Sir Alan Greenspan
Greenspan forcefully condemned deficit spending and the inflation it causes in his essay, "Gold and Economic Freedom".
As he sat looking with a possibly jaundiced eye at his political masters on the House Banking and Financial Services Committee, in his controlled, purposeful, but almost casual tone, Sir Alan Greenspan, titled, after a long and competent career, could well reflect on his writings of 1967, when he wrote the definitive article. In this essay he not only made a forceful argument for gold, but strongly criticised deficit spending and the inflation it causes. Such condemnation stands as solidly now as it did then, particularly in view of the current policies in the United States.
In this article we quote what he said and add to it because of the present conditions. Is he himself blithely ignoring, at best and at worst giving tacit support for such policies?
Clearly his positive statements in front of Congress last week, were carefully selected to boost general confidence in the economy, hopefully creating some momentum for the recovery. But his words seemed to have been based on 'soft' intentional information which added nothing to the picture in front of us now.
Will his words have the affect he intends, or will they turn out to be a 'confidence' trick. We will only know after the event. We suspect he had to say what he said because he has no ammunition left with which to tackle the possible loss of steam in the economy.
His essay states the harsh realities of the, now, Global scene and the consequences of current policies. We try to let his own words speak in place of his current shackled silence. His words then are not only a criticism of today's policies but are warnings to all in Monetary authority, across the globe. We apply his words in a global context, not simply a U.S. context.
The Monetary system we have today, is not an academically refined or defined system but the result of a seemingly purposeless evolutionary progression. It is moving inexorably towards goals set some thirty years ago. To understand these goals we have to appreciate some basics about money. Greenspan structured his essay so as to help his readers appreciate money and gold's vital role in the monetary system. Much has changed since he wrote this piece, but the world's monetary system is bound by much of what he has said then, but has also evolved far beyond that basic system.
His points must now be expressed in the context of the prospects for the "headless" Global Monetary system. [We have emboldened his actual words below] In the current race to rule the Global system, in which the U.S. monetary system has a twenty year head start, the lessons of "Gold and Economic Freedom" stand more dramatically than ever.
The threats of Deflation, albeit 'remote' as Greenspan acknowledged, is still here. Greenspan stated, again that the Fed stands ready to tackle it should it appear. The tool of general inflation cannot effectively, handle deflation and is a non-starter, as it can only diminish confidence further. It seems clear that if the current positive stance of the Fed fails to generate 'confidence' in the U.S. economy, we will enter the vortex of Deflation first in the States, then the rest of the world. Undoubtedly this will accelerate the re-use of gold in the Monetary system.
Greenspan stated categorically that, "Gold and economic freedom are inseparable". But he knows that such freedom disappeared long ago. Shortly, Gold will have to serve in a supportive but somewhat emasculated role and at very much higher prices in one of the attempts to lift confidence and attack the blight of deflation.
We will cover the: - Role of Money - as defined by Greenspan
- The Importance of "Need" and "Value" in Money
- Transition to a Global economy.
- The Euro - a challenge to the Imperial $
- The Downside, possible disaster.
- Gold's Return!
- Sir Alan Greenspan
The Role of Money - as defined by Greenspan
Greenspan wrote that, 'Money itself is a commodity which serves as a medium of exchange, is universally acceptable to all as payment for their goods and services'. This is where money fulfils a "NEED".
Money can 'be used as a standard of market value and as a store of value, i.e., as a means of saving'. This is where money provides "VALUE". 'If men had no means to store value, i.e., to save, neither long range planning nor exchange would be possible'.
'The existence of such a commodity is a precondition of a division of labor economy'. Such an economy allows 'Specialisation', it takes economies from village economies to global economies, when functioning efficiently.
Important features of successful money:
- Money must be 'Durable and Portable', be capable of passing through an economy in all seasons, from hand to hand. Electronic money and the modern banking system has supplied these qualities more efficiently.
- Originally 'a metal because it was homogeneous and divisible'. In our electronic world, metal is no longer needed, as fiat currency brings these qualities.
- It had to 'be a luxury', as 'they are always in demand and acceptable'. This is the Achilles heel of Fiat currency.
' In the early stages of a developing money economy, several media of exchange might be used, since a wide variety of commodities would fulfil the foregoing conditions. However, one of the commodities will gradually displace all others, by being more widely acceptable. Preferences on what to hold as a store of value, will shift to the most widely acceptable commodity, which, in turn, will make it still more acceptable. The shift is progressive until that commodity becomes the sole medium of exchange….it makes exchanges possible on an incalculably wider scale.'
Gold fulfilled all those roles at the time Greenspan wrote that essay.
The Importance of "Need" and "Value" in Money
The difference between these the two concepts of "Need" and Value" is huge and often misunderstood.
Money facilitates transactions of goods and services and fulfils a needed function. With a look at a present day economy in distress, like Zimbabwe where hyperinflation is the next gear up and day to day inflation "Officially" recorded at 300%, the Zimbabwe $ is still needed, because transactions need to be done. There is no other alternative to this currency there. If the U.S. $ could be used there would be a mass departure from the Zimbabwe currency ensuring its immediate demise. In the Weimar Republic of 1923 August, money was still needed, even when workers were paid by the basket load. On receiving this money, they ran to the gates of the factory, their wives took the money to the shops and exchanged it for goods as quickly as possible, so as to put to use the tiny residual value it still had. But it was used, until a replacement was found.
In both these instances local currencies took on the worst features of any 'monopolistic' money, which a local currency becomes, as its international acceptability is rejected. As a single currency moves towards the 'single medium of Exchange', so the possible extent for such debauchery extends. In the Global economy, prior to the Euro, the $ began to exert its rising "need" factor to the detriment of its "value" factor. This inevitably led to a "competitive devaluation" situation, as we have today, with the weakness of the 'senior' currency being passed from the senior but weak U.S. $, to the dependant currencies, such as the Yen, etc. The sight of the world's leading senior currency, the U.S. $, losing 40% of its value in a couple of years, is an unacceptable but consequential result of such monopolistic features of the $ in world transactions. This fall illustrates our point, highlighting just how "value" becomes less important as monopolistic / hegemonic features appear.
But, with the $ having already depreciated and its economy threatening even greater weakness, a solid shift to the Euro, could have disastrous consequences on the $.
Transition to a Global economy
Since the 1967 essay, the Global economy emerged. The role of Gold had been before this, to bring its unsurpassable qualities to international dealings. 'Even though the units of exchange (the dollar, the pound, the franc, etc.) differ from country to country, when all are defined in terms of gold the economies of the different countries act as one - so long as there are no restraints on trade or on the movement of capital. Credit, interest rates, and prices tend to follow similar patterns in all countries. For example, if banks in one country extend credit too liberally, interest rates in that country will tend to fall, inducing depositors to shift their gold to higher-interest paying banks in other countries. This will immediately cause a shortage of bank reserves in the "easy money" country, inducing tighter credit standards and a return to competitively higher interest rates again. - not any more!
Since the beginning of World War 1, gold was the sole international standard of exchange.'
This lasted until 1971, when the $ and pound sterling floated off into their own crises and restraints on the movement of capital in the U.K and gold in the U.S., leaving 'gold to take the blame', yet again. The U.S. $ was beginning to emerge as a reserve asset, displacing the Pound Sterling from its throne. Europe with its 55 year long history of bad experiences, including the destruction of currencies, twice, was not inclined to throw their lot in with depreciating currency, just yet. They turned to gold! Alas, the disobedience to gold had been penalised and the U.S. saw the beginning of the fall in the $ to $850 to an ounce of gold. Britain had to introduce a two tier currency to block capital outflows from the country, via the "Dollar Premium".
The U.S. whilst embarrassed, was unrepentant, determined to continue with its decay, spreading dollars far and wide, until eventually it reached today's point where it dominates 86% of World Trade and 75% of World Reserves. To repeat Greenspan's words, 'it is Gold that took the blame'. Attempts to break confidence in Gold were persistently followed until 1999, successfully, through cosmetic sales of gold [hastily ceased after failing] and through accelerating supplies of gold through the cheap financing of gold mines, as the price of gold fell. Gold found itself supplanted in a Global economy by the U.S. $. If we rate the $ as a 'commodity', Greenspan proved correct; 'Preferences on what to hold as a store of value, will shift to the most widely acceptable commodity, which, in turn will make it still more acceptable. The shift is progressive until that commodity becomes the sole medium of exchange.' The U.S. $ aims to become 'the sole international standard of exchange'!
As the Global economy grew and more and more nations focussed on the burgeoning wealth in the States, a single medium of exchange has become absolutely necessary. As more and more economies world wide, related to the $ and the U.S. economy, so the need for $'s grew, accommodating its expansion. How else could the world's savings have grow to 76% of the total? But there comes a point when that process is complete. The health of the U.S economy is critical in measuring that point, as the Fed is well aware.
But a new feature appears in this situation, of enormous significance. It is - the ability of the dominating currency's "need factor" to depreciate the "value" of dependant, subordinate currencies savings [held as they are in the senior, weak currency] and to export the senior, weak currency's deflation and inflation. With the economy of the senior currency's nation dominating those of the junior currencies, this "draining" power of the senior currency is unstoppable, unless an alternative and at least, partially independent, currency is available. The U.S. is in such a position and could well pay a heavy price, as junior nations turn to the alternative currency, the Euro, for its "value", if not its "need" features.
The Euro - a challenge to the Imperial $
To be healthy, a Global economy should have two or more alternative senior currencies with which to deal. This exerts a control far more effective than any other, on the senior currencies. But as Greenspan's 'shift' begins to whittle away one or the other, so a currency battle, if not a war for dominance, must ensue.
Where, as in the case of the Euro, the "need" factor in its relationship with the $ is not critical [as it is between the Yen and the $] the "value" element can be retained and ensure a respect for this "value" is maintained, just as the competition between two suppliers ensure relatively fair "value".
But what if there is an effective challenge to the reality of a 'sole medium of exchange'? Then the shift begins again, until either trade barriers are hoisted, or politicians intervene, or it replaces the $. The Euro, essentially a political currency, has neither the foundation nor the international presence, to replace the $, yet. Clearly its responsible behaviour and its higher interest rates make it more attractive than the $ right now, so the process could begin. Nations are now beginning to diversify their reserves into the Euro. Indeed, the sheer size of the Euro zone is a direct challenge to the $.
The Euro's use as an acceptable reserve asset, has to represent a shift towards it. Should the day arise when international pricing is done in Euros, such as in Oil, then the gauntlet will have been thrown down. It could pose a very credible threat, if it garners enough confidence!
The Downside, possible disaster
Turning back to the reasoning in the essay of Greenspan, he states the following, 'In the absence of the gold standard, there is no way to protect savings from confiscation through inflation. There is no safe store of value. If there were, the government would have to make its holding illegal, as was done in the case of Gold.' Where the $ becomes the sole medium of exchange the requirement of its controllers would be that 'there be no way for the owners of wealth to protect themselves.' Yes, what was antagonistic to Gold, permits the $ to rule supreme. Proof of this is the silent acceptance of the 30% to 40% depreciation in the value of the $ against the Euro. This has just been unfortunate 'collateral damage'. There has just been nowhere else to go, until the Euro.
With the Euro standing as an alternative, the threat to the stability of the $ becomes very real. The process of disinvestments from the $, by way of a switch to the Euro, would cause a fall in the $, of major proportions. The reality for the States, at its worst, could parallel the reality Britain suffered at the collapse of the Gold Standard, as Greenspan relates, 'Great Britain fared even worse, and rather than absorb the full consequences of her previous folly, she abandoned the gold standard completely in 1931, tearing asunder what remained of the fabric of confidence and inducing a world-wide series of bank failures. The world economies plunged into the Great Depression of the 1930's' Certainly the 'fabric of confidence' in the $ would be torn asunder. But this time there would be a wholesale retreat to the Euro or other currencies. The impact of inflation / deflation inside the States would be like two tributaries of a major river rushing into it, causing the drowning of confidence.
This is not solely an international assault on values, but an internal one as well. Again to quote Greenspan, 'Deficit spending is simply a scheme for the "hidden" confiscation of wealth'. Interestingly he then said, 'Gold stands in the way of this insidious process. It stands as a protector of property rights.' We are amazed that current and planned Federal deficit spending, as well as the current gargantuan Trade deficit has received so little condemnation, particularly from Greenspan. [The Bush administration said the government's deficit will reach $455 billion, its largest ever, in the fiscal year that ends Sept. 30 and widen to $475 billion in 2004. The Trade Deficit will be over $500 Billion].
The example of the crash of the Gold Standard serves as a warning of present dangers should the present policies not contain the potential "Deflation" threat. Greenspan stated, 'The reasoning of the authorities involved was as follows: if the Federal Reserve pumped excessive paper reserves into American banks, interest rates in the United States would fall to a level comparable with those in Great Britain; this would act to stop Britain's gold loss and avoid the political embarrassment of having to raise interest rates. The excess credit, which the Fed pumped into the economy spilled over into the stock market triggering a fantastic speculative boom. Belatedly, Federal Reserve officials attempted to sop up the excess reserves and finally succeeded in braking the boom. The "Fed" succeeded: it stopped the gold loss, but it nearly destroyed the economies of the world, in the process. But it was too late: by 1929 the speculative imbalances had become so overwhelming that the attempt precipitated a sharp retrenching and a consequent demoralizing of business confidence. As a result, the American economy collapsed.
Reflect on Greenspan's words of the 15th of July 2003, "Rising stock prices, low interest rates and a $330 billion tax cut package…….should bolster economic activity over coming quarters,'' Greenspan told the House Banking and Financial Services Committee. Apparently, no alarm bells were rung at the time, quite the reverse.
It is vital we understand the words of his essay above, at their extremes. In the Weimar Republic, the Deutschemark had lost all value and yet it was needed and used even in the days when it was halving daily, in August 1923. Today, in Zimbabwe, where the entire structure of the economy is in a state of collapse it is still used, because there is no alternative. Give Zimbabweans an alternative currency and the Zimbabwe $ will disappear from sight, as will the government's control over the what's left of the economy. And the Global economy, without a government? The scope for disaster widens exponentially, with no single Central Bank to able to affect ensuing effects, except for an extremely competent Federal Reserve Chairman, whose helm has been separated from the global rudder and whose first priority will be to the U.S. economy, not the Global economy.
Is it any wonder the Euro stands separate and ready to pick up the pieces of a collapsing $.
Whilst Gold has all the required values and features of money, as history has demonstrated in numerous situations, it could never now act as a Reserve Currency in this Global economy, as it would stunt the ambitions of the $, unless it finds a "Protector". This "Protector" could be the U.S. itself, or it could be the Euro, of a combination of the two. If it were accepted by the I.M.F. and with the approval of all its Members, it would also qualify.
However, for the acceptance to be credible, there could be no points of conflict / control, with currencies. It could only act in support of those currencies, in a "confidence" restoring capacity. We believe that this is the path being followed at the moment, but what final formula will result, remains to be seen.
We have said many times that we believe it will return to an active role in the system but we have not clearly defined it. We will do so when the time is right, but we will continue to write about it and to watch the platform from which it will spring its new role, now being built!
Sir Alan Greenspan
So what has happened to the man who wrote such a powerful essay in 1967 and the man who sat in front of the House Banking and Financial Services Committee on the 15th July 2003. Has he been, bowed into compromise by political ambitions of his masters? Is the a conflict between his beliefs and his loyalty to the States and to the role the U.S. and the U.K. seem to be playing in the Monetary world? For sure, if a sound Monetary system is the price he has to pay, the future will not remember him kindly. Or perhaps he has foreseen and appreciates just how Gold will re-enter the Monetary system in its pragmatic role, empathising with his own similar one, restoring credibility to both him and the world's money?