Geoeconomics – Institute for Economic Awareness

BRICS, Inflation, Turmoil, and CDBC – What to DO?

Aug 13, 2024Andy SuttonConsumer Finance, Currencies, GeoeconomicsBRICs, consumer finance, economics, inflation, national debt

Our column last week prompted so many questions from new readers that we decided to start from scratch. Long-time readers will recognize much of what we’re about to say, but we ask that you take the time regardless since we’re adding in valuable context that has been provided over time. Just looking at the world today, your first thought might be: crazy! However, compared with even a few years ago, things are much clearer. So, without further ado…

Fiat Monetary Systems

This is the first thing people need to understand. Most have heard the term, but don’t really understand what exactly a fiat monetary system is or how it works. This is not the fault of the general public. Any fiat monetary regime (system) is based on confidence. Confidence in the monetary unit. While we’re going to focus on the dollar, please keep in mind that every major economy on Earth uses a similar system and as such, what we’re saying here applies across the board. What will differ, however, is the stage of decay your particular system is at.

The fiat monetary system is one where the value (used loosely) is dictated to a certain degree by government or state ‘fiat’, hence the term and the rest of the value is dictated by the market. The market being all the economic actors who use that particular currency for any of their activities.

We’re not sure, even in 2024, that most people really understand the absolute destruction of the USDollar that has taken place already. People become acutely aware of price inflation starting in 2020. Previously most didn’t notice the 4-5% per annum decay in the purchasing power of their dollars. We’ll use a $20 gold piece from 1913 – the year the not-so-USFed was created to illustrate. Back then, the dollar had a redeemability feature – you could take your paper notes to a bank and exchange them for gold. Silver was used too, more as a currency, rather than a pure monetary metal. So we’ll focus on gold for now. In those days a $20 gold coin, weighing 1oz would buy a very nice suit of clothes. Think about that. Go to a tailor, get a suit cut, pay with $20. What will $20 buy you now? Not even a decent tie. BUT if you have a 1 oz gold coin – not a 1913 coin as that’s a whole different ballgame – you can redeem it for around $2,500 and STILL get yourself a very nice suit of clothes.

What changed? An ounce of gold is still an ounce of gold, right? The dollar is what changed. More specifically, the dollar, one of which used to purchase 1/20 oz. of gold now only purchases 1/2500 oz. The dollar’s purchasing power has been absolutely DESTROYED over time by the institution who had only two mandates – price stability (maintain the currency’s purchasing power) and maximum employment. Since this is about personal finance and defensive measures, we’ll save the maximum employment mandate for another time.

This went on for decades. It didn’t happen all at once otherwise people would have noticed. The two biggest flare-ups of price inflation were in the 1970s period after the US abandoned the gold standard and the current period since around 2020. There were other periods in there too, but for most readers, these are the ones you’ll remember – the most recent of which is still ongoing. “But the dollar still purchases things!”. Of course it does – and it will continue to do so until the cycle ends. That’s the rub – fiat monetary systems are doomed to failure because there’s nothing tangible backing the currency. It’s a confidence game. We could easily create a library of links to articles written for the sole purposes of maintaining that confidence just here in the US that it would dwarf all the books you’ve ever read.

Let’s get to business. The past four years (no, we don’t care about politics – this was inevitable regardless) have gotten people’s attention big time. Old, young, in between. We’ve all noticed. Confidence has been shaken. Bank failures are ongoing, but poorly publicized. It’s like 2008 without all the fanfare basically.

What to DO?

The first thing you need to do is have inflationary expectations. The rate of price increases will ebb and flow. Some goods will show it more than others because the value of the currency isn’t the only determinant in price. Supply/Demand, trade agreements, tariffs, weather, and myriad other factors play into price formation. What we’re talking about is the general price level. We’ve heard all this talk about US GDP (economic output) going up so much in recent years. Of course it did – people are paying more for things now than ever before and the dollar amount is what goes into GDP, NOT the number of items/units sold. It’s a huge flaw in measuring growth, but it’s part of the confidence game.

Having inflationary expectations means you expect that things will continue to increase in price and you adjust your spending accordingly. Capital expenditures like home improvements can be moved closer to the present instead of waiting. A friend of the authors had a new roof put on their house in 2019 and it cost around $9,000. Today, the same roof would cost almost exactly double that. The individual actually got a quote. Doubled in just 5 years. So, obviously this individual was very happy about the decision to do the roof in 2019, albeit a few years earlier than desired. With inflationary expectations, the bottom line is if you know you’re going to need something, plan on doing it sooner than later.

Our guess is that after the acute phase of the most recent price inflation, which according to our metrics is still ongoing, there will probably be a lull. The rate may slow a bit more, but things will still get more expensive. If our modeling is accurate, we’re looking at another shock (and we HATE doing this) sometime in the next 5 years. To provide a little background the modeling used for this ‘prediction’ has had 50 years’ worth of monetary and price data run through it and it held up; giving signals of previous shocks. Remember, this is consumer advice, NOT investment advice.

Put simply? Monetary inflation will continue. Price inflation will continue. Prepare accordingly. And ignore the mainstream news on these topics. There are hundreds of other analysts who will back us up on that score. The mainstream news is an unguent. A soothing ointment. Remember, it’s a confidence game.

The $35 trillion in national debt? That cannot be fixed at this point. That ship has sailed in our opinion. Even if it could be fixed, there’s absolutely zero will ANYWHERE to do it. The consumer insists on exacerbating the problem by excessive borrowing just like corporations, states, and the federal government. That’s another rub about a fiat money system – the consumer can be (and usually is) their own worst enemy.

The second thing you need to do is look at your personal balance sheet. Assets, liabilities, net worth. Figure out what your ‘stuff’ is worth. Your house, cars, any accounts, etc. Leave the household items out. Then look at your liabilities – what you OWE others. Mortgages, credit cards, student loans, auto loans, home equity loans, etc. Leave out the recurring monthly bills. We want a ballpark, not something that would survive an audit. Total up both columns: assets and liabilities. If your assets are greater than your liabilities, you have positive net worth. If it’s the opposite, then you’re underwater or upside down. Many American families are underwater. We call ourselves the richest country in the world because we only look at our assets. Nobody bothers much in terms of looking at what we owe on all those assets. When a business goes ‘net worth negative’ for any length of time, bankruptcy is generally in its future. However, thanks to irresponsible lending by banks, even the most upside-down candidates can STILL get loans. Again, it’s like the run-up to 2008 all over again.

What does your balance sheet look like?

If you’re on the positive side of the net worth spectrum, you can really apply inflationary expectations. Consider moving up necessary purchases (emphasis on necessary). The frivolous spending has gone on too long and our guess is that it will go on until people simply can’t do it anymore. The banking system will encourage this, by the way. The banking system is NOT your friend.

If you’re on the negative side, gather all your liabilities and find out what the interest rates are for each loan, line of credit, etc. Most people also know that interest rates have gone up tremendously over the past few years. This, after more than a decade of artificially low rates – to induce borrowing and spending across the board. Once you’ve got your liabilities and interest rates (everyone should do this), calculate how much each loan is costing you per year and attack with a vengeance your most expensive loans. They might not be the ones with the highest interest rate – keep that in mind. An 8% mortgage of $400,000 is costing you a lot more in interest than a 29.99% credit card with a $4,000 balance for example. And you’re not going to want to hear this, but you need a budget. Badly.

Safe Havens

Precious metals are an extremely popular safe haven and have been for millennia. Granted, the best time to get in was 25 years ago. The dollar has lost the majority of its purchasing power in those 25 years and this is reflected in the ‘price’ of metals. Remember, the metal hasn’t changed. Gold is still gold. An ounce is still an ounce. .9999 quality is still .9999 fine gold. It’s your dollars that have changed.

That said, we highly advice physical metal in your direct possession. Futures contracts, ETFs, etc. are not physical gold. While a futures contract can be ‘redeemed’ in a manner of speaking, ETFs do not generally have a redemption feature. Or if they do, there are ridiculous minimums. If you’re interested in purchasing physical precious metals, contact us through the blog and we’ll be happy to provide our recommendations, however, we’re not doing it here. As far as how much metal, well that’s up to the individual and their level of comfort. Bullion or numismatics? If you don’t know what these terms mean, contact us. We don’t buy or sell metals, but we can give you an overview. Depending on the feedback we may do a an addendum piece that goes into the differences between bullion and numismatic metals.

Another safe haven is something we already talked about. Basically, a safe haven is a place to store your currency. Storing it in things you’ll need down the road anyway is a safe haven. However, storing it in things you don’t really need is just plain consumption and that’s what got us into this mess to begin with. We don’t know everyone’s circumstances obviously, but we gave one example – a roof. Others would be a vehicle, essential work (emphasis on essential) around your property that you’ve been putting off, etc.

The bottom line is you don’t want to spend all your currency. There’s a philosophy going on there too – it won’t be worth anything later, might as well blow it now. We don’t know exactly how OR WHEN this whole thing is going to shake out. The 5 years is based on modeling, nothing more. The world has gotten a lot more volatile. It might be 3 years; it might be 10. In the meantime, your currency is going to continue losing purchasing power, so the longer you wait, the less you’ll get from it.

Signals and Signposts

In terms of looking at policies that might accelerate this cycle, the easiest one to spot is minimum wage increases. The feds haven’t been interested, but many states have already drastically increased their minimum wages. This is a short-term benefit for those workers. As the extra money pours into the system, it drives up prices for everything and after a year or so the knock-on effects of the minimum wage increase are exhausted. This is why it has to be raised regularly. This is easy for the average person to keep an eye. Think about why McDonalds and other fast food chains are replacing workers with ordering kiosks. They’re trying to cut their labor costs. And look at the price of a ‘value meal’ even with all this replacement going on. We’re not just picking on fast food here; it’s retail in general.

A second thing is your state and the federal budget situation, particularly the federal. While states borrow money too, the feds are by far the biggest offender (in terms of regularity and magnitude). Keep an eye on the national debt. See how long it takes to hit $36T and so forth. If you see the time to rack up an additional trillion compressing (which it is), know that your dollars are losing value even faster. There are a lot of moving parts between the national debt and your wallet, but we’re trying to give some simple things the average person can look at and get an idea of what is going on.

The easiest thing to do, however, is keep your store receipts when you purchase necessities. Especially the items you buy regularly. Everyone knows their grocery bills have gone way up. This is where a budget comes in really handy. You need to see where your money is going. Online subscriptions appear to be the latest black hole. Every app has extra ‘features’ which you pay for monthly. People are spending hundreds of dollars a month on this stuff and don’t even realize it, mostly because they’re not signing up for everything at once. Paying electronically makes it psychologically ‘easier’ to let go of your money too.

The Bottom Line

You need a plan. Now. Not tomorrow. Not next year. Now. Today. If you think you’re going to walk between the raindrops on this thing you’re wrong. Take a full financial inventory. Assets, liabilities, income, spending, all of it. Find out what’s coming in, what’s going out and where it’s going. If you have liquid assets consider using some of the mitigation steps we outlined above. Get yourself some metals. You don’t have to go crazy. There’s no one size fits all strategy for any of this. We’ve been yelling about this for almost 2 decades now and many have taken some of these steps and reported back very positive results – mostly better sleep at night and some peace of mind. Get out of debt if you possibly can. Interest will eat you alive. It is more insidious than inflation. Credit cards at 30%? The banks love you for sure. Get rid of it. Cut up the cards if you have to and pay them down. It was time to get serious decades ago, but there’s still time. So get serious now. This is not a ‘feel good’ article. If reading this has made you angry? Don’t be mad at us. Ask yourself why you’re angry. We will not, under any circumstances, given securities advice and as a reminder, nothing in this article should be taken as such. However, if you have consumer finance type questions or precious metals questions (they’re not securities), feel free to contact us through the blog and we’ll do our best to answer those for you in a timely manner. This column is a labor of love basically. We have jobs and responsibilities, but we’ll try to help as much as we can. One of the benefits of being a small publication is that we can try to tailor our pieces towards what our readers need and answer emails.

EOF – Sutton/Mehl

$35 Trillion, The PetroDollar, and Dying Western Influence

Jul 31, 2024Andy SuttonBanking, BRICS, Currencies, Economics, Geoeconomics, Modern Monetary Theory, RIsk ManagementBRICs, dollar standard era, iinflation, petrodollar, US Government Debt

The ‘news’ is agog the United States’ national debt just crossed yet another ugly milestone. $35 trillion. Long-time readers of this (and many other columns) know this milestone was just a matter of time. And, speaking of time, the situation is now in what we call the compression phase. In 2016, the national debt was just under $20 trillion. In 2020, it was just under $27 trillion. Now, in late July 2024 we’re at $35 trillion. That’s roughly a 75% increase in the debt level in roughly 8 years.

Looking back for comparison, in 2004, the national debt was $7.3 trillion. In 2008, it was just over $10 trillion, and in 2012, it was just over $16 trillion. During that 8-year period, the increase was 119%. While many would celebrate the fact that the percentage growth has actually dropped, we have to look at the sheer magnitude of the increases. The 2004-2012 period saw roughly $9 trillion in new debt whereas the 2016-2024 period has seen a $15 trillion increase. We chose these two periods for good reasons. The first period had the 2008 financial crisis, bailouts, and stimulus borrowing and the 2016-2024 period had the pandemic borrowing. Two major dislocations.

https://www.investopedia.com/us-national-debt-by-year-7499291

This is a near perfect illustration of the diminishing purchasing power of the dollar. The public didn’t notice it much in the first period, for reasons we’ve already written about. However, the spillover in 2020 to the real economy certainly got people’s attention. 1970s ‘inflation’ was back. However, the monetary inflation of the 70s never stopped. It only intensified. Keeping the fresh money in the financial markets and real estate fooled most people. That’s ‘good inflation’. However, when the same thing happens on the other side of people’s balance sheets? Not so good.

But even the above statement is paradoxical. Much like government, the people have been on a debt binge as well. Their assets certainly went up, but so did their liabilities. This would have been abhorred 100 years ago, but we’ve been conditioned to believe that frivolous debt is normal. And perhaps it is now normal since most people do it and that is the definition of normal after all. But that doesn’t make it smart. Now, let’s consider some of the repercussions below.

The Deathknell of the PetroDollar

This wanton accumulation of debt certainly hasn’t gone unnoticed by the rest of the world. Even more so, the power the USGovt wields with regards to the dollar to bend the rest of the world to its will has gone even less unnoticed. Both of these realities have contributed to the rise of organizations like BRICS and the SCO, just to name a few. We find it comical that countries who refuse to play to the rules of the Western ‘rules-based order’ are always labeled as evil and targeted by sanctions regimes using the dollar as a weapon. We’re not naive; we’d be hard-pressed to find a government anywhere that truly acts in the best interests of its people, but, failing to play by the ‘rules-based order’ resulting in economic isolation is beyond hypocritical.

There has been much talk about Saudi Arabia recently and its sale of oil in dollars. It has been alleged that the Saudis ended this agreement, accompanied by vehement denials of such. Ostensibly, there was never a formal agreement, rather more of a handshake quid pro quo arrangement. However, we don’t believe that Saudi Arabia is the most important player in terms of supporting the PetroDollar anymore, their aspirations to join BRICS notwithstanding. The world has changed – again. As of February 2024, BRICS countries controlled about 42% of global oil production, give or take a point or two depending on the source. This is another point that is vehemently contested depending on who you listen to. BRICS continues to grow and with it, the percentage of oil production. The point of BRICS – to this point anyway – is to allow partners to make trades in local currencies. There has been talk of a basket, an actual BRICS currency, and even a digital BRICS currency. We wrote about this final item in our last update and it’s very concerning, but the whole point of BRICS was to give countries options. Non-dollar options to be specific.

What does the PetroDollar have to do with the national debt then? The PetroDollar effectively allowed the US to create dollars, buy oil with them, then have the sellers of the oil buy USGovt debt with the oil receipts. This resulted in the exportation of monetary inflation. The US could inflate the money supply and have enough stay offshore so as not to create price inflation domestically. As more countries shy away from the dollar, that mechanism is going to continue to be eroded. If we’re going to keep borrowing to spend (without SIGNIFICANTLY increasing domestic production of exportable goods) then we’re going to have price inflation. Check that box. It’s here and it’s not going away. You’ve all noticed it by now. Psychologically, people were ok with the normal 4-5% per year rate that persisted since the 1980s. It wasn’t even noticed; it was background noise. The world has changed yet again, and we hear people (both in the US and UK/Europe in particular) complaining about runaway inflation.

The US did several big things from a policy perspective to mask the effects of monetary inflation. It absolutely destroyed US manufacturing. Not so much on the capital goods side, save steel as one example, but on consumer goods. We essentially financed China’s industrial revolution. Now we’re complaining that they’re overproducing. What exactly did we expect to happen? While many will opine that this is due to incompetence on the part of US policymakers, we know better. These people are not stupid. They knew exactly was going to happen and you’re inclined, you can go read Foreign Policy and other such journals from back then and see exactly what we’re talking about.

The world is changing – again. Now that we’ve stripped our economy of most consumer goods manufacturing (go into WalMart and browse the consumer goods sections and see how much is made here) we’re dependent on others for everyday goods. Perhaps ironically, we’re at all-time diplomatic lows – economically and otherwise – with these same countries. And now we’ve got the price inflation anyway. Chickens always come home to roost.

It’s not just the PetroDollar that is fading it’s the ConsumerDollar as well. These countries don’t want our debt for numerous reasons, one of which is the fact that the value of our currency is inherently unstable. Probably second (or first, depending) is the arbitrary and capricious overuse of sanctions to induce ‘good behavior’. We find it telling that the rest of the world doesn’t try to tell us how to live, but we have no problem doing exactly that to them.

Dying Western Influence

This will not be want the powerbrokers and elite want to hear, but Western, unipolar influence is dying. Partly of its own volition as the monetary cycle ends (see previous reserve currency regime lifespans) and due to the pernicious aggression of policymakers, especially within the USTreasury where sanctions are concerned. Sanctions are not generally understood by the public, so we’ll use an analogy. Think of a kids’ clubhouse. It has many doors, all with locks. Preferred members get keys. Tolerated acquaintances of preferred members are given access as long as ‘accompanied’ by said member. Outcasts are afforded neither of these benefits. SWIFT – the major dollar settlement system used by the West is similar in nature. So long as you follow the ‘rules-based order’ you can use SWIFT and enjoy the benefits. Cross Washington, DC and you get cut off. SWIFT is a dollar-based trade settlement system. Get cut off from SWIFT and the logic goes that you are instantly isolated. That is much less so the case now than in the past.

Many also think BRICS is a new phenomenon. It is not. We’ve mentioned this before, but for the benefit of new readers and/or people just becoming aware of the goings on, the concept of BRICS has been around for more than two decades now. In 2006, a book series focusing on the top ten stories of each year that WERE NOT covered in the mainstream news featured Iran’s intention to create an oil bourse, which would accept Euros for payment of oil. We can see what has transpired since then. We’ll readily allow that we’re focusing almost exclusively on the economic realities because that’s where our expertise lies and that there are many other moving parts behind these moves. What we’re trying to accomplish here is explain to the world one aspect of this complicated mess. Money is power and since money is perhaps this world’s greatest motivator, we feel examining the geoeconomic perspective is crucial.

Conclusions

The question at the front of most people’s minds is ‘How will this affect me if I hold dollars?’ Or perhaps a business that transacts in dollars. With the dollar standard era ending, even more changes will be taking place. We’re firmly in the MMT track (see our in-depth article on that here). The only difference is our government borrows money from the central bank because the central bank is private, unlike the model proposed by Knapp in 1905. Practically speaking it doesn’t make much difference. The dollar is losing value rapidly now. More and more countries are seeking to divest. There may come a time in the not too distant future where countries and individuals who rely on others accepting dollars may well have to convert to a different currency to settle trades. Price inflation in the US/UK/Europe and elsewhere is likely to accelerate as the transition gains velocity.

And just to be clear – these various military confrontations globally have one thing in common – the dollar standard and the protection thereof – although again there are many other moving parts involved. That’s all we’re going to say about that. Follow the money. Who benefits?

In 2008 Andy wrote an article entitled “Gold – The Opportunity of a Lifetime‘. The dollar ‘price’ of gold is now three times what it was when the article was penned, but the title of the article still holds true. You’ll need to exchange more of your folding money to get gold (silver is also a good choice), however, if current trends continue, you will be able to hold your purchasing power. Or you could take your chances in an overinflated, rigged, and completely disconnected stock market. That said, we would not be surprised one bit if the DOW, for example, hit 60,000 or more before the cycle ends.

In fantasy stories, the dragon is always most dangerous once it has been dealt that lethal blow. The dollar was dealt a lethal blow a long time ago and continues to be fraught with more and more risks as we progress through this inevitable transition.

EOF – Sutton / Mehl

BRICS Update – September 2023

Sep 19, 2023Andy SuttonBRICS, Currencies, Economics, Geoeconomics, Monetary Policy, UncategorizedBRICs, dollar hegemony, gold, gold-backed currency, hard currency

We wouldn’t go as far as to call the recent BRICS summit a non-event, but the clarity many of us had been hoping for at the end of August has not yet emerged. The main feature of this year’s summit was to add additional countries – 14 members now in total with many more waiting in the wings.

Adding all of these countries at once would have been impractical – and difficult. However, it’s not the actual ‘official’ membership rolls that matter – it’s the spirit of the agreement behind the countries who have already entered – and those who will enter moving forward.

This trading / currency bloc has a largely singular purpose – to remove reliance on a weaponized US Dollar. While it’s true that many in the US and Europe don’t perceive the western financial system as a weapon, much of the rest of the world does. Our perceptions in this instance don’t matter. It is the perceptions of the growing BRICS bloc that matter. A secondary, but related, goal is to move towards multilateralism on a variety of fronts. We’re going to focus on the economic and financial aspects of this.

Simply put, these countries are tired of being told what to do. They’re tired of being told they have no self-determination. They’re tired of being sanctioned when they don’t do as the collective west wants. They’re tired of the colonialist French (just one example) taking natural resources while the people in the countries who provide these resources live in abject poverty. This is perhaps the most important takeaway of the big globalization movement in the 1990s and early 2000s – the goal was NEVER to raise the living standards in these countries, but merely to use whatever levers could be applied to get the resources from these countries for use by the ‘first world’ nations. Again, they’re tired of it. This alone is the primary fuel for the BRICS movement. They have united against a common enemy – the weaponized US Dollar, SWIFT, and the many other structures that have arisen from the USDollar’s hegemony.

Put in this particular light, it would make sense that BRICS would introduce some type of currency. We have always assumed that it would be gold-backed. Why? Another worthless paper currency isn’t going to have much appeal – if any. If there is to be a new currency regime, there must be something unique about it that provides it with the necessary credibility to function. For many years, we economists have felt gold-backing would provide that credibility.

However, the landscape has changed over the past several years and as such, we need to revisit our prior assumptions. Could the mere disdain for the USDollar and it’s financial system be enough to give even an unbacked new currency credibility? A few years ago, we’d have opined in the negative. Now? It seems possible that perhaps a backing isn’t really necessary. At least not at the outset. Countries are already cutting deals to exclude the dollar using national currencies – none of which are backed by gold or any other commodity money. The resource-rich countries might argue there’s an implied backing – extracting natural resources requires tremendous amounts of economic activity. Could that activity in and of itself be enough to provide credibility? Yes – because that’s what’s going on right now. Again, it comes down to perceptions. If these countries view national currencies as less risky than the USDollar system, then that’l how they’re going to behave.

Do the BRICS nations have enough gold to back a currency either now or in the future? Absolutely. This is some of the information we were hoping to get out of this year’s summit. What we did see is a prototype of a potential BRICS note. While the providence of the images we’ll show cannot be 100% verified at this time, the rolling out of a new currency is an event that must be chronicled and studied. What we lack at this point is the clarity of the actual mechanics of the currency. Some questions are:

Who will issue the currency?

What (if anything) will back the currency?

Will non-BRICS members be required to obtain the currency in order to trade with BRICS members? This is huge for countries like the US

If the currency eventually used is a ‘hard’ currency (with commodity backing), what will be the peg?

If the bloc decides on national currencies instead, how will exchange rates be determined?

If there IS a BRICS currency, will it trade against other currencies in global FOREX markets?

If the bloc is serious about making this work, then we can answer some of these questions now. We can certainly opine on what ‘should’ be done. However, given the fluid nature of the situation – and the fact that the world is already mired in another regional (proxy) war and several smaller ones, the situation on the ground is likely to change rapidly and the attendant amount of disinformation will certainly be present – as is the case anytime countries are at war.

It is also worth mentioning that the BRICS countries do no agree on many other matters. Some of the countries have trading alliances with NATO nations for example, while others do not. Again, the single point of focus thus far is to (at a minimum) decrease dependence on the USDollar and its hegemonic system. Surely there are some current and aspiring members that would love to see the Dollar disappear from the world stage. Others are simply looking for a stable and reliable alternative.

Instead of ad hominem attacks, the US and the collective west would do well to take a huge step back and look at WHY the BRICS alliance started and why it is growing. From our vantage point, the wounds the Dollar has sustained have been largely self-inflicted, which is consistent with economic and monetary history. We simply don’t learn from history. Or, worse yet, there is enough hubris involved that policymakers think they can do things so much better now than in the past. Again, history indicates otherwise.

BRICS, CBDCs, and Corruption – with a Personal Perspective

Aug 12, 2023Andy Sutton1 CommentBanking, BRICS, Geoeconomics, Geopolitics, Monetary PolicyBRICs, CBDC, central bank digital currencies, geopolitics, monetary policy

Andy Sutton / Graham Mehl – August 2023

The first portion of this piece, pertaining to personal experience with a political dissident is written entirely by Andy Sutton. The rest of the report is co-authored as is the case with much of the recent ‘My Two Cents’ work.

As a young first-year graduate student in 1997, I was required to take a class called ‘Banking and Monetary Policy’. As I registered, the course itself sounded rather interesting – my undergraduate work had been in the field of what is now called Molecular Biology. It was an introductory course, taught by a professor who was in exile from South Africa.

The professor (name withheld) had been involved with that country’s central bank at a moderately high level and had spoken out rather loudly against Apartheid. Facing the very real threat of either prison or execution, the professor sought political asylum in several countries. By a mere twist of fate, I had the honor of sitting under some of the best teaching I’ve ever experienced thanks to these unfortunate circumstances, full stop.

For many years now I, along with my writing partner Graham, have been discussing the concept of BRIC:, what the goals are, why there is a perceived need for an ex-dollar trade settlement mechanism, and what the possible implications are, not just for America, but the world as a whole. What started out as a seemingly benign desire to merely bring a parallel monetary system into existence has morphed into something that at least has the potential to be rather insidious.

Back to the Monetary Policy class. There were two pieces of required reading – G. Edward Griffin’s ‘Creature from Jekyll Island’ and William Greider’s ‘Secrets of the Temple’. These were in addition to the requisite text by Mishkin. That the not-so-USFed was found in a place called Jekyll Island is beyond ironic. Greider’s treatise was an 800-page behemoth, measuring almost 4 inches in width. I was immediately sucked in and the book read more like an exciting mystery novel than anything resembling academic reading. I couldn’t put it down. ‘Creature’ was more readable in the traditional sense and it examined in great detail the founding of what became the most odious monetary institution on Earth. It also examined the various crises that were intentionally caused to bring this institution into effect. I say ‘intentionally’ as 90% fact, 10% opinion. I refuse to believe that people could build massive fortunes through business acumen only to fall victim to incompetence where the idea of a central bank was concerned. Also, we can’t forget that these fortunes were also built on almost inhuman cruelty, theft, deception, and avarice as well. These people were smart and shrewd.

The professor spent as much time teaching us how the financial and economic world really works as going over the required material for the class, which consisted of analyzing monetary policy, the issuance of bonds, monetization of same when markets dry up, and banking topics such as reserve requirements, the FDIC, regulation and governance of the banking system, and the not-so-USFed’s ‘open market’ operations. We also spent a great deal of time discussing the President’s Working Group on Markets – aka the Plunge Protection Team, which came into existence after the crash of 1987.

We were shown how a gold-backed currency in the traditional sense is to the benefit of the People and to the detriment of the powerbrokers in any financial system. The gold-backed currency is honest money. Currency cannot be created arbitrarily or capriciously. In order to expand the currency aggregates, the issuing country MUST have the physical metal in reserve. The metal must be owned, not leased. Clear title must be held on the metal. In other words, pegging the value of currency to a commodity money demands discipline on the part of government, banks, and the structures that govern them. For those of you with a Biblical worldview, a look a Proverbs 11:1 tells the entire story in a single verse.

This class, in the summer of 1997, changed everything about my thinking moving forward. It was transformational in a way few things can be. This professor, who at risk of life and limb, dared to tell the truth. While I paid almost 1,000 1997 US dollars for the class, its true value was far in excess of that. Most of the students in my class were in full agreement. The discussions were vibrant and animated, with us peppering our professor with questions which were answered enthusiastically, with occasional theatrics such as standing on the teaching table and hurling the textbook at the wall to make a point. This was, by far, the best class I ever had the honor of taking. Due to it being a summer class, it was only 6 weeks. It covered a full semester’s material, but I believe to this day that I learned a lifetime’s worth in that 6 weeks. To my dissident professor, I give my utmost respect and gratitude.

Not to put too fine a point on it, this was teaching at its absolute finest. The learning was automatic, not forced. The material was not just read out of a sense of obligation, but was attacked with intellectual fervor and a desire for knowledge, and the thirst for truth. I have tried, albeit it mostly unsuccessfully, to teach this subject matter in this manner. Unfortunately, while I know the whole story of this professor, I lack the context of having been there and experiencing that story. I’ve had to find my own sources of passion in this regard, which thankfully has not been difficult. I will admit to having tossed several texts into the garbage can in front of my classes with extreme prejudice because they are full of lies.

If we dare to conjure a posterity worthy of passing on, the lies must stop.

Many years later I had the opportunity to have several discussions with G. Edward Griffin in the form of podcasts produced under the now defunct Contrary Investors Cafe. Unfortunately, I am unable to share them. While he’s been branded as a conspiracy theorist by much of the mainstream world, there is no ‘theory’ involved. His observations are provable and the monetary regimes of the world have done just that of their own volition time and time again. – AS

BRICS – Then and Now

We included the introduction above mostly due to the fact that South Africa is considered one of the founding nations of the BRICS alliance, albeit not one of the original four. We’ll allow the reader to draw their own conclusions and encourage further research on their part. This is not an all-inclusive report; it’s an overview and status update. We will hit the highs and lows to date, but the minutiae of the subject are far outside the scope of this report. This will likely become a series. We felt it necessary to get this first part out before the summit later this month.

The idea of BRICS came about entirely because of the USDollar’s rapid retreat from the monetary discipline of the gold standard. The monetary system became fiat – currency was and is created from nothing and assigned value based on an extinct concept – the full faith and credit of the USGovt. Frankly, the USGovt has blown it where credit is concerned with debt ratios that baffle even the most conceptual minds. The ship on faith, sadly, sailed long ago.

The USDollar also became weaponized during the period from 1971 – the year America left honest money – to the present. A weaponized currency is mostly one of coercion. You do what we tell you or else you lose access to our wonderful financial system. In essence, the USDollar became a global monopoly and a hegemon – and ripe for an alternative. Unfortunately, entering the 21st century, there were no viable alternatives. The EU was much too disorganized and for all intents and purposes was merely a satellite of the USDollar. China, while undergoing its version of the industrial revolution (thanks to American consumerism) was still in its infancy as an economic superpower. The same can be said of the rest of the early BRICS members. But they had – and still do – one thing that the collective West does not – Gold. Lots of it.

The last 20 years have featured, among other things, the acquisition of gold at a near fever pitch by China. Russia is mining it like crazy. India too, albeit to a slightly lesser extent. The French, whose colonization of Africa is currently receiving quite a bit of attention, has absconded with most of the gold from its colonial outposts. It mines none of its own. None. Not a single gold mine. Yet it boasts over 4,000 tonnes of gold in reserve. Still, you don’t hear even a peep from the French about monetary discipline or pegging the Euro to gold. Why?

Governments do not want monetary discipline. They never have. They never will. Even in its infancy, BRICS was almost entirely about the necessity of a non-USDollar alternative than any individual or collective desire to cede control of the currency back to the strict discipline of a gold standard. In the end, it’s all about control and this is a recurring theme. It will become even more so as we move into the era of central bank digital currencies. Thomas Jefferson nailed it when he stated that as soon as the majority realize that they can vote themselves transfer payments from the treasury that a country is toast. Governments, constantly seeking to curry favor to gain more control simply cannot resist the temptation of the power given by a fiat currency regime. This is the primary reason why the US left the gold standard. The temptation to spend beyond means is a powerful one.

Why a Gold-Backed BRICS Currency?

If it’s not done for the discipline, then why do it? Fortunately, the answer is simple: credibility. The USDollar has none. Zero. Less than zero in fact. Any viable alternative must have a semblance of credibility. Even if it’s just veneer, which we believe is the direction this venture is headed. The mechanics of the pegging have yet to be decided. Perhaps we’ll be able to update after the BRICS forum later this month. Honest money advocates prefer a hard peg versus a soft one. Soft pegs are flexible and may be changed within a range. Sometimes there is no range, however. This is similar to what the USGovt did after 1933, however the soft peg was unidirectional towards depreciation of the currency. The USDollar was NEVER appreciated from 1933 to 1971. If you look at a US Gold Eagle 1 oz coin, you’ll see it is struck with a $50 currency value. This wasn’t even the terminal peg value.

To make this idiocy more clear – the USMint purchases 1 oz. gold blanks at around $1950 per, then stamps $50 on them. Not that gold bugs particularly care. We understand that the bullion value is where it’s at. The part dripping with irony? The ‘money’ used to buy those blanks? It’s created from nothing. Think really hard about that for a while.

BRICS Gains Momentum

As of this writing there are approximately 40 additional countries who want to participate in BRICS along with the founding four (BRIC). South Africa was added in 2011, hence the current moniker. The group has garnered serious interest since the increased and overt weaponization of the USDollar since the beginning of 2022. Not only did the myriad sanctions against Russia fail in epic fashion, they also succeeded in driving a wedge between the dollar-centric, SWIFT system and countries who were previously ambivalent to a competing currency and settlement system.

With yet another proxy crisis brewing – this time in Africa, we are strongly of the opinion that this number will continue to grow. Again, we should know more after the summit at the end of this month.

The Downside(s) of a Gold-Backed Currency??

Based on our nearly 20 years of research and publications, the subtitle of this section might appear to be heresy. If we were talking about a traditional gold-backed, then yes. It would be heresy. However, there is a huge difference between what society remembers of gold-backed currencies and what is being proposed now. BRICS didn’t start this way. When the idea of the world’s ’emerging economies’ banding together to form a trading block and an attendant currency was first hatched, it was proposed in the traditional sense. Paper (and electronic) scrip backed by ounces of gold. The value of scrip in the system would be pegged directly to the number of ounces in the bloc’s reserves. This would establish the ‘value’ of the currency.

A similar example would be the US monetary system until 1933. With one twist. The US actually had a redeemability feature in its currency. See the image below – taken at the Smithsonian Institute in 2008 by Andy and ‘My Two Cents’ contributor ‘CJH’. Prior to FDR’s infamous executive action, people could take $20 worth of paper scrip to a bank and receive one ounce of gold in exchange. Try that today. We have and the reactions are humorous, albeit ignorant and disgusting.

There is a great deal of controversy on the issue of BRICS currency having a redeemability feature. With many countries involved, the issue of fraudulent redemption by unqualified parties is a real concern. There has been some back-channel chatter about BRICS member nations being able to redeem their excess currency, but then how does that affect the peg and the quantity of currency in the bloc itself? Those countries would have to hold the gold in order to maintain the integrity of the peg. There are many other possible issues and we just don’t know enough about the actual mechanics yet. There are many aspects that haven’t been formalized at this time.

There has also been talk of using a basket of local, member nation currencies as the actual BRICS currency. Since the founding member nations have large quantities of gold, this could work, but again, there are many complexities involved in doing it this way also.

All of the above, however, is not why we feel there are insidious potentials to the whole idea. The biggest reason we’ll propose is the concept of the central bank digital currency. This is where things get rather unpleasant. Reading think tank whitepapers, it becomes obvious that policymakers view the central bank digital currency (CBDC) as the ultimate form of control. Below are some of the more troubling possibilities. Again, all of these have come directly from policy-driving think tanks.

We’re adding these troubling possibilities because the BRICS currency is likely to be in the form of a CBDC digital ‘wallet’, under the control of the BRICS NDB (New Development Bank) or a tangential entity, which has yet to be created. There are already digital Yuan, and digital Rubles. The trend here is fairly clear.

Expiration Dates on Currency – If you’re going to a FedNow type system or what the Chinese are putting in place, it is highly likely that your currency will have an expiration date. Use it or lose it. Imagine getting paid twice a month. Let’s say there’s a one-year expiration date on your funds – from the day they are debited to your account. Savings? Gone. In order to save you’ll have to enter the risk markets. Stocks and bonds. CDs may still be an option – again it’s still too early to say for sure.

Loss of Credit Unions (US) – Member owned credit unions would cease to exist. Under the current system, credit unions are much safer than chartered commercial banks simply because they are not allowed to have in-house broker-dealer operations. They are not allowed to act as market makers. These are risky activities, which sunk names such as Merrill Lynch, Lehman Brothers, and Bear Stearns.

The Not-So-USFed Will be Your Bank – Since the central bank has the ultimate control over the digital wallets, you would not be able to choose your bank as you do now. This is a direct insult to the concept of liberty and the protections of personal choice in your financial matters. If you live in a BRICS member nation, whatever entity eventually is tasked with administrating the CDBC will be your bank.

Complete Loss of Anonymity – Cash supports liberty, full stop. If anyone thinks that going to a CBDC is going to stop illegal activity? Think again. Gresham’s law will apply in full force as always. The bad currency drives the good money underground. This is why silver US coins, for example, are not found in general circulation. The banks pulled their share, but most of it was people going through their coins and setting the silver aside. In this case, the bad digital currency will drive pretty much anything that can be used as a money underground.

Enactment of ‘Social Credit Scores’ – There are currently several nations that are either considering or in the process of implementing social credit scores. The term means exactly what it says. Post something contrarian online – like this report? Suffer a financial penalty. With AI exploding onto the scene, it is not hard to conjure up scenarios where social media, emails, texts, and other communication systems may easily be monitored. ‘Offenders’ are easily punished since everything is centralized. This is the antithesis of liberty. While most other nations don’t have free speech protections at all, in the US, we’ll likely lose 3/5 of the First Amendment as a direct consequence of going to a CBDC. If you believe that this can’t happen here, you probably shouldn’t be reading this report.

That last item is as political as we’ll get. Policies, not personalities has always been our credo. The above list is not all-inclusive, but we feel those five items have the biggest transformational effect potential; at least from an economic and financial perspective.

In Summary

The emergence of cryptocurrencies has been a sword that has cut both ways. Crypto does have the potential to enhance anonymity. But, when centralized as with the CBDC, it has tremendous power to enhance governmental control over people. To say we were disappointed when we saw the path that BRICS was taking is an understatement of epic proportions. It opens the world up to many rather unpleasant possibilities that we were hoping this bloc would strive to avoid. Instead of being a legitimate tool to foster competitiveness in the monetary world, the evidence is leading us to believe this new CBDC will end up being just another ‘BRIC’ in the wall.

Sutton/Mehl

Recent Monetary Actions – 8/4/2023

Aug 4, 2023Andy SuttonBanking, Bond Market, Currencies, Economics, Geoeconomics, Government Statistics, Interest Rates, Monetary Policyconsumer price index, deflation, economics, inflation, M2 money supply

The past few months have produced some rather notable monetary activity. For myriad reasons, the money pumping of the not-so-USFed during the period of 2009-2019 produced nominally higher price inflation, but not anywhere near the increases in prices that should have occurred. Our operating theory as the 2008 crisis was ending was that the newly unveiled ‘quantitative easing’ nay relentless money printing, would push up both consumer prices and the nominal prices of various asset classes as well. In essence, the ‘fed’ would replace the burst US residential housing market bubble with yet another bubble.

The central bank of the US, followed by other G7 central banks, embarked not just on money printing, but money channeling as well. The blowout preventers, if you will, for this excess were primarily the US Bond Market and the US stock market as well. Bond yields were artificially low during much of this period, thanks to the fed monetizing USGovt debt. Nominal yields were a joke. Real yields were far into the red. The US consumetariat didn’t notice this because, as always, credit was easily obtained. The consumer just dove deeper and deeper in debt. This was not a US-centric phenomenon. The European Union behaved in much the same manner, but the EU blew up a massive residential housing bubble as well, particularly England. Technically, England is no longer in the EU, but for practical purposes, this distinction is negligible.

What many people (investors in particular) forget is that there are always cycles. These cycles can rather easily be altered by extraneous actions of central banks, governments, and even consumers. However, the more distorted or prolonged the boom is, the bust is all the more pronounced. Think of Newton’s Laws and apply them to monetary policy and economics.

With the proverbial spring fully compressed by the massive deficit spending commencing in 2020, the not-so-USFed poured literally trillions in fresh dollars into the USEconomy, monetizing massive amounts of government debt to finance social spending. Since the US consumer, as a whole, has negligible savings, when economies were shutdown, the government became the primary support structure at levels never before seen. The ‘channeling’ of the 2009-19 period went out the window and the fresh dollars were poured directly into the consumer economy. We all know what happened next. Prices head for the stratosphere.

We noticed something curious start at the end of Q1 2023, however. The US M2 monetary aggregate began to contract – for the first time in.. well, forever basically. Was this a one-off month or the beginning of a new trend. We’ve seen a few months’ worth of data now and it would appear that there is something of a trend brewing. Deflation. Not falling prices, but an actual contraction of the money supply. It is interesting to note that during this stretch, US stock indexes, particularly the DJIA have forged towards all-time highs. What gives? Housing prices have taken a hit, which, in ordinary circumstances, would be a good thing – from an affordability perspective at least, but the reason housing prices are cooling is simply because the cost of mortgages has been pushed out of the reach of many by mortgage rates that are still hovering around 7%.

Our thesis – for now at least – is that the not-so-USFed is once again channeling money, but not in the same way it was during the 2009-19 period. It appears – and we admit it is very early to say for sure – that the consumer economy has, in the aggregate, been cut off from new money. The financial economy has not. However, the net effect is the contraction of the US M2 aggregate.

Interestingly enough, the last data pointed to a reversal, which complicates the situation a bit. The reversal could end up being a one-off event, or it could be a true reversal in the trend. Further study on prior deflationary periods is in order. In any case, the top to bottom action in the aggregate as shown above does explain the slowing of the rate of price inflation. Remember, inflation is a monetary event that manifests itself in prices. While the mainstream financial press claims otherwise in their headlines, the whole of their reporting proves they know the truth and choose to obfuscate, which is typical.

Since monetary data has a significant lag associated with it, we will not be able to ascertain until likely the end of 2023 or Q1 2024 if this is definitely the case or not. There should be anecdotal indications between now and then and we will certainly keep the readers of this blog appropriately informed.

Sutton/Mehl

Great Depression II – It Can’t Happen to Us, Can It? – Republished from May 2008 – with Addendum

Jun 1, 2023Andy Sutton3 CommentsBailouts, Banking, Bond Market, Debt Ceiling, Geoeconomics, Government Statistics, Interest Rates, Monetary Policy, The Completely Absurdconsumer price index, federal reserve, hank paulson, inflation, janet yellen, jerome powell, Neel Kashkari

Webster’s defines complacency as “1.satisfaction or contentment 2. smug self-satisfaction” There is probably not a better word to describe the current state of perception with regard to economic and financial malady. I had an interesting conversation the other night about exactly this topic and the individual I was speaking with had an overriding belief that we cannot suffer economically simply because the current generation is not prepared to deal with it. While I certainly agree with the latter assertion, the former continues to baffle me. I am certainly not prepared to deal with a lengthy hospital stay as the result of a horrific car crash, but that alone doesn’t cloak me in immunity from having an accident. The reasoning is so broken and flawed, yet it is often all we get in terms of a perception of what is going on.

This disconnect begets a discussion of why exactly it is that society has chosen to believe itself to be immune from bad things. It is odd in itself that when you talk to individuals, they seem to be acutely aware of many of the challenges facing us, but when you put all the individuals together and create a society, we act as though the party will indeed last forever. We are certainly dealing with a situation in which the intelligence of the whole is by far less than the sum of all its parts. Here’s a little bit of déjà vu for you, compliments of Wikipedia:

“In the 1920s, Americans consumers and businesses relied on cheap credit, the former to purchase consumer goods such as automobiles and furniture and the later for capital investment to increase production. This fueled strong short-term growth but created consumer and commercial debt. People and businesses who were deeply in debt when price deflation occurred or demand for their product decreased often risked default. Many drastically cut current spending to keep up time payments, thus lowering demand for new products. Businesses began to fail as construction work and factory orders plunged.”

Sound familiar anyone? See any price deflation going on? The Wilshire 5000 has only lost about 2.5 TRILLION dollars in value in the last two months or so. What about the loss in home equity? Another trillion or two? Who knows, but I think you get the point. We are seeing almost to the final utterance the same play we saw unfold in 1929. Were those folks any more prepared for the Great Depression than we are today? I’d argue that while they were perhaps a bit better equipped to provide for their own sustenance, that American society in the 1920’s was as complacent as we are today. When the realization of history’s coup de grace hits, we will be caught as unaware as our ancestors were back in 1929.

Here are some other examples of what Alan Greenspan likes to call ‘irrational exuberance’ in the 1920’s:

“We will not have any more crashes in our time.”

John Maynard Keynes in 1927 (The authenticity of this one is a little suspect) DOW ~ 175

“There will be no interruption of our permanent prosperity.”

Myron E. Forbes, President, Pierce Arrow Motor Car Co., January 12, 1928 – DOW ~ 200

“There may be a recession in stock prices, but not anything in the nature of a crash.” – Irving Fisher, leading U.S. economist, New York Times, Sept. 5, 1929 – DOW ~ 375

“All safe deposit boxes in banks or financial institutions have been sealed… and may only be opened in the presence of an agent of the I.R.S.” – President F.D. Roosevelt, 1933 – DOW ~ 65

Tuesday morning we received news that according to the Institute of Supply Management, the service portion of our economy underwent a significant contraction during the month of December. This is alarming given the fact that December is normally one of the busiest times of the year. Even still, a trip past the local mall provides a busy scene. People are streaming in and out, carrying boxes and bags of imported trinkets to their imported cars. They will then use imported gasoline to drive to their home, the mortgage of which is likely to be owned by a foreign investor. Yet the average American citizen sees nothing wrong with this picture. Or could it be that they don’t even see the picture at all? The media has certainly been playing the role of absentee informant in recent years, choosing to focus on such insipid topics as Britney Spears’ latest rehab stint rather than the important business at hand.

Here now, are some quotes from this generation’s 1929..in 2007 and 2008:

“It is encouraging that inflation expectations appear to be contained,” Fed Chairman Ben S. Bernanke – Testimony to Congress – March 28 th , 2007 – DOW ~ 12,500, Headline CPI-U ~ 2.8% Y/Y

“As I think you know, I believe very strongly that a strong dollar is in our nation’s interest, and I’m a big believer in currencies being set in a competitive, open marketplace,” – Henry Paulson – Secretary of the Treasury – USDX ~ 81.50

““We are making history. What has passed the Congress in record time is a gift to the middle class and those who aspire to it in our country.” House Speaker Nancy Pelosi on the $168 Billion tax ‘rebate’ while the middle class is spending their Wal-Mart Christmas gift cards on food and other necessities.

They’re making history all right. Too bad it will end up being the WRONG kind. How can we ever hope to focus the population on the urgency of our current predicament when our leaders are willing to make it worse by handing our freebies, bailing out those who willingly make poor investment choices and telling us everything can be ‘free’ if we’ll only pull their lever on election day?

Or am I putting the cart in front of the horse? Perhaps a contrarian opinion might be that our leaders are giving the public exactly what it wants. In either case, I am quite certain that our state of unpreparedness will not constitute a free pass from the negative effects of a recession or a retraction of any of the financial excesses we’ve enjoyed over the past few decades.

Addendum – June 2023

Most people today don’t even remember Hank Paulson – or his ridiculous statements regarding the US Dollar. If a strong dollar was truly in our national interest, then we have no national interest left thanks to those fine, unaccountable feathered friends at the not-so-USFed. Poor Hank was like a financial piñata – no matter how many hits he took for this grossly erroneous statement, he kept right on spilling out candy.

15 years later and only the names have changed. The vocabulary-challenged Paulson is long gone, replaced by less than erudite Janet Yellen. Evidently one of the requirements of a Treasury Secretary or a not-so-USFed Chairman is to be able to speak for an hour and say absolutely nothing. Jay Powell is definitely at a disadvantage; he actually tries to explain things.

Economics isn’t rocket science. Or anywhere close. It’s a rather simple topic to understand. It is made complex by institutions who benefit when the population is clueless. When it comes to obfuscation, most policymakers get a AAA – ironically the same grade assigned to those worthless MBS back in the heydays of 2005-2007.

Bail-Ins and the Direct Registration System

May 10, 2023Andy SuttonBailouts, Banking, Currencies, Geoeconomics, Monetary Policy, RIsk Managementbail-in, Direct Registration System, DRS

Originally published in October 2015

My Two Cents – Bail-Ins and the DRS

Andy Sutton, MBA

As recently as a few weeks ago, the European Union directed its member nations to draft their own independent legislation for dealing with the resolution of a failed G-SIFI (Globally Significant Financial Institution). At the same time, we have all sorts of seams opening in the currency, bond, and commodity markets. The Swiss Franc is now un-pegged from the Euro, there have been wild swings in the bond markets in Europe due to the aforementioned action, and oil is in an absolute free-fall. There are many geopolitical (and likely criminal) maneuverings behind all of these phenomena, however the chaos in the financial world thus far has been remarkable in that there hasn’t been much given everything going on.

There has been news of some smaller brokerages biting the dust thanks to these swings, but yet nobody ‘big’ has gone down – yet. Are they that good? That insulated? That lucky? That’s for people of a higher pay grade to answer, but the bottom line is that the environment is absolutely RIPE for another Cyprus or MFGlobal. Will it happen this time around? Couldn’t tell you. Maybe it’ll be next time. Or maybe it’ll happen this time, but not impact the US. Since everyone already thinks America is bulletproof I am guessing most will go with the latter of the two possibilities.

I’ve been talking an awful lot again about the bail-in, but a reader pointed out that he still doesn’t understand exactly what it is, and, more importantly, how an institution gets into the position where it needs (or wants) one. He’s a smart one, this reader, so I figure if he’s got questions then so do a whole bunch of other folks and that’s perfectly all right. That’s why I do this. So this week I’m going to focus on some of the anatomy and try to give everyone a sense of the sorts of things that put a bank/broker or just a broker into a position where they’d seek to invoke the bail-in.

On the positive side, although not for those folks impacted, we have a live example of how the bail-in works, right here in America to use as a template. I don’t wish to further malign Mr. Corzine’s already shredded reputation, but as his penchant for fast travel suggests, he could probably outrun any criticism we might toss his way.

Anatomy of the Bail-In – The Mechanism

Let’s talk about a brokerage first since this is where MFGlobal was situated. Brokerages generally have two components – the brokerage side and the dealer side. Formally, they are referred to as broker-dealers by the regulators because of this. So there are two sides. One side you see when you walk in and talk to your broker and sit in his posh office and the other side, which you never see – and usually neither does the broker. It is this unseen side you need to worry about in this instance. Your hundred thousand dollar brokerage account isn’t very noteworthy in the grand scheme of things other than that the broker-dealer might use shares that you hold in your portfolio to lend out to other parties so they can short a particular stock. Hmm, that is kind of going against your best interests isn’t it?

Your broker calls you with a ‘hot tip’ or a ‘sure winner’ and you go with it, then they’re enabling short-sellers out the back door. Nice huh? And they all do it, but I digress.

The brokerage side deals with clients such as yourself, maybe some pension funds, trust funds, perhaps an institutional client or two depending on what they’re into and so forth. It is pretty benign. On the other side of the operation there is the dealer side and they can be into all kinds of stuff, which, thanks to the USFederal court system, can get you into a pile of trouble. To keep it overly simple, think of the dealer side of the broker-dealer arrangement as a giant client. The dealer operation has accounts, holds positions, buys and sells positions, and makes a market in all of the above. They might do this with regards to stocks and bonds as well as options and other derivatives. The dealer side can borrow money to do all of the above as well, usually from commercial banks. When they borrow money to engage in transactions it is called leverage.

Anatomy of the Bail-In – A Scaled-Down, Working Example

Let’s say the dealer has a million dollars in assets – cash and positions. If they make 10% in a quarter, they’ve added another $100,000. Ok, easy enough, but they want to make more than that. So let’s say they go out and borrow another $500,000 at 5% per annum and invest the whole enchilada for a quarter and make the same 10%. So now instead of $100,000 in earnings, they have $150,000 – a 50% increase. Their interest expense for the quarter is $6,250 so their gross profit on the loan is $43,750. They give the $500,000 back plus the $6,250 in interest and everyone is happy. Their assets have swelled to $1,143.750. So where they’d made 10% originally, using leverage, they turned that gain into a 14.375% gain. Not too shabby. Plus, remember they make a few bucks lending out the shares you bought on that hot tip so someone else can place a bet that your hot tip stock will go down. Again, this is overly simplistic, but you get the idea here. The borrowed money is cheap – in fact, 5% is probably on the very high side of what they pay in interest, but is a round number.

Let’s say now that things don’t work out. The invested $1.5 million goes down by 10% in a quarter. They lose $150,000 plus the $6,250 in interest and suddenly, when they give back the loan and the interest; they’re left with $843,750. This creates an obvious problem when all of their assets are already deployed. There’s red ink to the tune of $156,250. Generally, what will happen is another loan will be obtained or some assets sold off or maybe a little of both and the loss will be absorbed.

Anatomy of the Bail-In – Reality

Now the illustrative example above uses a very tame leverage ratio. There was 50 cents of debt for every dollar of assets – or a ratio of .50:1. Understand that leverage ratios of 25:1 and even as high as 40:1 have not been uncommon. That means for the million dollars in the example above, there might be as much as $40 million in leverage (debt). So let’s use the 25:1 ratio and assume the same 10% loss. Suddenly the loss is 2.5X (a $2.5 million loss against a million in assets) the amount of the dealer’s assets rather than being .15X (a $150K loss against a million in assets) as in my example, not to mention the interest. Oops. Now the firm needs cash. They have a creditor to pay off. Well, how about those folks on the brokerage side? Well, gee whiz, they have $3 million in assets. Let’s just snag the $2.5 mil from there and use that to pay off the creditor. But that’s stealing and is illegal, right?

Wrong. Not anymore. That is precisely what happened in the case of MFGlobal, Sentinel Group, and Peregrine Financial – all to varying extents. The dealer side made bad bets and when it came time to pay off those bets, they went to their clients, raided the accounts, and then the injustices in the black robes gave it jurisprudence’s stamp of approval and the bail-in was on. Now we’ve got precedent and case law supporting overt theft. Instead of impeaching the judges, imprisoning them along with the principals of the firms who pulled the stunts to begin with, the establishment comes up with a new set of nomenclature (G-SIFI, bail-in, etc.) and begins the process of normalizing the idea of stealing something that doesn’t belong to them.

And perhaps the most ironic of all? The not-so-USFed, that shining knight on the white horse, buyer of last resort, standout of the handout to the big banks? It is in hock too and its leverage ratio is absolutely stunning. 77:1 at last count. Yes you read that right – 77:1. It was at 22:1 when the financial crisis started ripping through middle classes throughout the globe in 2008 and when you hear all these morons on television talking about how healthy US (and global for that matter) banks are, remember that someone is eating all these garbage mortgages, derivatives and other nuclear financial waste. It’s the central banks. Wait a second though; the central bank regulates the underlings, right? Maybe on the surface, but this is another bright and shining tidbit that illustrates who owns who. The not-so-USFed simply does what it is told.

A great question right now would be this: If everything is getting so much better then why are they still leveraging up at the ‘fed? Shouldn’t they be unwinding? They say they’re unwinding. But they’re not unwinding, they’re continuing to eat more and more garbage generated by their owners. Now this could go on quite a while, but not forever and it won’t end in a pretty fashion when it does end.

Anatomy of the Bail-In – Implications for ‘Depositors’

So that’s the broker-dealer version of the bail-in. The bank side isn’t much different in concept. Thanks to the repeal of the Glass-Steagall Act, which separated broker-dealer operations and the savings/loan operations of commercial banks, the same thing can happen to you if you have deposits in a commercial bank. The mechanism is precisely the same. The broker-dealer side conjures up some idiotic bet based on some computer program written by someone who thinks that the global financial system is nothing more than his or her personal playpen. In typical fashion, they win enough times to get cocky and of course as this happens, the greed kicks in and the bets get bigger. Eventually there’s a loser and by this time they’ve pumped for the goalposts and hiked the leverage ratio up to about 40:1 or even higher.

When it all crumbles and everyone starts scrambling, bear in mind that the law has now made your bank deposits available to do a bail-in and make good on that bad bet. And since you’re now an unsecured creditor rather than a depositor, you a) have no FDIC protection, and b) have no recourse. If you were a secured creditor, you might have a chance to recoup something, albeit not anywhere near what you’d lost, but at least a token. What happens next is your unsecured credit (think bondholders) is converted to equity and you become a stockholder in a failed bank. Congratulations. You woke up on a Friday morning having $25,000 in bank deposits and literally by the time the bank opens Monday you have x shares in a busted bank. And yes it can happen that fast. Anyone who doesn’t think it can, should remember Lehman in 2008. While it wasn’t a bail-in at that point, look at the velocity with which that outfit hit the mat, never to get up. Look at Cyprus. Friday afternoon there are tremors and by Monday morning, the banks are locked up like Fort Knox and the ATMs are out of money.

The US has already crafted its resolution mechanisms along with most of the G20. The EU has just ordered its member nations to the do the same. In my opinion, anyone who stores more than a trivial amount of cash in a commercial bank should be sentenced to spend the next month in Massachusetts figuring out how many of Tom Brady’s precious pigskins were improperly inflated.

The biggest problem with the above is that even if you understand the mechanism and what a firm might have to be engaged in to get themselves in trouble, it is very difficult to find out exactly what the dealer side of a broker-dealer firm is up to. They’re obviously secretive, claiming proprietary interests. Most will tell you their capital ratio though and that is a start. Your best bet if you insist on being in paper or even have decided that you’re willing to risk a small position in paper is to spread it out amongst several firms or, better yet, use the Direct Registration System so that your assets are held in your name at the issuer’s transfer agent rather than being held in street name at your broker. I realize the whole system is intertwined and something big enough to topple firm A might take firm B with it as well. However, that is an inherent risk for those who wish to engage in this activity.

Regarding the Direct Registration System, many companies stopped issuing paper certificates years ago, citing cost (funny, the shareholder usually was on the hook for that), but even if a firm doesn’t offer an actual certificate you can still have your shares held in your name at the issuer’s transfer agent. There is a popular misconception out there that you can’t do it unless the issuer will provide a paper certificate. All broker-dealers have a means by which you can DRS your positions. Many are reluctant to assist though because, frankly, not having your shares in street name in their ‘house’ costs them money. If DRS is something you are interested in and your broker is uncooperative, then find someone who will cooperate. The good news is that there are firms who are not obstructive in this regard.

Also an inherent risk is that even if you start to smell a rat that you won’t be able to extricate your assets in time. Much in the way banks are making people wait inordinate periods of time to get cash (if the paper itself is a con job then think about ‘electronic paper’ or digitized currency), firms can take up to 10 working days or more to effect transfers. In our fast-paced financial climate where the world can literally change in a weekend, 10 days might as well be 10 years. Also, those pesky daily limits on your ATM card, put in place for your own ‘security’ as you were told when you asked about it, could be lethal as was the case in Cyprus.
My goal here isn’t to make things sound hopeless; that is not the intent, but rather to present you with the risks involved when you engage in these very basic financial activities. Most people don’t even consider these risks because until recently they either didn’t exist as in the case of the bail-in or weren’t relevant as in the case of banks being so stingy with their cash withdrawal policies. This is one of those times when you simply MUST advocate for yourself because these other folks are firmly invested in your continued ignorance, apathy, and ultimately inaction.

2023 Banking Crisis – Update

Mar 13, 2023Andy SuttonBailouts, Banking, Geoeconomics, Interest Rates, Monetary Policy, RIsk Management

-Not sure the words of our fabulous ‘leaders’ are resonating. I’ve had several calls today from people I know asking about this whole situation. Some of them are business owners wondering about the safety of their operating accounts. It’s very hard for them to keep these in cash. I did recommend switching to credit unions wherever possible. This should have been done 15 years ago, but better late than never.

-Stock prices and health of a bank are NOT directly related. Banks will cannibalize each other and what I’m seeing on several of these medium to smaller banks is a pretty overt effort to drive the share prices down – probably so they can be bought out by the bigs at a steep discount. Short positions are way up. I’ll bet more than a few of these make the Reg SHO lists this week for failures to deliver (naked shorting – yes it still goes on).

-The promise of a full backstop by the not-so-USFed and treasury is telling. Yellen, in particular, should be skewered. You can’t bailout anyone vis a vis the government without using taxpayer dollars. It’s that simple. I’ve gotten a couple of emails as well from My Two Cents readers who claim that the coupons they were issued last week are still in force – in other words, there’s NO backstop and they might get something when everything is wound down. I’ve asked for documentation and will post it to the group if/when I get it.

-If the not-so-USFed does the bailing out, then it’ll be inflationary. They’re double talking as usual, trying to have it both ways. Can’t be a dove and a hawk on inflation at the same time. I’d say they’ll sacrifice the dollar further to save their precious financial system – that nobody needs anyway.

-Beware of bail-ins. It’s legal now – since 2013. Credit unions will be safer than commercial banks. Again, that recommendation is at least 10 years old. Credit unions are not allowed to get into the stinkpot of derivatives and they’re not allowed to run broker/dealer operations either. Not saying they’re immune, but as fast as safety goes, I’d give commercial banks a 1/10 and credit unions a 6 or 7 for the reasons stated above. However, if we end up with a CBDC out of this, then credit unions won’t offer any protection at all.

-Direct registration of securities (stocks only) is advisable. Direct registration takes the shares out of ‘street name’ and your ownership is registered through the stock issuer’s transfer agent rather than your broker. This is a MUST, but it’s for individual stocks. Some mutual funds offer partial protection in this regard, but only if you bought your mutual fund units direct through the fund issuer. If you got it through a brokerage, this doesn’t apply. If there are questions on direct registration, please let me know. I have an article from 2013 that runs through the pros/cons and process. It’s not hard to do. DRS does not apply to ETFs, closed-end funds, and mutual funds purchased through a brokerage. If you own stocks through a brokerage, you can DRS them easily, however.

Opinion – ignore the politicization of this. Stick to the events. Most of the financial system is outside the purview of our politicians – at least on a day to day basis. This isn’t Biden’s mess or Trump’s mess. It’s the not-so-USFed’s mess. They’re supposed to be stewards of the financial system even though it falls outside their dual mandate of price stability and maximum employment. But remember, the chartered banks own the not-so-USFed, NOT the other way around. Talk about a recipe for malfeasance.

More as it happens and/or I get it.

A Quick Check-In, the Farce of GDP Reporting and a New Monetary Regime

Jul 7, 2021Andy SuttonBanking, Consumer Finance, Currencies, Debt Ceiling, Economics, Geoeconomics, Government Statistics, Modern Monetary Theory, Monetary Policy, National Debt

Hello friends,

Yes, we are still alive! And kicking too – at least most days! It’s been two years since we published anything, but we’ve been very busy, nonetheless. We’d like to take a moment to point out a few indisputable (and very provable) facts.

Let’s play connect the dots, shall we? This is a bit off-topic of the day but might be instructive for some in your spheres of influence.

1) MMT (Modern Monetary Theory) is in full force. The ‘Fed’ – and the rest of the world’s central banks – are printing funny money like crazy. Hence no more M2 here in the US. For reference, M3 was discontinued in March 2006.

2) That funny money is pushing consumer prices at an admitted rate of 4+% annualized. Let’s assume that’s true even though we know it’s much higher.

3) GDP in every major economy is measured in currency, NOT units of goods and services produced/purchased/sold.

Therefore, even if every single American business, middleman, and consumer conducted the exact same amount of economic activity (produced/sold/purchased) as last year, GDP will STILL rise by more than 4% on an annualized basis. What exactly is going on here?

We all know. The international bankers are doing exactly what Thomas Jefferson said they would do – robbing us blind first by inflation, then by deflation. Lest I digress too much, GDP is NOT an accurate way to measure any kind of economic growth in its current form, especially because one of the components is government spending (look at the deficit spending last year alone!).

The Cobb-Douglas production model that Graham and I tweaked to include more modern components of the global economy and have been running for the last decade STILL shows America in a protracted recession. It’s not a perfect model, but it’s a lot better than the one that is spouted about 4 times a year on CNBC, etc. If you haven’t already, feel free to download, read, and spread our 2019 commentary on Modern Monetary Theory. The link is at the end of the email.

Spread it far and wide. Delete our names if you wish. We want neither credit nor accolades. We just want people who are looking for a little common sense to know there’s some out there. The article isn’t perfect, but it’s the effort of two guys who love their country and feel stewardship of the blessings we’ve been given is very important.

Next up? The ’new’ Bretton Woods and an analysis of Schwab’s ‘Great Reset’. Purely in economic terms.

Best,

Andy & Graham

Click to access MMT.pdf

Andy Chats with Joe Cristiano about the Dollar and Signposts for the Future

Jul 31, 2020Andy SuttonBanking, Currencies, Economics, Geoeconomics, Liberty Talk Radio, National Debt, Trade Warchina, currency war, Dollar standard, gold, petrodollar, reserve currecy, russia

As always it was a pleasure getting together with Joe Cristiano. We never seem to be able to stop at our 20 minute target, however! We talking about the Russia-China trade situation where they’re slowing backing out of the $USD, what happens when global demand for the $USD drops, some mild to moderate capital and price controls that have emerged under the cover of NCV and other useful tidbits. The link for the YouTube video is below.

Sutton

Institute for Economic Awareness

Unique Analysis of Economic and Geopolitical Issues

Category: Geoeconomics