Category: Soap Box

“At the end of the day, when you look at all these currencies around the world, they have all devalued – throughout history all currencies have devalued”. That’s how Mark Mobius, former executive chairman of the Templeton Emerging Markets Group and now a founding partner of Mobius Capital Partners, opened our conversation. The author of many books, his latest (published in 2020) has a timely title – The Inflation Myth and the Wonderful World of Deflation. I spoke to him in his Hong Kong office (via Zoom, of course) to find out what he thinks of gold today and how he sees the rise of cryptocurrencies.

“The good news is that because of technology the cost of goods and services is going down. Inflation measures don’t really tell us that because they refer to baskets of goods and services which constantly change, so you can’t really compare one period to another. I still believe a gold standard would make a lot of sense because it would prevent governments from over-printing [fiat currency] and devaluing their currencies”.

We stray onto the topic of Central Bank Digital Currencies, about which Mark holds strong opinions. He says: “The entire financial world is being digitised. What is this digitisation? It’s just another way of communicating the value of money from one place in the world to another. So if a central bank says now ‘we’re going to digitise US dollars’, that’s entirely different from Bitcoin for example, which is a created ‘currency’ that has no basis in a government or any foundation. People are getting confused over Blockchain. Blockchain is a very simple mechanism for ensuring safety in transactions. A lot of people think this is a solution to the problem of transferring money – no, this is not a solution because Blockchain can be hacked”.

As for gold, Mobius says that “gold goes through cycles. Sometimes it loses value against fiat currencies but going forward it will continue to rise simply because those currencies continue to be devalued. There’s a limit to the amount of gold available around the world. So I think gold will come back and surge”.

Money is power said the 7th US President Andrew Jackson. Mobius agrees and feels “that’s why these cryptocurrencies will not be available as real money, in other words as money which you could spend. You can see that already – the US government is starting to crack down on the various cryptocurrency exchanges. I think governments will increasingly crack down on these cryptocurrencies because it threatens the very power of governments, which is the ability to create money”.

Elon Musk’s decision not to allow Bitcoins to buy his Tesla cars was couched in terms of “the rapidly increasing use of fossil fuels for bitcoin mining” tweeted Musk; but his abrupt volte-face on Bitcoin – on 24 March he said people could buy a Tesla using Bitcoin – nevertheless shook the Bitcoin price and rocked its claim to currency ‘status’. In the UK, the Bank of England’s deputy governor, has just said that “it looks probable in this country that if we want to retain public money capable of general use, and available to all citizens, the state will need to issue, public digital money”. In other words, if governments want to retain control over money – if they want to keep power – they will soon need to provide digitised fiat currency.

Some countries are already rapidly rolling out their own central bank digital currencies, including China. Might the Chinese Renmimbi be about to topple the US dollar from its international reserve currency status? Mobius thinks “not yet. It will take a while. The big challenge that the Chinese have is that they still want to control the exchange rate against other currencies. The day they give up on that is when the Renmimbi could become a truly global currency. The effort to create a digitised Renmimbi makes a lot of sense for the Chinese because the big problem they have now is they have to work through the US system, in most cases to trade, the Swift system, which monitors and enables the transfer of money. The degree to which they can create a digitised currency which does not require going through this system could be an incredible boon for the Renmimbi”.

Mobius is dismissive of the latest fashion in macro-economics, the so-called Modern Monetary Theory, which argues that it doesn’t matter how much governments print and spend currency. Debt is not a problem, according to this. Balancing budgets is for the birds – just create more money. “This will just devalue currencies further, there’s no doubt about that”.

Our chat draws to an end but we can’t part without a consideration of the big question of the day – are we in an inflationary or deflationary environment? Mobius considers “we are in a deflationary environment. A lot of economists hate deflation, they think it’s very bad, because they think you have to have inflation to create growth, but in my latest book I point out that we have had growth even during this deflationary period. As for gold, I don’t have a clue what is going to happen to the gold price in the short-term, but in the long-term it’s just going up”.

US President Joe Biden has given away trillions of dollars to American citizens, is preparing to give trillions more – and then to claw back some of that ‘free’ money.

A President who comes from Delaware, the state which is a kind of US onshore tax haven – companies that are incorporated in Delaware can pay a corporate tax rate of 0% – risks looking like a hypocrite if he clobbers people too much.

The US Congress listened on Wednesday evening this week as the President outlined his ideas as to how to fund his American Families Plan. This plan is the third big economic package since he took office, following his $1.9 trillion fiscal stimulus plan in March and a proposed $2 trillion infrastructure bill, still fighting its way through Congress.

This third plan, called the American Families Plan (who would be so churlish as to oppose a plan for families?) proposes more generous child support until 2025, extra funds for universal pre-kindergarten schooling and community colleges, and other social welfare ideas; to pay for it the total capital gains tax for the richest Americans would go up to almost 44 %. The top rate of income tax would rise from 37% to almost 40%. Americans earning more than $1m a year would face the application of ordinary income tax rates to capital gains and dividend payments.

These ‘reforms’ would also hit private equity and hedge fund managers – easy targets one might think – by effectively eliminating the preferential tax treatment of their profits, or ‘carried interest’. At the moment, carried interest is taxed at the lower capital gains rate rather than ordinary income, but Biden would equalise their tax treatment. The president is also considering taxing unrealised capital gains passed on to heirs at death. Taxes on capital gains and dividends are currently 20%; under Biden’s plans they would be treated as ordinary income, at a 39.6% rate.

The mere whisper of some of this on 22 April invoked an immediate response. The S&P 500 index fell 1%. Next day, Bitcoin fell below $50,000, leaving it almost $14,000 lower in value since it hit a record high the previous week. People were nervous that capital gains tax rises would hit their pockets, so they got out of some assets while the going was good. The gold price also dropped, from $1,793 per ounce at midday on 23 April to $1,774 by 3pm that day. US corporations are well-accustomed to finding tax loopholes – 60 years ago corporations paid around a third of federal tax revenues but today its just 10%. No wonder the US Treasury Secretary is keen to gain support for a global minimum corporate tax rate. Without that, much of the intended corporate tax take will still elude the Treasury.

The ‘wannabe’ FDR

In May 2020, New York magazine ran a feature on Biden under the title “Biden is planning an FDR-size presidency” – the FDR being Franklin Delano Roosevelt, the former Democrat President who in the 1930s faced the Great Depression and started many state-funded programmes to get America working again. FDR is either a US 20th century hero or a bogeyman, depending on whether you believe it’s the state’s duty to rescue a society or that such a rescue should be left to the free market.

Biden sees himself following in the footsteps of FDR; he told CNN in April 2020 that the challenge being faced by a Covid-wracked US economic collapse “may not dwarf but eclipse what FDR faced”. The financial sums are certainly much bigger – under Roosevelt’s New Deal US debts grew from $22 billion in 1933 to $33 billion by 1936. In those days, the word ‘trillion’ was hardly ever used. The devaluation of the US dollar can be felt in the ease with which we have moved from talking about ‘billions’ to ‘trillions’; a US Dollar today buys less than 5% of what it would in 1933.

Under the Biden American Families Plan, the tax rates on individual incomes below $400,000 would not increase. New and expanded tax benefits, including provisions for child care, first-time homebuyers, educational debt relief, retirement savings, health insurance, and long-term care insurance, could reduce taxes for average families. Those who will suffer will be corporations and those taxpayers with incomes of $400,000 or more. Individuals with incomes of more than $1 million would pay the same rate on investment income as on wages.

Will it work?

Raising taxes, especially on the ‘rich’, and spreading money and welfare on the ‘poor’ is a classically populist measure. Whether social engineering will make America ‘more equal’ (whatever that means) is an open question. FDR’s New Deal hired Americans to work on the improvement of their own country; as they worked for the government, so the government worked for them. Legacies of the New Deal can be seen all across the country, from bridges, tunnels, roads, schools and libraries to monuments, murals and sculptures. What the New Deal called for was a greater sense of rights and duties – the state funnelled money into work-creation schemes and the citizenry were called on the step up to the plate and reciprocate and work on behalf for the state’s projects. American society is very different today from 1933; will citizens today step up to the plate or just be happy to take the money?

Imposing more taxes on the ‘rich’ is no doubt politically popular but without addressing loopholes such as the Delaware get-out it will seem unbalanced. Biden has scarcely been in office more than 100 days; his intentions remain a work in progress, and will no doubt face stiff Congressional opposition. The dramatic loss of purchasing power of the Dollar since FDR’s time, however, shows no sign of halting.

“May you live in interesting times” runs the old curse, often (erroneously) attributed to a Chinese source. The nearest Chinese expression is believed to be 寧為太平犬，不做亂世人, which translates to “better to be a dog in times of tranquility than a human in times of chaos”. Times are certainly interesting today, not least in China.

Reuters has reported that China “has given domestic and international banks permission to import large amounts of gold into the country”, according to “five sources”. The country’s central bank, the People’s Bank of China (PBoC), controls the amount of gold that can be imported, and has apparently given the green light to these imports, which could total 150 tonnes (worth around $8.5 billion at current prices) and be shipped either this month or next. If this turns out to be true such a big gold import should certainly underpin the gold price, which has been climbing off its recent low and is nudging $1,800 an ounce. Since February 2020, China has imported about 10 tonnes per month; in 2019, it imported about 75 tonnes a month. Importing 150 tonnes over April/May would therefore signify a return to pre-pandemic days.

A source at one of the commercial banks which has been granted permission to import gold told Reuters: “We had no quotas for a while. Now we are getting them… the most since 2019”. I hope they manage to preserve their anonymity – talking to journalists unofficially about China’s gold is a serious no-no.

China is today the biggest miner of gold, producing 380 tonnes in 2020 according to the US Geological Survey. The Chinese state exercises tight control over gold (and silver) and pursues “a policy of unified control, monopoly purchase and distribution of gold and silver”, tightly supervising private individual trading and exports. As of late last year, all China’s commercial banks – including state-owned ones – suspended the opening of new precious metal accounts, under the guise of protecting gold holders from ‘volatility’. Together with India, China accounts for around 40% of annual gold demand. In February, India reduced gold import duties by an effective 1.25% which was seen as an effort to reduce gold smuggling. In March this year, India’s gold imports rose 471% year-on-year to 160 tonnes.

Back to normal or something else?

There are at least two possible views of this re-opening of the door to gold imports.

The first and most likely is that China’s relationship with gold is merely returning to the status quo ante bellum. Chinese citizens like gold, both to wear as jewellery and as a means to tuck away their savings. China’s appetite for gold has led it to explore overseas’ mining ventures, not always successfully – the Canadian government last December blocked on grounds of “national security” the state-owned Shandong Gold Mining Company from taking over and developing a gold mine in the remote Nunavat region. And while China officially acknowledges it holds almost 2,000 tonnes in official reserves – the precise figure is a closely-guarded state secret – the actual figure is believed to be more be 14,500 tonnes, or 1.8 times bigger than US reserves.

But there is another possibility, which ties in with China’s launch of its own Central Bank Digital Currency or CBDC, which eventually will eradicate cash from Chinese society and enable tighter social surveillance.

This state-controlled digitalisation of the Renminbi could also, some are arguing, hasten the decline of the US dollar’s dominance as the global reserve currency and insert the Renminbi instead. The Renminbi was already awarded the status of a reserve currency by the International Monetary Fund (IMF) in 2015.

More than 60% of the world’s currency reserves are dollar-denominated, as they have been for at least the past 20 years. But they fell last year; meanwhile allocations to the Renminbi have risen; that currency is now the fifth most-used for global payments, rising from 35th place in 2010.

China’s President Xi Jinping has grand ambitions and is in a hurry to stamp his place in history. The country’s remarkable 18.3% rate of growth in the first quarter of 2021 over the same period in 2020 has clearly strengthened his hand. He said this week at the Boao Forum for Asia that “bossing others around and interfering in other countries’ internal affairs will not be well received”, which was widely seen as a criticism of the US.

But strong words will not alone be enough to persuade investors and trade to ditch the Dollar in favour of the Renminbi. Greater security regarding foreign investment in China – currently being tested in a Chinese court over the default by Peking University Founder Group (PUFG) of some $7 billion of bonds – is under scrutiny. Foreign bondholders have collectively taken on some $82 billion of China-issued debt backed by nothing more than “keepwell deeds”, a credit protection tool commonly used by Chinese companies issuing debt offshore. These deeds are used in offshore finance transactions, particularly those that use bonds relating to Chinese transactions. Keepwell deeds are used in around 16%, or $96 billion, of outstanding Chinese offshore bonds. The legal enforceability of such deeds is opaque.

Gold behind China’s CBDC?

If the digital Renminbi or CBDC is to truly present a challenge to the US Dollar as the world’s global reserve currency then it will have to overcome deep political and economic scepticism from Western investors as to China’s reliability as a partner. The momentum is moving in that direction, but erratically; the state clearly exerts the kind of interference in corporate life (such as last year’s block against the IPO of the massive Chinese company Ant Group) that private investors find discouraging. If all that ‘backs’ the digital Renminbi or CBDC is the word of the Chinese government, then it is unlikely to ever succeed in knocking the US Dollar off its perch.

But if something universally respected, trusted, and valued – such as gold – was declared by China to back its CBDC – that would be a very different prospect. Stranger things have happened. The implications would be deeply disruptive of the world’s financial system and would anger many policymakers in the West – but President Xi has proved time and again his indifference to such matters.

If you hold your gold physically, at home or in your office safe, you are obviously exposed to the risk of burglars stealing it. You’ll be able to take it out and fondle it, but it’s not entirely risk-free.

Maybe you choose to hold your gold in an ‘unallocated’ account. You may be surprised to learn that this unallocated gold, no doubt on deposit in a bullion bank vault, while probably safe from burglars, is not entirely risk-free either. Because when push comes to shove you don’t really own that gold.

That’s because it’s part of the ‘fractional reserve’ system, the system used by commercial banks across the world. Under fractional reserve banking only a fraction of the bank’s deposits are backed by actual cash on hand and immediately available for withdrawal. The clue is in the name. The same is true for that unallocated gold – if everyone who ‘holds’ that gold demanded its redemption there would not be enough to go round. Unallocated gold accounts are really just an exposure to the price of gold.

Proponents of fractional banking argue that such a system creates liquidity; it enables the increase of money and credit supply. Opponents assert that such a system is inherently risky, as it increases the supply of money beyond what actually exists in the bank.

For hundreds of years fractional reserve banking has resulted in bank failures as depositors lost their money because their bank could not immediately pay them the full amount they had on deposit. Anyone who has seen the 1946 movie It’s A Wonderful Life starring James Stewart can see what happens when confidence in fractional banking evaporates. Life falls apart; the difference with real life is that no angel (as in the movie) will come to our rescue. Fractional banking is a kind of Ponzi scheme, whereby fresh deposits are used by the bank to extend credit to new borrowers.

The fractional reserve system underlays the Great Financial Crash of 2007-09; thanks to it, banks such as Northern Rock (in the UK) and Bear Sterns (in the US) succumbed to irrational exuberance and lent excessively, far more than they had on deposit. In the US the fractional banking system enabled banks to give mortgage loans to ‘Ninjas’ – people with ‘no income, no job or assets’. At the height of the boom UK banks were offering so-called ‘suicide loans’ of up to 120% of the value of a house with only self-certification of income.

You would think that banks and regulators had learned some lessons from then. Yet on 26 March 2020 the US Federal Reserve announced it was reducing the reserve requirement ratio for US banks from 10% to 0% across all deposit tiers. The Covid-19 pandemic was used to justify this. There’s no indication that the US Fed is going to re-impose it’s (already light-touch) reserve requirement any time soon. In the UK, the minimum reserve requirement for banks is 12.5% and for ‘finance houses’ at least 10%.

Under a ‘full reserve’ system – whereby a bank would be required to hold sufficient reserves to pay all depositors their full deposit on demand – the inherent risk of that bank collapsing (and the further risk of a systemic meltdown) would disappear. Proponents of a full reserve banking system argue that because it would separate money creation from bank lending, greater economic stability would result – although bankers would no doubt protest at their reduced bonuses, which would happen if they were unable to lend so freely.

What’s this got to do with gold?

Unallocated gold accounts do not physically store ‘your’ gold; they use the gold for other investments or loans, and promise to re-pay you the gold on demand. Unallocated gold accounts are within the fractional reserve system in other words. Unallocated gold is only credited to the investor – the bank or dealer remains the owner. If the gold holder of your unallocated gold goes bust, all you will be left with is a promise that you will get your gold or money back – but you will have to wait in line along with other angry creditors and may eventually lose what you thought you owned.

What about gold held in paper form, in an exchange-traded fund (ETF)? That too is not free of risk. It is standard practice for Authorized Participants, such as banks and brokerage houses, to contribute baskets of purchased or borrowed assets to ETFs; the bullion therein may be borrowed. In the event of a 2008-style financial crisis, the lending institutions would have first claim to the gold when borrowed, leaving shareholders in a precarious position.

Even trying to buy physical gold can run into difficulty. The august Royal Mint in the UK has been swamped recently by customers who have placed orders for gold and silver coins which the Mint has been unable to deliver because the paid-for items are out of stock.

Glint’s allocated gold

If you own gold through Glint you genuinely own it – it’s allocated to you and the gold is held in allocated storage under a custody agreement. Banks or financial institutions cannot lease out those bars, because they can’t access the allocated bullion. Moreover if you buy gold through Glint you have certainty that the price you pay is for the actual amount of gold you want.

And you avoid the inherent risks associated with fractional banking – and burglars. Moreover, unlike physical bullion or unallocated gold, with the gold that you own through Glint, you can also use it for transactions in your daily life, from buying a coffee to a family holiday; online and in-store.

If  you hold your gold physically, at home or in your office safe, you are obviously exposed to the risk of burglars stealing it. You’ll be able to take it out and fondle it, but it’s not entirely risk-free.

Maybe you choose to hold your gold in an ‘unallocated’ account. You may be surprised to learn that this unallocated gold, no doubt on deposit in a bullion bank vault, while probably safe from burglars, is not entirely risk-free either. Because when push comes to shove you don’t really own that gold.

That’s because it’s part of the ‘fractional reserve’ system, the system used by commercial banks across the world. Under fractional reserve banking only a fraction of the bank’s deposits are backed by actual cash on hand and immediately available for withdrawal. The clue is in the name. The same is true for that unallocated gold – if everyone who ‘holds’ that gold demanded its redemption there would not be enough to go round. Unallocated gold accounts are really just an exposure to the price of gold.

Proponents of fractional banking argue that such a system creates liquidity; it enables the increase of money and credit supply. Opponents assert that such a system is inherently risky, as it increases the supply of money beyond what actually exists in the bank.

For hundreds of years fractional reserve banking has resulted in bank failures as depositors lost their money because their bank could not immediately pay them the full amount they had on deposit. Anyone who has seen the 1946 movie It’s A Wonderful Life starring James Stewart can see what happens when confidence in fractional banking evaporates. Life falls apart; the difference with real life is that no angel (as in the movie) will come to our rescue. Fractional banking is a kind of Ponzi scheme, whereby fresh deposits are used by the bank to extend credit to new borrowers.

The fractional reserve system underlays the Great Financial Crash of 2007-09; thanks to it, banks such as Northern Rock (in the UK) and Bear Sterns (in the US) succumbed to irrational exuberance and lent excessively, far more than they had on deposit. In the US the fractional banking system enabled banks to give mortgage loans to ‘Ninjas’ – people with ‘no income, no job or assets’. At the height of the boom UK banks were offering so-called ‘suicide loans’ of up to 120% of the value of a house with only self-certification of income.

You would think that banks and regulators had learned some lessons from then. Yet on 26 March 2020 the US Federal Reserve announced it was reducing the reserve requirement ratio for US banks from 10% to 0% across all deposit tiers. The Covid-19 pandemic was used to justify this. There’s no indication that the US Fed is going to re-impose it’s (already light-touch) reserve requirement any time soon. In the UK, the minimum reserve requirement for banks is 12.5% and for ‘finance houses’ at least 10%.

Under a ‘full reserve’ system – whereby a bank would be required to hold sufficient reserves to pay all depositors their full deposit on demand – the inherent risk of that bank collapsing (and the further risk of a systemic meltdown) would disappear. Proponents of a full reserve banking system argue that because it would separate money creation from bank lending, greater economic stability would result – although bankers would no doubt protest at their reduced bonuses, which would happen if they were unable to lend so freely.

What’s this got to do with gold?

Unallocated gold accounts do not physically store ‘your’ gold; they use the gold for other investments or loans, and promise to re-pay you the gold on demand. Unallocated gold accounts are within the fractional reserve system in other words. Unallocated gold is only credited to the investor – the bank or dealer remains the owner. If the gold holder of your unallocated gold goes bust, all you will be left with is a promise that you will get your gold or money back – but you will have to wait in line along with other angry creditors and may eventually lose what you thought you owned.

What about gold held in paper form, in an exchange-traded fund (ETF)? That too is not free of risk. It is standard practice for Authorized Participants, such as banks and brokerage houses, to contribute baskets of purchased or borrowed assets to ETFs; the bullion therein may be borrowed. In the event of a 2008-style financial crisis, the lending institutions would have first claim to the gold when borrowed, leaving shareholders in a precarious position.

Even trying to buy physical gold can run into difficulty. The august Royal Mint in the UK has been swamped recently by customers who have placed orders for gold and silver coins which the Mint has been unable to deliver because the paid-for items are out of stock.

Glint’s allocated gold

If you own gold through Glint you genuinely own it – it’s allocated to you and the gold is held in allocated storage under a custody agreement. Banks or financial institutions cannot lease out those bars, because they can’t access the allocated bullion. Moreover if you buy gold through Glint you have certainty that the price you pay is for the actual amount of gold you want.

And you avoid the inherent risks associated with fractional banking – and burglars. Moreover, unlike physical bullion or unallocated gold, with the gold that you own through Glint, you can also use it for transactions in your daily life, from buying a coffee to a family holiday; online and in-store.