Category: Soap Box

As the world’s seven richest nations, the G7, met last weekend to discuss how to tighten the screws on renegade Russia, in punishment of its Ukraine invasion, there hung in the air a quiet but potentially hugely disruptive statement by President Putin, a few days previously.

On 22 June, President Putin welcomed participants to the BRICS 2022 Business Forum, which was held in Beijing. BRICS is an acronym standing for Brazil, Russia, India, China and South Africa. Putin said a new international reserve currency “based on the basket of currencies of our countries is under review”. If serious, those words are the equivalent of threatening a nuclear strike against the US Dollar, and the International Monetary Fund’s (IMF) financial reserve, the SDR (Special Drawing Right).

It “may just be a trial balloon floated by President Putin” (as the ING bank says) or maybe Putin has in mind the creation of a kind of ‘shadow’ IMF and some means of displacing the SDR. Putin might yearn to displace the IMF because it’s dominated by the US; it has long been accused of imposing a US-centric view of the world on those nations who seek its help. The US is the biggest cumulative contributor to the IMF and it controls the biggest voting bloc in the Fund, meaning it has an effective veto for many decisions.

The SDR is not a currency but a reserve asset, a basket of claims on the top reserve currencies – the US Dollar, the British Pound, the European Union’s Euro, Japan’s Yen, and since 2016 China’s Renmimbi. The IMF allocated SDRs of 456.5 billion ($650 billion) in August 2021 during the Covid-19 pandemic’s height. About $275 billion of that newly minted money, which helped fire up inflation, went to emerging countries, with the rest given – SDRs do not have to be repaid – to the world’s biggest economies. The US Dollar is by far the biggest constituent of the SDR, with almost 42% of the overall weight. Challenging this kind of financial clout of the US is on the agenda of the authoritarian leadership of both Russia and China.

Currencies’ share in the IMF’s SDR

In 2001 Jim O’Neill, then an economist with Goldman Sachs, coined the term BRIC. O’Neill claimed that the BRICS – South Africa got tagged on in 2010 – would come to dominate the global economy by 2050. That prediction is looking a little awry today.

Last November O’Neill wrote of his disappointment at the patchy economic development of the BRICS. “China is the only BRIC country to have surpassed its growth projections, and India is not too far off from meeting its estimates. But… neither Brazil nor Russia have seen their nominal US dollar shares of GDP grow any bigger than they were back in 2001. The great challenge of how these countries successfully transition towards a higher income status for the whole of society remains unsolved”, he wrote. From the perspective of President Putin, one can see the attraction of a BRICS wall against the Dollar; his tanks are in Ukraine but a bigger target is US and the Dollar’s hegemony. Putin’s problem however, is that Russia is relatively weak in economic terms; it needs allies in its financial war.

Self-interest dictates policy

For both Presidents, Putin and Biden, Manichean views have come to dominate – the world is divided into black and white, good and evil. While Biden has succeeded in lassoing European and NATO allies into his pro-Ukraine camp, Putin is busily constructing an alliance of his fellow BRICS for support in the financial onslaught against the Dollar. The G7 have upped the rhetoric, promising to support Ukraine for “as long as it takes”, while India, Brazil, and South Africa have been largely non-committal; all have refused publicly to criticise Russia over its Ukraine invasion. Brazil, the Latin American agricultural superpower, is heavily dependent on Russian fertilizer imports – it won’t jeopardise those for Ukraine. South Africa’s President, Cyril Ramaphosa, has said that Washington’s dogged pursuit of NATO expansion has contributed to brewing a crisis with Russia in Europe that has eventually boiled over into war.

India has had a close relationship with Russia since the 1950s; Russia remains its biggest military supplier. India is taking advantage of the discounted price of Russian oil – about $30/barrel cheaper than Brent crude, one of the international benchmarks – to buy much greater amounts of it than before the start of the war; now 10% of all India’s imported crude comes from Russia, against just 0.2% prior to the start of the war.

China’s President Xi Jinping said at the BRICS forum that Western sanctions on Russia were “weaponizing” the global economy. He is all in favour of the BRICS nations cooperating generally. China has overtaken Germany as the single biggest buyer of Russian energy. For China, a BRICS wall against the Dollar has a strong appeal.

Alternative payments

At the BRICS forum, President Putin said “Russian oil supplies to China and India are growing noticeably” and that despite all the sanctions imposed by the West, total trade with Brazil, India, China and South Africa rose 38% in the first three months of the year to $45 billion. He also pointed out that Russia is rapidly developing an alternative to the SWIFT international payments system, from which Russia has been largely excluded. He told the BRICS forum that the development of reliable alternative mechanisms for international settlements is being drawn up together with BRICS partners and he highlighted Russia’s Mir system. “Russia’s financial messaging system is open for the connection of banks of the five countries. The geography of Russia’s Mir payment system is being expanded”, he said. In 2014, after the Russian annexation of Crimea, several Russian banks were cut off from the Visa and Mastercard payment networks as a result of sanctions. Mir, Russia’s home-grown national payment system, grew out of that and has been a “phenomenal success story” according to one source, with almost 100 million cards issued by June 2021, and with a market share of more than 25% of the total payment transaction value in Russia. Mir payments by June 2021 were accepted in 11 countries.

Yet not everything is rosy – Russia has defaulted on about $100 million of missed payments on sovereign bonds. It won’t officially acknowledge this and is already disputing the designation, as the ratings agencies, which normally would issue a default declaration, are barred from doing business with Russia under sanctions. Russia argues this symbolic default, its first since 1918, is a technicality – it has the willingness and resources to pay but is prevented from doing so by the sanctions.

Sanctions backfire?

The sanctions imposed on Russia have “backfired more spectacularly than usual” says a commentator. The irony is that, by trying to punish Russia where it hurts (by edging towards banning imports of crude oil and gas) all the West has done is to remind President Putin of the strength of the cards he holds. Thanks to the sanctions, the international price of crude and gas (in Dollars, due to the Dollar’s reserve currency status) has soared and Russia is currently “raking in roughly $800 million a day”. Sanctions are such a good idea that Russia is now contemplating entirely cutting off its gas supplies to Europe, in the crucial period when Europe hopes to fill its storage tanks in the run-up to winter. Russia can always sell its oil to Asia, although finding alternative homes for its gas will not be easy or quick.

In 2021, Russia sold around 33 billion cubic meters (bcm) of gas to Asia, compared to a European market that typically imports 160 to 200 bcm of Russian gas. Two-thirds of the gas that Russia sent to Asia was liquefied natural gas (LNG): 14 bcm from the Sakhalin-2 project, going to Japan, Korea, Taiwan, and China, and 8.5 bcm from Yamal LNG, largely for China, but also Japan, Korea, Taiwan, and India. Russia also delivered 10 bcm to China through the Power of Siberia pipeline, which was launched in late 2019 and will eventually flow 38 bcm a year. Pivoting towards China and other parts of Asia will not be fast, but it will happen.

The world order is being re-shaped, as many have observed, by the Ukraine war. It has disrupted trade flows of grains, which on top of droughts and floods in many countries has heightened fears of food shortages. It has given an extra boost to inflation, which was already developing thanks to the massive injection of money by quantitative easing and Covid-19 aid packages. Rebuilding the destroyed infrastructure in eastern Ukraine will cost at least $21.7 billion according to the Vienna Institute for International Economic Studies. A former finance minister of Ukraine has estimated that the cost of a nationwide rebuilding of Ukraine “could be up to $1 trillion”. As the West struggles to demonstrate a united front against Russia, Russia thinks it already has its ducks in a row – and they are its fellow BRICS.

W. B. Yeats wrote his poem The Second Coming in 1919, in the wake of the First World War.

“Things fall apart; the centre cannot hold;
Mere anarchy is loosed upon the world”,

was Yeats’ dystopian vision of a post-war world, a world without apparent hope. A poem of 103 years ago has striking relevance today.
French President Emmanuel Macron for one tried to steer a middle-of-the-road course but that centre didn’t hold in last Sunday’s elections. A left-green alliance surged, together with the surprising strengthening of the far-right, forcing a hung parliament. Macron will now find it well-nigh impossible to get his legislative agenda passed over the next five years. Élisabeth Borne, Macron’s prime minister, said in a post-election speech that the situation represented “a risk for the country”. She didn’t spell out what that risk was – but social unrest is the big unspoken fear. Social unrest, conflict instead of consensus, dogs the world from India to the US. The League of Nations was a legacy of the 1914-18 war and was meant to solve international conflict peacefully; it died in the 1930s under a welter of extremism. The United Nations started life in April 1946 tasked with the same mission. Might it too be killed by the same stubborn refusal to agree compromises?

Turbulent times are ahead for France – but today, where are they not? From Sri Lanka, with its violent protests against inflation of 30%/year to the UK, where strike action is spreading like the measles, the world feels a much more precarious place than it did even during the peak of the Covid-19 pandemic. The UK hasn’t had strikes since early 2020 but railway and London underground workers are now striking this week; teachers and doctors are warning they could strike in the coming months; mail workers are considering strike action; even junior criminal lawyers are intending to strike.

All these strikes are prompted by the rate of inflation (almost 8%/year), the lack of real wage increases for a few years, and the spiralling cost of living. The price of a pint of beer has passed £8 (almost $10) in London, a 72% increase since the Great Financial Crash of 2008. The Eurozone’s inflation rate is now 8.1% , which is bad enough; but in some of the zone’s countries it’s much higher, 20% in Estonia for example.

Apocalyptic views are gaining publicity; the world has already started “World War Three… this is a war, it’s a financial, economic war”, according to a leading Dutch entrepreneur. That view might have been laughed at a couple of years ago; not today, after Russia invaded Ukraine.

Another example of the previously unthinkable now being openly discussed comes from the UK’s chief of the general staff of the British Army. General Sir Patrick Sanders has told his troops to be ready to fight “alongside our allies” against Russia – while government plans will shrink the army to its smallest in history, just 72,500 soldiers by 2025.

Since 1945, we have lived with a global consensus, patchily overseen by the United Nations (UN) which has done its best to right the world when it wobbles. Other international institutions, such as the International Monetary Fund (IMF) and the World Bank, claim to have policed the global financial system with the consent of the international community.

24 February ended that ‘policing by consent’ period. Russia’s invasion of Ukraine showed that not all countries are prepared to follow the rules-based system that came into being after the end of the war. The inter-connection of nations’ interests painstakingly crafted at Bretton Woods “opened markets and increased trade… bringing consumers more goods and services at lower prices… creating jobs for millions… the expansion of freedom around the globe has been one of the great accomplishments of recent decades. It has protected the open governments in leading democracies, and has granted their people the ability to work, travel, study, and explore the world more easily” says a 2020 paper from the Atlantic Council.

It’s become a cliché to speak of the US as ‘divided’; but being a cliché doesn’t make it any less true. The latest edition of the University of South California’s Polarization Index, covering October 2021-March 2022 says: “over the past 18 months, the overall polarization level in the U.S. (83.6) has not dropped significantly from where it was before President Biden took office (85.1) in Q4 ’20”.

That open, richer, freer world, where consensus, into which we were gently lulled, was seen as preferable to conflict, and which was going to last forever, may always have been a delusion. That consensus didn’t exist everywhere; the wars in the former Yugoslavia in the 1990s, the conflicts in Yemen and Syria, show that. Yet even those conflicts could be seen as an aberration, a deviation from the consensual model that we assumed underpinned the world order.

But now the consensual model seems to be slipping away – as Yeats wrote, “the centre cannot hold”. It’s unclear what will replace it.

Preserve what you have

In these dark times the preservation of what one has becomes even more important; the future is always uncertain but even more so in a time of war.

The last time that inflation gripped many economies was in the 1980s; the US Dollar has lost 72%, the British Pound 78% of their values since 1980. One of the most difficult things is to know with any precision by how much inflation is today eroding the purchasing power of fiat money. Too many variables complicate the calculation; and they differ considerably from country to country. The cost of living in the US, for example, is on average more than 13% higher than in the UK. Rent is even higher, 46.50% more than the UK average. Against that, rent on average in London is almost 225% higher than in Warsaw.

The official consumer price index (CPI) figure states that US inflation was 8.6%/year in May, the highest reading since December 1981. But that official figure hides a multitude of sins. On 4 July, America’s traditional cookout will this year cost almost 21% more than last year. So is the US Dollar going to be worth 8% or 21% less next year? That depends on what you buy with it. But holding cash, fiat currency, makes little sense when inflation is so high; that cash is losing purchasing power.

People tend to turn to cash when other assets are collapsing, but when central banks aim to achieve inflation of 2%/year that cash evidently becomes steadily less powerful; and at 10% rapidly less powerful. Equities are currently in the doldrums. The Nasdaq Composite has been in a bear market (20% lower than its last peak) for a few weeks; the Dow is approaching one. The MSCI ACWI Index, which contains stocks from both emerging and developed markets, extended its decline from its mid-November peak to 21% on Monday to 597.64. While stocks have slipped – and would fall further in a recession – the Dollar-denominated gold price has risen by some 4.2% in the past 12 months.

Cryptocurrencies, regarded by their early promoters as a pathway to independence, to liberation from government, have been co-opted by those who are more intent on getting rich quick, and who are now getting poor almost as fast. The weekend sell-off of Bitcoin which took it below $20,000 may have forced the liquidation of large leveraged bets (big amounts of borrowed money being invested into Bitcoin). There has been – and perhaps still is – “an escalating credit crunch in the digital asset industry that threatens to engulf many of its major actors”.

Inflation is enemy No.1 for Western governments but central banks can do little except exhort populations not to seek inflation-beating wage increases, while having overseen in previous years a massive injection of easy credit and cheap money which has effectively enriched the already wealthy even further. We may be back to the inflationary era of the 1980s, but with a key difference – putting up interest rates sufficiently high to choke inflation is impossible without creating a massive recession. Which would be insane when the West is fighting a proxy war with Russia over Ukraine, a war that Western governments have neither explained nor justified to voters.

Ukraine is fighting two wars – one military, the other propaganda. As surely as it will be ground down and defeated in the first, it has already won the second, in the West at least. Whether we like it or not we have been sucked into this war; we have been persuaded by Ukrainian sources that it’s a war for ‘Western values’. What are those values? They once included consensus, compromise, a readiness to listen to others. A preparedness to meet in the centre. But what if that centre really “cannot hold”?

At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isn’t 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.

On Friday 10 June 2022 in the early afternoon, gold was trading at around $1,833/ounce. By late afternoon the same day, the price had zoomed to more than $1,871/ounce, although by late afternoon Monday 13 June, it had slid all the way back to $1,828.

What happened to push the price $38 higher, a gain of more than 2% in a couple of hours, on 10 June?

The answer is – US inflation. The annual rate of inflation in May rose to 8.6% it was announced on 10 June, the highest level since December 1981, and, against most expectations, 0.3% higher than in April. The S&P 500 closed down almost 3%, and the Nasdaq Composite closed 3.5% lower, as investors grappled with worries that the US Federal Reserve will have to tighten monetary policy faster and more extremely than anticipated, if it wants to get inflation under control. Risk assets were out – defensive ones were in.

The following day, adding insult to injury, gasoline prices in the US hit the psychologically important $5/gallon on average, as summer’s peak driving season was just starting to get going. At around £1.07 per litre in the UK, this is still well below gasoline prices on the other side of the Atlantic, but hitting $5 for the first time in history is a huge shock to the US consumer. The gasoline price has now more than doubled since President Joe Biden entered the White House.

If we peer over the horizon there seems scant hope that prices in the US will cool down any time soon. According to Dean Croushore, who was an economist at the Philadelphia branch of the US Federal Reserve for 14 years, the Fed has been too slow to take action on inflation: “It’s always tough to bring inflation down once you let it out of the bottle” he said. He’s right about the Fed being slow to raise interest rates, under the spell of the ‘inflation is transitory’ narrative which Jay Powell, chairman of the Federal Reserve, repeated for much of 2021; but by calling for interest rates to be put up to about 5%, Croushore’s recommendation would still leave rates in negative territory, i.e. still encouraging lending & spending. Croushore is still too timid.

The last time inflation in the US was this strong was in 1978, when it was 7.59%. It then went to 11.35% in 1979 and 13.50% in 1980, despite Paul Volcker, then the Fed chairman, pushing the federal funds rate, which had averaged 11.2% in 1979, to 20% in June 1981. Inflation gradually fell back to 6.16% in 1982 under the crushing weight of very high interest rates. Paul Volcker said in his memoir that it is a “fundamental responsibility of monetary policy” to maintain the value of a currency: “once lost, the consequences can be severe and stability hard to restore”. Volcker acted responsibly, and gradually brought inflation back into line – although since 1980 it’s worth noting the Dollar has lost 71% of its value thanks to what seems a ‘low’ annual average inflation rate of 3.03% since then.

Biden blames the wrong people

“I understand Americans are anxious” said President Biden at the Port of Los Angeles on Friday, after the latest inflation data was released. He blamed President Vladimir Putin’s “tax on both food and gas” (although no such taxes exist – higher prices for both follow from the West’s patchy embargoes on some Russian exports) and also, bizarrely, three main global shipping alliances who use the Western Hemisphere’s busiest port.

“Every once in a while, something you learn makes you viscerally angry” said the President, as he urged US policymakers to pass a bipartisan Bill, the Ocean Shipping Reform Act, unanimously passed by the Senate in March. This Bill would allow the Federal Maritime Commission (FMC) to repress shipping fees charged by international carriers. Bizarrely, because the FMC published a ‘final report’ on 31 May which blamed the high ocean freight rates on “unprecedented consumer demand, primarily in the United States”. Biden wants to blame profiteering for the inflation, or part of the inflation.

The President made no mention however of the massive flow of ‘free’ money (including, in March 2021, a $1.9 trillion Covid-19 ‘relief package’ giving $1,400 to most Americans) that surely played its part in the inflation surge. This helicopter money (scattered from above as if by helicopter) was only ‘free’ in the sense that its recipients got something for nothing. It set a very dangerous precedent. Lobbying for more such helicopter cash will become more intense as the American consumer becomes increasingly stressed by higher prices for staple goods.

Powell lacks Volcker’s spirit

The immediate task facing the Fed was recently summarized by Tara Sinclair, an economist at George Washington University. She told the Financial Times this “is not landing a plane on a regular landing strip. This is landing a plane on a tightrope, and the winds are blowing… the idea that we are going to bring incomes down just enough and spending down just enough to bring prices back to the Fed’s 2% target is unrealistic”.

Sinclair was referring to what might be called ‘Volcker’s Dilemma’. How do you crush inflation? By raising interest rates well above the level of inflation, and thereby demonstrate to the public that spending will fall, because the central bank is making it crystal clear that it will do everything in its power to encourage saving and discourage spending. If inflation is too much money and too few goods, then make money and credit so expensive that it halts spending in its tracks. But go too far or too fast with interest rate rises and the risk is that you push an economy into recession. Volcker’s Dilemma.

It’s difficult to credit, now that US inflation is almost 10%, that the Federal Reserve pre-Covid had an inflation target rate of 2%/year. A majority of academic economists surveyed by the National Bureau of Economic Research (NBER), which is the arbiter of when recessions begin and end, now think that core inflation (which excludes food and energy costs) will exceed 3% in 2023.

Smashing high inflation will take the kind of steely resolve that Paul Volcker showed, even though his rate rises brought about a nationwide recession in 1980-82, with unemployment above 10%. The unemployment rate this year is likely to be around 3.7% according to the NBER. Interest rates are going up this year, but few believe they will exceed current inflation. Even the cautiously low interest rate rises likely to be overseen by Powell are still likely to tip the US into recession, according to almost 70% of the economists surveyed by the NBER. Mohamed El-Erian, chief economic advisor to Allianz, said on CNBC the Federal Reserve would have to get aggressive with interest rate hikes. Powell is “losing total control… He’s got to move because, if he doesn’t, he’s going to be chasing the market, and he’s not going to get there”. El-Erian added that inflation has “not peaked”.

We have been warning of the inflationary pressures face on both sides of the Atlantic since 2019, and sporadically touched on Volcker’s Dilemma. Too much juice and inflation roars, too little juice and economic growth halts. We could easily slip into stagflation says the World Bank. Kristalina Georgieva, managing director of the International Monetary Fund (IMF) puts it very simply: “growth is down and inflation is up”. Larry Summers, former US Treasury Secretary, told Bloomberg in early April that the “combination of overheating, followed by policy delay followed by supply shocks means I think… recession in the next couple of years is clearly more likely than not”.

On 7 June, the World Bank said the global economy is “entering” what might turn out to be a “protracted period of feeble growth and elevated inflation”, raising the risk of stagflation. It said that global growth would be 2.9% this year, against its forecast in January of 4.1% and last year’s 5.7%. Growth would “hover around that pace over 2023-24… As a result of the damage from the pandemic and the [Ukraine] war, the level of per capita income in developing economies this year will be nearly 5% below its pre-pandemic trend”. In advanced economies growth this year is put at 2.2% in 2023.

Not that the immediate outlook for the UK is much better. The 38-country OECD (Organisation for Economic Co-operation and Development) forecast on 8 June that UK economic growth will come to a standstill in 2023. The chance of a recession in the UK in late 2022 or early 2023 must now be high and, if the Bank of England sheers away from higher, inflation-beating interest rates, stagflation seems inevitable.

Stagflationary defences

If we are in for a bout of stagflation where might we shelter? Cryptocurrencies look as vulnerable as equities; Bitcoin dropped to as low as $26,876.51 on 12 June and on Monday 13 June dropped more than another 10%, to some $19,313. Binance, the world’s biggest crypto exchange, suspended customer withdrawals of Bitcoin on 13 June, which sent further shivers down the spines of crypto fans. The value of the broader cryptocurrency market has dropped to some $1 trillion, against an estimated $3.2 trillion in November.

Annualized average adjusted returns since Q1 1973 in percentage terms: Source: Bloomberg, World Gold Council

In stagflationary environments, the demand for assets perceived as ‘defensive’ increases. Such things as US treasury bonds, Dollars, gold, consumer staples and real estate tend to be more sought-after than assets seen as more risk associated. The chart immediately above suggests that gold beats other mainstream assets during stagflationary periods.

Jamie Dimon, CEO of JPMorgan Chase & Co., said on 1 June that the US economy might be in for a “hurricane”. There are warning signs of an approaching hurricane, not the least of which is a heavy downpour. Maybe Dimon is right. The 90 year-old US multinational cosmetics company Revlon is one of the most famous brands around. That has not protected it. It is drowning in $3 billion of long-term debt, its shares collapsed by more than 50% on 10 June, and it is preparing for Chapter 11 bankruptcy. If Revlon can become a ‘zombie’ company, which other big brand is a safe investment? A ‘zombie’ company is one that isn’t earning enough to cover their interest expenses. It’s thought that as much as 20% of America’s 3,000 largest publicly-traded companies may be ‘zombies’. The years of cheap credit, now coming to an end, have been used to borrow and pile on even more debt.

At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isn’t 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.

While not being glib about the horrors of the war in Europe, don’t feel guilty if you’re bored with what’s happening in Ukraine. You aren’t alone. The war has now been going on for more than 100 days and as a Financial Times columnist puts it, “tedium is beginning to creep in”. Boredom will only strengthen Vladimir Putin’s authoritarian resolve. And that authoritarian resolve means not just defeating Ukraine, but disrupting the settled international financial order.

The initial shock of the Russian invasion, the mass exodus of fleeing Ukrainian civilians, followed by panic about Putin maybe resorting to nuclear weapons, the media-fed euphoria about Russian setbacks, the revelations of Russian atrocities against civilians, the warm-bath feeling that swift and apparently blanket sanctions gave the West, for many have all melted into a kind of ‘Meh’.

The biggest test of Western resolve is perhaps revealed by the approval ratings for President Joe Biden, the Western leader who has seemed most resolute in his support for Ukraine – 40.8% of Americans polled this week think he is doing a good job, just 0.2% more than the previous week. Americans probably are more focused on the cost of living, where Biden has surely failed. It now costs around 30% more to pump gasoline into your vehicle than the day before Russia invaded Ukraine. How does billions of (unfunded) US tax Dollars being spent on howitzers for Donetsk play in Kansas, when the price of gas or steak is going through the roof?

As for the European Union (EU), it cannot even achieve unanimity on an embargo against Russian crude oil, two-thirds of which comes into the EU via tankers. The embargo on Russian crude oil imports by tanker will only take full effect by end-2022, and in any case the Czech Republic, Hungary, and Slovakia will be allowed to continue importing Russian crude via the Druzhba pipeline. Such is democracy – only as strong as its weakest link. Life in Putin’s Russia is no doubt awful, but at least he doesn’t have problems trying to herd cats.

The EU is much more reliant on Russian gas than crude oil but there’s no chance that a ban on Russian gas imports into the EU, which would be far more damaging for the Russian economy, is on the cards. The Austrian Chancellor Karl Nehammer said banning Russian gas, which covers a third of EU needs, was impossible. “Russian oil is much easier to compensate for… gas is completely different” he said. At the start of 2022 Russia was earning about $550 million a day from its gas an oil exports. It’s now taking around $720 million for gas alone, thanks to energy prices which have become weaponized.

Attrition – who can last longest?

Partly the tedium is a (reluctant, to be sure) acceptance that this conflict cannot be militarily won by Ukraine, no matter that it scored a moral victory from day one. Russia is obviously prepared for a lengthy war of attrition, reducing Ukraine’s strength through sustained attack. Russia has considerably more capacity to endure this attrition than Ukraine. But such is Ukrainian resistance and determination to remain independent that Russia’s greater ambitions will be thwarted – it may end up with more of Ukraine’s land (it currently has a fifth according to the Ukrainian President) but not all of it. And partly it’s simply war-fatigue, a Western sickness that infects fewer people the closer you get to NATO’s eastern border.

How does any of this matter to the world of currencies, the world of money? It matters because everything has been up-ended. Everything is now weaponized – everything from fiat currencies, to energy prices, to food supply has been turned into firepower.

The failure to exert maximum pressure on Russia’s gas has been matched by the failure to act on SWIFT, the system of international money transfer. Only now has the EU added Russia’s Sberbank to the list of banks excluded from the SWIFT. It’s a mystery why it wasn’t on the first sanctions’ list. The Russian state-controlled Gazprombank is even today not sanctioned, although 27 of its executives are under US sanctions. The special treatment accorded to Gazprombank is a reflection of the EU’s energy concerns. Katja Yafimava, senior research fellow at the Oxford Institute for Energy Studies, says Russia made it clear to “Europe that as long as Gazprombank is not sanctioned and payment is made to Gazprom’s account in Gazprombank, the gas will flow to Europe”. President Putin knows that EU member states are domestically and industrially too reliant on Russian gas to conduct an all-out sanctions’ war. Fossil fuels have become weaponized.

Grain grenades

Western sanctions have had many unintended consequences, perhaps the most globally disruptive being the creation of a food crisis, which might cause “starvation of up to 47 million people” says the US Atlantic Council. Fertiliser prices have more than doubled in the past year, according to the US Department of Agriculture, due in part to what is called in early March “a limited supply of the relevant minerals and high energy costs, high global demand and agricultural commodity prices, reliance on fertiliser imports, and lack of competition in the fertiliser industry”. Russia, which produces 13% of the world’s fertilizers, has historically been a major fertilizer exporter to the EU, Brazil, and the US – all important grains’ producers. Russia suspended its fertilizer exports on 4 March. President Putin told the Turkish President Recep Tayyip Erdogan at the end of May that Moscow was prepared to export significant volumes of fertilizers and food if the West’s sanctions against Moscow are lifted. Food has become weaponized.

The president of the African Union, which has 55 member states, said the banning of Russian banks from SWIFT means “that even if produce exists, payment for it becomes difficult or even impossible”.

Ukraine is a vital grains’ exporter; it produces about 86 million tonnes annually. It’s estimated that around 28 million tonnes are stuck in Ukrainian Black Sea ports because of the risks from mines sown by Russia, a Russian naval blockade, and the steep cost of shipping insurance since the war started. The main recipients of Ukraine’s wheat are Bangladesh, Egypt, Indonesia, Libya, Lebanon, Morocco, Pakistan, the Philippines, Tunisia, Turkey, and Yemen. Its corn is bought by China, Egypt, Iran, the Netherlands and Spain. Some of these saw food riots and social unrest in the aftermath of the 2008 financial crisis. As there is no sign of the Ukraine war easing, and thus the grains and vegetable oil shortfalls will get worse before improving, further price rises are inevitable. In the comfortable countries of the West, we probably will be able to pay these prices, or rely on our governments to provide hand-outs; in cash-strapped countries like Somalia or Chad, where droughts have already hit food supply, famine may result.

Russia’s retaliation

Sanctions certainly have begun to hurt Russia; its inflation was almost 18% in April, revenues from domestic value-added tax collapsed by more than half and from imported goods by a third in April compared to April 2021. Elvira Nabiullina, head of Russia’s central bank warned in April that problems were emerging “in all sectors, both in large and small companies”. Everything from buttons to white paper is in short supply. Flights to Europe have been cut and Russians are unable to use their bank cards overseas.

And yet Russia’s recent history teaches us that its capacity for taking blows is unparalleled; it should also have taught us that it conducts war in the most brutal manner possible. Stalingrad 1942 and Berlin 1945 are examples.

Thus the weaponization of the US Dollar – from the freezing of Russia’s overseas foreign exchange stash – has evoked from Russia a kind of tit-for-tat response; if you make the international reserve currency, the US Dollar, into a weapon for the West to extend the extraterritorial reach of its law and policy, then we (Russia) will use our advantages (in commodities) to counter-act your weapon. This is a dangerous game for both sides; the West could end up being the biggest loser. The Dollar is slowly losing its status as the international reserve currency, with its share of global payments dropping from 43.37% in April 2020 to 41.81% in April 2022.

The US still has what the then French minister of finance Valéry Giscard d’Estaing described in the 1960s as the “exorbitant privilege” of the US in having the Dollar as the world’s international reserve currency – it can finance its deficits easily because other countries want to hold it. He supported a return to a world monetary system based on what he called the ‘eternal’ role of gold, eliminating the reserve currency status of the dollar and sterling. Perhaps Putin has a touch of French in his ancestry – for Russia has progressively shifted its reserves out of Dollars, and is selling its oil in non-Dollar currencies. This war has barely started.

Alistair Milne, professor of financial economics at Loughborough University, in Britain, told the New Yorker magazine that there are three choices for Western leaders. The first is military action. The second is economic and financial action, on a far greater level than the limited SWIFT measures. “Or you do nothing”, he said. “And that is a huge blow to democracy. The flame of democracy will die”.

The UK Chancellor, Rishi Sunak, has bowed to pressure and announced he will distribute a massive, £15 billion ‘support package’ to help British households with their soaring energy bills.

We’re back to Covid times, when governments gave away money, careless of when or if the bill would be paid. Sunak looks like a miser by comparison with Australia’s incoming Labor government, which plans to pay for up to 40% of a new home. Governments have become lavish with handouts, and the era of easy money appears far from over.

Around £5 billion of Sunak’s give-away will come from what he called a “temporary targeted profits levy” on energy companies – a euphemism for a ‘windfall tax’, which the governing Conservative Party for months set its face against. Denying he was making a U-turn, Sunak said “we should not be ideological about this, we should be pragmatic”, and said this is a “solid sticking plaster”. Solid or not, it’s still a sticking plaster – it doesn’t treat the wound. He may help the poor but risks drowning everyone in debt, out of control inflation, and money that’s losing its value. It’s short-term thinking.

Free money for all

The wholesale price of natural gas has risen in the UK by 335% in the past 12 months. The Resolution Foundation, a British think-tank which aims to “improve the standard of living of low- and middle-income families” reckons that almost 10 million families in England will be in fuel ‘stress’ come winter, which it defines as spending at least a 10th of their total budgets on energy bills. Discounting possible exaggerations, some in the UK will struggle with the ‘heating or eating’ dilemma later this year.

In February this year, Sunak announced a £200 loan for every household to ease the pain of rising energy bills; he’s now doubled that amount (why not triple it?) and has scrapped the need to repay it. Eight million “low-income households” will get £1,200 ($1,509) this year. Every household, regardless of wealth, will get a £400 ($505) payment. The Sunday Times ‘rich’ list puts Sunak and his wife’s wealth at £730 million ($922 million); he has said he will be donating his £400 to charity. Boris Johnson, Prime Minister, will also get £400, although he has declined to say he will give the money to charity. If the UK had a Central Bank Digital Currency (CBDC) then perhaps this freebie could be better targeted, and not land in millionaires’ bank accounts?

Cynics suggest Sunak’s altruism might have as much to do with Prime Minister Boris Johnson’s wish to avoid a voter backlash for allegedly breaking Covid-19 ‘lockdown’ rules. Many UK citizens are battling the cost of living ‘crisis’; some 20% of Brits are struggling ‘to pay their bills’ according to one opinion poll.

Source: British Gas

Who is to blame for this bout of inflation, the highest in four decades on both sides of the Atlantic? Not the Russian army, although it hasn’t helped – energy prices were going up before 24 February, when it invaded Ukraine. Could it be the supposedly greedy energy companies, who now face a time-limited windfall tax of 25%? Not really – natural gas and crude oil prices are set in an international futures market, with a myriad of different types of participant. This market responds to a wide range of factors such as supply and demand, as well as speculative ‘investors’ hoping to make money. Could it be China, the world’s workshop, where city-wide Covid-19 ‘lockdowns’ have disrupted global supply chains? Or maybe our governments bear some responsibility?

That’s certainly the view of Mervyn King, former governor of the Bank of England (BoE). In his words: “governments stepped in and put in a lot of money for furlough schemes or raising unemployment benefits. That was very sensible… The problem was that central banks also printed a great deal of money and that wasn’t needed… it put a lot of money into the system”. The US Federal Reserve created about $4.8 trillion. In the UK, the government added billions to the money supply; around £3 trillion is now circulating.

It’s only money

So far, including measures announced earlier this year, the UK’s unbudgeted spending amounts to £37 billion. Sunak has said the inflationary impact will be “minimal”, “much less” than 1%. The windfall tax will help, but more than £30 billion will need to be borrowed or created and added to general government gross debt, which at the end of 2021 stood at almost £2.4 trillion, equivalent to 102.8% of gross domestic product (GDP).

It’s possible that Sunak will do another emergency package in 2023. We must all hope that he doesn’t, or that if he does it will ensure that any give-away is directed to people who really need it, and perhaps tie it to the bills they face.

Even those of us who don’t have university degrees in economics have probably heard the classic definition of inflation – too much money chasing too few goods. Giving away ‘free’ money to the poorest in society is undoubtedly the morally ‘right’ thing to do. But put together inflation forecasts of 10% in the UK by the end of this year; the estimated loss to British taxpayers of almost £5 billion from fraud and error in a government Covid-19 support scheme ; a budget deficit of some £318 billion (in 2020/21), equivalent to almost 15% of gross domestic product (GDP) and around £4,800 per capita, a peacetime record; and giving £400 to every household, no matter whether they need it or not, just seems crazy.

Not all of the £15 billion will be used to pay energy bills. Sunak may help save the poor but the risk is that he sinks everyone further into the debt & inflation mire, further eroding the value of the Pound – which by the end of this year is likely to have lost 10% of its purchasing power.

Prices still bubbling

In the US, prices were 8.3% higher in April than a year ago, a slight reduction from the previous month’s 8.5%. The Federal Reserve long-term inflation ‘target’ of 2% per year is likely to be out of reach for months, if not years. Despite official suggestions that inflation in the US is due to ‘supply chain’ problems, or people not returning to work after Covid, it’s has been driven largely by the Federal Reserve. Between March 2020 and the end of 2021 the Fed increased the M2 measurement of money supply (which includes cash in circulation, and check and savings accounts) by 42% in just 22 months, putting $6.4 trillion into the US economy.

The Federal Reserve succumbed in the Covid-19 pandemic to short-term thinking – in the early days when deaths were mounting and no vaccines were available, governments panicked and locked us all down. Many of us could not go to work. There was a generalised sense that ‘government must do something’ – and it did. In the US, it sent about $11,400 to an average family of four, regardless of job status. In the UK, this kind of short-term, knee-jerk government thinking can be seen in Sunak’s latest give-away. The British government has given an estimated £169 billion ($213 billion) to its citizens and businesses.

Opinions are deeply divided as to what has caused this inflation. Fundamentally however, the blame must be shouldered by governments who did not feel or did not make time for any long-term thinking – they preferred to inject massive amounts of cash into their economies to make voters believe they were being cared for. Politically this was no doubt necessary. Morally it was easily justified. Economically, it will in retrospect come to be seen as a huge mistake, vastly disproportionate. The Obama administration’s stimulus package for the 2008 recession was $787 billion; the pandemic stimulus packages, between the Trump and the Biden administrations, reach around $5 trillion. Some economists predict that the US will “likely see” an increase in its “overall price level of approximately 27%” over the next few years, with the magnitude of the price rise being “a function of the amount of excess broad money that has been created in the past 18 months”.

Fiat money will continue to see its purchasing power wane. Confidence in the managerial competence of governments will become more fragile.

When Andrew Bailey, governor of the Bank of England (BoE) told the British Parliament that he felt “helpless” in the face of soaring inflation he scored full marks for honesty, although nothing for usefulness. Consumer price inflation in the UK hit 9% in April (up from 7% in March), the highest for more than 40 years, and almost double the rate the Bank of England expected only six months ago. Bailey said it’s “a very, very difficult place for us to be in”. He’s dead right about that.

But it’s an even more difficult place for those on the average salary of about £24,600 a year than it is for someone on the £500,000-plus salary of the BoE governor. The cost-of-living crisis hits lowest income households hardest, simply because they spend a greater proportion of their income on fuel and food – and the price of those items is going up fast.

In the UK there is growing pressure on the government to ‘do something’, i.e. to provide money to cushion the blow for poorer households, for families and people on fixed incomes (such as students or pensioners), and for the unemployed who are living on welfare payments. These people certainly are in a ‘very, very difficult place’.

It isn’t all the war’s fault

Much of the inflation can be laid at the door of the Ukraine war but prices of essential commodities were on the rise months before the first missiles flew.

The international benchmark for wheat went up by almost 50% from the end of May 2020 and the same date in 2021. Arabica coffee – the kind that goes into premium blends – rose on futures’ markets by more than 85% between May 2021 and the start of February this year, before the Ukraine war erupted. Weather factors account for both of these price rises. A severe drought in Canada cut its wheat harvest by more than 38% in 2021, while a rare but severe frost has slashed the Arabica crop in Brazil, the world’s biggest producer.

Crude palm oil prices, as measured by the international benchmark on the Bursa Malaysia exchange, doubled between the end of May 2020 and the same date in 2021. A desperate (Covid-induced) shortage of migrant workers in Malaysia in 2020 meant the country (the second-biggest palm oil producer after Indonesia) turned in its lowest palm oil crop since 2016. That inevitably increased demand from Indonesia, and pushed up prices to record levels. In the past two years, crude palm oil prices have risen by 197%, from Ringgit 2,240 ($508) to Ringgit 6,653 ($1,510) per tonne. Palm oil, which represents a third of the world’s vegetable oil market, is used in everything from biodiesel to catering to lipstick; substituting with alternatives is either difficult or expensive. Indonesia banned palm oil exports on 28 April as a protectionist measure although, under enormous domestic pressure, it now says it will lift that ban today.

The war has certainly not helped. Ukraine is the biggest exporter of sunflower-seed oil (a partial substitute for palm oil); since the start of the war millions of tonnes have been stuck in warehouses, blocked from export. Ukraine has been unable to export 10 million tonnes of sunflower seed – which, when crushed, turns into some four million tonnes of sunflower oil – since the start of the war. Estimates for this year’s Ukraine harvest of grains and oilseeds are falling fast, the longer the war continues – around 60 million tonnes against 100 million last season. The boss of Ukraine’s leading sunflower oil exporter says: “We’ll have huge stock inside Ukraine, and no stock and no goods for the market outside Ukraine… It’s big damage for the food security of the global world, and a big problem with liquidity for the company and the farmers inside Ukraine”. Andrew Bailey told the English Parliament this is “not just a major worry for this country, but a worry for the developing world. I’m sorry for being apocalyptic, but it is a worry”. The global food crisis, which has pushed food prices some 30% higher than they were a year ago, could last for “years” according to the UN secretary-general. This rapid inflation will shortly push poor nations into debt distress – Sri Lanka has already defaulted on its sovereign debt. The World Bank president, David Malpass has warned that as many as “60% of the poorest countries right now are either in debt distress or at high risk of being in debt distress”. It brings to mind the German writer Bertolt Brecht’s dictum Erst kommt das Fressen, dann kommt die Moral (food first, then morality). If food becomes impossibly expensive, governments have few choices: they can flood the populace with newly created money; they can try to enforce ‘demand rationing’ (a euphemism for simply saying things have become unaffordable) or risk social disruption.

Nor does it stop with cereal and oilseed prices. Ukraine produces something between 70% and 90% of the world’s neon gas, an essential component of the microchips used to manufacture smartphone and computer screens. Production and export of this gas will be affected by the war.

We all know the shocking price rollercoaster in crude oil – from almost $150 a barrel in July 2008 it collapsed to below $20/barrel in April 2020, only to rocket back to $127/barrel on 8 March this year.

Black cygnet events

The last few years have seen not so much a single ‘black swan’ event – a single massively disruptive episode – as a series of ‘black cygnet’ events, occurrences that in isolation might be tolerable but which, coinciding with and overlapping one another, have severely disrupted trade and finance. Such ‘cygnets’ are the US-China trade war, the Covid-19 pandemic, supply chain disruptions, Russia’s war with Ukraine, sanctions and export controls. All have created a fragmented, febrile global marketplace for many basic goods. According to the chief economist of the World Trade Organization, Bob Koopman, “fragmentation” is here to stay.

It’s not so much fragmentation as a re-jigging of what we had become accustomed to thinking of as the stable international order.

As the European Union struggles to achieve a united front in its planned embargo of Russian crude oil , China appears ready to re-stock its energy reserves with Russian oil. At the same time the US is contemplating dining with a former devil, Venezuela. The South American country has massive crude oil reserves that will perhaps come in useful.

Little fires

In this context of radical uncertainty, it’s no surprise that people are searching for ways to protect their wealth, no matter how large or small. This has induced a rush to the US Dollar, widely regarded as a safe haven. The Dollar has appreciated by about 10% since the start of 2022. There are widespread expectations that the US central bank, the Federal Reserve, will raise interest rates more aggressively than other central banks, and that will be a further enticement to head for the Dollar.

But a stronger Dollar brings its own risks. Credit availability declines, which reduces real investment and therefore growth. And the Bank for International Settlements (BiS) has published a paper arguing that a decline in the value of a country’s currency against the US dollar triggers a decline in real investment in that country – and when emerging economy countries are already struggling with high debts and serious inflation the last thing they need is a slowdown in real investment. The economist Mohamed El-Erian has asserted that we may be facing a worldwide pattern of ‘little fires everywhere’. We may feel that annual official inflation rates of around 10% are beyond toleration; but our cost-of-living crisis pales into insignificance by comparison with the real and growing fear of famine in some African countries. Little fires if unattended can easily become conflagrations.

One of the most peculiar developments in the cryptocurrency universe – or should that be metaverse? – is the creation of so-called Stablecoins. Peculiar, because many of these digital tokens are directly pegged to a fiat currency, usually the US Dollar. The question arises – why hold digital tokens instead of the real underlying asset? Stablecoins are typically used by crypto traders who want to keep their money invested on a crypto exchange and deal in different crypto investments without paying high fees. They are also used for cash transactions between crypto businesses.

According to the DeFi Rate website, a site that compares different decentralized digital tokens, “stablecoins present a new paradigm to navigate the endless opportunities blockchain protocols provide without having to worry about ever-changing prices. For the average user, stablecoins provide much-needed comfort in terms of a reliable medium of exchange”.

That “much-needed comfort” was in short supply last week. In what several commentators have called “the craziest week in crypto ever” a leading Stablecoin, UST, an algorithmic digital token without reserves but which was designed to stay pegged to $1, fell to 13 cents. The UST Stablecoin is the creation of Terra, a blockchain protocol that “supports price-stable global payment networks by using stablecoins backed by fiat currency”.

Its value is linked to a South Korean-based cryptocurrency called Luna, formerly a top 10 coin by market capitalisation. From its peak of around $120 last month, Luna collapsed to zero; in a ripple effect, more than $200 billion was wiped from the cryptocurrency market in 24 hours. Shares in Coinbase, the largest cryptocurrency exchange in the US, dropped to just above $40, 90% down from its debut price of April 2021. The collapse was brought about by a technical change – the interest rate on Terra’s savings account, an astonishing 20%, has been steadily dropping since March and was expected to fall further. Investors in the Terra network took note and headed for the exit – which rapidly became jammed and exchanges started pausing withdrawals, which ratcheted up the panic.

Amid high inflation, inverted bond yield curves (higher rates for the two-year US Treasury bond than for the ten-year, showing that investors are reluctant to commit their money to a long-term outlook) and growing noises about the inevitability of a recession, the search for stability in a very uncertain market is growing. A yield curve inversion is widely seen as signalling that a recession is ahead; a yield curve inversion has preceded every single US recession since 1955, according to the Federal Reserve Bank of San Francisco.

Down but not out

There have been industry-shaking moments in cryptocurrency before, the spectacular Mt Gox hack being perhaps the most memorable. At its peak in 2013, the Mt Gox cryptocurrency exchange, based in Tokyo, handled 70% of all global Bitcoin transactions. Hackers accessed and stole 740,000 Bitcoins from Mt Gox customers and another 100,000 from the company and it was bankrupt by the end of February 2014, leaving many people nursing huge losses. Cryptocurrency fans were not deterred by the Mt Cox debacle; neither will they be by the implosion of Terra’s UST. Some suggest the fidelity of cryptocurrency’s supporters is irrational and more akin to religious faith than rational asset allocation – Mark Mobius, the emerging market fund manager, has said that “crypto is a religion, not an investment”. There is a ‘Church of Bitcoin’ , which says it has “a simple and clear mission. We want to free the world from the oppression that is currently enabled by government and central bank control over exchange. We believe that any two consenting parties should be able to freely exchange or trade without any governing body or third party interfering with their transaction. We believe that bitcoin will enable us to achieve that reality” and its “prophet” is Bitcoin’s supposed creator, Satoshi Nakamoto.

The biggest Stablecoin, Tether, pegged to the US Dollar, also briefly broke that 1-to-1 Dollar peg, dropping to 95.11 cents on Thursday last week before recovering. Tether claims to have $80 billion of assets backing its 80 billion coins in circulation, although it refuses to detail how these apparently massive reserves are managed.

Like Christianity in ancient Rome, or drinkers in 1920s Prohibition America, cryptocurrency will survive and change not because of its quasi-religious adherents but thanks to its central mission – to by-pass a system (banking) that has lost respect. Commercial banks and central banks have yet to regain the trust they sacrificed in the wake of the 2008 Great Financial Crash. Nakamoto hit the nail on the head when he wrote that what “is needed is an electronic payment system based on cryptographic proof instead of trust”.

But that may not be true for Stablecoins

In the US, there is nothing new about privately produced money; the so-called Free Banking era existed between 1837 and 1864. “That system was curtailed by the National Bank Act of 1863, which created a uniform national currency backed by US Treasury bonds. Subsequent legislation taxed the state-chartered banks’ paper currencies out of existence in favor of a single sovereign currency”. The financial instability of the Free Banking era, with its numerous bank failure, meant the Union felt it necessary to take charge of money, its issuance and circulation. Could a similar fate be in store for Stablecoins?

The US Federal Reserve, the Bank of England, the European Central Bank and the Bank for International Settlements (BiS) have all warned about the current unregulated status of Stablecoins. The BiS wrote in 2019 that Stablecoins that “reach global scale could pose challenges and risks to monteray policy, financial stability, the international monetary system and fair competition”. The Financial Times, which generally has a hostile view of cryptocurrencies, says that “Stablecoins can prompt banklike runs yet enjoy the scant regulation of the cryptosphere” and that the risk of continued regulatory “inaction is that financial stability is threatened by stablecoins’ next, bigger wobble”. Janet Yellen, US Treasury Secretary, commented on the Terra US flop: “I think that simply illustrates that this is a rapidly growing product and that there are risks to financial stability and we need a framework that’s appropriate”. In its Financial Stability Report published last week, the US Federal Reserve repeated its view that Stablecoins are vulnerable to runs. With this kind of multi-directional onslaught it is increasingly likely that Stablecoins will become subject to US regulation this year. Central banks everywhere regard Stablecoins as a threat to their plans for Central Bank Digital Currencies (CBDCs), to their power over the circulation of money. As we have long argued, those banks are unlikely to cede that power to private money such as Stablecoins – especially if they prove not to be ‘stable’ after all. They can use the ‘consumer protection’ argument to regulate and stifle them.

Meanwhile, the search for stability is becoming more intense, as inflation erodes the purchasing power of fiat currencies, cryptocurrencies appear more and more a speculative asset (when speculation is no longer in vogue), and leading stock markets either approach or already are in a bear market (falling 20% below their previous peak).

In this overall gloomy economic context gold, which in US Dollar terms has dropped from $1,829.34/ounce at the end of 2021 to $1,811.68/ounce – i.e. less than 1% – is a haven of stability. In Pound Sterling terms, gold has more than held its own, up by more than 9% since the end of 2021 (£1,351.76/ounce) and today (£1,477.45/ounce).

At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isnt 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.

Welcome news last week – interest rates have started to rise on both sides of the Atlantic. The US Federal Reserve and the Bank of England (BoE) finally recognise that the current inflation spike is no transient problem.

But it’s premature to put out the flags and give three cheers – these rate rises will do nothing to quash inflation. They were too paltry for that. Central banks on both sides of the Atlantic are sitting between a rock – worries that inflation is starting to run out of control – and a hard place – worries that efforts to control inflation by putting up interest rates are going to be too little, too late.

The conventional economists’ way of dealing with inflation is that central banks must raise interest rates. That makes credit more expensive; people will spend less and tighten their belts and might even save a bit with higher rates. That conjunction of events will lead to an economy which runs ‘cooler’. At least, that’s the theory.

Only eccentric autocrats such as Turkey’s President Recep Tayyip Erdoğan think that cutting interest rates can quell inflation. Good luck with that Mr President; Turkey’s annual inflation rose to almost 70% in April, the highest for two decades.

So in the face of news that US consumer prices rose by 8.5% in March on an annualised basis – the highest in 40 years, the Fed last week “delivered the biggest interest-rate increase since 2000” said Bloomberg; the increase was .50%, meaning that the federal funds rate (the interest rate banks use to lend to each other on a short-term basis) will now be 0.75% to 1%. Jay Powell, chairman of the Fed, told Congress in early March that hindsight “says we should have moved earlier”.

The UK’s official inflation rate in March was 7%. So the BoE hiked the UK rate from its previous 0.75% to 1%. The gloom deepened as the Bank also said that inflation will reach more than 10% by the end of this year and a recession will happen – the Bank expects the UK economy to contract by 0.25% in 2023 and remain weak in the next two years.

Half a year ago the BoE thought UK inflation would peak at 5%. As for the US, Jay Powell, chairman of the Fed, has long been tarred with his ‘inflation is transitory’ message. The US is now saddled with a negative interest rate of 8% – Dollars held in cash are losing 8% of their purchasing power. As one commentator put it, “while policy is being tightened it could scarcely be called tight”.

Inflating the bubbles

Who has confidence in central bankers’ predictions about the future? After getting things wrong, and egregiously wrong for so long, their credibility is at rock-bottom.

Yes, there have been some shocking ‘black swan’ (i.e. unpredictable) events (Russia’s invasion of Ukraine being the most extreme example) but prior to that the US, UK and Eurozone economies handled the Covid-19 pandemic extremely poorly. The knee-jerk lockdowns (still being imposed in China) paralyzed the global economy, created all kinds of supply-chain bottlenecks (some remain, reducing exports and pushing up prices), and prevented all kinds of migrant workforces from taking up jobs. Why are vegetable oils in short supply today and much more expensive? Yes, Ukraine is a major global supplier of sunflower oil and its exports have fallen because of the war. But the palm oil plantations of Malaysia, the world’s second biggest producer of palm oil, a vegetable oil used in many different consumer products, depends on migrant labour to pick the palm oil fruits from their trees. Under Covid restrictions tens of thousands of migrant workers could not travel, Malaysia’s palm oil exports dropped, and prices soared. The war in Ukraine has merely worsened a pre-existing situation.

Under Covid, interest rates were cut to zero, and ‘quantitative easing’ programmes, large scale asset buying by four leading central banks (which began in 2009 ) continued, and expanded their collective balance sheet to more than $26 trillion. The Fed’s balance sheet has expanded from under $1 trillion pre-2008 to close to $9 trillion today. Now the Fed will embark on a reversal of this policy – ‘quantitative tightening’ will start at a monthly pace of $95 billion, more than double the amount it tried to trim its balance sheet during 2017-19. Back then this tightening saw stock prices tumble and the Fed quickly withdrew the tightening, in March 2019.

On top of that governments flooded the market with trillions of newly-created fiat money to ‘support’ people who were barred from their employment and businesses that couldn’t function. Sometimes these measures were bizarre – in the UK, the government introduced in August 2020, when the pandemic was still in full flood, the so-called ‘Eat Out to Help Out’ scheme, at a cost of £840 million, whereby the government provided 50% off the cost of food and/or non-alcoholic drinks at participating restaurants. And the many ‘support’ schemes were inevitably ripe for criminal activities, stealing from the government/taxpayers. In the US, the Secret Service reckons that around $100 billion of pandemic relief funds was stolen.

The era of ‘cheap money’ – which for 13 years has fuelled bubbles everywhere, in stock markets, housing markets, cryptocurrencies – may be coming to an end, but like a super-tanker the inertia could take a while to slow down – the bubbles may carry on inflating for a while yet. In the US, unit labour costs – the full cost of employing each worker – are currently rising their fastest in four decades. In Germany, the biggest trade union, IG Metall, which represents 85,000 steelworkers, is now demanding a wage increase of up to 8.2%. The IG Metall wage discussions are widely seen as providing a benchmark for wage increases across the Eurozone. The biggest fear for the European Central Bank (ECB) – tackling record Eurozone inflation of 7.5% – is that this wage negotiation could spark an inflationary ‘wage-price spiral’. In the UK, average house prices are more than 12% higher year-on-year. In the US, the median existing house price is up by 15% year-on-year; “owning a home is becoming unaffordable for many Americans”.

Crisis – what crisis?

Central bankers are human beings like us. They are as sensitive to pointed fingers and accusations of having made a mess of things as any of us. When we are found to have failed in some important task it’s normal to try to brazen it out.

So we should not be surprised that in the US the chair of the Fed, Jay Powell, in the UK the BoE’s governor Andrew Bailey, and at ECB’s president Christine Lagarde are all putting on a brave face and hoping that the current high inflation levels can be brought back to their ‘targets’ of 2% without the need for much higher interest rates – which would push the post-Covid economic recovery off-course. But they are going to need a lot of good luck – they and other central bankers are “flying on a wing and a prayer”. More consumer pain is on the cards. The ‘cost of living crisis’ is likely to mutate into a combined ‘cost of living+recessionary pressures crisis’ – that is, stagflation, a condition in which we will have higher inflation, lower growth, and possible recessions in many economies.

Nor should we discount the possibility that central banks, listening to their governments perhaps, may consider letting inflation run a little higher than their target of around 2%. Higher inflation reduces the real value of debts, as it causes the value of a fiat currency to decline over time. Slow, chronic inflation is the most politically palatable way of reducing national debt in a way that is almost imperceptible to the electorate. With the US national debt now more than $30 trillion and crucial mid-term elections in the US set for later this year, President Joe Biden and his economy officials are walking a tightrope suspended over a deep canyon.

President Vladimir Putin is angry not just with Ukraine, but with the West generally. That’s one reason why one of his closest associates has suggested he is flirting with the idea of pegging the Rouble to gold – along with defeating NATO, the Dollar needs to be humbled. The war against the West will have two strands to it – missiles and money.

Nikolai Patrushev, the secretary of Russia’s Security Council and a close Putin ally, told the Russian government newspaper Rossiyskaya Gazeta that proposals on pegging the rouble’s value to gold (and other goods) were being drawn up. “The most important condition for ensuring Russia’s economic security is reliance on the country’s internal potential” he said. Russia is a big gold producer; about 10% of gold globally mined each year comes out of Russia.

But Elvira Nabiullina, governor of Russia’s central bank, dismissed Patrushev’s suggestion. She told a press conference that a gold peg for the Rouble “is not being discussed in any way”.

Who should we believe? One of Putin’s buddies, the former KGB man who will be standing-in for Putin while Putin supposedly has cancer treatment, or the largely respected (in the West, that is), Nabiullina, who reportedly wanted recently to resign but was pressed by Putin to stay put?

Mind you, reliable information from the Kremlin is at a premium these days, not least when it comes to gold. On 25 March, the Russian central bank announced that it would buy gold at the fixed price of 5,000 Roubles ($52, which was then about $16 below the prevailing market price) per gram (or 155,500 Roubles an ounce) until the end of June, only to abruptly change course 10 days later (after the Rouble recovered its previously lost ground) and said it would buy gold at ‘negotiated’ prices . Maybe it’s only a matter of time before Putin resurrects the chervonets, the traditional Russian name (derived from “червонное золото” meaning red gold) coin.

Russia has long regarded gold as having a special status; under Stalin the amount of gold held by Russia was a state secret. He refused to join the International Monetary Fund (IMF) when it was created at Bretton Woods in 1944 largely because it would have committed Russia to disclosing details of the country’s gold reserves and production.

Just as Russia may be returning to an earlier era regarding money, so too it seems to be headed for an earlier time politically. The family of the last Tsar, Nicholas II, came to rely heavily on a bearded Russian peasant/mystic/weirdo named Rasputin. Putin has his own Rasputin, in the form of a bearded “fascist prophet” named Aleksandr Dugin, who has been referred to as ‘Putin’s brain’. Dugin promotes the idea that there is a conflict between ‘Atlanticism’ (shorthand for the US and Britain) and ‘Eurasianism’. He has written of the US being a “common enemy” to Moscow and most of Europe and has claimed that “the battle for the world rule of [ethnic] Russians has not ended”.

Into this troubling cauldron is thrown Russia’s 2,301 tonnes of gold, which is about 20% of its official reserves. It’s a puzzle as to what Putin has in mind for this gold; some insist that Russia is positioning itself to move the Rouble to a gold standard. But headlines asserting that Russia has already moved to a ‘gold standard’ are misleading – for that to be the case the central bank would have to agree to buy and sell gold at a fixed parity to the Rouble – and that’s not the case.

From Rasputin to Dugin

Dugin’s delusions are set out in his 1997 book Foundations of Geopolitics, which preaches Russian rule ‘from Dublin to Vladivostock’, using military means, disinformation and leveraging natural resources. Dugin clearly has clout; he has delivered courses for Russia’s military General Staff Academy. In March this year, Foreign Policy asserted that the “recent invasion of Ukraine is a continuation of a Dugin-promoted strategy for weakening the international liberal order”. Putin and his circle genuinely do not believe Ukraine is a real country. For them Ukraine has become mistakenly separated from Russian civilization; Ukraine needs to be reconnected with its motherland, Russia. “We no longer accept that the US is boss… we are going to fight, up to the end, in order to show to everybody that United States is not any more [the] unique master”. Dugin’s words in October 2016. If Putin pays as much attention to this latter-day Rasputin as it’s claimed, the Ukraine war will drag on for years and spread: it’s a war to defeat the West.

But it’s an open question whether Russia can afford such a war. It’s been bad enough for Ukraine, which will experience a massive slump and has suffered at least $565 billion in economic losses; Ukraine has lost more than half of its export capacity according to estimates from the Vienna Institute for International Economic Studies. Russia may be spending as much as $20 billion a day.

Testing times

Russia, Russian oligarchs, and public personalities have been targeted by wide-ranging US, Canadian, and European state sanctions but members of the European Union (EU) are struggling to achieve unanimity to hit Russia where it would really hurt – banning imports of Russian fossil fuels, gas especially. Self-interest is getting in the way.

Robert Habeck, Germany’s economy minister and deputy chancellor, said on Monday this week that it’s “inconceivable that sanctions won’t have consequences for our own economy and for prices in our countries… We as Europeans are prepared to bear [the economic strain] in order to help Ukraine. But there’s no way this won’t come at a cost to us”. Russia has told fuel importers that henceforth payments must be in Roubles via Gazprombank but Brussels has warned EU states that to do so will breach EU sanctions.

But this is a two-way dependency – while around 30% of Europe’s gas needs are met by Russia, Russia is dependent on Europe to buy 90% of its gas. “The reality is that Russia needs the European energy market more than Europe needs Russian gas”.

No doubt Russia wants to push the Dollar from its perch as the world’s international reserve currency but as of today that looks like a remote possibility. The Dollar has reached its highest in 20 years; the Dollar index, which measures the Dollar’s strength against a basket of other developed world currencies, has reached close to 104, the strongest since 2002. The Dollar has risen by more than 8% so far this year – promises by the US Federal Reserve to keep ratcheting up interest rates, while other leading central banks seem reluctant to raise rates, are helping the Dollar’s rise. The Yen has simultaneously dropped to a 20 year low; the Renminbi, China’s currency, dropped more than 4% in April, its steepest monthly fall on record. The Dollar remains king – the Rouble and Renminbi are no-where.

The immediate priority for Russia is to defend its fiat currency, the Rouble. It’s taken steps to do that by requiring buyers of its energy to pay in Roubles, which now are partially linked to gold, and some big buyers – such as Hungary – have said they are willing to do that. Russia has almost a quarter of the world’s natural gas reserves, and the developing world, particularly India and China, need that gas. They will happily pay for it in Roubles, or gold. Russia’s gold reserves mean it can continue being part of the international economy, despite all the sanctions that have been imposed.

A gold-backed currency is perhaps the only way to topple the Dollar. As one commentator has argued, “foreign countries don’t want to switch from a US-controlled fiat, to a Chinese-controlled one. However, gold makes money neutral, and that is something everyone can get on board with”. Watch this space.

If someone last June said that US inflation (then 4.2%) was due to “transitory factors” , and less than a year later the consumer price index had doubled (to 8.5% ) then we might understandably be sceptical about their ability to see what lies ahead.

Janet Yellen, the US Treasury Secretary was wrong about the trajectory of inflation; it is not due to transitory factors. That hasn’t stopped her from floating a humpty-dumpty fantasy about the international monetary order.

Last week, Yellen told the Atlantic Council she would like to see “friend-shoring” replace the kind of dog-eat-dog system we now live with. What does she mean by “friend-shoring?” It seems to hark back to a kind of Bretton Woods system. Yellen said that “friend-shoring means… that we have a group of countries that have strong adherence to a set of norms and values about how to operate in the global economy and about how to run the global economic system, and we need to deepen our ties with those partners and to work together to make sure that we can supply our needs of critical materials”.

Yellen is echoing the words of October 2020 from Kristalina Georgieva, managing director of the International Monetary Fund (IMF), who then said “today we face a new Bretton Woods ‘moment’. A pandemic that has already cost more than a million lives. An economic calamity that will make the world economy 4.4 % smaller this year and strip an estimated $11 trillion of output by next year. And untold human desperation in the face of huge disruption and rising poverty for the first time in decades. Once again, we face two massive tasks: to fight the crisis today— and build a better tomorrow”.

Both Yellen and Georgieva are echoing the words of the former French President, Nicolas Sarkozy, who said at the height of the Great Financial Crash in September 2008: “we must rethink the financial system from scratch, as at Bretton Woods”. Neither Yellen nor Georgieva could have guessed that the Russian president would have a rush of blood to the head. The invasion of Ukraine has shown how some nations are uninterested in international co-operation.

Alas, Bretton Woods

In July 1944, when guns were still blazing in Europe and Asia, representatives of 44 Allies nations met at the Washington Hotel in Bretton Woods in the US state of New Hampshire. They agreed to establish rules, institutions, and procedures to regulate the international monetary system and thus discourage ‘beggar-thy-neighbour’ devaluations, whereby countries would devalue their fiat currency to make their exports relatively cheaper. In 1944, when the Nazi attempt to force on the world a warped empire was clearly going to be defeated, there was an appetite for international co-operation, a ‘never-again’ mood gripped the corridors of power.

Bretton Woods gave birth to the IMF and the International Bank for Reconstruction and Development (IBRD), which is now part of the World Bank. The US then controlled two-thirds of the world’s gold. It insisted that the Bretton Woods system rest on both gold and the US dollar. Notably, representatives of the USSR attended the conference but declined to ratify the final agreements, charging that the institutions they had created in fact represented the interests of capitalism. Certainly Bretton Woods reflected US interests. The Bretton Woods system required countries to guarantee convertibility of their currencies into US Dollars to within 1% of fixed parity rates, with the Dollar convertible to gold bullion for foreign governments and central banks at $35 per troy ounce of gold. The US Federal Reserve says that Bretton Woods was “an unprecedented cooperative effort for nations that had been setting up barriers between their economies for more than a decade”.

The Nixon coup-de-grâce

Alas, that mood of international co-operation and harmony did not last; essentially it died from twin evils that face us again today – inflation and a massive expansion of the amount of fiat Dollars in circulation, which the US needed to fund the Vietnam War (which cost about $1 trillion in today’s Dollars).

All fiat currencies in the Bretton Woods system were required to be convertible, which meant they could be exchanged for physical gold or for other currencies that could be exchanged for gold. Foreign central banks were willing to hold US dollars because, at the time, they were readily convertible into gold upon demand. But Bretton Woods did not regulate the price of gold as a commodity; its price could fluctuate due to variations in private industrial and financial demand. If the free market price rose above $35/ounce (the peg set by Bretton Woods), central banks had the incentive to redeem US dollars for gold and then sell the gold for a higher price in other markets.

Keeping that $35/ounce peg was tricky – the price of gold on the private market often exceeded that. In 1961, eight nations decided to pool their gold reserves to defend the $35/ounce gold peg and stop the price rising – the Gold Pool was born. The US allocated 120 tonnes to the pool, half the total. Germany supplied 27 tonnes. The United Kingdom, France, and Italy each provided 22 tonnes. Belgium, the Netherlands, and Switzerland each put in 9 tonnes.

Inflation of the money supply in the US, partly to fund the Vietnam War, led the US by 1965 to lose a cumulative $3 billion from supporting the London Gold Pool. France was repatriating US dollars to America to obtain physical gold. In 1967, France withdrew from the Pool. When the UK devalued the pound by 14.3% on 18 November 1967 the run on physical gold reserves in the London Gold Pool accelerated.

The Gold Pool fell apart as the widening US deficit meant increased speculation against the Dollar; central banks became increasingly reluctant to accept Dollars in settlement. The US government continued to ramp up inflation of the money supply, leading West Germany to withdraw from the Bretton Woods system in May 1971 and Switzerland and France to do so in August 1971. So many US dollars were being repatriated to the US Treasury that gold reserves fell to their lowest levels since 1938. The value of the US dollar was falling even faster against other currencies.

In August 1971, President Richard Nixon announced to the nation the “temporary” suspension (which became permanent) of the Dollar’s convertibility into gold. It was the end of the Bretton Woods system; by March 1973 all the major currencies started to float against each other. An era of fixed exchange rates, of financial certainty… of international cooperation, was over.

This isn’t 1944

There may be parallels with the lead up to 1944 – the appeasement of a vicious bully, the drift into war, the slaughter of innocents, all come to mind. There is one especially alarming similarity with 1944.

Then there were voices who wanted to reduce Germany to one large farm, believing that would prevent it from rising again. Stalin wanted to see 50,000 alleged National Socialists executed. Fortunately those policy mistakes, which would have thrown grit into the post-war world, didn’t happen. Yet the US Secretary of Defense, Lloyd Austin, now says that US policy is to see Russia’s military capabilities “weakened to the degree that it can’t do the kinds of things that it has done in invading Ukraine”. It’s unthinkable that Russia will ever knuckle under to that, much as the West might yearn for it. Painting enemies into corners is never sensible.

But this isn’t 1944 and any hope of re-building the kind of international co-operation that resulted in Bretton Woods is just a humpty-dumpty fantasy; he fell off a wall, became broken, and all the king’s horses and king’s men couldn’t put him together again. Currencies – the US Dollar especially – has been weaponised and weakened by the imposition (necessary no doubt) of sanctions against one nation that clearly isn’t interested in international co-operation. Countries unhappy with the US hegemony of money and power are scratching their head trying to find ways of transacting and storing value that circumvent the currencies and financial markets of the US and its allies. The digitisation of value via cryptocurrencies, the growth of stablecoins, the development of Central Bank Digital Currencies, makes the creation of a Bretton Woods mark 2.0 so much more complicated, as does the spread of ownership of gold.

Martin Wolf, the Financial Times chief economics commentator, wrote a recent column speculating what might replace “today’s globalised national currencies”. He thought there might be four candidates: “private currencies (such as bitcoin); commodity money (such as gold); a global fiat currency (such as the IMF’s special drawing rights); or another national currency, most obviously China’s”.

China’s Yuan doesn’t hack it for Wolf because “China’s financial system is relatively undeveloped, its currency is not fully convertible and the country lacks a true rule of law… While holders of the dollar and other leading western currencies might fear sanctions, they must surely be aware of what the Chinese government might do to them, should they displease it”.

As for gold, which for centuries has been used as a universal medium of exchange, Wolf dismissed it because it is “hopeless in making transactions”. He’s clearly never encountered Glint, which has made transactions in gold as simple as falling off a wall.

At Glint, we make every effort to demonstrate a balanced conversation between gold, crypto and fiat currencies when it comes to purchasing power and, while we strongly believe that gold is the fairest and most reliable currency on the planet, we need to point out that it isn’t 100% risk free. While we have seen a steady increase over time, the value of gold can fall, which means that its purchasing power can also decline.