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European banking system needs redesign to prevent another crisis
There is widespread anxiety about the true condition of German banking, writes Colm McCarthy
By Colm McCarthy
Sunday February 13 2011
The new government will take office on March 9 (Ash Wednesday, as it happens) and will face immediately the task of forging a response to the Franco-German plan to resolve the Eurozone crisis unveiled at the Brussels summit last Friday week.
It calls, as these documents invariably do, for greater integration of European economic policy. The main proposals are for closer harmonisation of tax and spending policies, including constitutional limits on borrowing, a common approach to corporation tax, higher retirement ages in state pension systems and an end to wage indexation. The theme is a more competitive Europe with better fiscal discipline.
The plan has already received a frosty welcome. Everyone is in favour of better fiscal discipline, preferably at some distant future date, but states which have wage indexation want to keep it, higher retirement ages are unpopular in countries where the current figure is low and member states with attractive rates of corporation tax (Ireland is not the only one) want to keep them. There is a far better reason to resist the proposals, however. Europe is facing a serious financial crisis and the Franco-German programme looks like another integrationist push rather than a serious attempt either to resolve the continuing crisis or to prevent the next one.
The crisis in Europe, with the possible exception of what has happened in Greece, does not have its origins in loose budgetary policy. Its origins lie in a crisis of overleveraged banks making foolish lending decisions. Banks differ enormously in life but are indistinguishable in death: they go bust because they make bad loans and bad investments. Prudent banks, with cautious balance sheets and borrowers able to repay, do not go bust. In Europe, the introduction of the new common currency in 1999 was followed by a period of excess, not in loose fiscal policy but in the careless expansion of bank balance sheets through the accumulation of large liabilities to bondholders and wholesale lenders, in addition to the normal reliance on retail deposits.
These growing resources were deployed in the acquisition of dud assets. An extreme example was Anglo Irish Bank, which appears to have written off about 45 percent (and counting) of the amount it lent. In Ireland the dud assets were property and mortgage loans in the main. Something similar but on a smaller scale happened in Spain and in the United Kingdom. The dud assets acquired in France, Germany and other continental countries included exotic derivatives of mortgage loans in the United States as well as bonds issued by dodgy banks in places like Ireland.
The result of the banking crash has been a descent into unsustainable budget deficit in many countries. Those which had big government debts to begin with (Greece), or which allowed a greater banking bust to emerge (Ireland), have ended up in the most trouble. But the problem is general and in Germany, for example, the budget rules of the Eurozone were broken earlier than in countries like Ireland and there is widespread nervousness about the true condition of large parts of the German banking system.
Any plan from the EU Commission, the European Central Bank or the traditional political engine in the shape of Franco-German initiatives needs to pass one or both of the following tests: does the plan clean up the crisis which has arisen, and does it help to avoid a recurrence?
The latest Franco-German plan does not pass the first test, since it studiously avoids addressing the nature of the crisis. The European economies have not been experiencing the worst recession since the Second World War because the retirement age is too low, or because there are national differences in corporation tax rates. Ireland is not in an IMF bailout because the budget deficit, in the years before the crisis, was outside the Eurozone parameters. There was exemplary compliance with the fiscal policy rules and all boxes were ticked, up until 2007, in Ireland and in most Eurozone countries. This is a banking crisis and it remains unresolved three years after the bubble began to burst.
Resolving the crisis which has arisen in the Eurozone requires three simple steps. These are: stress-test the banks properly, in a manner which has credibility in the markets; distribute the losses, and re-capitalise whatever banks are deemed necessary for the long haul. Preventing the next crisis requires a redesign of the Eurosystem, including credible bank supervision and the avoidance of moral hazard, that is, the compensation of imprudent risk-taking.
The stress tests attempted by the European Central Bank last July were not believed. One of the banks which passed was AIB, which has since, to all intents and purposes, gone under. For a central bank dealing with a crisis of confidence in the solvency of its banks to deliver a non-credible stress-test is worse than doing nothing. A new set of stress-tests, under ECB supervision, is currently being conducted and the results are expected in April. If they give a clean bill of health to, for example, every bank covered, or if the tests conveniently exclude banks which are dodgy, the exercise is another waste of time and will fail again. It is extraordinary that the European banking system is still being stress-tested three years after the failure of Bear Sterns signaled the onset of the international financial crisis.
Adequate stress-tests should identify the banks which need recapitalisation, once and for all. If private equity is not available, which will not be the case for the basket-cases, the gap must be made up by taxpayers or through hair-cutting bondholders foolish or unlucky enough to have invested in these banks. To expect taxpayers alone, and only those in the countries unlucky enough to have hosted the mis-supervised banks, risks sovereign default in these countries, of which Ireland is the prime example.
Barry Eichengreen of the University of California at Berkeley summarises the position thus: “But one item is prominently absent from the new agenda: financial regulation. Aside from Greece, whose problems reflect years of fiscal profligacy, the euro crisis is fundamentally a banking crisis. Although the European Union activated three new ‘financial regulators’ for banking, securities markets, and the insurance industry on January 1, these new entities have limited powers. They mainly act to coordinate the periodic meetings of national regulators.
“In a monetary union, the idea of leaving financial regulation in the hands of individual countries is madness. Given the interconnectedness of national banking markets in the European Union, the actions taken by any one national regulator — say, Ireland’s permitting its banks to borrow huge volumes of foreign money to engage in all manner of reckless property speculation — can have serious repercussions for the rest of the European Union. Why Friday’s summit wasn’t used to propose the creation of a single powerful EU or euro-area bank regulator is a mystery. If one didn’t know better, one might suggest that Germany, whose banks are exceptionally highly leveraged and poorly capitalised, was cowed by certain special interests.”
There is a practical objection to a Europe-wide bank resolution: it would finally address the burden-sharing issue which French and German politicians wish to avoid. The ECB, whose policy throughout the crisis to date has been driven by no-bank-must-fail mantra and the protection of bondholders, needs a thorough redesign if another crisis is to be avoided. The Franco-German plan is also silent on this crucial issue.
Aside from employees of the European Central Bank, prominent economists have been virtually unanimous these last few months in dissenting from the non-policy being pursued. Bloomberg quoted another well-respected practitioner of the dismal science during the week in the following terms: “Senior bondholders of European banks should take a haircut on their investments instead of struggling banks being supported by taxpayer bailouts,” Citigroup’s chief economist, Willem Buiter, said.
“As soon as the end of this year, all the European zombie banks could be restored to health or put out of business by making senior bondholders pay instead of the taxpayer,” Mr Buiter said, adding that state support for failing financial institutions should be removed as soon as possible.
The risk of another European banking crisis down the road can be minimised only through the redesign of the ECB and the Eurosystem. The redesign should involve the centralisation of bank supervision, which in an integrated banking market cannot safely be delegated to small countries with limited administrative resources. This logically raises the question of abolishing the national central banks altogether. In seeking a better deal for Ireland in the resolution of the European banking crisis, Irish politicians should not be shy about urging a better deal for Europe; a deal which at least addresses the unresolved current crisis and the prevention of the next one.
Colm McCarthy lectures in Economics at University College Dublin. He has headed an expert group examining State assets and chaired the Special Group on Public Service Numbers and Expenditure Programmes, aka An Bord Snip Nua
– Colm McCarthy
Sunday Independent
Forecast 2011 – Gird Your Loins for Lower Living Standards
12 Economic Collapse Scenarios That We Could Potentially See In 2011
What could cause an economic collapse in 2011? Well, unfortunately there are quite a few “nightmare scenarios” that could plunge the entire globe into another massive financial crisis. The United States, Japan and most of the nations in Europe are absolutely drowning in debt. The Federal Reserve continues to play reckless games with the U.S. dollar. The price of oil is skyrocketing and the global price of food just hit a new record high. Food riots are already breaking out all over the world. Meanwhile, the rampant fraud and corruption going on in world financial markets is starting to be exposed and the whole house of cards could come crashing down at any time. Most Americans have no idea that a horrific economic collapse could happen at literally any time. There is no way that all of this debt and all of this financial corruption is sustainable. At some point we are going to reach a moment of “total system failure”.
So will it be soon? Let’s hope not. Let’s certainly hope that it does not happen in 2011. Many of us need more time to prepare. Most of our families and friends need more time to prepare. Once this thing implodes there isn’t going to be an opportunity to have a “do over”. We simply will not be able to put the toothpaste back into the tube again.
So we had all better be getting prepared for hard times. The following are 12 economic collapse scenarios that we could potentially see in 2011….
#1U.S. debt could become a massive crisis at any moment. China is saying all of the right things at the moment, but many analysts are openly worried about what could happen if China suddenly decides to start dumping all of the U.S. debt that they have accumulated. Right now about the only thing keeping U.S. government finances going is the ability to borrow gigantic amounts of money at extremely low interest rates. If anything upsets that paradigm, it could potentially have enormous consequences for the entire world financial system.
#2Speaking of threats to the global financial system, it turns out that “quantitative easing 2” has had the exact opposite effect that Ben Bernanke planned for it to have. Bernanke insisted that the main goal of QE2 was to lower interest rates, but instead all it has done is cause interest rates to go up substantially. If Bernanke this incompetent or is he trying to mess everything up on purpose?
#3The debt bubble that the entire global economy is based on could burst at any time and throw the whole planet into chaos. According to a new report from the World Economic Forum, the total amount of credit in the world increased from $57 trillion in 2000 to $109 trillion in 2009. The WEF says that now the world is going to need another $100 trillion in credit to support projected “economic growth” over the next decade. So is this how the new “global economy” works? We just keep doubling the total amount of debt every decade?
#4As the U.S. government and the Federal Reserve continue to pump massive amounts of new dollars into the system, the floor could fall out from underneath the U.S. dollar at any time. The truth is that we are already starting to see inflation really accelerate and everyone pretty much acknowledges that official U.S. governments figures for inflation are an absolute joke. According to one new study, the cost of college tuition has risen 286% over the last 20 years, and the cost of “hospital, nursing-home and adult-day-care services” rose 269% during those same two decades. All of this happened during a period of supposedly “low” inflation. So what are price increases going to look like when we actually have “high” inflation?
#5One of the primary drivers of global inflation during 2011 could be the price of oil. A large number of economists are now projecting that the price of oil could surge well past $100 dollars a barrel in 2011. If that happens, it is going to put significant pressure on the price of almost everything else in the entire global economy. In fact, as I have explained previously, the higher the price of oil goes, the faster the U.S. economy will decline.
#6Food inflation is already so bad in some areas of the globe that it is setting off massive food riots in nations such as Tunisia and Algeria. In fact, there have been reports of people setting themselves on fire all over the Middle East as a way to draw attention to how desperate they are. So what is going to happen if global food prices go up another 10 or 20 percent and food riots spread literally all over the globe during 2011?
#7There are persistent rumors that simply will not go away of massive physical gold and silver shortages. Demand for precious metals has never been higher. So what is going to happen when many investors begin to absolutely insist on physical delivery of their precious metals? What is going to happen when the fact that far, far, far more “paper gold” and “paper silver” has been sold than has ever actually physically existed in the history of the planet starts to come out? What would that do to the price of gold and silver?
#8The U.S. housing industry could plunge the U.S. economy into another recession at any time. The real estate market is absolutely flooded with homes and virtually nobody is buying. This massive oversupply of homes means that the construction of new homes has fallen off a cliff. In 2010, only 703,000 single family, multi-family and manufactured homes were completed. This was a new record low, and it was down 17% from the previous all-time record which had just been set in 2009.
#9A combination of extreme weather and disease could make this an absolutely brutal year for U.S. farmers. This winter we have already seen thousands of new cold weather and snowfall records set across the United States. Now there is some very disturbing news emerging out of Florida of an “incurable bacteria” that is ravaging citrus crops all over Florida. Is there a reason why so many bad things are happening all of a sudden?
#10The municipal bond crisis could go “supernova” at any time. Already, investors are bailing out of bonds at a frightening pace. State and local government debt is now sitting at an all-time high of 22 percent of U.S. GDP. According to Meredith Whitney, the municipal bond crisis that we are facing is a gigantic threat to our financial system….
“It has tentacles as wide as anything I’ve seen. I think next to housing this is the single most important issue in the United States and certainly the largest threat to the U.S. economy.”
Former Los Angeles mayor Richard Riordan is convinced that things are so bad that literally 90% of our states and cities could go bankrupt over the next five
#11Of course on top of everything else, the quadrillion dollar derivatives bubble could burst at any time. Right now we are watching the greatest financial casino in the history of the globe spin around and around and around and everyone is hoping that at some point it doesn’t stop. Today, most money on Wall Street is not made by investing in good business ideas. Rather, most money on Wall Street is now made by making the best bets. Unfortunately, at some point the casino is going to come crashing down and the game will be over.
#12The biggest wildcard of all is war. The Korean peninsula came closer to war in 2010 than it had in decades. The Middle East could literally explode at any time. We live in a world where a single weapon can take out an entire city in an instant. All it would take is a mid-size war or a couple of weapons of mass destruction to throw the entire global economy into absolute turmoil.
Once again, let us hope that none of these economic collapse scenarios happens in 2011.
However, we have got to realize that we can’t keep dodging these bullets forever.
As bad as 2010 was, the truth is that it went about as good as any of us could have hoped. Things are still pretty stable and times are still pretty good right now.
But instead of using these times to “party”, we should be using them to prepare.
A really, really vicious economic storm is coming and it is going to be a complete and total nightmare. Get ready, hold on tight, and say your prayers.
Jim Rogers Says $200 Oil Will Lead Massive Commodity Surge
When it comes to state visits the devil is in the detail. It’s the nuances of the arrangements that allow you to calibrate just how important a relationship is. That’s why the world has been watching the visit of the Chinese President Hu Jintao with such attention. The state dinner at the White House – described as an “intimate” event – apparently signifies that Washington rates China as pretty much the most important nation, economically, on earth. But the visit has also prompted much speculation in the press about how long the Chinese economic miracle can last and whether it is about to come to a juddering halt. Jim Rogers, the legendary investor who co-founded the Quantum Fund with George Soros, has moved his family to Singapore and is making sure his two young daughters can speak Mandarin. He spoke to the Business Daily’s Justin Rowlatt.
Transcript is below
Jim Rogers: The largest creditor nations in the world are in Asia now: China, Korea, Japan, Hong Kong. This is where the assets are. You know who the debtors are and where they are.
Justin Rowlatt: But listen, I mean the Chinese economy is still way behind the American economy is and it is about the third the size of the American economy.
Jim Rogers: Yes, of course. They had a disaster for 300 years, but about 30 years ago, they woke up, they changed their minds and they said we got to try something new. They unleashed entrepreneurship and capitalism again, and they have been astonishing for 30 years. It takes a while to go from a disaster to rival the Americans, but they are on their way.
Justin Rowlatt: Do you really believe the Chinese boom can continue, because lots of people are saying there are all sorts of asset price bubbles that are going to trip the Chinese up in the coming years?
Jim Rogers: Well, the only asset bubble I see potentially in China is in urban coastal real estate, but real estate is not nearly the entire Chinese economy as it was in America and the U.K. Sure, they will have setbacks.
Justin, in the 19th Century, America had a horrible civil war. We had 15 depressions with a ‘D.’ We had very few human rights. We had massacres in the streets regularly. We had very little rule of law. You could buy and sell – you can still buy and sell congressmen in America, but in those days they were cheap. America had horrible problems, but they came out of that and had a pretty good 20th Century.
Justin Rowlatt: So what does that imply about where people should put their money; where are the sensible investments in Asia?
Jim Rogers: Well, the best way to invest in Asia in my view is to buy commodities, because the Chinese have to buy cotton, they have to buy zinc, they have to buy oil, they have to buy natural resources because they don’t have enough.
If you want to invest in China and you own cotton, they are going to be very nice to you Justin. They are going to pay the bills, they are going to take you to dinner, they are going to pay you on time. If you want to invest in stocks, you have to do a lot of homework and know what you are doing. Another way is to invest in the currency. I own the renminbi. I expect the renminbi to go up a great deal over the next decade.
Justin Rowlatt: But commodities are already at relatively high prices, aren’t they? I mean hasn’t that horse bolted already?
Jim Rogers:No, no, the only commodity I know which is making an all time high is gold. Some commodities are up, yes. Sugar is up a lot, but Justin, sugar is still 50% below its all time high. How can you say that’s bolted? Silver is going up, but silver is 40% below its all time high. Yes, commodities have been going up recently, but they are still extremely depressed on a historic basis.
Justin Rowlatt: So what about oil? I mean oil prices are pretty high, aren’t they? Almost $100 a barrel. Are they really going to go higher do you think?
Jim Rogers:Well, the surprise is going to be how high the price of oil stays and how high it goes, because Justin we have had no major elephant oil discoveries in over 40 years. The International Energy Agency is going around the world pleading with people to listen. Known reserves of oil are declining. It is not good news. Unless somebody discovers a lot of oil very quickly, prices are going to go much higher over the next decade.
Justin Rowlatt: How high do you think the oil price could go then?
Jim Rogers:Justin, the price of oil is going to make new highs. It will go over $150 a barrel. It will probably go over $200 a barrel.
Justin Rowlatt: Over $200 a barrel? I mean that’s a world record high, isn’t it?
Jim Rogers: Of course it is, but Justin, the world is running out of known reserves of oil. Maybe there is a lot of oil in the world, but if there is, we don’t know where it is or how to get to it.
Justin Rowlatt: You got the pre-salt deposits off the coast of Brazil, there is Arctic oil, I mean there are big reserves of oil yet to be tapped, aren’t there?
Jim Rogers:Justin, those reserves off the coast of Brazil are wonderful if you own them, but even the wildest and most optimistic estimates would only add one year’s reserves to the world. The world is using 86 million barrels of oil everyday Justin. Even if it stays static or goes down a little bit, those finds off Brazil will make somebody rich, but they are not going to solve the world’s problems. And, if you know of a lot of oil in the Arctic, please tell us where it is, but it is going to be very difficult to get it out of there.
Justin Rowlatt: What other things should people be looking out for do you think Jim?
Jim Rogers:Well, there are many parts of the world economy which are going to do well no matter what happens. Chinese agriculture is going to boom because Mao Zedong ruined agriculture in China and now they are spending huge amounts of money trying to solve the problem.
Water is going to be a great growth industry, because India has a huge water problem, China does, America does. Many places have big water problems, so huge fortunes will be made in water in the future.
Chinese tourism is going to boom. They have not been able to travel for about 300 years. Now they can get passports easily. They can take money out of the country. And Justin, there are 1 billion 300 million of them. They want to see their own country and they want to see the world. It is going to be a great growth industry.
Justin Rowlatt: You said that obviously there are going to be issues for water for countries like China and India in the future. How would you make money out of the kind of water demand that there is in many developing countries?
Jim Rogers: Well Justin, countries can survive civil war, epidemics, all sorts of things, but one thing the countries cannot survive is that they run out of water. China has a terrible water problem in the north as does India, which has an even worse problem. So if you can figure out a way to transport it, pump it, clean it, whatever you got to do, you will make a lot of money in water.
I would not suggest you own water, because if you own water, when things get really bad, the politicians will sneer and say, “You filthy horrible capitalist, you are making money off people’s God given right to water.” And if you are lucky, they will hang you in the city square. But if you can solve the water problems, they will build a monument to you in the city square and you will be extremely rich.
Silver IS The New Gold
Submitted by Ryan Jordan on Sun, 23 Jan 2011
A Popular Delusion Called Cheap, Industrial Silver
From the beginning of the financial crisis in 2008, contrarian investors began murmuring about getting into gold and short term Treasuries. It was almost a mantra: gold and Treasuries… gold and Treasuries. Something missing? There certainly was from the perspective of the silver bugs. But the conventional wisdom, among goldbugs at least, was that silver was a mere “industrial metal” that would easily drop in a weak economy. And those who referred to silver as an “industrial metal” seemed to be backed up by the COMEX exchange in 2008, where the price of silver was basically cut in half, from twenty dollars to below ten. This takedown may have seemed justified at the time because the super rich were not loading up on bulky thousand ounce bars of silver, but smaller, more portable, easily stored amounts of gold. Silver was left out, ignored, shunned, and that seemed to be just the way the market worked.
I remember thinking in the fall of 2008 that part of this push into gold and Treasuries really was motivated by memories of what people did between 1929 and 1932. You see, the last time we had a Depression “gold and Treasuries” was the common sense move to protect assets. Silver in 1930? Silver was practically a base metal, it was in the coinage you used to buy a hot dog. Remember that at the depths of the Depression the mine supply of silver was nearly 5 TIMES the domestic US demand for both industry and coinage!! Things were so bad for silver that western Senators demanded that the U.S. prop up the silver price after it dropped to under 50 cents an ounce! Needless to say, few Americans in the last Depression thought of silver as the go-to monetary metal to protect wealth against a shattered banking system.
Fast forward 45 years and the view of silver as an abundant, cheap industrial metal would be further reinforced in the aftermath of Silver Thursday in 1980. This is because the price spike in the mid to late 1970s was not coming from industrial demand- that peaked about six years earlier, in 1974. Rather the price surge was coming from the Hunt Brothers’ Corner on the COMEX: in other words, investment demand. All that was needed was for the COMEX to change the rules on the Hunts- a kind of capital control against the longs- and the price collapsed. As the price collapsed over 60% in the 1980s (with the help of government dishoarding), and as mine supply increased, once again the perception continued that silver was some sort of easily extractable, base metal. Gold was the money of the bankers- “he who has the gold makes the rules” was the tried and true saying. Silver? A distant second as far as those trying to insure their assets were concerned.
Suffice to say, most people in the investment world have been conditioned to believe that a silver shortage is impossible, in addition to being fixated on gold as the only insurance you need for your portfolio. This is the power of recent history, of the language that is used to describe silver (its industrial), and a view that is still encouraged by some gold dealers. While I haven’t done a poll, I would bet many in the gold industry assume that a genuine silver shortage for industrial purposes is highly unlikely. This perception is largely reinforced by the major world market maker in the white metal, the COMEX division of the New York Mercantile Exchange.
COMEX and thin ice on the Hudson
In my mind, the COMEX is simply a warehouse and storage center for silver. A large warehouse, yes, but a warehouse that is, frankly, living off of its former glory: once the exchange legitimately had access to hundreds of millions silver ounces that could be sold, but now it likely has less than 50 million ounces for sale (this data is almost a year old), or about 1.5 billion dollars. And given the lack of government stockpiles, and how little new mine supply goes into bullion, this 50 million ounces is in many ways irreplaceable. (I will address jewelry and silverware stockpiles below). To further show how small this 50 million silver ounces number is, the COMEX has less silver for sale than is stored by a well-known gold and silver closed-end fund, the Central Fund of Canada (the COMEX also has much less silver than the SLV ETF, but I realize many question what this ETF actually has under its direct control.) So why does the COMEX have such sway in the silver market? Because the COMEX enables big players to buy on paper, with big leverage- I guess what they call “liquidity” in the world of finance. On any given day the COMEX trades millions and millions of these paper “ounces” of silver. The vast majority of these contracts are not settled in physical silver- it is impossible to do so! But the volume of money passing through and over this silver warehouse is what makes the COMEX the alpha dog, the leader of the pack in terms of setting the world price in silver.
But in this era of uncertainty regarding our financial system, the paper leveraged nature of the COMEX leads many to question its viability as the world market maker in silver. Because at the end of the day, the paper game played on the COMEX demonstrates how floating exchange rates allow for the irresponsible mispricing of important strategic and industrial assets like silver (but the list could be included to other commodities.) Worse, there is a motive for banks in league with the Federal Reserve to use as many of their Federal Reserve Notes to play the short side of the paper game, even though these banks know full well they could not deliver on what they are selling short. But banks likely play this game to maintain the image that the fiat dollar is doing just fine: large price moves higher in gold and silver are a warning light regarding the end of the fiat dollar. However, the lower the silver price is kept by large banks and their naked short positions, the more silver is consumed in spite of a tightening physical market. The silver paper market, in other words, is completely and totally disconnected from the realities of supply and demand on the ground.
The casino-like quality of this paper market is related to the fallacy that you can just print more and more money and not have incredible shortages erupt in goods that cannot be printed. We are already seeing shortages for real things in places like Tunisia- we all have to wonder how long before these kinds of shortages come to the western world. But the FED is convinced that it can solve the employment problem with cheap money, and will continue to pretend the looming inflation problem does not exist. And the FED is not only showing disregard for poor people whose budgets are easily consumed by food increases. The callous attitude of the Federal Reserve System also extends toward the holders of capital- epitomized with the zero percent interest rate policy. This attitude is an expression of the fallacy that the holders of capital will always be relied upon to invest capital into risk taking ventures such as mines or other productive enterprises. This is a very dangerous, stupid assumption. What if those holders of capital feel abused by the banking elite and government authorities and refuse to take the risks necessary to provide the resources needed for the American economic model of growth at all costs? And what if those holders of capital decide to put their money into something unprintable- like silver? So, in my mind, the COMEX is one more, very important symbol of an unsustainable economic and monetary model. The implications of the COMEX running out of silver, or trying to institute capital controls when it fears a run on silver, could not be more bullish for the holders of the white metal.
For now, though, the COMEX price is generally honored by dealers. Yes, there are premiums for small amounts of silver, but there are not yet significant premiums for larger bars of silver. There are hundreds of thousands of major bullion dealers who aren’t big enough to rock the boat of COMEX pricing- at least not yet. But what happens if the silver inventory at the COMEX keeps dropping- irreplaceable inventory as far as I’m concerned- and all the leveraged paper players try to convert their paper into silver. If there are eighty more paper contracts settled in paper for every one settled in bullion, you get the idea what will happen when the other 79 try to rush into a silver market where the silver does not exist. In other words, the COMEX is susceptible to a bank run.
This is an important point: the silver market does not need any new “investors” for the price to go higher- it simply requires people holding paper silver (which is plentiful) to try to convert it into physical (which is scarce).
Although the physical scramble could occur by the populace who do not deal with the COMEX, at this point it is much more likely to be initiated at an institution such as the COMEX. When capital controls are put into place at the exchange to end the delivery of silver bullion to investors, there will be hundreds of billions of dollars trying to land on a pile of silver outside the exchange in the single billions of dollars. At some point, some of the estimated 20 billion ounces of jewelry and silverware may come into the market, but likely only at much higher prices. Think about it- how much does women’s silver jewelry cost when compared to its scrap value? In other words, silver prices will have to launch significantly higher before this jewelry comes out of hiding. And then, I predict, the Silver Users Association will make sure that it gets first dibs on what is being scrapped, leaving investors in the cold. Quite possibly, silver in coin and bullion will never be as plentiful as gold coin and bullion, even though some people still claim that there is some large overhang of silver which could make the amount of silver bullion equal to that of gold.
The trend is your friend
As a final point of fact, the above ground stockpile of silver- around 22 to 25 billion ounces and mostly jewelry and silverware at this point- has not changed much over the last half century. (Mind you, at the moment less than 1 billion are silver coins or bullion.) However, the above ground stockpile of gold has grown substantially from under 1 billion to nearly 7 billion ounces over the same time frame. Beside the fact that the above ground ratio of all silver to gold is less than 4 to 1 (and not 50: 1 as currently expressed in the price), the trend in physical gold and silver is clearly toward parity, or at least something close to it. And yet here we are with silver having recently “corrected” in price to a mere $27.50 an ounce, while gold is $1350. Silver- which could one day get awfully close to the price of gold- remains very much a screaming buy.
Jim Rogers Calls for $200 Oil, Remains Bullish on the Yuan; Limiting Factors Rogers Misses
Justin Rowlatt: Do you really believe the Chinese boom can continue, because lots of people are saying there are all sorts of asset price bubbles that are going to trip the Chinese up in the coming years?
Jim Rogers: Well, the only asset bubble I see potentially in China is in urban coastal real estate, but real estate is not nearly the entire Chinese economy as it was in America and the U.K. Sure, they will have setbacks.
Justin, in the 19th Century, America had a horrible civil war. We had 15 depressions with a ‘D.’ We had very few human rights. We had massacres in the streets regularly. We had very little rule of law. You could buy and sell – you can still buy and sell congressmen in America, but in those days they were cheap. America had horrible problems, but they came out of that and had a pretty good 20th Century.
Justin Rowlatt: So what does that imply about where people should put their money; where are the sensible investments in Asia?
Jim Rogers: Well, the best way to invest in Asia in my view is to buy commodities, because the Chinese have to buy cotton, they have to buy zinc, they have to buy oil, they have to buy natural resources because they don’t have enough.
If you want to invest in China and you own cotton, they are going to be very nice to you Justin. They are going to pay the bills, they are going to take you to dinner, they are going to pay you on time. If you want to invest in stocks, you have to do a lot of homework and know what you are doing. Another way is to invest in the currency. I own the renminbi. I expect the renminbi to go up a great deal over the next decade.
Justin Rowlatt: But commodities are already at relatively high prices, aren’t they? I mean hasn’t that horse bolted already?
Jim Rogers: No, no, the only commodity I know which is making an all time high is gold. Some commodities are up, yes. Sugar is up a lot, but Justin, sugar is still 50% below its all time high. How can you say that’s bolted? Silver is going up, but silver is 40% below its all time high. Yes, commodities have been going up recently, but they are still extremely depressed on a historic basis.
Justin Rowlatt: So what about oil? I mean oil prices are pretty high, aren’t they? Almost $100 a barrel. Are they really going to go higher do you think?
Jim Rogers: Well, the surprise is going to be how high the price of oil stays and how high it goes, because Justin we have had no major elephant oil discoveries in over 40 years. The International Energy Agency is going around the world pleading with people to listen. Known reserves of oil are declining. It is not good news. Unless somebody discovers a lot of oil very quickly, prices are going to go much higher over the next decade.
Justin Rowlatt: How high do you think the oil price could go then?
Jim Rogers: Justin, the price of oil is going to make new highs. It will go over $150 a barrel. It will probably go over $200 a barrel.
A Picture Worth A Thousand Words
This chart depicts the current condition of the concentrated short position for every applicable physical world commodity, in terms of days world production, from data published by the CFTC. (Chart courtesy of sharelynx.net)
There is no legitimate economic reason why silver would have such a large concentrated short position, when compared to every other physical commodity. I conclude that the abberation in silver (and, to a lesser extent, gold) can only be explained by manipulation. This is the point that the CFTC and the NYMEX continue to evade.
So – the price of Silver and gold is being fixed. How long can it be before it breaks free?