Bill Buckler On The Incompatibility Of Money And The Modern Financial System; A Look At The Upcoming Great Unwind Now That All 'Talk' Has Failed

In the past few weeks, there have been tomes of disjointed literature written on why the final days of the modern financial system may be approaching. Disjointed, as it goes against everything that existing economists believe in, and thus are forced to forget all they have learned from Ive League professor-written textbooks and start from scratch, i.e., acknowledge their religion has been flawed all along. Bill Buckler (author of the Privateer newsletter), who has seen this for ages, shares some of the most comprehensive views on the upcoming great financial unwind, first analyzing the case study of the aftermath of Volcker's 1979 Belgrade meeting, which was everything that Bernanke's "easy way out" QE choice was not. Buckler then analyzes the broken fabric of financial reality, and explains why at its very core, money is incompatible with everything that modern finance stands for. Lastly, Buckler looks at the aftermath of the failed G20 meetings, and concludes that: "Now that the LAST hope of an international agreement to solve an insoluble problem has been lost, it is just a matter of time before talk is followed by action." We may in fact see the first "action" today if, as some rumors are swirling Portugal or Greece may escalate to the "next level" of bailout action.

From Buckler's as always must read The Privateer (number 666).

On Volcker and Bernanke: a compare and contrast in success and failure.

The Successful Rescue - 1979-1982:

When the US Fed under Paul Volcker stopped “targeting interest rates” in late 1979, they stopped trying to hold US interest rates below levels set by the markets. The result, of course, was that US interest rates SOARED. They soared because there was now no impediment which prevented them from reflecting both the risk of a depreciating currency and the risk of the debtor reneging in part or in whole on the debt. Until late in 1980, these risks were also reflected in the $US “price” of Gold which soared to $US 850 in January of that year and had a secondary rally to $US 720 in September. But while all this was happening, the US Dollar had stopped falling in the international currency markets simply because high US interest rates were compensating US Dollar and $US-denominated debt paper holders for their risk.

At the time when this was happening, US Treasury funded debts were hovering just below the $US 1 TRILLION level. Interest payments could still be met, albeit with some difficulty. But as these high interest rates persisted, the global attitude towards the US Dollar changed profoundly. All of a sudden, it was possible to earn a very good rate of return on US Dollar investments. Even better, US Treasury debt paper was selling at rock bottom prices on the secondary markets and had been falling for a decade. With the Dollar now stabilised and indeed starting to go up on the currency markets, everyone knew that US rates would start heading down at some point and when they did, the prices of Treasury paper on the secondary markets would soar. The world was enticed back into US paper with a rush, starting in 1982.

On the surface, this looks like the “classic” means by which a chronic balance of payments deficit is resolved. But it was not. There was still no “final means of payment”. The entire financial world still relied totally on the “full faith and credit” of the US Government.

The Failing Rescue - The GFC - 2007 To Date:

In 1980-81, the US Treasury was in hock (on the funded debt side) to the tune of just under $US 1 TRILLION. Today, the US Treasury is in hock (on the funded side) to the tune of just under $US 14 TRILLION. In 1980-81, the US was still an international net creditor nation. It became an international net debtor nation in early 1985 and has long since become the biggest international debtor the world has ever seen. In 1980-81, the US central bank let the market reflect the true financial status of the US by ceasing to interfere (for a short time) with interest rates. In December 2008, the US Fed under Ben Bernanke got rid of interest rates altogether by lowering their controlling rate to 0.00-0.25 percent. In 1980-81, Fed Chairman Volcker faced the stark choice of letting interest rates free or throwing in the towel and directly monetising the “reserve” behind the Dollar - the debt issued by the US Treasury. He chose the former course. In early 2009, Fed Chairman Bernanke faced the same choice. The intervening three decades had seen US debts increase to a point where the system could literally not afford any interest rate at all. He chose the latter course with “QE1". On November 3, 2010, he compounded this by ushering in “QE2". The introduction of QE2 is an acknowledgement that QE1 failed.

In the lead up to the announcement of QE2, Mr Bernanke stated publicly that he hoped to INCREASE “inflationary expectations” amongst the American public to induce them to borrow and spend NOW before prices increased further. He has since reversed his field, too late to make any difference. US cost of living increases already bear no resemblance to the official figures so beloved of the Fed. To give just one example, the prices of ingredients in many staple packaged foodstuffs sold in the US have jumped 20-30 percent since August. US retailers are at the point where they can no longer keep prices down without suffering actual losses. The inflation is rampant. The pressure under prices is a pent-up volcano. The only “incentive” for the rest of the world to hold US Dollar debt paper is that they already hold so much of it. The only rationale for the US Dollar to remain as the world’s reserve currency is that the global financial system is set up on that basis. The only thing holding the system together is fear of the consequences of dismantling it. But the world can now see, at least in outline, that three years of US “stimulus” has just made things worse. There has got to be a better way, but what is it?

On the intractable problem of modern money:

Money Isn’t Power - But The Control Of What Is Used As Money IS!:

The original Bretton Woods agreement of 1944 had the US Dollar as the world’s “reserve” currency. Exchange rates between all foreign currencies and the US Dollar were “fixed” (except when governments decided to devalue or revalue). In return for this, the US government promised to redeem its Dollars (to foreign central banks and governments ONLY) at $US 35 per troy ounce of Gold.

In 1971, this promise was withdrawn, an act which led to the era of floating fiat currencies which has been given the name “Bretton Woods II”. Exchange rates between currencies were “free” to fluctuate as the “markets” decided they should. If you look at the cumulative deficits of almost any major nation in the world, you will find that almost ALL of it has been taken on since 1971.

In more recent times, talk has begun to flow about the need for a “Bretton Woods III”, a system in which multiple currencies would take the role of “reserves”. In the week leading up to the Seoul G-20 meeting, Gold has been mentioned as an “indicator” to try and keep the nations issuing the (as yet undecided) reserve currencies more or less on the straight and narrow. But any talk about Gold AS money is as heretical as ever. Ellen Brown says money is credit, neatly putting the cart before the horse. Edmund Conway says Gold is incompatible with modern banking practices - notably fractional reserve banking (true) - and with “democracy as we know it” (very true).

The Privateer has said this before - nearly 16 years ago when we first put up the Gold Pages at our website: “There really is no place for Gold - in the modern financial system. That leads us, however, to a further question: What does that say about the modern financial system?” We’ve been saying it ever since and we are now saying it again. In essence, you can have money or you can have the modern financial system. YOU CAN’T HAVE BOTH!

Every participant at the G-20 Heads of State summit is aware of that fact. So are the advisors they have taken with them to Seoul. So are the treasurers and central bankers who preceded them to South Korea. To hang onto their power, they MUST hang onto their control over what is used as money. They need it to issue the debt they incur to feed that power. They need it to maintain the fiction that is modern “democracy” - that political freedom stands or falls on unlimited majority RULE.

Most importantly, now that all talk has failed and yielded absolutely nothing, the time for action may begin. Sadly, it will do nothing more than confirm that America has now lost its hegemony as an absolute power. What happens next is anyone's guess.

The First Glimmerings:

At the just concluded G-20 Heads of State summit in Seoul, the US did not get ANYTHING it wanted. This is universally known. Even the Wall Street Journal acknowledged it, running a headline on November 13 which reads: “US Gets Rebuffed at Divided Summit”. So it did - decisively.

In the Global Report in this issue, we mention a November 8 article that World Bank President Robert Zoellick wrote for the London Financial Times advocating that Gold “prices” (not Gold itself) be used as an international reference point for global economic fundamentals. The problem here is that Gold “prices” are set on paper markets in which only paper, not Gold, actually changes hands. This affords ample scope for the control of these prices - and they have been controlled for decades now.

Before he travelled to South Korea for the G-20 meeting, President Hu of China spent almost a week in Europe. Shortly before Portugese banks were being downgraded by US ratings agencies, Mr Hu was concluding large trade deals with Portugal. He was concluding even bigger trade deals with France, and going much further. With the Seoul summit now over, France has taken over the presidency of the G-20 from South Korea. At a State dinner in his honour in Paris, President Hu publicly said that “China supports France in its efforts to ensure the success of the G-20 summit next year”. French President Sarkozy has made it clear that his top priority is a fundamental reform of the world’s monetary system, a priority he shares with Germany and, in President Hu’s own words, with China.

In 1979-81, Fed Chairman Volcker postponed the demise of the US Dollar as the reserve currency by, at least temporarily, taking away the punch bowl. Mr Bernanke has done precisely the opposite. It is, or should be, crystal clear that the days of the global monetary system in its present form are numbered.

Recent Events:

In the immediate aftermath of the conclusion of the G-20 meeting in Seoul, China came to the forefront on global markets. On November 12, a rumour that the Chinese government was about to further tighten the reserve requirements of their banks and were going to increase their controlling rates sent almost ALL markets into chaos. Stock markets either stopped going up or slumped dramatically, in Asia in general and in China in particular. Commodity and precious metals prices - all denominated in US Dollars - fell sharply. The US Dollar itself abruptly ended a five-day rally on global currency markets.

The most ominous movements on global markets, however, came in the US Treasury market. Longer-term bond yields have been rising, and prices falling, ever since the announcement of QE2 on November 3. On November 12, the Fed made their first Treasury purchases under QE2. Despite a fall on almost all other US markets, Treasury yields rose further and prices slumped some more.

What’s Next?:

Mr Obama returns to Washington on November 14. He faces a “lame-duck” Congress and the almost certain prospect of political gridlock. Globally, the US policy of Treasury debt monetisation is being condemned almost everywhere. Now that the LAST hope of an international agreement to solve an insoluble problem has been lost, it is just a matter of time before talk is followed by action.