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The Falling Productivity of Debt

Discounting the Present Value of Future Income

Last week, we discussed the ongoing fall of dividend, and especially earnings, yields. This Report is not a stock letter, and we make no stock market predictions. We talk about this phenomenon to make a different point. The discount rate has fallen to a very low level indeed.

We add this chart to provide a slightly different perspective to the discussion that follows below (and the question raised at the end of the article). This is a very simple ratio chart, which focuses on non-financial corporate debt in particular, as neither consumer debt nor government debt can be considered “productive” by their very nature – the latter types of debt are used for consumption, which they “pull forward” (as an aside, we don’t believe there is anything wrong with consumer debt per se, but it is not “productive”). As the recommendations of Keynesians on combating economic downturns indicate, they have a slight problem with the sequencing of production and consumption. They favor measures aimed at boosting demand, i.e., they want to encourage consumption, which is tantamount to putting the cart before the horse. The chart above shows the ratio of GDP to total non-financial corporate debt – and obviously, GDP is not really an ideal measure for this purpose, as Keith also mentions below (GDP has many flaws, and its greatest flaw is the underlying idea that “spending” is what drives economic growth; not to mention that it seems not to matter what the spending actually entails – even Keynesian ditch digging or pyramid building would “add to GDP”, but would it represent economic growth? That seems a rather audacious assumption – in fact, it should be obvious that such activities would diminish rather than enhance society-wide prosperity).

…click on the above link to read the rest of the article…

 

Hidden Forces of Economics

Waiting for the Flood

We have noticed a proliferation of pundits, newsletter hawkers, and even mainstream market analysts focusing on one aspect of the bitcoin market. Big money, institutional money, public markets money, is soon to flood into bitcoin. Or so they say.

A weekly chart of bitcoin – it actually looks pretty “flooded” to us already. [PT] – click to enlarge.

We will not offer our guess as to whether this is true. Instead, we want to point out something that should be self-evident. If big money is soon to come in, and presumably drive the price up to whatever new height — perhaps even the magic $1,000,000 — what comes after?

In the restless churn that has overgrown our capital markets, investors speculators are always seeking to get into whatever asset is bubbling up. Big money leaving will follow big money entering, as surely as a rock thrown into the air will fall back down.

In last week’s Supply and Demand Report, we excerpted a quote from economist John Maynard Keynes. He cited Vladimir Lenin discussing how to destroy Western civilization. Here is the full quote (from The Economic Consequences of the Peace):

“Lenin is said to have declared that the best way to destroy the capitalist system was to debauch the currency. By a continuing process of inflation, governments can confiscate, secretly and unobserved, an important part of the wealth of their citizens. By this method they not only confiscate, but they confiscate arbitrarily; and, while the process impoverishes many, it actually enriches some. The sight of this arbitrary rearrangement of riches strikes not only at security but [also] at confidence in the equity of the existing distribution of wealth.

Those to whom the system brings windfalls, beyond their deserts and even beyond their expectations or desires, become “profiteers,” who are the object of the hatred of the bourgeoisie, whom the inflationism has impoverished, not less than of the proletariat. As the inflation proceeds and the real value of the currency fluctuates wildly from month to month, all permanent relations between debtors and creditors, which form the ultimate foundation of capitalism, become so utterly disordered as to be almost meaningless; and the process of wealth-getting degenerates into a gamble and a lottery.

Lenin was certainly right. There is no subtler, no surer means of overturning the existing basis of society than to debauch the currency. The process engages all the hidden forces of economic law on the side of destruction, and does it in a manner which not one man in a million is able to diagnose.”

J.M. Keynes at a relatively young age. In his 1919 book The Economic Consequences of the Peace, Keynes sounded quite sane for the most part, both in terms of his political and economic analysis (although his interventionist leanings were already shining through. For reasons  unknown he went completely off the rails in the 1930s). He wrote the book after attending the Paris Peace conference, where he argued for much more generous peace terms than the victorious allied nations were prepared to grant. While no-one will ever be able to prove it, there is a reasonable chance that a less vindictive peace treaty may have helped avert the German hyperinflation catastrophe and further down the road, perhaps the rise of Hitler as well. After all, Hitler’s influence grew on the fertile soil of Germany’s impoverished, antagonized and increasingly radicalized former middle class – and the event that arguably contributed to this state of affairs like no other was the collapse of the currency after the war. [PT]     Photo credit: Bettmann / Corbis

…click on the above link to read the rest of the article…

Bad Ideas About Money and Bitcoin

How We Got Used to Fiat Money

Most false or irrational ideas about money are not new. For example, take the idea that government can just fix the price of one monetary asset against another. Some people think that we can have a gold standard by such a decree today. This idea goes back at least as far as the Coinage Act of 1792, when the government fixed 371.25 grains of silver to the same value as 24.75 grains of gold, or a ratio of 15 to 1. This caused problems because the market valued silver a bit lower than that.

The gold-silver ratio from 1800 to 1915. In the 1870s, numerous nations around the world dropped bimetallism in favor of a gold standard (France was a noteworthy exception). Thereafter it quickly became obvious that silver had been vastly overvalued at the official exchange ratio. It was essentially a subsidy for silver miners. Once a pure gold standard was adopted, mild consumer price deflation became the norm, as economic productivity grew faster than the supply of gold. Contrary to what virtually all central bankers nowadays assert, this had no negative effects on the economy whatsoever. On the contrary, the four decades following the adoption of the gold standard produced the biggest and most equitable real per capita growth the US has ever seen – such growth rates were never again recaptured. Of course, at the time government spending represented between 3% to 4% of total economic output, i.e., government was but a footnote in most people’s lives. The reason why governments subsequently sabotaged the gold standard was precisely that they wanted to grow without limit. [PT]

 

So people were happy to bring their silver to the U.S. Mint to be coined. Silver had a higher value as a coin than it did in the market, and it was the opposite for gold. Gresham’s Law teaches us that if two monies must be treated by law as the same value, then the one of lower value will circulate and the one of higher value will be hoarded. This put the fledgling America on a de facto silver standard.

Eight Spanish silver reales, or “pieces of eight” which consisted of 387 grains of pure silver (the coin on the upper right is a Mexican piece of eight, with Chinese chop marks). These coins were minted by the Spanish Empire since 1598 and were of the same size and weight as the German Thaler, which in turn was standardized across all German territories since the 15th century. These coins were legal tender in the US until 1857 and for a long time were the by far most widely used coin. The Coinage Act of 1792 established that the new US dollar was to be equal in value to Spain’s pieces of eight, but people soon found out that the US Mint used a slightly different standard of fineness (0.9 instead of 0.8924), which meant that about 1% more silver was needed to mint a dollar. This made them reluctant to bring silver to the mint, hence the Spanish coins continued to dominate in daily life. Spanish reales were actually the first world currency, and it worked splendidly for almost 300 years (incidentally, over the time of its existence, this was the least debased coin in the Western world, which explains its popularity). People would cut the coin into 8 pieces (“bits”) of equal size for smaller transactions and to make change – prices on US stock exchanges were quoted in fractions based on these 8 bits for a very long time. The United States Assay Commission which kept an eye on the quality of the production of the US Mint was one of the few bureaucracies to ever be disbanded – in 1980. This is actually testament to the stickiness of bureaucracies – gold coins had been out of circulation since 1933 and silver coins since 1965 (a rudely debased half dollar existed until 1970).  [PT]

…click on the above link to read the rest of the article…

Bitcoin, Gold and Silver

Precious Metals Supply and Demand Report

That’s it. It’s the final straw. One of the alternative investing newsletters had a headline that screamed, “Bitcoin Is About to Soar, But You Must Act by August 1 to Get In”. It was missing only the call to action “call 1-800-BIT-COIN now! That number again is 800 B.I.T..C.O.I.N.”

Bitcoin, daily. In terms of the gains recorded between the lows of 2009 and the recent highs (from less eight hundredths of a US cent per bitcoin, or $1 = 1,309.2 BTC, the first officially recorded value of BTC, to $3,000 per bitcoin, or $1 = 0.000333333 BTC), the bubble in bitcoin by now exceeds every historical precedent by several orders of magnitude, including the infamous Tulipomania and Kuwait’s Souk-al-Manakh bubble. In percentage terms BTC has increased by about 392,760,000% in dollar terms (more than 392 million percent) since its launch eight years ago. Comparable price increases have otherwise only occurred in hyperinflation scenarios in which the underlying currency was repudiated as a viable medium of exchange. Our view regarding its prior non-monetary use value and hence its potential to become money differs slightly from that presented by Keith below. We will post more details on this soon, for now we only want to point out that we believe there is room for further debate on this point. [PT] – click to enlarge.

Is it about to go up? Maybe. We don’t know. And everyone should by now be skeptical of all “rocket to take off on XYZ date” claims. Between them, surely these newsletters have predicted thousands of the past zero blastoffs of gold and silver since 2011.

We have discussed bitcoin in the past, to argue that it is not money (a video here, and articles here and here). Bitcoin is not money because it is not a good. It’s just a number in a database. Money is a kind of good (genus). The most marketable kind (differentia).

…click on the above link to read the rest of the article…

The Big Myth

Don Watkins of the Ayn Rand Institute wrote an article, The Myth of Banking Deregulation, to debunk a lie. The lie is that bank regulation is good. That it helped stabilize the economy in the 1930’s. And that deregulation at the end of the century destabilized the economy and caused the crisis of 2008.
As of early 2015, Dodd-Frank had imposed altogether 27,670 new restrictions, more than all other laws passed under Obama combined (that is really saying something, considering the regulatory frenzy let loose by his administration. Note: the law may have “only” 2,300 pages, but more than 10 different regulatory agencies have been producing administrative laws for six years in a row to put it into practice – and they are not finished yet. Don’t you feel safer already?

If deregulation is the problem, then re-regulation is the solution. So, in the wake of the crisis, Congress enacted a 2,300-page monstrosity of regulation known as Dodd-Frank.

 

Watkins does a good job describing government regulation of finance, in particular addressing the savings and loan industry. He gives an example where people commonly assume that Congress reduced regulation, the Graham-Leach-Bliley Act of 1999.

The headline is that this law reduced regulation, and allowed banks to be in the securities business. However, the truth is that it mixed in a dollop of increased regulation.

 

The economic cost of Dodd-Frank (one guess as to who is going to end up paying for this…). Note: this is not cumulative – the cumulative tally so far is a cost of $36 billion (about $310 per household!); it has so far taken 74.8 million paperwork man hours to create this monster. You will be happy to learn that the law not only makes us perfectly safe, but introduces racial and gender quotas as well. The number of final rules exceeds those generated by Sarbanes-Oxley by a factor of 30 – so far.

…click on the above link to read the rest of the article…

The Precious Metals Conspiracy

Tricky and Dangerous Assumptions

For at least a few weeks now, we have noticed a growing drumbeat from a growing corps of analysts. Gold is going to thousands of dollars. And silver is going to outperform. Reasons given are myriad. Goldman Sachs apparently said to short gold, so if one assumes that the bank always advises clients to take the other side of its trades — a tricky and dangerous assumption at best — then one should buy gold.

Goild conspiracyA metallic conspirator and his flying factotum…     Image via sceptic.com

Then there’s the change in ETFs, for example the Sprott Physical Silver Fund has had inflows and Sprott bought more silver. And there’s currency wars, money printing, negative interest rates, etc. Most of these stories are based in fact (well except the belief that Goldman’s research is always wrong).

However, they have little to do with the price of gold. The money supply has grown steadily since 2011 while the prices of gold and silver have not. Hell, the money supply has been growing since forever. And the price of gold has gone up as well as down.

Something tells us that this effort to draw in buyers is concerted. Certainly there has been an 8.4% increase in silver held in trust for SLV. This is the result of relentless buying of SLV shares. When buyers push up the price of SLV relative to the price of silver, that creates an arbitrage opportunity for Authorized Participants.

They buy silver metal, create SLV shares, and sell the newly issued shares. They can do that as much as they want while there’s a profit to do so. But of course this pushes down the price of SLV until it is very close to the price of silver. SLV is somewhere between metal and futures. It can be a speculative play on price, but it’s bought with less leverage and it can also be a long-term holding for many people.

…click on the above link to read the rest of the article…

Interest on Gold Is the New Tempest in a Teapot

Zero Hedge published an article on Canadian Bullion Services (CBS) last week. Other sites ran similar articles. The common thread through these articles, and in the user comments section, is that CBS is committing criminal fraud. Or, if not, then it’s a conspiracy by the Canadian government to confiscate gold. Terms like fractional reserve and re-hypothecation were dusted off for the occasion.

t-bill3-month t-bill rates: all the way to nada – click to enlarge.

I don’t know anything about this company other than what I read that day. I am writing today to make a different point, not to address or defend CBS. My point is: a company offers interest on gold, and the gold community goes ballistic. Why so visceral a response? To answer that, we need to look at the backdrop of today’s bizarre financial world.

Interest rates have been falling for well over three decades. This has caused endless asset bubbles in which to speculate to make a fortune (or lose one). And now, in the terminal stage of our monetary disease, there is scant yield to be had even in the US. Negative yields already prevail in several other countries.

We have become accustomed to it. We’re trained to not expect to earn interest, to not even think about it. Instead, we’re like Pavlov’s dogs who know to salivate at the sound of a bell. Only we’re not after food, but opportunities to speculate. All we want to know is, what’s going up next.

PavlovPavlov looks at one of his dogs. The dog is probably not happy, but it is certainly well-trained…Photo credit: Corbis

…click on the above link to read the rest of the article…

Janet Yellen Fights the Tide of Falling Interest

On Wednesday Dec 16, Federal Reserve Chair Janet Yellen announced that the Fed was raising the federal funds rate by 25 basis points.

Let’s get one thing out of the way. This is not a move towards free markets. Whether the Fed sets interest lower, or whether it sets interest higher, we still have central planning. We still have price fixing of interest rates.

Interest rates may be set too low. However, forcing interest up is no cure. We need to eliminate central planning, and move to a free market in interest. This is impossible in our present monetary regime.

Anyway, given the system as it is, the Fed is going to have to take back this interest rate hike. Here is Exhibit A of our case: a graph of the 10-year US Treasury bond yield.

Keith-1
Source: Yahoo Finance

At least the US dollar still has interest. Switzerland, and several countries in the European Union, don’t. Their currencies are drowning under the zero line. For example, the Swiss government 10-year bond takes 0.16% per year from lenders. That’s right, if you fork over your francs to buy that bond, you get back less at the end. Germany is little better, with their five-year bond charging investors 0.1%.

The global trend for over three decades has been falling interest. The yield on the 10-year Treasury even fell after the Fed’s announcement. Yellen thinks to fight this megatrend, but that’s absurd. Let’s look at why.

The process that sets the interest rate is complex. I have written many words on its terminal decline. However, there are two simple reasons why the trend remains downward.

One, banks today have a business model called maturity transformation. They borrow short term to lend long term.

…click on the above link to read the rest of the article…

A Prediction: Gold and Gold-Silver Ratio Up, Stocks Down

A Prediction: Gold and Gold-Silver Ratio Up, Stocks Down

A Trend Change may be in the Works

The price of gold moved up moderately, and the price of silver moved down a few cents last week. However, there were some interesting fireworks in the middle of the week. Tuesday, the prices dropped and Thursday the prices of the metals popped $23 and $0.34 respectively.

Everyone can judge the sentiment prevailing in gold and silver articles for themselves, but we think there is a growing feeling of optimism (that is a renewed fall in the dollar, which most think is a rise in gold). This goes along with a sense that the long bull run in the stock market is rolling over.

gravity-2Gravity… ever since Einstein invented it, stocks occasionally go down

We are inclined to agree that the stock market may be overdue for its appointment with gravity. This is not a good business climate, and we sure don’t see where earnings growth could come from. At the same time, we see lots of forces that could cause margin compression, not to mention rising default risk in many disparate places (e.g. shale oil bonds). We are not stock market prognosticators, so treat this as nothing more than a feeling.

Gold market participants may be expecting the price of gold to move up if the stock market moves down. This would be a continuation of the pattern of the last several years, with the prices moving opposite to each other. We are inclined to agree with this. That said, to shamelessly borrow a phrase from the London Underground (we’re currently visiting London), please mind the gap between the theory and the data.

For an updated picture of the only true supply and demand data read on…

Last Week’s Market Data

First, here is the graph of the metals’ prices.

chart-1-pricesThe prices of gold and silver – click to enlarge.

…click on the above link to read the rest of the article…

 

Jackson Hole: Cherry Flavored Cyanide, or Strawberry

Jackson Hole: Cherry Flavored Cyanide, or Strawberry

The Federal Reserve puts on a conference in the idyllic location of Jackson Hole, Wyoming. Of course it’s all about how best to centrally plan our little lives for us, and who is to be sacrificed to whom.

The American Principles Project and the Atlas Network Sound Money Project, provided a much needed alternative in the Jackson Hole Summit. By choosing the same time and place as the Fed, Steve Lonegan capitalized on the publicity. In fact, the #jacksonholesummit hashtag was trending on Twitter the first day of the conference, so it was a big success.

There were many great talks. Larry White observed that the government used to weaken the banks with restrictions, but now does it with privileges (think about that for a moment). MP Kwasi Kwarteng talked about fiscal discipline as a prerequisite for the gold standard. Judy Shelton asked the question that should be on top of everyone’s mind: what if central banks are wrong?

Forget the blah blah of the Fed, this is what the world needs to hear. From the turnout and energy, I believe next year will be even bigger and better.

One idea always comes up in a discussion of sound money. The Fed manages the dollar based on (in theory) unemployment and consumer prices (CPI). Instead, couldn’t it just use the gold price?

In my talk, I explained why not.

A few months ago, the Supreme Court struck down an unjust New Deal era raisin planning board. This committee takes grapes from farmers, to drive up the price. If it later sells the grapes, the farmers may get paid. It’s looting, plain and simple, and the Court rightly tossed it into the dustbin of history.

– See more at: http://www.cobdencentre.org/2015/09/jackson-hole-cherry-flavored-cyanide-or-strawberry/#sthash.0YnAIgIg.dpuf

 

Why Is Gold Becoming Scarcer

Why Is Gold Becoming Scarcer

A Tight Market

For quite a while, we have been talking about scarcity in gold. The cobasis for both October and December is positive. These contracts are backwardated. The cobasis for the February 2016 contract is not far from backwardation. The gold market is tight. Why? Let’s explore.

Part of the matter is that the price has fallen. The more the price drops, the more buyers tend to come out, and sellers go away.

We do not refer necessarily to the mines. Once the capital is sunk, a mining company is a price-taker. Management has little choice but to extract what it can, and hope the quantity produced times the profit available at a given gold price is enough to pay the fixed expenses such as debt service (well, if they don’t have a proper hedging program, which I wrote about here and here). Gold is often produced as a byproduct when mining for other metals, and this production depends on the profitability of the main metal in the ore.

TUC2004-252sunnygoldNative gold in quartz – from the Dixie Mine in Idaho Springs
Photo via silvertongold.org

For thousands of years, the market has absorbed all the output from every mine. If the quantity theory of money were true, gold would be a worthless commodity. Unlike everything else (except silver), the stocks of gold held by the people are a large multiple of annual production. There is no such thing as a glut in gold.

The lower price is not the only factor. The price of silver has fallen more than the price of gold. However, while there is backwardation in the September silver contract, there’s nothing even close in December much less 2016.

 

…click on the above link to read the rest of the article…

 

 

 

Monetary Metals Supply and Demand Report 9 August, 2015

Monetary Metals Supply and Demand Report 9 August, 2015

Withdrawing the Gold Bid

Last week, we left off with this:

“Something is happening with gold…”

It began in Dec 2008. To understand it, it is necessary to understand two principles. The first is that gold is money and the dollar is credit, which currently has nontrivial value. A dollar is worth 28.4mg gold. To understand the second, let’s look at how markets work at the mechanical level.

 

gold-coins-and-bullionAn assortment of well-known bullion coins and bars from all over the world

Photo via reisebank.de

 

Regular readers of this Report know that we emphasize the bid and ask prices as separate values. The people and forces involved in the bid price are different from those involved in the ask price. This is critical in our definition and calculation of the basis and cobasis. You cannot just assume that there is a real price, somewhere between the bid and ask. That may be a working approximation during normal market conditions. But it could be badly misleading.

Suppose there is stress in the market, a crisis impending or active. The bid recedes, and can even withdraw entirely. For example, what if the US Geological Survey were to say that there will be an earthquake in Los Angeles, 15 on the Richter scale, and nothing taller than a dollhouse will be left standing? You would not find any lack of offers to sell real estate. But what is the price of a house in LA? There wouldn’t be a bid in LA, and maybe not as far south as Chile, as far north as British Columbia, and as far east as the Mississippi River. The bid would come back into the market when the threat was over (perhaps at a much lower level).

…click on the above link to read the rest of the article…

 

 

 

Olduvai IV: Courage
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Olduvai II: Exodus
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