Radio Free Market

A recent bulletin from a major Swiss Bank argues that the price of gold has never been higher, that its price has peaked, that the run up was driven by fear, that fear is now waning and it is time to sell gold.

The problem with comparing the price of gold in dollar terms today and its price in the past is that it ignores dollar inflation.  The price of gold today is around $1,600 per ounce.  It peaked in dollar terms roughly a year ago at just under $2,000 per ounce.  Prior to the recent run up, the peak price of gold at year end occurred in 1980 at $612 per ounce.  So, let’s look at the price of gold today, taking into account dollar inflation since 1980.

First let’s look at the government’s own Consumer Price Index.  In December 1980 the CPI stood at 86.3.  In January 2013 it was 230.3. (This is hardly believable; i.e., that prices have gone up only 2.7 times since 1980.)  Nevertheless, adjusting for the CPI increase since 1980, the price of gold today should be $1,633…about where it is right now.

But now let’s look at inflation of the money supply.  In 1980 M1 was $.420 trillion and M2 was $1.605 trillion.  As of January 2013, M1 is $2.470 trillion and M2 is $10.445 trillion.  So, taking into account the great inflation in M1 and M2, the price of gold should be either $3,600 per ounce (M1 equivalence) or $3,983 per ounce (M2 equivalence) for the price of gold, IN DOLLAR TERMS, to match its price at year end 1980.

Another way to look at the relationship between the dollar price of gold and dollar inflation is to calculate gold’s dollar coverage price; i.e., for the Fed, which owns 262 million ounces of gold, to back the dollar in gold and make it truly redeemable, it would be forced to set the price at either $9,427 per ounce (M1) or $39,866 per ounce (M2).  In other words, at any lower price the Fed would not be able to redeem all of its dollars.

One last thing.  In 1980, Paul Volcker was clamping down on the US money supply and would drive interest rates to over 20%.  Ronald Reagan continued the Carter deregulation policies, and he reduced taxes and slowed government spending.  The forces that drove the price of gold to $612 in 1980 were arrested by the policies of Paul Volcker, Ronald Reagan, and, to some extent, by Jimmy Carter.  But today government is pursuing the opposite of all four of these beneficial policies.  It is pursuing the same policies that drove the price of gold to its previous peak in 1980, but there are no politically powerful voices advising monetary restraint.

So, which is overvalued today–gold or the dollar?  Patrick Barron

Re: Bernanke Defends Easy Money Policy

Dear Sirs:
Bernanke’s easy money policy is a complete failure, simply reigniting another bubble, even bigger than the last, that will burst as surely as did all previous ones.  Easy money disrupts the time structure of production, sending scarce capital to chase long term investments for which there are insufficient resources for their completion.  The Fed has learned nothing.  It is stuck in a Keynesian mindset that accepts no alternative explanation of how an economy works.  It is all “aggregate demand”, fostered by money printing to create a false sense of wellbeing.  If Bernanke were your doctor, he would advise you to cure your fever by placing the thermometer in the refrigerator.  Patrick Barron

From today’s Open Europe news summary:

Greece set for next tranche of bailout funds as another strike brings country to a standstill The European
Separately, the euro working group meeting today, is expected to approve the release of the next €2.8bn tranche of bailout funds for Greece, due at the end of the month.Kathimerini Kathimerini 2 FT WSJ Kathimerini 3

The next tranche of bailout funds for Greece is merely a shadow of the total support coming from the European Central Bank in the form of TARGET2 credits.  The balance sheet of the Bank of Greece shows a one hundred billion euro liability to other eurozone banks, an amount that has grown from almost nothing ten years ago.  The Bank of Greece buys Greek debt and uses it as collateral for euro borrowing from the ECB.  There is no practical limit to this borrowing; the other members of the eurozone have voted to allow the ECB to lend unlimited amounts to support its members national central banks.  This places the concept of charity on its head; i.e., the recipient gets to decide how much he wants rather than the contributor deciding how much he wants to give.  Patrick Barron

From today’s Open Europe news summary:

Commission to examine plans for eurozone fiscal union as part of agreement on new economic governance rules The Council of Ministers and the European Parliament yesterday reached an agreement on the ‘two-pack’ rules for eurozone economic governance, which will see countries having to advise Brussels of their budget plans and give the Commission greater oversight of struggling economies. As part of the agreement the Commission will set up a working group to look into the formation of a debt redemption fund or other forms of debt mutualisation in the eurozone. CityAM WSJ EUobserver European Voice Volkskrant Irish Times

Part of the euro-elite’s march to forming a eurozone fiscal union is to use words whose meaning are not always clear.  What exactly is “oversight” of struggling economies?  And what is a “debt redemption fund” for the “mutualization” of debt in the eurozone?  Notice the use of language to disguise true intentions.  The word “oversight” sounds so professional, but what does it mean and can it be effective?  What is most important is to hide from the public that fiscal union means that Germany and the few other relatively responsible nations will have to shoulder the debt of the many irresponsible nations…probably forever and in increasing amounts.  Think not?  What is to prevent it?  Nothing.  Patrick Barron

From today’s Open Europe news summary:

German opposition leader: Merkel entered an “unholy alliance” with Cameron over the EU budget Former French Minister: The Anglo-German axis is an extremely important diplomatic shift In a debate in the German Bundestag this morning, Chancellor Angela Merkel said that Germany has achieved all its goals in the EU budget negotiations, including an overall reduction, warning that she expects difficult negotiations with the European Parliament. SPD’s Chancellor Candidate Peer Steinbrück criticised Merkel for engaging in an “unholy alliance” with the British Prime Minister David Cameron, adding that “if you want more Europe in the future [Germany] needs partners who see its future in Europe.” FDP faction leader Rainer Brüderle hit back at Steinbrück saying that “I am glad that our Chancellor Angela Merkel negotiated [in Brussels] and not Peer Steinbrück who sometimes is described as a diplomatic neutron bomb.”
Meanwhile, Former French Environment Minister Jean-Louis Borloo told French radio RTL yesterday that the prospect of the Franco-German axis in Europe being replaced by an Anglo-German axis “is extremely worrying. This means that we’re probably turning our back on the great European ambitions…This is an extremely important political and diplomatic shift.” ARD Phonix Livestream EUobserver RTL

My question to Herr Steinbruck and M. Borloo is this:  What do you mean by “more Europe” and “European ambitions”?  If this means more socialism, perhaps Chancellor Merkel and Prime Minister Cameron have had enough.  If the EU’s future is as a transfer union, then I can understand why the transferees would want to participate, but I cannot see the benefit to the transferors.  The goal of Europe should be to expand trade and reduce its cost, prevent war, offer greater freedoms, etc.  None of these goals can be achieved by expanding the welfare state to include placing entire countries on welfare for unlimited periods of time.  Socialism is a failure within a country and will fail as the structure of an international organization, because the beneficiaries of welfare, whether individuals or nations, benefit greatly from their failures and payers benefit hardly at all from their successes.  Patrick Barron

Re: US and EU trade deal in the works

Improving trade between the US and the EU is a good thing, especially if it results in a reduction of red tape and tariffs.  But note that this is not “free trade” but “managed trade”.  No negotiations are necessary for a country to have free trade, because it is a decision for that country alone to decide that it will accept goods from anywhere in the world without tariffs, quotas, or other artificial barriers.  But this is managed trade that will require reciprocity from one’s trading partners.  It is analogous to saying that you will not go on a diet and exercise to improve your health unless everyone else does the same.  The benefits to free trade are what a nation imports not what it exports.  Also note that the commentator said that Europe was asking its industrialists to come forward with their “wish list”.  What will these industrialists wish for?  Let me guess–managed trade that is beneficial to them.  Also note that the commentator claims that a strong euro is bad for trade.  Nonsense!  If this were so, then Zimbabwe would have the best trade policy in the world.

Patrick Barron