Thursday, January 7, 2010
Doug: Well, the new currencies discussed in the news have caught my attention.
L: Ah, yes. Hugo Chavez is launching a new virtual currency among some Latin American and Caribbean countries called the sucre. It looks like its going to be little more than an accounting fiction among trading partners. But the new currency the Persian Gulf states are talking about launching, the so-called gulfo, that looks more like a serious contender. What do you make of this?
Doug: My first reaction is to say, Monkey see, monkey do. In imitation of the European Union, these people are monkeying around with what should be money. That's gold, of course. But you know, I've been surprised that the first of these Esperanto currencies, the euro, has lasted as long as it has. It was officially adopted in 1999, though not put into actual circulation as bank notes and coins until 2002. It started out with a theft, in that the old currencies that people had were only good for another three years. After that, your deutschmarks, guilders, francs, and what-have-you were good only for wallpaper. If you had any stuffed under your mattress, you found out what their intrinsic value was.
But the euro that's replaced them, too, is backed by nothing. Nothing but the good faith and credit of the participating governments which are all going bankrupt. The problems in the EU aren't just with Greece, Italy, and Spain; Britain and France are being downgraded, and its going to get much worse.
L: But wait a minute, is the euro really backed by even that? Well, maybe good faith, whatever that is, but not the credit of the participating countries. What would that mean? Credit in what? You cant take euros to the German government and say, I want deutschmark for these. Certainly not gold. If the dollar is a floating abstraction, the euro is all the more so, trying to stay afloat on a void.
Doug: I agree. If the dollar is an IOU nothing, the euro is a who owes you nothing. When it collapses, a lot of people are going to suffer a big wealth haircut. Bernie Madoff swindled thousands of people out of billions. The euro will swindle millions of people out of trillions.
L: Right but then is it accurate to say that its backed by the good faith and credit of these governments? I don't think it is.
Doug: That's a good point. The average urban peasant in Europe thinks his government is somehow watching out for him. I suppose that's true, at least the way a dairyman watches his cows, or a swineherd watches his pigs. But the euro really is backed by nothing. Though, at the moment, you could say its backed by Mercedes cars and Gucci bags anything you can trade euros for. But that's for a limited time. I'm absolutely convinced the euro is going to fall apart it makes no sense at all. It might be convenient for the national governments to then blame the European Central Bank. There will be recriminations and bad feelings all around.
And yet, its had a period of relative success against the dollar, and since phony economics reigns everywhere in the world, its not surprising to see other countries wonder if they can pull off the same scam.
L: Sure: If it worked for them, why not for us?
Doug: Exactly. The thing is that in the case of the Gulf countries, nobody uses those currencies outside of the issuing countries. They are really non-entities and everyone would like to secure the advantages the U.S. dollar has for their own countries. When other countries use your currency as a reserve, or even as their own currency, you can print the things up by the truckload and ship them overseas in exchange for valuable goods. You can essentially export inflation.
Its a subtle fraud that's worked for the dollar and, to some degree, its started to work for the euro. People see that its backed by big countries that are perceived to still be wealthy, so they accept euros with some confidence. Its a colorful, arty, well-printed currency, which comes in denominations up to 500. Arabs would like to see their currency accepted with equal confidence.
L: Sure, why not?
Doug: Hell, I'd like to have a government and print up my own currency too. And Chavez and his cronies in these nothing-nowhere countries like Honduras and Cuba would love to have a central bank that gets that kind of respect. The Cuban peso has zero value outside of Cuba, and almost zero value inside Cuba. Cubans don't use it if they can possibly avoid it, and never hold it. Its like the Old Maid card. And that's within a police state, where everyone has been indoctrinated over three generations about how their governments paper was actually better than gold. Lenin quipped that it's best used for constructing urinals in an ideal socialist world. And of course if you're very wealthy, or a fool, you can certainly use it that way.
But it's not going to work. I guarantee that where these things don't turn into total disasters, they will come to nothing. Anyone who is holding assets in sucres or gulfos, just like euros and dollars, is going to be left with nothing when the game of musical chairs stops.
Look at the sucre. Its supposed to be for trade between the participating countries. They wont actually issue paper money or coins. If they are just going to use it to settle trade between themselves, its just an accounting gimmick. The whole thing is ridiculous. The first trade in the sucre is supposed to happen between Venezuela and Cuba for a shipment of rice, any day now. What of real value could the Cubans possibly use to pay for this? They produce absolutely nothing but sugar and cigars.
L: So Instead of paying with sugar and cigars, they'll pay with sucres, which they got like imaginary monopoly money at the beginning of a game? And the Venezuelans will take these and use them to buy something really exciting from Bolivia?
Doug: [Laughs] Yes, perhaps a boatload of alpaca wool sweaters. The whole thing is ridiculous. Its really nothing more than a bunch of bankrupts passing IOUs around to each other. They make each other feel as though they've been paid, when in fact they all have nothing.
We have to start by asking: What is a currency?
The answer is that a currency is a government substitute for money.
This originated in the practice of private banks to issue bank notes. You'd take your gold to a bank, and the bank would issue you a paper note attesting to the gold you had on deposit. Why would they do this? Because its more convenient to carry a paper in your pocket than a large amount of gold. That's how this started, with bank notes that represented real money in storage.
And then, as governments took over the function of banking with their central banks every country has a central bank now they, too, printed up bank notes (currencies) that represented gold on deposit. After a while, people seemed to forget that the currency only represented value and had no intrinsic value of its own, and governments were able to stop backing their currencies with anything at all.
That's how the modern financial world works; its entirely based on nothing masquerading as something of value.
L: I guess its a cultural thing, like a witch doctor whose spells are backed by the full faith and credit given him, which is indeed powerful in a society that believes in them. Because everyone believes, when he says certain things will happen, they do, and people accept his powers as real. But he does not, in fact, command any magical forces, and the paper currencies people accept all around the world do not, in fact, represent any real value. At some point, reality asserts itself, as when the witch doctors powers fail in some vital task. That may be what's happening to paper currencies in the world today; if the U.S. dollar follows the Zimbabwe dollar, the whole paper fade may be torn apart, beyond any repair.
Doug: That could be. Although, while inconvenient in the process, it would be a good thing in many ways. These governments labor under the conceit that printing up more paper will create more wealth. The truth is that it does just the opposite, because the inflated money supply sends false signals to the market, and people build things, buy things, invest in things, etc. that they would not do without that false information. That's how governments distort economic decision-making and create massive misallocations of capital.
L: Have you seen that YouTube video on China's empty city?
[Ed. Note: http://www.youtube.com/watch?v=0h7V3Twb-Qk]
Doug: That's a perfect example.
L: Well, monkey see, monkey do is a pretty negative assessment of these new currency ideas, but isn't there a positive side? Not that they'll actually work, but that they might hasten the collapse of the paper charade?
Doug: It certainly is a sign of the times. It shows that all these other governments, at least, can see the writing on the wall and want to get away from the U.S. dollar. They know that if they keep using dollars and storing them, they're going to end up holding the Old Maid card, or getting burned by the hot potato, if you prefer. That's the economic reason. In the case of people like Chavez and Morales, they want to get away from it for political reasons as well. There's no reason to want to help the enemy by using his currency.
But the Russians are playing it much smarter. They've been consistently and significantly building their gold reserves over the last several years. They seem to add substantially to those reserves every month.
For a long time, I've thought that what will happen is that someone will come out of left field and offer the world a gold-backed version of their currency. It could easily be the Russians, or the Chinese. And if they did it right, making the currency fully redeemable in gold, that currency would become the strongest in the world. As a result, capital would pour into their banking system. And, assuming they made some other reforms, namely cutting taxes and regulation, their economies would become real powerhouses producing sustainable growth.
L: So, back in June of 2006, when we wrote about a credit crisis leading to a currency regime change in the International Speculator (back before it split into The Casey Report to cover the big picture and Casey's International Speculator to cover the junior gold stocks and similar speculations), you weren't thinking that the euro would take over from the dollar?
Doug: No. I meant that this worldwide experiment with fiat currencies is going to come to an end. And its going to come to a bad end. And I suspect that its going to be sooner, rather than later.
Remember the basics: What is money? Its a medium of exchange, its a store of value, and, if you wish, its a unit of account. It shouldn't also have to serve as a political football. Paper can work for a while, while there's confidence in it, but in the long run, nobody wants to have to trust anyone certainly not a bunch of bureaucrats to maintain the integrity of what you keep your wealth in. So you want some form of money that can serve those three basic purposes and that you don't have to take on blind faith. That means you've got to use a commodity-based money, and the best commodity to use for money is gold.
The reason for that is simple physics, not gold bug superstition. Its not mysticism, and its not barbarism. Its simply because gold has the five characteristics identified by Aristotle we've talked about this at some length before. Gold is durable, divisible, consistent, convenient, and it has utility and value in and of itself. Also, it cant be created out of thin air. That's what makes gold a particularly good money. It has the right characteristics for use as money, just as aluminum is particularly suited for making aircraft and uranium is useful for reactors. Only an idiot tries to put a round peg in a square hole, year after year, trying to make it fit somehow.
L: But that kind of thinking is so alien in the modern world, do you really think a government could adopt a new gold standard? I suppose someone could stumble across the right idea and it could be adopted, not because an enlightened government at last understood the importance of real, sound money, but simply because they had no choice. But it just seems a bit far-fetched.
Doug: Sad but true. Especially when you consider that if a government took its currency back onto the gold standard, it would be, in fact, giving up a lot of power. Paper currencies allow governments to tax in a very subtle way, through inflation, and they wont want to give that up. And the phony economics that are popular today make everyone believe that governments have to stimulate economies another really stupid and counterproductive idea. There are severe limits to how much of that you can get away with if you actually have to have the gold in hand to pay for things. Its a stretch but so is the impossible tight wire they are trying to walk between maintaining some value in the dollar and stimulating the economy now.
L: On the other hand, suppose the Gulf states launch their gulfo and it flops, so they decide to give it some real backing I wouldn't see them reaching for gold first, but they have a lot of oil, and crude oil is pretty divisible, reasonably durable, and valuable. Its not nearly as concentrated a value as gold, so its not very convenient, and its not at all consistent there are numerous grades of the stuff that meld into one another from heavy oil to light sweet crude but it is something in demand all around the world. It just seems like it would be easy for them to think of this.
Doug: Yes, but it would be hard for individuals to take delivery of, say 10,000 dollars worth of oil they're not set up to store it, and even if they were, it'd be hard to truck it to the store.
L: That's true, but this is the 21st century. You wouldn't have to take $10,000 worth of oil with you anywhere, any more than you'd have to take $10,000 worth of gold. There could be trusted warehouses, for example, that issue warehouse receipts, like the old bank notes but transferrable electronically with something like a debit card. I'm not saying it would be better than gold, I'm just saying that, while its hard for me to see any central banker deciding to convince his or her head of state to take the country back onto the gold standard, I could see guys from a bunch of oil-producing countries deciding to back their currency with something real which they have an abundance of.
Doug: Well, anything's possible, and it would be a step in the right direction. Although I could easily put $10,000 of gold in my shirt pocket. Anything commodity-based would be better than the current regime, even if its suboptimal, like oil. Look, the market will decide what works best as money. I don't really care if people decide to go back to salt or cows, or use seashells or bottle caps. The point is that money shouldn't be something controlled by the state, because they will find some way to corrupt it.
The good news is that the nation-state is on its way out (as I mentioned in our conversation on the military). The thing that amazes me, though, is the insane anti-gold psychology that prevails among academics and the ruling classes. Its actually a psychological aberration with these people. But I suspect that's because gold gives them much less control over individuals, and allows individuals much more control over their own destinies.
L: Okay, so, whether they work out or not, the emergence of these new currencies seems to back the idea of currency regime change. But haven't others tried this before? What about the Islamic dinar?
Doug: Yes, that's a very interesting example. I have a lot of problems with all religions, as you know, but Islam is particularly problematic, because its much more than just a religion. It inserts itself into absolutely every area of life socially, politically, economically everything. But, looking at the bright side, in the Koran, Mohamed says excuse me, Allah says, because everything in the Koran is the incontrovertible word of Allah that the dinar is a certain weight of gold, and that the diram is a certain weight of silver. This is what you're supposed to use for money.
So, its a little bit surprising to me that these Islamic theocracies choose to overlook the word of Allah regarding money. Oh well, so much of religion is about hypocrisy. Even when they come up with a good idea, that's the one they find some way around
At any rate, Mohamad Mahathir, former prime minister of Malaysia, floated this idea of going back to using the dinar and diram ten years ago, at least for settlement of trade between Islamic governments. It never got off the ground I suppose that was because those governments knew better than to trust each other to actually deliver on the gold and silver those currencies would have been meant to represent. Every government in the Muslim world is a kleptocracy, even to a greater degree than those elsewhere. Which is strange, in that I believe the average Muslim tends to be more honest than the average Christian in financial dealings.
L: If that's so, then maybe this new gulfo is a necessary missing link. If you could establish an Islamic intergovernmental monetary authority that had credibility, then maybe people would trust in the redeemability of a new dinar and diram it issued.
Doug: Well, it might work, but its still unnecessarily complex and prone to trust problems. Who would guarantee the good behavior of the gulfo authority? Governments get overthrown or subverted all the time. And agreements between governments literally aren't worth the paper they're printed on. Why should anyone trust a cockamamie artificial unit, constructed out of whole cloth by the type of people who are employed by a government?
The ideal would be for people to simply start using gold as money again. There would be no fractional reserve banking, because gold can only be in one place at a time banks would only lend money they actually owned, or that was entrusted to them for only that purpose, and you can bet they'd be a lot more cautious in doing so.
This ridiculous old chestnut about gold not paying interest is baloney paper money doesn't pay interest either. What pays interest is lending money to people who put it to some sort of creative use that generates more wealth, enabling them to pay back more than they borrowed. It would work for rubber balloons too, if you could get them accepted as money and they could be lent out to entrepreneurs to create wealth.
All these ideas people have about money in our world, which has been functioning without real money for decades, are so perverse that it makes me wonder if the presidential palaces in places like Washington and Caracas aren't located in an alternate reality. Frankly, I get rather impatient with people who talk about what the government should do to fix the problems, how the monetary system should be reformed, etc. Its all nonsense. Its all a waste of time. It would all be so much simpler and sounder if governments could be completely banned from having anything to do with money. We should just let the market decide, and if the market had to deliver a money, it would almost certainly be gold, because its the commodity most suited to it.
L: To some degree, the market is responding to governments failure to produce reliable money. There have been several gold-backed currencies established in recent years, though they have to be careful what they call it. There was NORFED, which went to great pains not to call itself a money, nor its silver tokens coins but was still getting its gold and silver warehouse receipts accepted as payment by all sorts of businesses, including some Walmarts until it got shut down by Uncle Sam. E-Gold was the first digital gold currency that saw fairly widespread adoption until it, too, got shut down by the U.S. government. Now there's GoldMoney.com, which seems to be pretty open about competing with governments in the currency business What do you make of all this?
Doug: I've got to say that I have a lot of confidence, personally and professionally, in Jim Turk and GoldMoney.com. Im a very small shareholder, as is Casey Research, actually, though I admit that might be thinking with our hearts a bit as well as our heads. But I think GoldMoney.com is going to grow, because it allows you to store your gold at very low cost and settle transactions with other account holders. Its not actually a bank, because it doesn't lend gold. Its simply a gold storage mechanism and a transfer mechanism.
Incidentally, to the best of my knowledge and I'm no tax attorney, so you should check with a good one but to the best of my knowledge, gold stored with GoldMoney.com is not reportable under current U.S. law. So, its a very convenient way to diversify your assets internationally and out on the Net, without the onerous reporting requirements that come with actual bank accounts.
L: So, GoldMoney.com is your preferred digital gold currency. Can you say a bit more about how that works, for those not familiar with it? Can they go down to the local Safeway and use it to buy groceries?
Doug: They could if the local store had a GoldMoney.com account. That wouldn't be a Safeway, probably, but a local store might have an account. Then you could use computers to transfer X grams of gold from your account to the stores account, and they'd give you your rice and beans, or champagne and caviar, or whatever you were buying.
L: Most stores don't have computers with Internet browsers at their check-out stands.
Doug: No, its not widespread in commerce yet, but as it becomes so, someone will probably find a way to make a buck distributing dedicated hardware to take care of the transactions, just as stores have adopted credit card terminals. But as individuals, you and I could agree that you'll buy my car for X grams of gold. You'd log on to your GoldMoney.com account and transfer the gold to my account, and Id log on to verify the transfer, then Id give you the keys to the car. There are scores of thousands of individuals you can do business with in this way today.
I think everyone ought to have a GoldMoney.com account. Although the first thing is to have a bunch of gold coins in your own possession.
L: Why do you think this one will be any more government-proof than E-Gold or NORFED? I've got to say that I was an early E-Gold adopter and had accumulated some gold on my account. After the feds moved in and shut them down, I'm a bit hesitant
Doug: First of all, E-Gold was run entirely from within the United States, which made them a sitting duck. I also understand that their accounting systems were not so great, which led to many problems. GoldMoney.com stores its bullion in vaults in London and Zurich, and they are very, very careful to work within the bounds of the law although the law is an arbitrary thing at best, and governments feel no need to obey it when an issue is important to them. At any rate, to open a GoldMoney.com account, you have to identify yourself as a real person, etc., whereas E-Gold allowed anonymity. Basically, the GoldMoney.com guys are trying to stay as pure as the driven snow, to avoid problems with the government.
And they are growing rapidly.
But who knows? Like I said, these governments can do anything they want, including break down your door in the middle of the night. For the time being, GoldMoney.com looks like a very good way of conducting transactions digitally, especially for transferring money without going through the banking system or the Federal Reserve. That might be what gets them in trouble in the end, because the government is keen to see all transactions.
L: Wait are you saying that GoldMoney.com will eventually suffer the fate of the others already crushed by the government? Is this an idea that will have to wait until government as we know it collapses?
Doug: My first reaction is to say Good riddance, although I wont because that would scare Boobus americanus, who thoughtlessly conflates government with society. But anything can happen what do you think?
L: I think that threatening the governments monopoly in the money business is like trying to hold a knife to its jugular. It would be simply intolerable to any nation-state in the world today. If GoldMoney.com, or any other such system ever started seeing seriously widespread adoption that threatened the governments death grip on money, I think government would respond with force. I think it would do so overwhelmingly, and without regard to domestic or international law, nor with any regard to human decency.
I wouldn't want to be in GoldMoney.coms offices when the storm troopers came crashing in, and I wouldn't want to have any significant portion of my net worth in such an account at that time. Until society has achieved genuine separation of economy and state, I'd be hesitant to trust wealth to any private competitor to the government money monopoly.
Doug: I'm afraid you've got the realistic view on this. On the other hand, its just as dangerous to trust your wealth to some instrument of the state, which all the banks and brokers are in today's world.
L: Where does that leave us?
Doug: Well, remember that leaving too much of your wealth in any of these fiat currencies is also very risky at this point. There is no single safe currency, and diversification can help. Id think of GoldMoney.com as being like a gold checking account; I wouldn't put all my wealth into it, but its a good place to park gold for near-term transactions.
As for the paper currencies, the euro is probably the worst of them, but the U.S. dollar is not far behind, nor are any of the others. They will all eventually trade at their intrinsic value, and I expect eventually will turn out to be this decade.
And as we've said before, you want to have a significant amount of gold in your personal possession but not in a safe deposit box in your home country. In addition to GoldMoney.com, there's Canada's Central Fund, the ETFs, and Perth Mint Certificates for handling larger amounts of gold without having to build your own Fort Knox.
Switzerland is still a relatively good place to store things in Europe. In South America, Uruguay is the best, in Central America, Panama, and in the Orient, Singapore.
L: Okay then any other investment implications to currency regime change, besides battening down the hatches, buying gold (and silver), and diversifying the political risk to your assets by spreading them across different countries?
Doug: I hate to sound like a broken record, but there are times when the best solution is also the most obvious solution. When it comes to cash money, the answer is gold. Its the only way to go. For details on how to play this, investors should try out Casey's Gold and Resource Report.
L: Got it. And while none of the new currencies on the horizon inspire much confidence in you, if one were launched that was genuinely commodity-backed, would that get the nod from you?
Doug: Yes, it would. If the Panamanians, for instance, decided to put their original currency, the colon, back on the gold standard, that would greatly enhance the value of having a bank account in Panama, in colons. They've dollarized their economy, but the colon still exists, so this is not unrealistic. It would draw in a huge amount of capital, because a lot of people would still trust a currency, even a gold-backed one, more if it were issued by a nation-state. Atavism is ingrained in the human psyche.
It's possibilities like this that make me optimistic about a gold-backed currency in the future. I think somebody's going to do it. I think that gold will be reinstituted as money in day-to-day use within 20 years. That's my bet.
L: So noted Doug Casey's guru-vision for this week. I look forward to seeing if you're right.
Doug: Yeah, 20 years go by in the blink of a cosmic eye. Till next week.Doug Casey is Chairman of Casey Research and a highly respected author, publisher and professional investor who graduated from Georgetown University in 1968.