Jim Rickards and Alex Stanczyk, The Gold Chronicles November 22nd, 2016
*How Complexity Theory, Behavioral Psychology, and Bayesian models used at PGF were used by Jim Rickards to predict Trump win
*Comments on projected effects of Trump Presidency on US economy, world economy, and gold
*There are contradictory forces within the Trump administration, so projecting certain details are not yet clear
*If Trump cuts taxes and spends $1 Trillion on infrastructure without private capital it will blow a hole in the annual deficit
*Trumps economic plan is basically the Reagan plan – the current environment is very different this time facing headwinds and a much higher debt to GDP
*If the Fed accommodates Trump on his economic plan, then Trump is the “Helicopter Money” President and inflation is then guaranteed
*If the Fed leans into inflation instead it could force economy into recession
*Comments on $9 Trillion emerging market corporate debt crisis
*Jim’s new book The Road to Ruin is now available on Amazon: https://www.amazon.com/Road-Ruin-Global-Elites-Financial/dp/1591848083
*A Trump Presidency has no impact on the potential for systemic risk
*Comments on complexity theory, critical states, and catalysts
*Effects of the “war on cash” in India
*India is the 7th largest economy in the world, and is a cash based economy – these steps are leading to money riots
*Update comments on “war on gold”
*One effect of the India demonetization has been a substantial uptick in gold purchases
*Base Erosion and Profit Shifting (BEPS) – Global Taxation Plan
*Chinese $2 Billion SDR bond issuance
*Anticipated Dec rate hike is already priced into the USD/Gold price
*Trump has commented on gold favorably, potential for some sort of gold anchor or benchmark
*Regardless of some kind of gold standard, even a gold benchmark would require gold at a much higher price
*Comments on potential for gold confiscation in the next liquidity crisis
*Switzerlands advantages as a vaulting jurisdiction
Listen to the original audio of the podcast here
The Gold Chronicles: 11-22-2016:
Jon: Hello. I’m Jon Ward on behalf of Physical Gold Fund. We’re delighted to welcome you to the latest webinar with Jim Rickards and Alex Stanczyk in the series we’re calling The Gold Chronicles.
Jim Rickards is a New York Times bestselling author, the Chief Global Strategist for West Shore Funds, and the former general counsel of Long-Term Capital Management. He is currently a consultant to the US Intelligence Community and to the Department of Defense. Jim is also an advisory board member of Physical Gold Fund.
Hello, Jim, and welcome.
Jim: Thanks, Jon. It’s great to be with you.
Jon: We also have with us Alex Stanczyk, Managing Director of Physical Gold Fund. Alex is an expert in the physical gold industry dealing with the logistics chain from refinery to secure transport to vaulting, and he’s lectured globally to investors, institutional audiences, and government audiences on the role of gold both in the international monetary system and in investment portfolios.
Alex: Hi, Jon. It’s great to be here as well.
Jon: Later in this podcast, Alex will be looking out for questions that come from you, our listeners, so let me say that your questions today are more than welcome. You may post them at any point during the interview, and as time allows, we’ll do our best to respond to you.
Jim, several weeks before the U.S. presidential election, you put your reputation on the line and firmly predicted a Trump win in the face of a massive consensus that Hillary Clinton had the election locked up. Congratulations, you made the right call.
Would you now give us an idea, in your view, of the longer-term implications of a Trump presidency for the U.S. and for the global economy assuming Mr. Trump follows through on his campaign promises?
Jim: Thank you, Jon. You’re right; it was very lonely out there for a few weeks. I was traveling around the world in Australia, Europe, and North America doing TV interviews and podcasts, the sort of thing we’re doing now, and saying very categorically that Trump would win. The reactions varied. Some people just burst out laughing while other people said, “You must be joking.”
But I took them through my methodology. It was not partisan. I have my opinions, everyone has their own opinions, but I was just being an analyst looking at some of the flaws in the polls, some of the ways people misunderstand betting odds, and some of the ways that markets were misreading it. I was actually using the same techniques we use with Physical Gold Fund, we use on this podcast, and I use in my book, which we’ll talk about a little bit later.
I was in London on June 20th doing some filming when I looked right at the camera and said that Brexit was going to come out as a Leave vote. It was not going to be Remain, so investors should short sterling and buy gold. Both of those trades worked out very well in the immediate aftermath of the Brexit vote to leave.
I’d make the point that neither of these were guesses. The Brexit call and the Trump call were both made using complexity theory, behavioral economics, some of the applied mathematics we use, and Bayes’ theorem, a particular branch of applied mathematics you use in statistics when you don’t have enough information.
Anyone can solve a problem if they have lots of information. A typical bright high-school student can do that. But what happens if you don’t have much information, if you only have one or two data points, or sometimes even none, but you can’t escape the problem and you must face up to it? How do you do it? That’s what we were doing.
These are the same techniques I’ve been using all along. It’s not a crystal ball; I don’t really think I’m predicting the future. I say the future is here today, it’s embedded in the present. You might have to dig down through a lot of data, and you should understand the dynamic processes.
It’s a little bit like watching a row of dominoes. If I tip over the first domino and there’s nothing blocking the way, all the dominoes are going to fall. After the first four or five dominoes fall, you can say, “I think the last domino is going to fall,” and sure enough, it does.
You made a prediction about the future, it turned out to be true, but did you have a crystal ball? No. You could just look at the present dynamics, understand the chain reaction, and see what was going to happen next. That’s how I felt about Brexit and Trump.
Trump won. He is the president-elect and will be the 45th U.S. president. What does that mean for economic policy? It’s very interesting. First, Trump himself is trying to figure it out, so I think anyone who says, “Here’s what the policy is going to be” is probably making a mistake.
One thing we’ve learned about Donald Trump over the past year and a half is that he can reverse course; he can say one thing but surprise you with something else. So, we need to reserve judgment on how things are going to play out.
There are a lot of contradictory forces within Trump’s immediate circle of advisors. For example, there are people like Larry Kudlow and Mike Pence who clearly favor free trade, but there are other people like David Malpass or Steve Bannon who think these trade deals need to be at least renegotiated if not torn up. Those are very different views of the world, and all those insiders have the ear of Trump.
The initial indications are that he’s more inclined to tear up these trade deals. He says he’s going to issue an order withdrawing the United States’ participation in the Trans-Pacific Partnership (TPP) on the day he’s inaugurated. I think that’s a good clue as to where he’s coming from, but there are other conflicting forces.
People like Steve Moore want tax cuts, and I would put David Malpass in the same category, along with those who want fiscal responsibility maybe with tax cuts. Then you have people like Steve Bannon who want to spend $1 trillion on infrastructure.
We all want infrastructure – roads and bridges and tunnels sound good – but where is that $1 trillion going to come from? If you add $1 trillion of infrastructure spending and cut taxes – both parts of the Trump plan – you’re going to blow a hole in the deficit and be back to where we were in 2010-2011 running trillion-dollar deficits and increasing the debt-to-GDP ratio. This is very problematic and gets back to what the Fed’s reaction function will be.
This has big implications for the price of gold. I’ll talk about that in a minute, but the point I want to make is that one way to understand Trump is that this is like a replay of the Reagan revolution. In fact, a lot of the same people are involved. Trump’s inner circle of advisors – people like David Malpass, Larry Kudlow, Art Laffer, and Steve Moore – were part of the Reagan revolution in the Reagan White House in the early ’80s. At that time, they were in their late 30s or early 40s. Today, they might be in their 70s, and that’s fine – there’s nothing wrong with being an advisor when you’re in your 70s – but it’s the same people and they’re running the same playbook.
During the campaign, Trump’s behavior, some of the vulgarity, the garish headlines, made it very difficult for many people to get past Trump’s personality and look at his actual policies. Now that he is the president-elect, they are looking at the policies, and a lot of people like what they see.
This explains why the stock market is going up. What are Trump’s policies? Lower taxes, less regulation, and a lot more government spending. You see pharmaceutical stocks going up because Trump wants to get rid of Obamacare. You see names like Caterpillar and John Deere going up because Trump wants to spend more on infrastructure. You see Boeing, Lockheed, Northrop, and other big defense contractors going up because Trump wants to spend more on defense. The consumer non-durables are going up because Trump wants a tax cut. That means people would have more money to spend on eating out, shopping, and so forth.
The whole stock market is going up based on these policies. That’s understandable in the short run, but how are you going to finance it? How does that add up in the longer run? Can you actually implement that? If not, if there are constraints on that, will the stock market go right back down again once people wake up to the fact that it’s not like “happy days are here again”?
Here’s the point I make. This is the Reagan playbook, but it’s operating under very different conditions. When Reagan was sworn in in January of 1981, interest rates were 20%, inflation was 14%, and the debt-to-GDP ratio of the United States was at 35%, very close to an all-time low, at least a long-term low.
Reagan had nothing but tail winds. Interest rates had nowhere to go but down, inflation had nowhere to go but down, and Reagan could run very large deficits without bankrupting the country because he was starting from such a low debt-to-GDP level. Reagan did run very large deficits. The debt-to-GDP level went from 35% when he was sworn in to 55% when he left office in January 1989. Now, 55% is not considered a dangerous level, but that was a big increase from 35%.
We had a bond market rally because interest rates and inflation were coming down. We had a stock market rally because of less regulation and lower taxes. We had a growing economy because of some of the stimulus spending that he was able to do. Reagan had nothing but tail winds.
Trump is going to try to run the same playbook in a very different environment. He has nothing but headwinds. Interest rates are close to zero and have nowhere to go but up, inflation is close to zero and has nowhere to go but up unless we have a depression, which is not exactly a good outcome. Most importantly, the debt-to-GDP ratio today is 105%. Mark that difference. When Reagan came in, it was 35%, and today it’s 105%. Trump has much less fiscal headroom than Ronald Reagan did. In fact, a lot of economists are saying we’re already in the danger zone where additional deficit spending actually doesn’t produce more growth.
It did for Reagan and other administrations, but it won’t for Trump because there’s a phenomenon of diminishing marginal returns. Each dollar gets you a little less bang for the buck in terms of the multiplier effect, in terms of additional nominal GDP. We’re at the point where you could spend the money and not get any additional GDP but just add to the debt – not to mention the fact that you could cause a loss of confidence in the U.S. dollar. We’re already seeing the bond market back up. We’re seeing this all over the world.
The way I describe it, Reagan and Trump had the same playbook – lower taxes, less regulation, more government spending – but Reagan was running the playbook against a high school football team and Trump is running the same playbook against the New England Patriots. He’s going to have a much tougher time.
The big wildcard is, will the Fed accommodate it? Suddenly, the Fed is sitting there on Constitution Avenue with Janet Yellen looking at the White House saying, “Okay, you guys want to cut taxes, add $1 trillion of infrastructure spending, and increase the debt-to-GDP ratio from an already high level?” That is helicopter money, by the way, which is larger deficits and the Fed maintaining an easy monetary policy.
Donald Trump is the helicopter money president. This is one of the great ironies of this electoral cycle. A few months ago, Harvard economist, Larry Summers, wrote a comparison of Donald Trump to Mussolini. The irony is that Trump’s economic plan is the Larry Summers plan. All these economists – Adair Turner, Anatole Kaletsky, Barry Eichengreen, Paul Krugman, Joe Stiglitz, Larry Summers – have been clawing for the same thing, what they call fiscal stimulus.
I call it larger deficits, but most people call it helicopter money where the Fed accommodates it by money printing. If you do that, if you add $1 trillion to the debt and the Fed maintains an easy money policy, you’re going to get inflation. That’s guaranteed.
We haven’t had inflation from all the money printing before because nobody spent the money, but nobody spends money better than the government. Instead of waiting for people to go out and spend money when they actually want to save it and pay down debt, if all of a sudden the government is spending the money, that money will get spent. There’s your velocity.
Money printing is already there. If the Fed maintains an easy monetary policy, you’re going to get a lot more inflation than the Fed expects really fast. That’s going to send the price of gold soaring, because that’s what gold does in inflation.
Now, let’s consider the alternative case: Trump does the same thing – bigger deficits, tax cuts, less regulation, all this stimulus – but the Fed gets worried about inflation, so they lean into it. They’re definitely going to raise rates in December as we mentioned on the last call, but suppose they set up a bunch of rate increases, two or three more in 2017.
They’re going to lean hard into that inflation. Remember, Janet Yellen is mesmerized by the Phillips curve. She thinks with unemployment at these very low levels and that kind of stimulus on the horizon, that inflation is inevitable. She also believes that monetary policy acts through a lag (that was one of the keystones of Milton Friedman’s quantity theory of money), at least a nine-month lag, maybe a year or a year and a half.
So, she’s going to say, “With the Phillips curve analysis and big spending, inflation is absolutely coming. Monetary policy acts with a lag, so I need to raise rates right now to head off that inflation and keep it under control.”
Yet a lot of the economy is very weak, and Trump might not actually be able to do what he says he’s going to do. So, if she leans into it, you could actually raise rates a couple of times and throw the U.S. economy into a recession on top of which the whole world is slowing down.
Global trade is collapsing. When people talk about trade figures, they tend to focus on the deficit or the surplus. They say your deficit is going up or your surplus is going up, but forget about deficits and surpluses – they always add up to zero. What I’m looking at is the absolute level of trade, which is going down.
Global exports and global imports are going down. That’s extremely rare. It happened in 2008 during the Great Financial Crisis, it also happened during the Great Depression, but it has happened very few times other than that. So, the global economy is already slowing down.
There is one last element I’ll throw into the mix here, because all of these things are important. The Fed has talked about raising rates, which they will. What does that mean? It means a stronger dollar. That’s one of the headwinds for gold. I’ve always said that the dollar price of gold is just the inverse of the dollar. If you have a strong dollar, you’re going to have a lower dollar price for gold. If you have a weak dollar, you’re going to have a higher dollar price for gold.
I’ve explained the stock rally based on all these spending plans and tax cuts. The drawdown in gold is also very easy to explain. People expect the Fed to raise rates. If you’re going to raise rates, that’s going to make the U.S. capital markets a magnet for money around the world. It’s going to flow into the U.S., it’s going to make the dollar stronger, and that’s why gold is going down.
But that is extremely deflationary and has the danger of throwing the U.S. economy into a recession on its own. Here’s another wildcard: there is $9 trillion of dollar-denominated corporate debt from emerging markets. Not sovereign debt – corporate debt. That’s an important distinction, because the IMF can bail out a sovereign but cannot bail out corporates.
This is money borrowed by companies in Turkey, Indonesia, Brazil, Colombia, Malaysia, Thailand, Philippines, countries all around the world. All these emerging markets borrowed in dollars, because dollars were free for the last seven years and interest rates were close to zero. They assumed they would have enough earnings from world growth or that the currency values would remain stable and they’d be able to pay back that debt or roll it over. What they’re discovering is that with the strong dollar, they’re not making enough in their local currency to convert to dollars to pay off that debt.
You could be looking at a $9 trillion emerging markets corporate debt meltdown – worse than the Latin American debt crisis in the 1980s, worse than the Mexican tequila crisis in 1994. That’s another one of the consequences of a strong dollar.
You have extreme dangers either way. If Trump goes ahead with the spending program and tax cuts and the Fed accommodates it, you’re definitely going to get inflation. That will send the price of gold way up.
If the Fed leans against it with rate hikes, you’re going to get a stronger dollar, deflation, and corporate debt crises around the world as part of the dollar shortage. Gold will go up in that scenario as well. Once the financial panic hits, gold will be a flight to safety.
Gold is struggling right now against a lot of headwinds because of the expectation of rate hikes and a stronger dollar. But if this leads to the kind of financial panic we’re talking about, gold is going to catch a bid as a flight to safety. It wins on the inflation bid and it wins on the panic bid, but these are all a few steps away.
This is going to play out over the next six months to a year. We’ll do this again in six months. We’ll continue our monthly call, but we’ll check back in a few months to see how Trump is doing. It might be the case that he can’t do all this, that despite the plans, Congress doesn’t approve it.
There is concern about the debt as I just described in which case the stock market is going to crash because it’s priced to perfection on the Trump plan. If the Trump plan doesn’t materialize, then it’s going to have to give back all those gains, so we have dangers all around.
Trump’s policies are interesting. They’re good in some ways and probably good for growth, but because he’s operating in a very different environment from Ronald Reagan, we can see enormous dangers of inflation, deflation or market panic.
Jon: Thanks, Jim. That’s a very comprehensive answer. Speaking of comprehensive, you’ve just published a new book, The Road to Ruin: The Global Elites’ Secret Plan for the Next Financial Crisis. Speaking personally as an early reader of the book, I must say I found it extraordinary.
I’ve enjoyed your previous books, they were great, but this is a whole new order of thinking and insight and information. It has a huge sweep I won’t try to encapsulate here, but I do urge our listeners and anyone who wants to understand the current world situation to read this book immediately. It’s called The Road to Ruin.
Alex, let me turn to you. I know you’ve read The Road to Ruin. As somebody immersed in the world’s precious metals markets, what are your first impressions of Jim’s latest book?
Alex: I spend a great deal of time studying and staying in tune with markets and trends in monetary policy because of the impact on gold, but Jim has a unique gift of being able to take events, dispense data, connect the dots, and see scenarios that other people simply don’t see.
I’ve known Jim since 2012, and he’s been remarkably consistent in this. He did it with Currency Wars, which quickly became a term used around the world, and then he did it again with The Death of Money. In this latest book, the scenarios he’s showing us require serious consideration in my opinion. The potential outcomes, if not prepared for, are sobering – one could even say frightening in some ways.
I often ask fiduciaries if they have plans in place to make sure they have access to liquidity if there’s another systemic crisis. You would be surprised to learn that a lot of them do not have any plans whatsoever. The Road to Ruin shows us that we not only have to be prepared for bad outcomes, but we must also make sure we have access to liquidity, and we must do it in ways that many people aren’t even considering yet.
Jon: Jim, I would like to ask you something directly about the book. I’m going to risk possibly covering ground you touched on in your first answer, but I think the question is begging to be asked, so I’m going to take that risk.
You give a far-reaching account in the book of why and how the world is heading over the financial cliff. Here’s my question: given Trump’s economic agenda and everything you’ve been talking about in that respect, does his election as the next president of the United States make the crisis you predict more likely or less likely?
Jim: I don’t think it changes the equation very much. I think the crisis is coming sooner than any of us want, and I don’t think it really matters who’s president for that purpose. That’s because I’m talking about systemic risk.
One way to understand this is with an analogy I use. An earthquake doesn’t care if you’re a Republican or a Democrat. An earthquake is just an earthquake and does what it does. It’s going to destroy your house whether you’re a Republican or a Democrat. It’s the same thing with the global financial collapse. It’s a dynamic, systemic process. It’s indifferent, non-ideological, and it doesn’t care who’s president. It just happens, and it’s something you can’t stop or control.
Now, you can respond to it differently depending on who’s in the White House, but you’re not going to be able to stop it. There are a couple of things you can do as we’ve discussed before. For example, to make the system safer, you could break up the big banks, you could ban most forms of derivatives, and you could bring back Glass-Steagall and separate commercial banking from investment banking. These are things you could do that would make the system safer and this crisis less likely. I don’t feel it’s appropriate to write about the dangers without putting forward some solutions, and I do put these solutions forward in my book; however, I give them a very low probability of actually happening.
This is far from the top of Trump’s agenda. Right now, he has to finish his cabinet appointments and some of the subcabinet levels. He has big issues on his plate such as ISIS, immigration, tax policy, fiscal policy, a Supreme Court appointment, and two vacancies on the Federal Reserve. These are the things the president-elect is going to be dealing with in the next 30 or 60 days. They’re not going to get to value at risk and risk modeling and statistical properties of risk and Glass-Steagall. Maybe Glass-Steagall comes up a year from now, but it may be too late.
There are some things we could do, but I don’t see them being done; therefore, I would expect that this dynamic will continue to take hold. The question I hear most frequently is, “What’s going to cause the crisis?” I always say it’s like picking out a snowflake that causes an avalanche. It doesn’t matter which snowflake it is; what matters is the instability of the mountain of snow. That’s what comes down and kills you. If it’s not one snowflake, it’s another.
There are plenty of catalysts lying around. It could be Deutsche Bank or this emerging markets dollar-denominated debt crisis I talked about or a credit bubble in China or it could be a natural disaster. There are plenty of things it could be, but it doesn’t matter. It will be one of them, and it’ll be sooner than later. What matters is that the system is unstable and is primed for this kind of collapse.
The biggest banks in 2008 are bigger today. They have a larger percentage of the banking assets, they have much larger derivatives books, and the central banks have much less capacity to deal with it because they never normalized their balance sheets.
The Fed is a good example. They printed $4 trillion on their balance sheet to deal with the last crisis. That’s not even counting tens of trillions of dollars of swap agreements they did with the European Central Bank. Leave that aside, just the $4 trillion on the balance sheet.
The Fed started with $800 billion at the beginning of the crisis. If the Fed had somehow got their balance sheet back down to $800 billion, I’d be the first one to say, “Hey, congratulations. Nice job, guys. You did it. You saved the system and you normalized your balance sheet.”
But that did not happen. The balance sheet is still at $4 trillion. It has not been normalized, so they have lost the capacity to deal with the next crisis. What are they going to do, print another $4 trillion? You’re at the outer boundary of what’s politically possible or what you can do without destroying confidence.
This next crisis is going to be bigger than the one before for the reason I mentioned, which is that the whole system is bigger, and the central banks are not going to be able to deal with it. There’s only one clean balance sheet left in the world, which is the International Monetary Fund.
Instead of going around bailing out Egypt or Ukraine, the International Monetary Fund is going to have to bail out all the central banks in the world with these special drawing rights. SDR is the world money the IMF prints. That’s going to have profound consequence for the role of the dollar as the leading global reserve currency and for inflation.
All of this is bigger than Trump. Remember what happened in 2008. Ben Bernanke, who was Chairman of the Fed at the time, and Hank Paulson, who was Secretary of the Treasury, were watching the system collapse as Americans panicked and pulled trillions of dollars out of the money market funds. They were watching the money market funds melt down. They were watching General Electric dry up. General Electric could not roll over its commercial paper. Everyone was like, “Hey, what’s up with General Electric? I thought they made aircraft engines.” No, they were like a bank in 2008. They’re not today, by the way. They got out of those businesses, but at the time, they were a bank. They couldn’t roll over the commercial paper, and there was a global liquidity crisis.
Bernanke and Paulson walked over to the White House right next door to the Treasury, sat down with President Bush, and said, “Mr. President, you have to do this, this, and this right now or the economy is going to collapse entirely. All the major banks are going to collapse.”
What was Bush supposed to do? It was the TARP and guaranteeing the money market funds, guaranteeing the deposit insurance fund, and unlimited guarantees of all bank deposits. Of course he went along with it. What was he supposed to do confronted with that kind of advice?
What’s interesting is that in the next crisis, that same conversation is going to take place with Donald Trump. He’ll probably go along, but he might not. Trump is much less predictable. Trump might say, “To heck with it, I’m not bailing out these banks again. I’m not protecting these bankers’ phony-baloney jobs. I’m not using U.S. taxpayer money for that.” He might just hunker down and say, “Look, we’re going to get the United States through this, and the heck with the rest of the world.” Now you’re talking about a scenario that looks like the Great Depression.
Either you get the SDR bailout, which is highly inflationary, or you get this hunker down disaster scenario, which is highly deflationary. At either end, you’re talking about very extreme, dangerous outcomes.
I think gold does well in both states of the world. The inflation case is obvious, people get that. They don’t understand why gold goes up in deflation, but the answer is that central banks make it go up to restore confidence in the system, and if you have to go to a gold-backed system, you’re talking about $10,000 an ounce.
Again, Trump’s polices matter in terms of jobs and growth, and that’s what we’re all focused on right now, but they’re not going to matter that much in a systemic crisis. A systemic crisis is bigger than one country, it’s bigger than macroeconomic policy, it’s bigger than the president, it’s bigger than the central banks. All we’re going to do is study the response function.
Jon: In one of my projects, I work with a very brilliant video editor in India. Much to my disappointment, he’s not been able to function these past two weeks because the whole country is in chaos, and here’s the reason: the Indian government suddenly withdrew and replaced the two banknotes with the highest denomination. The old banknotes were made virtually worthless overnight. This drastic measure came with little to no warning, and according to my contact, it has created absolute bedlam.
Jim, you have been talking about the war on cash for some time. What does this mean in the context of that theme, and does what happened in India have any significance for other countries?
Jim: It has huge significance. I finished writing The Road to Ruin in the early part of September. I pushed the deadline pretty hard because I wanted the book to be very fresh and timely when it came out. I talked about Donald Trump in the book even though it was before the election, because as I mentioned, I thought he would be part of the scene. I also talked about the war on cash, closing banks, closing ATMs, money riots. But then it takes a few months to go to the printers, get printed up, put in boxes, and shipped to Amazon warehouses. I do see all these things coming, but I had no idea they would actually be happening in India the day the book came out.
The book came out on November 15th, but on November 8th, just the week before, Prime Minister Modi woke up and said, “The 1000 rupee note and the 500 rupee note are no longer legal tender.” He just said it’s not money anymore.
Those denominations – 1000 rupees and 500 rupees – are about $20 and $10 give or take, so it would be exactly like the President of the United States waking up and saying, “As of now, all the $20 bills and $10 bills in America are no longer money.” You can imagine the panic. “Wait a second. I have some $20s in my wallet. I have money over here.”
The impact was even greater in India than it would be here, because India is largely a cash-based economy. In the U.S., maybe we have a few $20s in our wallet, but we use debit cards and credit cards, direct payment, Apple Pay, PayPal, and all these digital systems. India is very largely a cash-based economy, so imagine America the way it was in the past and all the $20s and $10s are no longer any good.
What they said was that you could bring your $20 bill into the bank – your 1000 rupee note – and exchange it for smaller denominations. They actually printed up these smaller denominations, so it’s like, “Give us your $20 and we’ll give you 20 singles.”
First, the tax man is waiting there at the bank, so when you come in with this pile of money, the first question they ask you is, “Where did you get the money?” They’re looking for tax evaders. They always blame it on tax evaders, terrorists, and drug lords, but in fact, they’re depriving individuals of their liberty. This is part of the war on cash; the whole tax evasion thing is just an excuse to try to pull it off.
A lot of people don’t want to go into the bank because of the tax interrogator. They don’t want to deal with that. It doesn’t mean they’re master criminals or tax evaders; it just means they’ve been in the private informal economy, probably in a very small way, and they don’t want to bring that money in. That’s the first problem.
Let’s say you’re a commercial fisherman. Every day you buy fuel and bait for your boat, you go out and fish, bring the fish back, you go to sell it, and nobody wants your money. You couldn’t buy the fuel for your boat, you couldn’t buy the bait, you couldn’t go fishing, you couldn’t bring the fish, people were starving.
On top of that – this is the height of idiocy – the smaller denomination bills they printed to replace the bigger bills were the wrong size. They were too big to fit in the ATMs, so they’re running around to shut down every ATM in India, rip the guts out, and replace them so that they could accommodate these larger-sized bills. What were they thinking?
India is not like Cyprus. Cyprus was bad enough. India is the seventh largest economy in the world and has the second largest population in the world – one billion people. It’s a cash-based economy, and they wake up and say cash is no longer legal tender.
There were money riots. People were burning down banks, looting supermarkets, the police were out, and the whole place was in chaos. Prime Minister Modi is intelligent; he has a graduate degree in economics. I’m going to write a book someday called When Smart People Do Dumb Things, because I see it over and over.
These central bankers, these eggheads, these economists, they don’t get it. They don’t understand how markets work, they don’t understand human behavior. It’s no surprise that they get it wrong time and time again. This is exactly what I describe in my book – shutting down banks, shutting down ATMs, the war on cash, and ultimately the war on gold.
This is one of the reasons I urge people to get their gold today. Get it now while you still can, because once the war on cash is over – and it’s almost over – they’re going to realize that people who can’t get cash are taking the cash they have and buying gold. They’re storing their wealth in gold. Well, then they’re going to have to have a war on gold.
They must force you into this digital banking system so they can slaughter you with negative interest rates, confiscation, asset freezes, ATM closures, etc. If you have cash or gold in physical form, you’re outside the system. You can’t get hacked or be subject to negative interest rates or get frozen. You can hold your net worth in your hand or in a vault or some kind of safe storage.
The war on cash is well along. The war on gold hasn’t yet started, but you can see it coming, and that’s another reason to get your gold today. It’s awful what’s happening in India. I predicted it in my book although I didn’t say it was going to happen the week the book came out. I’m a little surprised it did, but here it is right now.
Jon: Alex, is a war on gold what you see coming up? Do you see signals of that from your standpoint in the gold market?
Alex: We’ve seen signals of this for a long time now. Our operations are international, and we see regulations coming down at an international level that affect the entire gold industry. What I can tell you is that the regulatory environment has become stricter and stricter. I don’t think this is an accident, and I don’t think it’s going away.
Speaking directly to the war on cash that’s happening in India, one of our listeners is saying that in the Indian context, it may look the same, but the difference is that there are no fake currencies in the United States. I take that to mean there is a lot of counterfeit currency in India, and that’s the reason they’re doing this.
I highly suggest our listeners read Jim’s book. If you look at all the pieces of what’s happening around the world, this isn’t happening just in India; it’s happening globally, and they’re using multiple reasons for putting this in place. Some may be counterfeit currency or money laundering or going after terrorist financing, but these are all pretenses they use. If you look at what they’re actually doing, it doesn’t quite match up. Things like having a taxman there to collect on all the money is part of the global hunt for tax dollars as well.
From a gold standpoint – and Jim mentioned behavioral psychology before – one of the effects of this has been a huge spike in gold purchases. In the nine days since the demonetization was announced, India imported $2.1 billion worth of gold. That’s over 50 tons, a huge amount. The black-market rate for gold has been as high as 61% above the official rate. The regular gold premiums official rate has been hitting – I think last Friday – two-year highs.
Ever since India’s government announced the demonetization, gold has been a strong focus for Indians who want to keep their wealth out of the banking system. From what I understand, many Indians don’t trust the government or the banks there. The Indian government has indicated that the old notes can be turned into banks to convert them for new ones, but there’s a time limit on that. Not only is there a time limit, but just as Jim said, for anything in a large quantity, they have tax people there asking questions about where it came from, and if they don’t like the answers, they might just lose that money or have it heavily taxed.
We have many examples now from around the world that the pretense of this war on cash is going after criminals, but in reality, it’s being used to shake down the populace for tax revenues. We have the global sovereign debt crisis going on, and in addition to that, setting the stage for dealing with any upcoming liquidity crisis and possibly negative interest rates.
As Jim indicated in his book, there are only a couple of options in the next liquidity crisis. One is to print money, and the other is to lock the whole system down. That isn’t conspiracy theory. China just did this last year, in June 2015, when they locked down liquidity in the crashing equities market.
I spoke to several Chinese fund managers who said that during the crash, the government ordered them to cease trading. One might not be surprised to see something like that in a communist country, but the reality is that it can happen in the West, too.
There are a couple of drivers going on here. With negative interest rates, they want to set the stage for simplified bail-ins. If it’s at all within their ability to bail in, it’ll save the banks if it comes down to that. And finally, outright confiscation of wealth under the pretense of making you safer and going after criminals. The amazing thing about it is that it seems like elites globally are coordinating on this.
Jim mentioned something called base erosion and profit shifting, or BEPS. Jim, do you want to briefly talk about BEPS?
Jim: Thank you for mentioning that. I have a whole chapter in the book called One World Money, One World Taxation, One World Order. Let’s focus on the tax issue a little bit.
I just got back from Ireland, and they’re apoplectic because their corporate tax rate is 12%. The U.S. corporate tax rate is 35%, so all this money has been flowing to Ireland. Apple, Microsoft, and Google all have huge operations in Dublin. I took a Sunday stroll and walked by all their offices. But Donald Trump is talking about lowering the U.S. corporate tax rate to 15%, so they’re looking at all this capital and new investment flowing out of Ireland potentially back to the United States.
This is a global problem. The monetary elites, the global elites, love coming up with funny names for things so people don’t understand what they’re doing. I call this transparently non-transparent, meaning that they publish papers and you can read them, but they’re filled with jargon. Unless you have the technical expertise to understand them, it’s very hard to penetrate.
They have this thing called BEPS that stands for base erosion and profit shifting. This is the enemy they want to attack. It’s interesting how the G20 outsources to different multilateral institutions such as the IMF for the SDRs (the special drawing rights or world money we talked about), they turn to the United Nations for climate change, and now they’ve turned to the OECD (Organization for Economic Cooperation Development) based in Paris for the BEPS program.
What’s base erosion? Base erosion is when I take some of these deductions and pay interest to my foreign subsidiaries so that even though I have income in the United States, I don’t pay very much tax because I have so many deductions.
Just for the listeners’ benefit, it was later in my career when I turned to securities, loan derivatives, and hedge funds and ended up writing and doing the things I do today, plus national security work. But the first ten years of my career, I was international tax counsel at Citi Bank. We operated in 98 countries, had 2000 subsidiaries and affiliates, and had a dense network of tax treaties. I did it for ten years of my life, so I understand this stuff pretty well.
What you do is borrow money from your foreign affiliates, pay them a lot of interest, write it off, and you don’t owe very much tax even though you’re in a high-tax jurisdiction, because you have deductions. That’s base erosion.
Regarding profit shifting, you do something like Apple. I don’t want to pick on Apple because there are many examples, but they’re probably the best known. You have some invention and donate it to your Irish subsidiary. Once that Irish subsidiary owns the intellectual property, it then licenses the intellectual property to manufacturers around the world. All those licensing royalties and fees now go to Ireland instead of the United States, which is where the technology was invented, because, of course, it has a very low tax rate.
The governments are losing this game. They’re just not as nimble as the corporations, so they’re trying to fight back by having global taxation. What this plan calls for is that every corporation would have a global identification number. It’s like tagging a shark or a fish and releasing it so you can keep track of it. Every corporation would have an ID number including all its subsidiaries and affiliates. Every transaction would have an ID number, and they would all have to be reported to this global database operating on supercomputers. And then all the countries would have access to the database.
The problem right now is that if you’re a corporation and you shift your profits from country A to country B, well, country A sees half the transaction, country B might see the other half of the transaction, but nobody is seeing the whole transaction.
Under this new plan, they will see the whole transaction, because they’ll have all the data in one place. Once they do that, they’re going to pick their targets and will have the information to go after them using various anti-tax-avoidance provisions like section 269 of the Internal Revenue Code. There is lots of authority to go ahead and do this; they just haven’t had the information. Now they will.
So, they’re going to rip these corporations apart, make them pay taxes, and they’re going to make them put the income back where they want it. Germany is a leader in this, the United States is certainly involved, etc.
Governments are insatiable. They say, “We just want our fair share.” Everyone says, “Gee, fair share; that sounds fine,” but what is a fair share? What’s the limit? When governments spend unlimited amounts of money and have insatiable appetites for taxation, the fair share soon turns into outright expropriation, which is where we’re heading.
That’s going on in addition to world money, the SDR, we just talked about. It’s real. Those were invented in 1969 and were issued most recently in 2009. In July 2016, the IMF came out with a paper encouraging the creation of a private SDR market. Lo and behold, a month later, the World Bank issued a 2 billion SDR bond. Notice I didn’t say 2 billion dollars; I said 2 billion SDRs. It was denominated in SDRs, underwritten by Chinese banks, and the Chinese bought the bonds.
All this stuff is happening in real time. Taxpayers and corporations are going to have nowhere to hide, and governments are going to keep spending the money. If they can’t get inflation, they’ll raise taxation. They must do something, because they can’t pay the debt.
It’s more and more oppressive, it’s more and more omnipresent, and the question is, what can you as an individual do to preserve your wealth? The top of my list is to buy gold.
Jon: Thanks, Jim. Alex, at this point, I’m sure you have many questions from our listeners, so over to you.
Alex: Yes, indeed we do. Before we dive into questions, this is going back to the very beginning of the webinar when we had comments come in with regards to your Brexit call. Several people are saying “Bravo, Jim, great call. Jim Rickards is the man.” I guess these guys did pretty well out of that.
The first question is, do you expect gold prices to go down further after the Fed raises interest rates in December, or do you think this is already factored in by the market? Essentially, do you think that it’s already priced in, and thus we’re at a bottom for gold?
Jim: The December hike is definitely priced in. Gold went down because of this increased expectation of interest rate hikes. That actually started in early October when we saw gold draw down around the $1260 level, then it started to rally back in anticipation of Trump and the Trump victory, and it got back to around $1340. Then it came down again, partly because of the stock market rally and easing financial conditions.
People said, “The Fed is definitely going to raise interest rates.” We had a strong dollar rally, and so gold is lower in dollars. By the way, it’s up in some other currencies, but it is lower in dollars because of the strong dollar. As I said, a strong dollar means a lower dollar price for gold.
The Fed will probably say some things in December to indicate that they do plan to raise rates again in 2017, so that’s a little bit of a headwind. I don’t expect to see gold go down a lot from here. It could go down a little bit and break through $1200, although I do think this is a very attractive entry point for people who don’t have a full allocation of gold.
It’s going to be very interesting early next year in the first quarter, because we’re going to face this fork in the road that I talked about earlier. Is the Fed going to accommodate trillion-dollar deficits? If they do, then I guarantee inflation, and gold is going to go up a lot once that realization sinks in. Or is the Fed going to raise again in March and really lean into this? In the short run, that’s a headwind for gold. Gold could go down a little more, but I don’t think it’ll go down a lot more.
Then a different dynamic is going to take over, which is you’re going to have this crisis I talked about of emerging markets corporate dollar debt crisis. That’s going to be just the kind of thing to get people interested in gold again because of the financial instability.
So, we have two different paths: one is a straight line to higher gold prices; the other one is a more circuitous route where it could come down a little more based on Fed hawkishness, but then the Fed is going to have to back off that or else they’re going to cause a global recession and global panic, and then gold will go up a lot.
It’s a good place to be accumulating gold. Whenever I do these forecasts, I don’t just throw a couple of balloons in the air. We have specific indications and warnings as we call them in intelligence analysis, specific things we’ll be looking for to tell us which road we’re on.
Right now, there are two vacancies on the Federal Reserve. The law of unintended consequences is interesting. Obama kept the seats vacant because he wanted to give Janet Yellen more power, and they’ve been vacant for two years. Why did the White House not fill those seats? The answer is that anyone who’s ever run a board knows that it’s easier to control a five-person board than a seven-person board. By leaving the two seats empty, they gave Yellen, Dudley, and Fischer more power, because they didn’t have these possible dissents.
Now Trump is going to fill those seats. Let’s see who he picks. If he picks hard money people – and there are a lot of people in the Republican party who would like to see that – you’re going to really throw the world into recession. If they want to lean into this inflation with some hard money picks, again, gold might come down a little bit from there, but there are going to be a lot of problems paying off this debt. If he picks easy money people, then look out for inflation.
That’s one thing I’m watching, and I’ll watch the Fed’s December statement. Of course, everybody will be looking at that. Watch for these vacancies, see what happens to the dollar, see what the Europeans do. There are a lot of things we’ll be watching.
Yet another wildcard is the Italian referendum coming up on December 4th. It’s technically constitutional reform. It’s not a vote on leaving the Euro, but it’s a package of technical reforms. It’s likely to be voted down, there’s going to be a No vote there, and Prime Minister Renzi will resign. There have been 58I Italian governments since World War II, so the Italian government resigning is not exactly the end of the world, but the political landscape has shifted. They’ll have to have new elections.
There’s something called the Five Star party in Italy that looks a little bit like the Donald Trump of Italy. They have this kind of nationalist, anti-immigration, anti-euro platform. If they get more seats in the parliament the next election, does that threaten the Euro?
And what is the implication there for Deutsche Bank? Because there’s this whole staring match between Renzi and Merkel around Deutsche Bank versus Banca Monte dei Paschi, which is the Italian bank they want to bail out. Merkel says, “Don’t you dare,” and Renzi says, “Okay, if we can’t bail out our bank, you can’t bail out Deutsche Bank,” and Merkel kind of said, “Yes, you’re right.” So, the whole Deutsche Bank crisis could come back, and that could send gold up.
I’m not trying to be wishy-washy; I’m just trying to explain that there are a lot of dynamic forces in play. We’re watching all of them. I think all roads lead to much higher gold prices, but they have different paths along the way.
Alex: We have a question here that has been asked by several different people. They’re saying it in different ways, but I’m going to read the one from Anthony K. His question starts out with “Trump has previously expressed favorability for gold as a monetary anchor. If inflation spins out of control, do you think President-Elect Trump would enact some type of gold standard?” He adds thank you, and thanks for all the great work we’ve done here.
Jim: Thank you. Trump is the first president-elect – and until a couple of weeks ago, the first presidential candidate – to say anything favorable about gold since Ronald Reagan. It’s been a long time. Presidential candidates have not talked about gold since 1980. He didn’t say he wants a gold standard, but he did say that maybe gold should be a measuring stick or a frame of reference or something we think about in terms of the monetary system.
Another thing I’m watching is one of his top advisors. I did not mention her before because I was talking about the tax and spending people – Malpass, Bannon, Pence, Kudlow and those guys – but one of his top advisors is Judy Shelton. Judy Shelton is a hard-shell gold advocate. She wrote a book in the 1990s calling for a gold standard, she’s a regular op-ed columnist in the Wall Street Journal, and she is a strong advocate for gold. She’s in the mix as one of the policy makers, advisors in Trump Tower, so you should really keep an eye on her. I would put more weight on the fact that Judy Shelton is in the mix than even on what Trump has said publicly.
But there’s a problem. If you want to go back to gold in any way, either as a frame of reference or a benchmark or whatever, you have to have a much higher price. If you don’t, it’s deflationary.
Again, we’ve gone through the math before. M1 (money supply) for the four major economies – Europe, Japan, China, and the United States, which is 70% of global GDP – is $24 trillion approximately. We know that number. Let’s assume 40% gold backing. You could assume more or less; that’s season to taste. I picked 40% because that’s what the U.S. had for most of the 20th century. 40% of $24 trillion is $9.6 trillion.
There are 33,000 official tons of gold in the world, so divide $9.6 trillion by 33,000 tons and you come out with a number that’s about $9000 an ounce, close to the $10,000 forecast I have. That’s the implied non-deflationary price of gold. That’s the price gold would have to be, given the amount of gold that we have, to back up 40% of the money supply.
If you have a lower price than that such as today’s price of $1200, and you’re trying to manage the money supply to that target, you’re going to have to reduce the money supply, which is extremely deflationary and depressionary. They’re not going to do that; it’s much easier to have a higher price of gold.
Probably one of the reasons we haven’t heard about this too much lately is that somebody did the math. It’s one thing to say, “I’d like a gold standard” – yes, that sounds good – but when you actually crunch the numbers and look at the amount of gold and the amount of money, make some assumptions, and do those equations, you get to $8000 or $9000 or $10000 in a heartbeat.
Maybe people are shutting up about it because they’re like, “Wait a second, we don’t want to go there,” but they may have to, whether they like it or not. It’s a very interesting question. Keep an eye on Judy Shelton because she’s the real gold bug in Trump Tower.
Alex: I’m personally a big advocate of what I call honest money. For various reasons, I think fiat ultimately leads to an erosion of the rule of law and an erosion of morality – but that’s a completely other subject. It’s pretty exciting stuff with even a small potential for a gold standard. I think there are a lot of people who would be excited about that.
We have only a couple of minutes left and are going to go with one more question coming from Tom D. He’s from the Netherlands, and his question is, “In The Road to Ruin, you mention that after SDR printing, the dollar is worth what the G20 and the IMF decides. Only gold is immune to this. This pleads for storing one’s wealth in physical gold, but since many countries confiscate gold, is it likely this will happen in the next financial crisis?”
Jim: It will probably happen in some places. You have to pick your countries very carefully. The United States has the Fifth Amendment, so it is unconstitutional for the government to seize property without giving just compensation.
People may ask, “What happened in 1933 when FDR confiscated gold?” Well, it was a partial, sleazy confiscation. He actually gave people $20 an ounce, the official price of gold at the time. FDR made it illegal by executive order, so you had to hand it in, but you’d get $20 in paper money for every ounce of physical gold. That’s how he got around the constitutional objection.
Roosevelt knew that he was going to raise the price to $35, so basically he stole the difference between $20 and $35, but he didn’t tell anybody that at the time. He just confiscated it at $20, raised it to $35, and then the government kept the profit.
In effect, he stole $15 an ounce from the people, but it was technically constitutional because he did it sequentially in such a way that he paid people what their gold was worth at the time.
If you want to confiscate gold today, at least in the United States, you must pay people for it. The difference between now and 1933 is that we’re not on a gold standard, so there’s no fixed price for gold. The government can’t do the bait and switch like they did in 1933, so what kind of world is it where the government is going to want to confiscate gold? That’s where gold is already going to $5000, $6000, $7000 an ounce. That’s the situation where they’re going to want to hoover up the gold, but they’re going to have to pay you for it at the market price.
I think the combination of the fact that we’re not on the gold standard and we have Fifth Amendment protection means the government will not confiscate it, but if they do, you’re going to have to get your money’s worth, so you won’t be left out in the cold.
Alex: We have a lot of people who listen to our podcast from around the world; many are from the U.K., all over Europe, Latin America, really everywhere. What would you say are the chances of something like that happening, and would you say that maybe putting some gold in a different jurisdiction, not having all your eggs in one basket, is a smart move?
Jim: It’s always a smart move. I talked about the U.S. because I happen to be a U.S. lawyer among other things, so I focused on this history and the constitutional objection, but you hear about it most frequently from Americans. The answer is under the Constitution; they can’t take your gold without giving you your money’s worth, so you’ll be fine at least to that extent.
My number one jurisdiction in the world for rule of law and legal safety is Switzerland for a lot of reasons. We don’t have time to go into all of them, but they haven’t been invaded successfully for over 500 years, they’re heavily armed, they have a good rule of law, they maintain their neutrality, and they have a good sense of community. They have a tradition of this.
I’m not saying there are no other good jurisdictions around the world, but you really should study them carefully. I know a lot of people like Singapore. Singapore has good rule of law, but it could come under the thumb of China. I don’t trust China at all, but I do trust Switzerland. I think they have a safe jurisdiction.
Alex: I happen to agree. It’s our favorite jurisdiction for gold storage, as well.
With that, we’re out of time. Jim, thank you for your perceptiveness and your time as always. I also want to thank all our listeners, and thank you for the questions you’ve provided for us. We always enjoy getting those and feel like it’s a great conversation with you every time we do this. With that, I’m going to turn it over to Jon.
Jon: Thank you, Alex, for some great insights today from you, and thank you, Jim Rickards. It’s always a great pleasure and an education having you with us. Most of all, thank you to our listeners for spending time with us today. Let me encourage you to follow Jim on Twitter. His handle is @JamesGRickards.
Goodbye for now. We look forward to joining you again soon.
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