"There is no means of avoiding a final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as a result of a voluntary abandonment of further credit expansion or later as a final and total catastrophe of the currency system involved."
- Ludwig von Mises

Monday, November 8, 2010

The Gold Standard Debate Unleashed

Many bloggers have already commented on this story, but I felt that there is much more to it.  The G20 meeting is coming up, and a comment by Robert Zoellick, head of the World Bank, on gold, just before the G20 meeting, is not an accident.  But it may not necessarily be about gold either, as he also mentions the Chinese yuan as being part of this basket of currencies that could replace the dollar one day.

The article, in its entirety, can be found HERE.

Keep this in mind: when the Bretton Woods monetary system was being devised in 1944 as World War II was ending, there was an agreement between the US and Europe that invloved the World Bank and the IMF.  The IMF would always be headed by a European, whereas the World Bank would always be headed by an American.

Robert Zoellick's comment on gold is very symbolic.  But keep in mind that whenever such a person speaks, it is rare that you and I are the intended audience.  One has to look at what has recently transpired, and what meetings are coming up to fully understand the meaning (or purpose) of such a pronouncement.

One of the better explanations/analysis I have seen comes from Reuters, though it does have points that I utterly disagree with - my comments are inserted in brackets.  Here is the article, in its entirety, emphasis mine:

Zoellick's currency plan highlights dollar angst

By Paul Taylor

PARIS (Reuters) - World Bank President Robert Zoellick's surprise call for a new global currency system with gold as a reference point highlights the depth of unease about a weakening dollar that is fuelling trade and currency tensions.

It may be aimed more at drawing China into the international monetary system than at actually reverting to an anchor role for gold, which most economists and central bankers see as unrealistic.

Timed to fuel debate ahead of this week's G20 world economic summit in Seoul, Zoellick's proposal for a coordinated system of floating currencies, including China's yuan, is a departure from 20 years of U.S. dogma about leaving exchange rates to markets.
It comes at a time when Washington and Beijing are at odds over global economic imbalances, the yuan's exchange rate, and the U.S. Federal Reserve Bank's renewed decision to create more money to buy Treasury bonds.
This Fed policy, known as quantitative easing or QE2, has helped depress the dollar, drawing international criticism.

"Bob Zoellick not only has got a lot of historical perspective, but he also understands the global dynamics better than most," said Jim O'Neill, chairman of Goldman Sachs Asset Management. "With the French about to take over the chair of the G20, we're going to get a lot more about this sort of thing."
Zoellick, a veteran former U.S. policymaker, called for "a cooperative monetary system" that would include the dollar, the euro, the yen, the pound sterling and the yuan, which would move "towards internationalisation and an open capital account.
"The system should also consider employing gold as an international reference point of market expectations about inflation, deflation and future currency values," he said.


French officials said some of his ideas, aired in an opinion article in the Financial Times, mirrored initiatives that President Nicolas Sarkozy aims to promote during France's 12 months in the G20 chair from next week.
Paris wants to help integrate China, whose currency is not yet convertible, into the international monetary system gradually, enabling an orderly appreciation of the yuan to help balance global trade flows.

These ideas were at the centre of talks Chinese President Hu Jintao held in France with Sarkozy last week. Little filtered out in public, except for Chinese agreement to host a G20 experts' conference next year on reforming the international monetary system.

A French official involved in preparations for the G20 presidency said a key Paris aim was to achieve the inclusion of the yuan in the basket of major currencies used to calculate the International Monetary Fund's Special Drawing Right.
That would help turn this national accounting tool into a real reserve currency by encouraging a market for it, including bond issuance in SDRs, and encouraging central banks to use it in their reserves, the official said.
O'Neill of Goldman Sachs said that might be achieved very soon, since the IMF is due to complete a five-year review of SDR weightings by January 1 and its board is due to discuss the matter later this month.

"A really smart thing for the IMF to do now would be put the (yuan) into the SDR today. Then the SDR would suddenly have some obvious appeal to people in the private sector, and that could quite rapidly open the door to less dependence on the dollar and a more shared international monetary system," he said in a telephone interview. 
However, there is more scepticism about any idea of a return to even a modified gold standard.
European Central Bank President Jean-Claude Trichet, speaking after a meeting of central bankers from industrialised and emerging countries in Basel, said they did not discuss the gold standard.

"In my memory, such an idea was mentioned a long time ago by Jim Baker when he was Secretary of the Treasury in the 1980s," Trichet said, adding that he had "no particular comment". Zoellick was a senior Treasury official under Baker.

One key reason for the collapse of the post-World War Two Bretton Woods monetary system in 1971, when President Richard Nixon took the dollar off the gold standard, was that there was no longer enough gold to back world trade.  [Misthos here:  this is utter BULLSHIT.  The US was funding its "Great Society Program" and Vietnam.  It was war spending that broke Bretton Woods - it was the US printing too much money, not the lack of gold]

That is even more true in the age of globalisation, when the volume of international commerce has grown exponentially. [ Misthos here: You know what else has grown exponentially?  Debt and the OTC Derivatives market.  How fast did those two things grow under a gold standard?]

The gold price has soared and become more volatile than in previous decades since the start of the financial crisis in 2008 partly as a safe haven for risk-averse investors but chiefly because interest rates in major economies at are historically exceptional lows.

Gilles Moec, senior European economist at Deutsche Bank, said talk of a return to the gold standard cropped up each time there was a crisis in the exchange rate system. But there was a fundamental problem with using the gold price as a proxy for inflation, when it reflected the supply and demand for an underlying commodity.

"These discussions boil down to one thing: that people are looking for an anchor. Since the Fed is now getting into some uncharted territory with its QE2, the need for this kind of anchor is getting stronger," Moec said.

China is worried for the value of its huge holdings of U.S. Treasurys, as well as its export competitiveness, while other, more open emerging economies feared sudden inflows of hot money into their markets, inflating their exchange rates.

European nations are worried that they will be stranded with an uncompetitively high euro exchange rate, and that the Fed's money-printing may eventually stoke inflation.

"Without getting as grand as the Gold Standard, I think everyone would be more comfortable if ... we had some idea where things would be in five years from now, if we had some kind of anchor," Moec said. 
Misthos here.  We won't get to an SDR basket of currencies scheme.  What critics of a gold standard don't understand is the disproportionate rise of credit in the system.  Especially when a good deal of the system involves leveraged speculation as a means of attaining or creating "wealth."  It becomes, as Nicole Foss puts it, a Ponzi System that is inherently "self limiting."  The issue is not about power-sharing a reserve currency. The issue is the type of currency we have today - the debt based money we use.

And when we left the gold standard, balance sheets of sovereigns no longer had an asset - gold - but a liability masking as an asset - a trading partner's sovereign debt.  The entire system became almost 100% debt based.  I say almost because central banks and treasuries are not that stupid.  They still hold gold.

The monetary transition will not be orderly.  It will be chaotic, and gold will be used, not as a primary choice, but by default, when all paper becomes suspect.

These guys are talking about "sharing" a basket of currencies through the SDR to calm China down, so China benefits from having its currency as an accepted reserve currency - but what they forget is that these very same currencies are imploding! 

It's madness.

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