metals market is like The Bucket Shop, although technically it does not meet the statutory definition since 'a transaction on a exchange' has been made.

The bullion banks and the Exchange are playing 'The Bank' in a situation in which an actual physical transaction is unlikely to occur.  And, given a reasonable probability of execution, impossible to demand at anything like the prices being quoted.

Leveraged Speculation

So why does it happen, and why does it matter?

It happens because gold is in this case is now being treated purely as a paper instrument, a derivative, although it is representing and price setting for a vast global industry and physical market from which it has become increasingly decoupled.

This is not surprising because rampant speculation in derivatives and paper assets has become de rigueur in these financially captured markets, and radically so since 1999. 

And the same forces that blew up the collateralized debt obligations and their mispricing of risk derivatives in 2007 seem as though they are going to blow up the global commodities markets, starting with the precious metals. 

The exchanges in this case may try to force settle everything in cash and for pennies on the dollar.  And so they dismiss the risks, and since the 'right people' are making money, no one will say a word.

Consequences

While the sources of new supply dry up with the decline of the mining industry, the urge to grab the available physical supply while it lasts continues to intensify.

But like the financial derivatives collapse in 2007 quickly metastasized to the global financial system, this relatively small precious metals market will also shaken the global financial system, and threaten to bring down the Too Big To Fail institutions once again.

I am not speaking of a 'default' on the exchange.  A paper exchange cannot default when cash settlement in paper can be enforced.  Rather, I am talking about a 'break in confidence' that finally persuades the rest of the world that the Anglo-American financial markets are a long con.   Let's call it 'a fraud too far.'  

We certainly have seen some mind-boggling systemic frauds and market rigging exposed in everything from derivatives pricing to LIBOR in recent memory.  We keep sloughing these events off in our walking amnesia.  But such things have long term and highly corrosive effects.

But just like the last time, while the money is flowing and the music is playing, the players will keep dancing, and the regulators and politicians will be keeping their eyes and ears closed.

'Nobody saw' the last crisis coming, except a few.   That is because they who should have known knew, but went along to get along.

Consider the consequences of repeatedly ignoring the risks of excessive speculation.  I do not think that we can afford it.

This chart is from Nick Laird at sharelynx.com.

Fragility: What Has the Watchers Worried In the US Debt Markets

As you know I am on the lookout for a 'trigger event' that might spark another financial crisis, given the composition of the economy and the financial markets. 

In the last financial crisis 2008, it was the failure of the two Bear Stearns hedge funds that exposed the grossly mispriced risks in mortgage backed financial assets, and the generally flawed nature of the market's collateralized debt obligations.  This led to a cascade of failures in fraudulently priced assets, and resulted in increasingly large institutional failures, including the collapse of Lehman Brothers.

One can draw some parallels with the financial crisis before that, which was the gross mispricing of risk and inflated values of internet-related tech companies that had grown to obviously epic proportions by 2000. A failure of several key tech bellwethers to make their numbers, and some negative results in the economy, showed the flaws in the underlying assumptions in what was clearly an asset bubble. And once the selling started, it was Katy-bar-the-door.

 

The failure of two relatively minor hedge funds was not a great event. The failure of a tech bellwether to make its quarterly numbers is not either. But their interconnectedness to the other portions of the world markets through the financial institutions on Wall Street, and more importantly, the fragile nature of the entire pyramid scheme of fraudulently constructed and mispriced risk of financial assets, caused an inherently shaky system to fall apart.  What was most shocking was how quickly it happened once the dominos started falling.

The debt market in the US, with its deep ties to private equities, is probably not a trigger event, the fuse itself.  But it well might serve as the powder keg that will transmit the effects of some more individual event throughout the world's markets and economies.

The gross mispricing of risks in financial paper, again, and the lack of reform in the financial system along with excessive leverage and mispricing of risk, the fragility of long distorted markets if you will, has certainly risen to impressive levels again.

 

It is a familiar template of recklessness, fraud, and  then reckoning.  Afterward there is the usual attempt to blame the government officials which have been corrupted, and the people who have been duped and swindled.  Quite often some scapegoat will be found to be demonized.

 

I am thinking that this time the problem will arise overseas, with the failure of some major financial institutions there.  Perhaps Greece will provide the spark.  Or the Ukraine, or Mideast, or something yet unforeseen.  The failure of some major European bank certainly has historical precedent.

 

And if we do experience another crisis, do not be surprised if the moguls of finance come to the Congress through their proxies again, with a sheet of paper in hand demanding hundreds of billions of dollars, or else.

Last time it was a bail-out, which was the printing of money by the Fed to monetize the banking losses and shift them to the public.  This time they are thinking of something more direct, talking about a bail-in.   What if they eliminated cash, and started utilizing and redploying financial assets like savings and pensions.   The uber-wealthy already have their wealth parked in hard income-producing assets and offshore tax havens.  Who would stop them?

Like war, there will be an end to this kleptocratic economy of bubble economics and financial crises when the costs are borne by those responsible for it, and who so far are benefitting from it, enormously.

 

Tell us why you think it might be different this time.   What has really changed?  From what I can tell, it has not only stayed the same for the most part under the cosmetics of change, and significant portions of the financial landscape have gotten decidedly more dangerous, larger, and more leveraged.

 

Wall Street On Parade

Here Is What’s Fraying Nerves Among the Financial Stability Folks at Treasury

By Pam Martens and Russ Martens

June 10, 2015

On Monday, Richard Berner worried aloud at the Brookings Institution about what’s troubling the smartest guys in the room about today’s markets.

Berner is the Director of the Office of Financial Research (OFR) at the Treasury Department. That’s the agency created under the Dodd-Frank financial reform legislation to, according to their web site, “shine a light in the dark corners of the financial system to see where risks are going, assess how much of a threat they might pose,” and, ideally, provide the analysis to the folks sitting on the Financial Stability Oversight Council in time to prevent another 2008-style financial collapse on Wall Street.

Two notable concerns stood out in Berner’s talk. First was a concern about liquidity in bond markets evaporating rapidly for reasons they don’t yet “sufficiently understand.”

...Another major concern are the bond mutual funds and ETFs that have mushroomed since the 2008 crisis and are stuffed full of illiquid assets or assets which might become illiquid in a financial panic.

Read the entire article here.

Gold Daily and Silver Weekly Charts - Distorted Markets, Financial Sophistry, and Moral Hazard

There was intraday commentary here that included an interesting perspective from the audacious one percent and their enablers.

And there was another about the current state of political discussion in Britain, a recent awkwardly stated reflection by the Prime Minister that may have revealed the mindset of their powerful, and its possible relationship with the continuum of politics and 'statism' here.

Oddly enough, both seem to have some implications for another question that was raised by a reader who shared this from another site. It was in reference to a posting earlier this week at Le Café that showed that the number of potential claims on actual available gold at the Comex was back to a record high.  

 

And it is further related to a familiar theme about the relationship between a thing masquerading as a market, The Bucket Shop on the Hudson, and THE marketplace for precious metals in Asia and the Mideast.  And the potential longer damages implicit in their protracted divergences.

"It is not meaningful that there are 107.7 claims per registered ounce. you should consider that the ratio between paper SPY and real SPY is infinity.

You are making the fundamentally flawed assumption that you need a physical commodity to determine price. You do not.

It doesn’t matter how many physical ounces there are per claim. It can be 1 or 1000 or 107.7 or infinity and it simply doesn’t matter.

The purpose of commodity markets is not to trade commodities, it is to determine price. There are zero SPY physical contracts and the market works just fine.>

I was a commodities broker and part of the test is to ask the function of commodity markets. Every commodity broker understands you don’t need a physical product.

It’s not a broken system, it’s existed in one form or another for a longer time than currency in any form. But to use it you have to understand it and you do not.

Everyone who owns physical gold or silver bought it with paper. There is no difference, they are fungible. The only difference is the price you are willing to take or to give. Physical and paper are exactly the same.

Saying that financial markets are manipulated is about as meaningful as saying the sun rises in the East. Well, duh?"

What this person is saying is that price really has nothing to do with actual supply and actual demand for a physical thing.   And much worse, they seem to have a remarkable disregard for risk and leverage.  I was originally going to ignore this since it smelled like teen spirit.  But when they came back and announced their expertise, how could I resist using this as an occasion of some education.

Futures are derivatives, bets. They are wagers that are indicative of where professionals think that price is going, should be going, given a set of known and unknown factors with certain assumptions and other factors, including fraud and gaming the system with bluffs, etc.

These types of futures markets began as a means for people who actually used and supplied things like commodities to factor in the risk in the 'future' and to essentially spread the risk around.

The 'futures market' is not the market.   No derivatives market is the market.  It is a reflection of THE market, and that reflection or representation varies in its quality and efficiency from market to market and over time.   This is why we have rules and regulations and enforcement.

A derivatives market is a creature of risk arbitrage, and leverage, and it is a reliable indicator of price to the extent that risk is correctly perceived and priced, leverage managed, and these exchanges are REGULATED against the short term gaming that speculators are often wont to do. 

I really do not blame the guy who thinks these things in his statements above since he knows what he has been taught, and what the financiers think these days are distorted by moral hazard.

The notion that the paper markets can set prices as they will without regard to risk or leverage is a not uncommon assumption held by those in the pursuit of unearned wealth.  That is why we have market crises and crashes.

This willfulness of paper is at the heart of some interpretations of Modern Monetary Theory that enthrones the principle of fiat in determining value above all other considerations, including the willingness of actors in the physical marketplace to accept it at a stated value.  At its worst it is a reflection of a kind of statism.

This flawed assumption of the extensible power of fiat is the basis of every black market and currency crisis in history. 

Commodities are different than stocks, because a stock is itself a derivative wager, a share in the future profits, dividends, and losses of a company.   How can any broker fail to know that?  Pretty basic stuff.   That is the difference between buying bullion and a mining stock.  A futures contract is a promise to buy and sell a thing at some future date.  It is not the thing itself, but it is based on the promise that you CAN do what you say you do.

Like the famous short seller Daniel Drew once said, 'He who sells what isn't his'n, must buy it back, or go to prison.'   But it is not always just a matter price to someone who might really wish to have the thing with they think they are purchasing.

I understand the mindset.  I really do.  It is the same mindset that Kyle Bass calls out in his video below about the Comex about why he chose to take delivery of his gold out of a sense of fiduciary responsibility. 

Commodities are by definition a real thing, and are not totally fungible with paper money at any and all times at a set price.  I think this is the MF Global school of thought, and it is fraught with injustice and moral hazard.  And it is nonsense to think that paper can paper over any and all action or any excess, except in a nation of willful thugs acting in a web of lies that come crashing down periodically.

If you believe in the pricing of things without reference to supply, demand, time, and risk, I invite you to go for a very long and solitary walk into the Sahara Desert, with only the price of a couple of gallons of water and a hotel room in New York in paper dollars in your pocket. 

Enjoy the refreshing and thirst quenching crunch of paper and your comfortable bed of sand.

It is a broken system in which these types of wagers can set price without reference to a realistic set of expectations based on supply, demand, leverage, and risks.  This is where bubbles are born and frauds dwell.

Leverage is a component of risk, but given the state of things, I feel the need to call it out separately since it seems to be fashionable now amongst 'market professionals' to believe that leverage is irrelevant to the point of infinity.   Maybe it is when you are playing with other people's money, and there are no consequences for your actions.

Such a self-referential system does not properly allocate capital for future investment in supply.  It does not inform the planners of changes in consumer interest, and the state of their own needs and conditions.  It does not give consumers the surety that they can actually obtain what they need and when they need it, and not be forced to accept some substitute at a dictated 'price.'

This sort of nonsense used to be relegated to the intraday antics, in which markets are just a voting machine, but you could rely on markets on the longer term to obtain some greater efficiency. The breakdown is that the grift has completely taken over, thanks to the policy errors of the Fed and the regulators.

The financial markets are an enabler, and not an end unto themselves.   And when they lose their proper place in the bigger scheme of economic things where the real markets and people exist, it is because of the moral hazards of an outsized and over-leveraged financial sector. 

It may take some time to catch up with us, but we know that at some point there will be hell to pay in the real world.   And there are those who simply do not care, who are sure they can just take their loot and blithely walk away, if they ever bother to think that far ahead.

How can we not see this lesson now, after all that we have seen and been through over the past twenty years?

We seem to be relearning that lesson about every seven or eight years, and then forgetting.  And until the consequences of their actions are visited on these infantile masters of the universe, I suspect we will have to keep relearning them because they are certainly not going to stop on their own.

 

This is the point of madness to which the sophists of finance have brought us, for any variety of motives.  I don't really care to discuss it any further with these sociopaths and willful fools at this late stage and after the carnage they have created.  It makes me sick to even think any longer about it and where it may be bringing us.

If you do not get this by now, then you probably will not 'get it' until you are searching in the rubble for your face after the next financial crisis. 

Have a pleasant weekend.

 

 

 

 

 

 

 

Moral Hazard: The Abysmal Failure of the Doctrine Of Selective Justice For Finance

Moral Hazard - In economic theory, a moral hazard is a situation in which a party is more likely to take risks because the costs that could result will not be borne by the party taking the risk. In other words, it is a tendency to be more willing to take a risk, knowing that the potential costs or burdens of taking such risk will be borne, in whole or in part, by others. A moral hazard may occur where the actions of one party may change to the detriment of another after a financial transaction has taken place.

Wikipedia says that Economist Paul Krugman described moral hazard as "any situation in which one person makes the decision about how much risk to take, while someone else bears the cost if things go badly."

Moral hazard is not only the misallocation of risk, but the mispricing of risk without significant consequences as well.  This also speaks to the misallocation of risk. As in a bubble.

In our most recent financial crisis we saw both the mispricing of risk in the initial collateralized debt obligations that fed the housing price bubble, and in the aftermath, where much of the consequences of the ensuing financial crisis were allocated to the taxpayers after the fact and without an explicit prior agreement to do so, under duress.

A rather sophistic defense of that approach and subsequent policy was provided by Larry Summers who in September of 2007 wrote an article entitled Beware of Moral Hazard Fundamentalists:

"In the financial arena the spectre of moral hazard is invoked to oppose policies that reduce the losses of financial institutions that have made bad decisions. In particular, it is used to caution against creating an expectation that there will be future 'bail-outs'."

As an aside, when I saw the new 'reform President' bringing in Timothy Geithner, Hank Paulsen, and Larry Summers to key posts in his administration, I suspected that the people's mandate for reform had been deflected, although there was the prior example of FDR bringing in Joe Kennedy to spearhead the SEC.  But, alas, Obama quickly turned out to be no Franklin Roosevelt, but a loyal member of the Wall Street wing of the Democratic Party.

And here we are, SEVEN years later. Forget 'future bailouts.' We have what seems to be never-ending bailouts, and subsidies, and special arrangements, and deals benefiting Wall Street, to the detriment of almost everyone else.

Here is a video of Senator Elizabeth Warren from yesterday's testimony in a hearing chaired by Senator Tim Johnson (D-SD) “Wall Street Reform: Assessing and Enhancing the Financial Regulatory System.”  

She begins by questioning Fed Governor Daniel Tarullo.  As you may recall, the Fed is one of the primary banking regulators, acquiring even more and broader regulatory powers in the aftermath of the 2008 financial crisis.

Her second question about the TBTF Banks and failure resolutions goes to FDIC Chair Martin J. Greenberg.

Near the end is a long statement/question from Senator Richard Shelby of Alabama. 

I bring this to light, in order to respond to those who say that the banking system has already been reformed.   It has not.

It is only 11 minutes in length and is worth watching. You can see it in its entirety here.

Special thanks go to Pam Martens for bringing these quotes to light in her excellent article, Jamie Dimon Gets $8.5 Million Raise for Illegal Conduct at JPM. I had not yet found a proper transcript. Pam's articles are consistently timely and of high content value.

“As Judge Rakoff of the Southern District of New York has noted, the law on this is clear. No corporation can break the law unless an individual within that corporation broke the law. (unlike some recent delusions from the Supreme court about the inalienable rights of soulless, disembodied Corporations which are constructs merely of common law with no superior claim to a higher authority equal to an individual's rights - Jesse)

Yet, despite the misconduct at these banks that generated tens of billions of dollars in settlement payments by the companies, not a single senior executive at these banks has been criminally prosecuted. Now, I know that your agencies can’t bring prosecutions directly, but you’re supposed to refer cases to the Justice Department when you think individuals should be prosecuted. So, can you tell me how many senior executives at these three banks you have referred to the Justice Department for prosecution?...

After the savings and loan crisis in the 1970s and 1980s, the government brought over a thousand criminal prosecutions and got over 800 convictions. The FBI opened nearly 5,500 criminal investigations because of referrals from banking investigators and regulators.

The main reason we punish illegal behavior is for deterrence; to make sure that the next banker who’s thinking about breaking the law remembers that a guy down the hall was hauled out of here in handcuffs when he did that.

These civil settlements don’t provide deterrence. The shareholders for the company pay the settlement; senior management doesn’t pay a dime. And, in fact, if you’re like Jamie Dimon, the CEO of JPMorgan Chase, you might even get an $8.5 million raise for negotiating such a great settlement when your company breaks the law.

So, without criminal prosecution, the message to every Wall Street banker is loud and clear: if you break the law you are not going to jail, but you might end up with a much bigger paycheck.

No one should be above the law. If you steal a hundred bucks on Main Street, you’re probably going to jail. If you steal a billion bucks on Wall Street, you darn well better go to jail too.”

Investment and Insurance: Prospective Risk and Return in Various Precious Metal Investments

To buy, or not to buy? Allocated, unallocated, or exchange-traded, derivative, or nothing? That is the question.

"Simply, antifragility is defined as a convex response to a stressor or source of harm (for some range of variation), leading to a positive sensitivity to increase in volatility (or variability, stress, dispersion of outcomes, or uncertainty, what is grouped under the designation "disorder cluster").

Likewise fragility is defined as a concave sensitivity to stressors, leading a negative sensitivity to increase in volatility. The relation between fragility, convexity, and sensitivity to disorder is mathematical, obtained by theorem, not derived from empirical data mining or some historical narrative. It is a priori".

Nassim Taleb, Mathematical Definition, Mapping, and Detection of (Anti)Fragility

Yes, there is a certain fiendish humour as Taleb introduces this quotation with 'simply' and then goes on to use enough jargon to make the layperson's eye glaze over.

But what Taleb is describing here is a fundamental that many have forgotten. It is the corollary to his more famous observation about 'black swans' and 'tail risks.'

What Taleb is basically saying is that a system or investment that is designed to accommodate infrequent but outsized and somewhat unpredictable risks performs one way he calls anti-fragile. And other systems and investments are designed so that they perform well under 'normal conditions' but tend to underperform, and often badly, during the unexpected.

Here is my own picture of Taleb's concept of how investments react.  It might not be exactly what Taleb himself has in mind, but it something that fits certain other types of information systems in a prior occupation, and how I remember it for my own purposes:

If you want to grossly oversimplify this principle, and remember it as a saying, pick the right tool for the right job, and remember that nothing comes for free. I used this in describing tradeoffs in very complex products and networks, and while it may sound tritely obvious, it worked with a lot of upper level executives.

But what is the job itself? Well, the application defines it of course. But one must also take performance criteria into account, and with performance there are environmental conditions and variabilities. Would you like to have a network that can function for your casual use in your home, or a high performance network that can survive arctic cold and desert heat?

Don't laugh. we used to drop networks into some of the more out of the way and volatile places around the world, put electronic equipment in explosive environments, and met application criteria that had many other product groups running out of the room screaming for momma. It was our particular competitive edge. It only comes with experience, confidence, and a fanatical understanding of the odds and how they can mount against you.

But you don't want to waste money and over engineer something either. That is a good way to go broke. One needs to understand expected performance, and the risk profiles for just about anything that is not merely incidental.

And if there is anything that I wish you to remember from this blog, after all these years, it is the deadly trap of undisclosed risks and the tendency of some to understate those risks for their own short term advantages. And how other people will go along with them for the sake of position, power, and prestige. In a nutshell, this is the story of our recent financial crises.

It is far too complicated to get into this afternoon, but lets just say that a number of mathematicians and industry analysts, among them Taleb, Mandelbrot, Tavakoli, William Black, Yves Smith et al., saw that there was significant undisclosed risk in the system because models (Black-Scholes for example) greatly simplified the risks, and assumed distributions of variability that were not real world realistic.And even worse, in many cases the risks were actively hidden, and even more despicable in the worst of them, purposeful.

There was a movement in finance to force normal distributions onto data that did not really justify it. In order to achieve this, the risk models made certain assumptions, and thereby 'flattened' reality in order to fit the model. What one ended up with was a mis-estimation of the risk probabilities. And so we saw 'once in a hundred year events' happening with alarming frequency, despite the best efforts of the financial planners to smooth them over with piles of bailout money.

Here is a picture of what such a discrepancy might look like:

So the financial system designer likes the normal distribution and makes their operational plans based on that. But why is this? Are they diabolical fiends? Do they enjoy screwing up?

No, they are ordinary people for the most part, but following orders. And the orders are sometimes to take the faux normal approach because it costs less to implement, allows for greater leverage, and fattens profits, at least in the short term. Watering the cattle, cutting a corner,  putting lipstick on a pig. 

Careerism's second law is if you are wrong with everyone else, no one can blame you. And so many financial myths have thereby obtained extended lives, because they provided a fig leaf for someone's self serving ends and moral trembling.  This is in some ways the story behind the failure of our regulatory systems, often staffed by good people but who are underpaid, overworked, and subject to extraordinary political pressure to turn a blind eye to which otherwise might provoke their action.  Especially where there is a lack of complete certainty, which is all too often the case in real life.  The rationalizations are venerable, with their roots in the Garden of Eden.

So what is the punch line?   If you are buying an investment as a safe haven, something that will perform well in a difficult and somewhat unpredictable circumstance, you may wish to take your money into something that is highly transparent, robust made to endure the unexpected, given to few assumptions, and perhaps even strongly guaranteed.

And if you are not, if you wish to invest in something with a decent return, but in your own estimation performs adequately for your time horizons and expectations, then pick the product in which you have confidence, provided it meets your needs and possesses some advantages in features and price.

These principles can be applied to the pros and cons of certain types of gold and silver investments.   And those pros and cons are ALWAYS going to be affected by how you perceive the risks, and how that investment fits into your plans.  This is a given.  And this is why I would never give anyone specific advice, because I am not a financial advisor and do not have the knowledge of their own particular situation, their goals and time horizons.

I will use myself as an example.   I tend to gravitate a portion of my portfolio into very transparent and 'safe' gold and silver investments, where I have a very high confidence in them based on audits, ownerships, and so forth.  There is not much about them I do not know and have to assume.  Yes there are the high improbable outliers like a meteor hitting the earth and bringing on Mad Max and cyclist cannibals, and so one might drop a dime or two on arms and infrastructure just for grins, but by and large I think we can ignore them for now.

But for the most part a failure in the financial system that could be adverse to one's wealth seems a little more likely.  And so a part of my portfolio is in reasonably secure investments that will benefit somewhat from disorder and provide a small premium on return or at least weather the situation well.

And other parts of my portfolio are in investments that are more fragile as Taleb would say.  But they provide a nicer short term return with less expense.  And there is nothing wrong with this.  Not at all.

By the way, and I hate to even bring it up, but gold and silver themselves suit slightly different purposes. Silver is less 'anti-fragile' than gold in dire circumstances, generally.  But it offers some juicy upside in certain circumstances in compensation. And there are always special situations to consider, and for this one might read Richard Russell or Ted Butler among others, who track imbalances and trends that could provide opportunities or risks.

I do not consider gold better than silver; they are different.   And I own both, and invest speculatively in both, at varying intensities depending on the changing context of the markets.  What is better, a hammer or a screwdriver?  It depends on what you wish to do with them.

I would certainly buy some other financial instrument or stock I consider less robust for a quick flip or outsized return.  The miners would fall into this sort of category.  I am sure some of my bank accounts would as well, depending on how high the risks,  And physical property is notoriously non-portable if you decide to take up roots and go to another place.

So, as far as unallocated gold goes, there is nothing inherently wrong with it.   It is a very nice way to own gold with a reduction in expenses.  I am sure not all providers of such a service are equally reliable, and their representatives would do well to discuss their own advantages, guarantees and superior performance as would any provider of products when faced with less reliable competitors.

I will say that deriding critics as loons and charlatans, and referring to a portion of your prospective clients and client influencer base in a generally derogatory manner with a pejorative nickname promulgated by economists who hate precious metals on principle, is probably not a high profile technique in the salesperson's handbook for success.  Answer with facts.  Once you descend to name calling you have lost.  Just a word to the wise, and enough said about that.

Know why you are buying what you are buying, and how it fits into your overall scheme, and what assumptions you are using.  And do not be afraid to have contingency plans and change them if new data comes your way. 

I know it is hard, especially in times of currency wars, because the first victim in all war is the truth.   But don't go off the deep end either, and waste your money on over complex plans or put all your eggs in an improbable basket.  It's your call, and perhaps you need a professional to help sort out exactly what your priorities are. 

I keep a spreadsheet, and on it there is a summary of all my assets, and it fits them into a simple risk portfolio so I can see how they are distributed by risk and by total value.  Since the prices of things change, you have to be aware of how that affects your overall portfolio. I have to say that physical bullion has taken a much larger place in my overall profile since 2000.  But that is fine, I just need to be aware of not letting it become a risk, and to balance it as required.

Would I personally buy GLD as 'insurance' against a systemic failure?  Hell no.  Maybe as a flip investment on a technical trade.  Would I buy some physical trust with strong outside auditing and redemption features that were practically available?  Probably, because it covers a bit of both insurance and investment.  But it lacks the leverage of a small cap miner just for example. But it does not nearly have the risk.

Yes it is 'that simple.'  Which is to say, it can be simple to understand but hard to implement. But you have to start somewhere, and if you start all wrong, it gets worse as you go.  Some parts of my portfolio are for insurance, and other parts are for investment.  They serve different purposes.  I had the damnedest time trying to convince a broker at a white shoe firm who was managing my stock options portfolio of this.  He thought I was schizoid.  He only thought in terms of good stocks and great stocks.  So I got rid of him, as he was too focused on his own goals, even when he feigned altruistic concern for my money.

And sad to say, for most people, their major task is just getting by day to day.  And so the pros and cons of various investment techniques is so much hoohah because their most ambitious aspiration is to stay out of debt, especially usurious and fee laden debts, while putting a little bit aside.  And this is why I spend quite a bit of time writing about these abuses, because I am not only a caterer to the elite, but to our little community which has a range of wonderful souls in it.

As always, the devil is in the details, but it helps if you know the lay of the land, and where you think you are heading, and why.  And of course, you adjust for changing circumstances as they occur.

"Price discovery is not a sexy function of markets, but it is critical to the efficient allocation of scarce capital and resources, and to the preservation of the long term wealth of investors and the economy as a whole. If price discovery is compromised by manipulation, then we will all be gradually impoverished and the economy will be imbalanced and unstable."

London Banker, Lies, Damn Lies, and Libor

There are a number of ways to account for it, but this divergence between 'market prices' and real world supply and demand fundamentals is at the heart of a problem that is called 'the mispricing of risk.'  

That same sort of mispricing of risk is what led to the recent financial crisis, as the values placed on Collateralized Debt Obligations began to plummet from their artificially high levels, abetted by a credit bubble caused by the Fed policies, control frauds, and lax regulation.  The mispricing of risk was also at the heart of the LIBOR rigging scandal, and the gaming of the energy markets by both Enron and more recently JPM, as it is alleged.  These paper games always have real world consequences, and they are rarely beneficial except for a few.

While there are some differences between the gold and silver ETFs that purport to own specific amount of gold, and tracking products that own no shares or none of the underlying commodity, there is little doubt in my mind that the pricing mechanisms of the US and UK markets, at the least, have become perversely detached from real world fundamentals once again.

Such detachment is inherently unstable, and increases systemic fragility.

This includes not only the metals markets, but other commodities, stocks, and certainly bonds as well.  The divergence is justified with the notion that the central bank and its associates makes of the market what they will.  Perhaps we should start calling this 'Crowley-nomics' after England's 'the whole of the law is do what thou will' bad boy.

People do not like to stand up and say so when this sort of divergence happens, because rising markets tend to make such warnings look foolish. And economists can find a rationalization for almost anything in the manner of lawyers and other breeds of sophists.

These things run on momentum and bad behavior by some fairly powerful institutions and individuals. And there is a great deal of money to be made in the meanwhile, and a status quo to be protected.  Timing is problematic when trying to determine when a somewhat opaque control fraud is going to be forced to unwind.  They can remain pathological longer than you can remain solvent, to borrow a phrasing.

There will be a reckoning no doubt, and they always take their shenanigans a step too far.  But try not to jump in front of their boots as they have their way in the short term, since it would seem they operate with semi-official sanctions, and plenty of easy money.

My suspicion is that some portion of this market operation we are seeing today is tied to making a point in the ongoing debate about the suitability of precious metals as reserve assets, and their inclusion in the new reserve currency. There is quite a bit of tension abroad amongst the financial groupings of nations, which I have referred to as 'the currency wars.' Perhaps the model of nations is misleading. It may resemble competing crime families amongst oligarchies more closely.

I do also think that some entity or entities were deeply in trouble on the wrong side of some trades that caused the monetary authorities to 'stare into the abyss' once again. Only time will reveal the truth.

But I agree with David, that there will be a 'closing of the gap' between paper and reality once again, most likely triggered by some 'black swan event' that simply no one could see coming.  Except those that the financiers have worked so hard to silence and discredit. 

And then there will be a thunderclap of convergences, and a recognition that we have been led down the same garden path by the irresponsibles once again. 

This is the continuing story of the will to power and the rule of law,  and the rights of individuals to protection of property and liberty against the incursions of powerful moneyed interests.  In history this is marked by an ebb and flow of lessons learned and forgotten.

Related: A Bull Market In Physical Metal - Maguire

Paper gold, Metal gold – When Worlds Diverge

By Golem XIV on May 17, 2013  

 

The price of gold is going down. That is what the charts, newspapers and pundits are all saying. What I think they are deliberately not saying is that the value and desirability, as opposed to the price of gold, is going up and will go up further.

Make no sense?  Well I think it does if you remember there are two types of ‘gold’ for sale. One is metal, the other is paper. It is paper gold that is being dumped not the metal. The metal is being bought at a fair old rate. But because there is so much paper gold around and the major sellers and market makers in paper gold prefer metal and paper to be confused, even thought to be identical (their trade depends on this confusion), no one seems to be pointing out the very different dynamic happening in paper and  metal gold.

Paper gold is being sold. And those selling it are the likes of Soros Fund Management LLC and BlackRock Inc. As Bloomberg reports today,

Filings showed Soros Fund Management LLC and BlackRock Inc. (BLK) were among funds that cut stakes in the SPDR Gold Trust, the biggest gold ETP, in the first quarter.

Does that say Soros and BlackRock no longer want gold? No it does not. It says they don’t want paper gold. They don’t want paper claims of gold. For those that don’t know ETPs (Exchange Traded Products) are very similar to ETF’s (Exchange Traded Funds) and both a paper claims on something rather than the thing itself.

If you buy a gold tracking ETP you are NOT buying gold.  If you by an ETF based on bank shares, for example, you do not own any bank shares. In both cases you own a piece of paper which says it will match the price of the gold or bank shares. It is these paper claims that big players seem to be selling as fast as they can without it looking like they are going for the exit. In fact, I think that is exactly what they are doing.

The fact is there is a vast pyramid of paper claims on gold which dwarfs the amount of actual gold available. Since the trade in gold ETFs took off we have been living in a fiat gold world. There are as many claims on gold as there are bits of paper on which to print them. And this fact confuses a great deal of the punditry about gold as a safe haven.

In the Bloomberg piece we find Mr. James Moore, an analyst at FastMarkets Ltd. in London saying,

The reasons for holding safe-haven assets have abated…Investors are looking again at stronger growth assets.”

I think he is wrong. 180 degrees wrong. I think the reason Soros and BlackRock are selling paper gold is because they know paper claims are not safe. Bits of paper with the word gold printed on them are not gold themselves and their claims in the metal are not safe. I suspect we will find they have sold paper and bought metal.

I think Soros and BlackRock have sold paper gold because, contrary to Moore, the reasons for holding safe haven assets have not abated but are getting stronger. I am not saying ‘buy gold’. I do not offer investing advice. I am not saying gold will save you. I am also not saying that people are not looking for higher yielding investments. Because they are. They are caught in a nasty trap of really needing yield in a world they can also see is getting more volatile and less safe. What is a thrusting city boy to do? Answer, invest other people’s money in risk and keep quiet about what you are investing in yourself.

Of course you cannot get around the fact that the price of gold is going down. Which would seem to make my argument ridiculous. But it doesn’t. The confusion is that the price and value of Gold backed ETF’s not only ‘tracks’ the value of gold but impinges heavily on it. ETF’s are sold as a way of ‘tracking’ the value of a kind of share or commodity of ‘getting exposure to it’. But the whole family of Exchange Traded products has become so large, in some cases much larger than the size of the underlying market they are just supposed to be passively tracking, that they are not longer just tracking they are having a decisive  influence upon it.

Thus as people sell gold ETF paper, that is causing the price of not only paper gold but metal gold to decline as well. And what I think this is doing is creating a buyers paradise – if you have the pockets to take the risk. With one hand you sell paper claims on gold, let people confuse paper and metal and talk about how the price and desire for ‘gold’ is declining, and then with the other hand buy the metal.

End result the amount of paper gold declines but along side that decline some people sell real gold which you buy. You end up, if the game holds together, being able to buy real metal as the price declines, knowing that the price of paper and metal will diverge, at some point, rather drastically.

While Soros and BlackRock have been selling paper gold China, Russia, India and Iran have all been buying it. Last year alone (2012) China bought more than 500 tons of gold which is more than the ECB owns.

I continue to believe as I have for several years now that China and Russia along with India, Japan, Venezuela and Iran are looking seriously at sharing a new reserve currency and have planned to be able to advertise it as being significantly backed by gold. In that article I linked to a series of articles I have written looking at various aspects of the idea. I think the idea looks more and more likely.

For those who wish I have written about ETFs as being the Next accident waiting to happen and a part two in which I looked at the inherent instabilities of the ETF markets just waiting to blossom, especially as they grow larger than the market they are ‘tracking’.

Originally posted today at Golem XIV by David Malone, author of Debt Generation.

David Cay Johnston: On Crony Capitalism, Control Frauds, and the Gods of Greed and Power

David Cay Johnston is an investigative journalist and author, a specialist in economics and tax issues, and winner of a 2001 Pulitzer Prize.

Since 2009 he has been a Distinguished Visiting Lecturer who teaches the tax, property and regulatory law of the ancient world at Syracuse University College of Law and Whitman School of Management.

Why have you never heard of David Cay Johnston or his ideas before? Why is he almost never interviewed on the mainstream media.

Because in times of general deception, telling the truth is a revolutionary act. And we are in those times, and are caught in a credibility trap.

It is not the same as a coup d'état, but has many of the same appearances and characteristics.

It is the convergence of like minded kleptocrats and the amoral careerists who support whatever status quo that happens to exist. It is the banality of the willing functionary and the bureaucrat, and the inability of a moral center to withstand it.  

Neither austerity or stimulus will work until there is meaningful reform.

Risk: It's Not Just a Board Game

LIBOR and the Mispricing of Risk: The Dark Heart of the Systemic Fraud - Do Something

"Price discovery is not a sexy function of markets, but it is critical to the efficient allocation of scarce capital and resources, and to the preservation of the long term wealth of investors and the economy as a whole. If price discovery is compromised by manipulation, then we will all be gradually impoverished and the economy will be imbalanced and unstable."

The blogger London Banker writes an extraordinarily insightful piece today that perfectly captures what I have said for some time now, and probably phrased more elegantly and persuasively than I have been able in my own efforts.

Fraud is the mispricing of risk and misreprenting the value of transactions for private benefit. And the fraud we are seeing exposed in the Anglo-American financial system is not incidental, it is not a lapse in safeguards, it is not a rogue operation, not a one-off, but rather it is a 'feature' of the system itself.

The financial system has become, through misplaced ideology and regulatory capture, and most importantly the corrupting influence of easy money on the morally weak and ambivalent, a gigantic con game run for the benefit of a few elite insiders who have been systemically looting the real economy for the past twenty years.

July 14 is Bastille Day. This might be a good time to resolve to do something peaceful but firm to let those around us know that this will not be tolerated any further, that it has gone on long enough, and that people are aware of it and care about it.

Write a letter, forward an article to friends, make comments on sites, stop doing business with bad actors, take your money out of Wall Street and the City of London, make some quiet gesture, and that little action will combine with other actions to form a swell of opinion that cannot be ignored.

If you don't like your choice in politicians, don't take it quietly. Boot them all out if you have to. Let them know that second rate is not good enough.  Refuse to be used.  Refuse to do business with them.  What they cannot take away from you is your refusal.

If you act like a sheep or a cockroach, then they will treat you like a sheep and a cockroach.

The most important thing is to do something, if only for yourself, so that you will not feel powerless and disconnected from your fellows, many of whom feel the same as you do. Then no one can you have done nothing. And if you can, get into the habit of doing something little every chance you get, every day, to assert your humanity as a small act of defiance. Sometimes its the little things that make life worth living.

And above all, stop passing the lies around, and listening to those who put them out there to trick and confuse you.  You can spot them by their ugliness and mean-spiritedness.   Do not be a part of the problem.  Reject the naysayers, the cynics, and those who sap the life and energy from you with their negativity and fatalism.  They may be dead to life, but you do not have to join them.

'Thou shalt not be a victim, thou shalt not be a perpetrator, but, above all, thou shalt not be a bystander.'

The Banks must be restrained, and the financial system reformed, with balance restored to the economy, before there can be any sustained growth and recovery.

Lies, Damn Lies and LIBOR
By London Banker

I've been hesitant to write about the LIBOR scandal because what I want to say goes so much further. We now know that Barclays and other major global banks have been manipulating the calculation of LIBOR through the quotation data they provided to the British Bankers Association. What I suspect is that this is not a flaw but a feature of modern financial markets. And if it was happening in LIBOR for between 5 and 15 years, then the business model has been profitably replicated to many other quotation-based reference prices.

Price discovery is not a sexy function of markets, but it is critical to the efficient allocation of scarce capital and resources, and to the preservation of the long term wealth of investors and the economy as a whole. If price discovery is compromised by manipulation, then we will all be gradually impoverished and the economy will be imbalanced and unstable.

Over the past 25 years the forces of regulatory liberalisation and demutualisation of markets have allowed the largest global banks to set the rules, processes and infrastructure of global markets to their own self-interested requirements. Regulatory complexity and harmonisation benefit the biggest banks disproportionately, eroding the competitive stance of smaller, local banks and market participants. This has led to a very high degree of concentration in a very few banks in most markets that determine global reference rates for interest rates, currencies, commodities and investments. If those few collude with each other - as Adam Smith warned was always the result - then they impoverish us all.

We have allowed markets to evolve in ways that make supervision of markets almost impossible. Many instruments trade off-exchange or in multiple venues, making it nearly impossible for any single investor or regulator to supervise trading to prevent or detect manipulation or abuse. Many financial instruments are now synthetic compilations of underlying assets and derivatives, with multiple pricing components determined by reference to other prices or rates. Demutualisation and regualtory reforms stripped exchanges of the self-regulating interest in preventing manipulation and abuse by their members as mergers, profits and market share came to dominate governance objectives.

Off-exchange trading has been allowed to proliferate, creating massive ill-transparent and largely illiquid markets in almost every sector of finance. Pricing in these markets is based around calculated reference rates which, like LIBOR, are open to abusive quotation and data input practices. Many OTC derivatives are priced and margined using reference rates calculated against quotations unrelated to actual reported transactions. Synthetic securities such as ETFs are another example of an instrument that prices off a reference rate rather than the actual contents of an underlying asset portfolio. These instruments are open to consistent abusive pricing as a means of incrementally impoverishing those market participants who are the krill on which the global banks thrive.

How has it been possible for banks to grow from less than 4 per cent of the global economy to more than 12 per cent of the global economy without impoverishing others? How has it been possible for profits in the financial sector to be consistently higher than profits from other human endeavors with more tangible products or impacts on our daily lives - such as agriculture, transport, health care or utilities? How has it been possible that banks derive their profits not from the protected and regulated activities of deposit-taking and lending, but from the unsupervised and often unknowable escalation of off-balance sheet assets and liabilities? How has it been possible that pension savings have increased while pension returns have declined to the point where only bankers can expect a comfortable old age? Global banks have built the casinos and tilted the odds in the house's favour by rigging the data that determines the outcomes of most of the bets on the table. Every one of us that sits at the table long enough - whether saver, investor, borrower, taxpayer or pensioner - will be a loser. It is not a flaw; it is feature...

Read the rest here.

Warren Pollock: Overall Derivative Market Contracts - Warning Signs

I have spoken before about the fallacy of netting and the danger of instability in the derivatives market.

Critical Mass: The Mispricing of Derivatives Risk and How the Financial World Ends

Here is Warren Pollock's take on this and on the recent contraction in nominal value of the global derivatives market.

"Ponzi schemes can go on for a long time under the mask of expansion; these frauds blow up during a contraction of new money being input into them.

Such may be the story of credit derivatives as we see a working contraction in the notional value of these instruments as reported by the comptroller of the currency. In simple terms the number of these instruments has gone down to a mere 240 Trillion!

The premise for this ponzi is the concept of netting whereby risks off offset on paper under the false justification that positions can become risk neutral. In this ponzi scheme the efficacy of the netting process has magically risen from 50% or so to an astounding 92.2%.. This means that the reported risk of 240 Trillion is only 8% of the notional amount.

In less insane times the notional risk was reduced to a mere 50% through the netting process. Even with 8% risk not covered by netting the liabilities of JPM and others are far greater than their assets under management. The problem being that JPM's assets are secured by its liabilities and the liabilities of banks tend to be YOUR Savings.

With changes to Safe Harbor rules the government is not only facilitating fraud with these netting assumptions but they are also putting your savings at risk by giving the coverage of derivatives priority should there be a dispute. This very issue is being worked out presently with MF Global."

The Failure of the Current Banking Model and the Deliberate Mispricing of Risk For Personal Gain

“Fraud and falsehood only dread examination. Truth invites it...Whoever commits a fraud is guilty not only of the particular injury to him who he deceives, but of the diminution of that confidence which constitutes not only the ease but the existence of society."

Dr. Samuel Johnson

This enlightening essay excerpted below is remarkable because the author strikes right to the heart of the matter, rather than endlessly talking around technical details of how to 'fix' things, adjusting this and that, which is what people close to, if not caught up in, the financial problem are often wont to do.

And such a tinkering discussion  of it is a trap.

The patient does not require a pill or a poultice, a better diet or dental health regime, but surgery, and the sooner the better. The Volker Rule is a dulled knife, but directionally correct.  And the banks fear it, and hate it, as they do all meaningful reform. Theirs is the art of privileged deception, and it is the common cause they find with their political systems.

And of course and unfortunately it is the same with their central banks and the corporations that have grown up around them, who are upholding the exorbitant privilege, and danger, of the dollar reserve currency, which is to their benefit, by the massive mispricing of risk every day in the bond and currency, metal and derivatives markets. And the interval between major interventions is decreasing, such is the decay of their position.

The ongoing and conscious mispricing of risk is going to cause a second financial crisis that will be much worse than the first, which was also due to the conscientious mispricing of risk with the intent to take advantageous profit, which is a euphemism for fraud.

Fraud is corrosive, and impinges on what Samuel Johnson called that confidence which constitutes the ease and existence of society. And taken to the extreme levels which we have seen from the Wall Street Banks, the manipulating of markets to achieve personal profits, even under the excuse of governmental ends, becomes an assault on society as a whole.

The author is David Malone, a second generation documentary film maker.

And a special thanks to friend and City maven 'Harry' for sending this my way. And for passing along the amusing commonplace in the City of JPM and GS as Professor Moriarity and Colonel Sebastian Moran.

I have previously imagined the US Ratings Agencies with a Pythonesque twist, as The Crimson Permanent Assurance. And perhaps in a similar whimsical vein, JPM and GS are more like Captain Flint and Long John Silver, with Canary Wharf as Dry Tortuga.

And Bernanke is the Parrot. Pieces of Eight!   Arrrrrr.

Propaganda Wars : Our Version – Risk Weighted Lies. 1
By Golem XIV
February 28, 2012

The core claim of the Big banks and those who support them is that the financial system, as it is presently constituted, is not only fair and fit for purpose, but essential for our continued welfare. People should therefore stop complaining and knuckle down to suffer whatever deprivation is necessary. All must serve the greater good. Or as it should really be known – the Good of the Greater.

The banks are not frightened by a bank failure or two. As long as governments are prepared to force their people to bleed for the banks’ welfare it can actually be an opportunity. A bank failure is just a chance for the better connected ones to predate. Neither are they worried by a case of fraud here or an indictment there. They will settle for a sum which is of no significance to them, in return for a “no admission of guilt” clause. If necessary they are even prepared to throw one of their own to the baying crowd. No one in banking shed a tear for Fred the Shred. And why should they? Call him greedy if you want. See if he cares. He’d already sucked his millions from the wreak he left behind.

What scares the banks is any criticism that goes beyond claims of greed or fraud or even incompetence, and instead questions the system itself. The sanctity and perfection of the system and its right to ‘regulate’ itself, is what they are totally committed to protect. The system is what gives them their status and wealth. Question that and you threaten them where they are vulnerable.

It seems to me therefore that it is high time we questioned not just the probity, or even the solvency of the big global banks but their very intellectual foundation. It is time for us to wrench back the initiative from the banks. The financial elite have spent all this last year rewriting history so that blame for the banking crisis has been turned away from them and laid instead at the door of ‘people’ and then entire nations who ‘took’ on debts they coudn’t afford.

It is time to counter-attack and make the case, that it was and is the way that banks and banking go about their normal business that caused this crisis and are still causing it. We have to show that it was not a break down in an otherwise fine system which caused this crisis but that it was a result and consequence of a system which is an utter failure at doing what it prides itself most on being able to do – managing risk. Not just a onetime failure but a systemic failure which presents an on-going danger to the rest of us.

So let’s be clear. There is no systemic risk at all in welfare spending, no matter how large it becomes, for the simple reason that there is no surprise in welfare spending. It does not jump out at you unexpectedly. Welfare and social spending are a slow moving behemoths that can be seen coming for decades ahead. The only danger is they will trample you to death if you are stupid enough to stand there for decades listening, slack jawed, to the competing teams of witless cretins whose flatulent play-acting is all that remains of our political process.

There is, I suggest, a very clear, present and on-going systemic risk and danger from global banking. It was, after all, banking not welfare which gave us the phrase ‘systemic risk’. Bankers deal in risk. The welfare state deals in…welfare. Like it or loath it, there is no ‘risk’ in welfare or in social spending. They are linear and entirely predictable problems. Banking on the other hand not only deals in risk, it manufactures it. Risk is what bankers bank on.

Don’t take my word for it. Andrew Haldane is the Executive Director for Financial Stability at the Bank of England. In his speech at the London ‘Future of Banking’ conference held in July 2010 he said rather clearly (Page 14),

…banks are in the risk business…’

His entire paper was analysing the ways in which banks create risk and then systematically mislead us and even each other about what they have created.  He goes on to say (Page 14),

…it should be no surprise that the run-up to crisis was hallmarked by imaginative ways of manufacturing this commodity, with a view to boosting returns to labour and capital. Risk illusion is no accident; it is there by design. It is in bank managers’ interest to make mirages seem like miracles.

The mirage he refers to is the contribution banks claim to make to our over all economic well-being and security...

Read the rest here.

Performance of Stocks, Bonds, and Gold In an Inflationary Environment

Jeremy Grantham's GMO group has produced an interesting study showing the performance of three asset classes against inflation.

I think the true correlation is with negative real interest rates rather than inflation itself. In an inflationary period, interest rates tend to lag the increase in inflation, producing negative real rates.

But in a period of economic decline in which the Fed lowers rates artificially, negative real rates can also be created and rather more easily than some amateur economic theorists believe.

To slightly complicate matters, the markets tend to anticipate, tend to act on expectations before the reality of something. So we might see something like gold or interest rates signaling a period of inflation well ahead of its appearance, if they are allowed to seek their own levels in the market.

If you think about it, the correlation with negative interest rates makes sense. In a period of negative rates, all currency heavy financial instruments are probably facilitating the confiscation of wealth by the official banking system. Since gold has relatively little counterparty risk if properly held, it is likely to be considered a safe haven, in addition to other hard assets and stronger alternative currencies if such things are available.

Unfortunately for analysis, things are never so simple in real life.

In addition to negative interest rates, there are other forms of wealth confiscation, including the fraudulent mispricing of risk, outright fraud itself, and currency devaluation.

And finally, there is the sort of price manipulation which the Western central banks engaged in for a long period of time in strategically selling off portions of their gold in order to hold the price lower in a disastrous attempt to manage the financial markets and silence the warning signal from gold as asset bubbles began to build in the credit markets and the Bretton Woods global monetary agreement began to fall apart.

And so what might have been a gradual price increase in gold and silver instead became a powerful rally as the markets sought to correct to the primary trend once the banks stopped being net sellers of gold.   Now the financial system can only use other means in order to try and control their ascent to a genuine market clearing price based on years of monetary inflation.  There are various estimates of what that eventual price might be, but it most certainly is much higher than where the price is today.

Years of underinvestment in mining has created a dangerous shortage of gold and silver relative to potential demand.  Various financial instruments have been introduced to provide 'paper gold and silver' to meet that demand.  In addition, even physical exchanges like the LBMA have been pushed to dangerously high rates of leverage as demand for bullion outstrips available supply.  And so the markets drift inexorably into great opaqueness and repeated frauds because the world of paper has unhinged itself from reality across multiple fronts.   The problem is that the state of the currency feeds into all finanical markets and so a mischief done there spawns its children everywhere.

As one might suspect, the credibility trap in which the financial engineers find themselves causes occasional outbursts of hysterical animosity and antagonism against the reactions of the markets, and the reality of their own economic chickens coming home to roost. 

This is a recipe for disaster, and we can thank the Anglo-American banking cartel, and their gullible accomplices in the other western banks, for it when it happens.  When Dick Cheney said, "Reagan proved that deficits don't matter" what he did not realize was that he was reading the epitaph for the dollar reserve currency system that had been in place since the end of WW II.   They do matter, but sometimes the lags in time between cause and effect can be deceptively reassuring.

Debt may not matter in the short run, and Keynes had some very good and valid points to make about government stimulus during short periods of economic slumps to avoid feedback loops and the spiral of decline.   As an aside I wonder, if Keynes came back and saw what his acolytes were saying in his name, if he could stop throwing up.  When he found new facts he changed his mind, and I suspect he might have changed his and strongly cautioned against turning a remedy into an addiction to support  habitual corruption and unsustainable privilege.  But I do not know if he was that honest of a intellect, or would have merely gone along with the rest for the benefits of his class.

Huge deficits over long periods of time to finance non-structural consumption and underwrite malinvestment and currency manipulation are almost invariably toxic.  The 'vendor financing' that gave rise to the age of 'Asian miracles' is the rope which will be used to hang the capitalist system unless strong measures are taken to clean up the corrupt system that grew up to support and profit from this economic Frankenstein.

The only reasonable course of action is for the West to nationalize its TBTF banks, dismantle them gracefully while keeping their depositors whole, and give up their dreams of global and domestic financial domination by adopting a system of real capitalism based on market pricing, price discovery, competition kept intact from monopoly through effective regulation and law enforcement, transparency and a climate of honesty.  But that would visit restraint, inconvenience, and even some pain on the powerful and privileged, those who have benefited greatly from this long charade, so it will be resisted to their bitter end.

While the stock and housing market bubbles have burst, the bond bubble, which includes the US dollar as a bond of zero duration, remains to be resolved and marked to market.

Source: Jeremy Grantham's 4Q 2011 Investment Letter