How elites always destroy paper money

Daily Bell interviews James Turk: How elites always destroy paper money

Submitted by cpowell on Sun, 2009-07-05 21:42. Section: Daily Dispatches

From The Daily Bell
Appenzell, Switzerland
Sunday, July 5, 2009

http://www.thedailybell.com/index.asp?fl=

The editors of The Daily Bell are pleased to present this exclusive interview conducted by Scott Smith with hard-money commentator James Turk. Turk has specialized in international banking, finance, and investments since graduating in 1969 from George Washington University with a B.A. degree in International Economics. In 1980 he joined the private investment and trading company of a prominent precious metals trader. He moved to the United Arab Emirates in December 1983 to be appointed manager of the Commodity Department of the Abu Dhabi Investment Authority, a position he held until resigning in 1987. James Turk has written several monographs on money and banking and is the co-author of "The Coming Collapse of the Dollar," which has been updated for a paperback version entitled "The Collapse of the Dollar." He is also the founder of GoldMoney, a convenient and economical way to buy and sell gold online using the digital gold currency. See Scott Smith's "After Thoughts," below, for more.

Daily Bell: Thanks for sitting down with us. We've read your esteemed analysis for years.

Turk: Thank you for your kind invitation and the opportunity to share my thoughts.

Daily Bell: You are a regular contributor to the Gold Anti-Trust Action Committee. In May, Bill Murphy and Chris Powell, co-founders of GATA, traveled to London. How was their trip received across the pond?

Turk: It went very well. They were well-received by the British media and many fund managers and others in the City. Their trip is just another example of the yeoman's work that GATA has been doing over the last 10 years to create a free market in gold, one unfettered by government intervention.

Daily Bell: What is the rising price of gold telling us?

Turk: Gold rises in terms of national currencies whenever there is any kind of monetary problem. These problems include inflation, bank failures, currency debasement, exchange controls, etc. For decades the US dollar has been adversely impacted by one or more of these monetary ailments, so the dollar price of gold has generally been in an uptrend for decades. Or in other words, the purchasing power of the dollar -- and for that matter, other national currencies -- has been falling.

For example, a barrel of crude oil now costs 2.2 goldgrams, which is more or less the same price since the end of World War II. Crude oil only looks like it is getting more expensive when its price is measured in national currencies, and the worse the currency is debased, the more expensive crude oil looks. We can therefore conclude that the experiment with fiat currency -- currency not backed by precious metal and circulating simply because of government edict -- is an appalling failure.

Daily Bell: How did we get to where we are today in terms of the current crisis?

Turk: That's a very good question. The world is in this mess because of the misplaced reliance people have placed on government. They mistakenly think government can solve all the world's problems by passing laws or redistributing wealth. Government leaders and policymakers of course believe that too, or at least tell us that they do because this unthinking reliance on government by the masses enhances politicians' power, which ultimately is derived from people willing to do what government tells them to do.

In fact, everyone should instead be relying upon the free-market process -- namely, one that operates under a consistent rule of law instead of under the conditions of the way the 'market' now exists, which is being battered by the whims and capriciousness of politicians. Governments destroy free markets long before they ever understand how the market process works. But there is a second element to today's mess that goes beyond the misplaced faith people have placed on government.

There is an irrational belief in erroneous economic theories proposed by crank economists. Nothing has changed through the ages; people in effect still believe in alchemists and their flawed 'science,' although the alchemy is cloaked today in modern-day lexicon.

Daily Bell: How well is Ben Bernanke handling the current economic crisis?

Turk: About as badly as can be expected. In his epic "Monetary History of the United States," Milton Friedman explained how the Federal Reserve made the Great Depression worse by its bad decisions, dreadful mistakes, and mismanagement. I would add that governments will always get it wrong when fiddling with the market process. One only needs to look at the record of the Politburo of the former Soviet Union to understand that the market process is too complex to be driven by government bureaucrats and planners. So it is beyond me why people have this blind faith that the central planning czars of the Federal Reserve -- and indeed, the federal government itself -- will get it right in this current depression.

Daily Bell: We've pointed out that everyone is piling on the Fed these days. There may even be an audit. Is it possible that the monetary elite has decided to sacrifice the Fed -- and in doing so create an alternative structure?

Turk: It's an interesting point of view but I don't think anything will change. Governments have usurped the power to create currency. Money is power, and when you can create currency out of thin air as governments now do, they increase their power -- that is, until people stop accepting their currency.

The experience in recent decades has been one of more controls, more government interference in the market process -- not less. So the bottom line is that each individual has to protect himself and his family and be prepared for the inevitable collapse in the US dollar. The way to do that, of course, is to own gold and silver and avoid the dollar. I would avoid other national currencies as well because, after all, they are fiat currencies too and are backed to a large extent by dollars. So if the dollar falls into a black hole, the gravitational pull will drag other currencies along with it. The world needs to return to the basic concept that money is a product of markets, not a creation of governments.

Daily Bell: You're written that gold always wins -- that is, its price inevitably climbs higher as fiat currency is debased, which is a reality understood and recognized by government policymakers. If they know this, what exactly is their strategy these days, what are they trying to do?

Turk: Two things. First, they care only about themselves -- their "job" as a bureaucrat or a politician. Despite their rhetoric, they don't care about you or me. To politicians, constituents are simply an unavoidable annoyance that must be kept in line until the next election, which brings up the second point. Policymakers care only about keeping the fiat currency game alive until they have personally sufficiently milked the system to retire with a fat pension. They also have a short-term goal, which is to keep the system from collapsing until the next administration.

There are of course some notable exceptions, like U.S. Rep. Ron Paul. But generally speaking, the US does not have leaders today. There is no one willing to admit that the US is on the wrong road, even though polls show that a vast majority of Americans --around 80 percent -- instinctively understand and acknowledge that the US is headed in the wrong direction.

Daily Bell: Is it a managed retreat that hopes to preserve fiat money?

Turk: You could call it that. But it is more like politicians not wanting the ship to go down on their watch.

Daily Bell: Does gold remain undervalued?

Turk: Yes, which is quite amazing considering that gold has risen eight years in a row against the US dollar and appreciated during this period at an average annual rate of 16.3 percent. In fact, gold has risen by double-digit annual rates this decade against all the world's major currencies. But 1 ounce of gold still buys approximately the same amount of crude oil it purchased when this decade began. This performance is a testament to how badly the purchasing power of the dollar is being destroyed, which is quite ironic given that real estate in the United States is getting cheaper by the month. What is clear is that we are measuring this decline in real estate prices with a currency that is inflating. That real estate is falling in price while the purchasing power of the dollar is eroded by inflation simply shows how overvalued real estate had become at the height of that bubble.

Daily Bell: How about silver?

Turk: The gold/silver ratio is still way above historical norms. As bullish as I am about gold, I remain more bullish about silver. However, silver is more volatile than gold, so it may not be for everyone.

Daily Bell: Is the same general thing happening to silver as to gold? The same sort of manipulation?

Turk: Yes, because it would be too obvious for the price of silver to soar without gold soaring along with it. But the drivers behind silver are different. Silver really doesn't provide the same "canary in a coal mine" warning function about national currency that is provided by gold. Rather, banks are in the business of lending and they earn a lot of money by lending silver, while at the same time avoid the cost of storing it. The result is that a couple of bullion banks are short a massive amount of silver. The point is that it will be impossible for them to deliver physical metal against all of their paper commitments.

Daily Bell: You've written that it is reasonable to conclude that gold should comprise at least 10 percent of the world's money supply. And that because it is nowhere near that level, gold is undervalued. Can you elaborate?

Turk: For decades we have been using in commerce money substitutes -- that is, national currency, rather than money itself, gold. Consequently, few people today understand money/gold, which has created a prevailing bubble mentality. In other words, people view dollars and other fiat currency to be a store of value, rather than what they really are -- empty promises that are no more reliable in the long run than the hollow rhetoric of politicians. My point is that we are in a bubble, which is bigger than the Internet bubble, the Nasdaq bubble, and the real estate bubble. It's the bubble of mistaken beliefs that the dollar has a long-term future, when in reality, the dollar is on the road to the fiat currency graveyard. The consequence of this irrational faith in the dollar means that the dollar is overvalued and gold is undervalued. These relative valuations are an unnatural state and will correct -- I should say, continue to correct given gold's appreciation this decade -- by the price of gold rising a lot further.

Eventually, more and more people will recognize the dollar for what it really is, which will cause this dollar-bubble to pop. When it does, people will increasingly turn to gold, and this heightened demand will increase the value people place on gold. In the 19th century, about 40 percent of the purchasing power of the world's money rested in gold, with the balance in money substitutes -- that is, the various national currencies. By the mid-20th century gold's percentage declined to about 10 percent, and fell further to less than 2 percent in 1971 when the dollar's link to gold was formally broken by government edict. The reliance of money substitutes thereafter declined in the inflationary 1970s, so gold increased to about 10 percent again by 1980. It thereafter fell again, this time to less than 1 percent when Gordon Brown announced that the Bank of England was selling half its gold reserves. Gold's percentage today still remains less than 2 percent. I believe that the 10 percent level is a reasonable minimal target, which implies that gold will rise five times in real purchasing power terms. My longstanding price target for gold, first given in an interview in Barron's back in October 2003 when gold was in the $340s, is $7,000 per ounce by 2013-15. But given how badly the Federal Reserve is destroying the dollar probably means that my price forecast will be too low.

Daily Bell: How does the U.S. government manage the gold price? Can you give us the details?

Turk: The key is to understand that there are two gold markets, one for physical gold in which real, physical metal changes hands, and one for paper gold, which are simply promises to deliver gold in the future. The world's major physical markets are in Europe. Because the US government confiscated gold in 1933, there is very little physical metal traded today in the United States, which is principally a paper market.

These two markets are interrelated, but each responds to its own unique supply/demand characteristics. To execute trades on its behalf, the U.S. government, operating though the quasi-governmental Exchange Stabilization Fund, has enlisted a few bullion banks, which together have been dubbed the "gold cartel." The gold cartel operates principally in the paper market to "paint the tape." Though its intervention can occur any time during the day, there are discernable patterns. Its footprints are most noticeable after the physical market closes in London and Zurich and the US paper market takes center stage. The gold cartel also hits the market after the US market closes and before Asia opens when the market is notoriously illiquid, again to paint the tape with a low gold price.

The gold cartel uses only sparingly the physical stock of gold held in government coffers. It can create paper gold out of thin air, which is obviously not possible for physical gold.

The other technique governments use is propaganda. For example, how many times have they proposed to sell some International Monetary Fund gold over the past several years? And why are these proposals floated only when gold is threatening to run higher? Of course, propaganda is standard fare for governments. Remember when the sub-prime crisis was starting to unfold and Messrs. Paulson and Bernanke said the problems would be "contained"? Do you think they really believed what they were saying, or was it just propaganda? So with these questions in mind, let me ask you another question. If you hold paper gold instead of physical gold, do you really believe that your counterparty will make good on its promise to deliver physical gold to you when you ask for it?

The mountain of paper promises dwarfs the physical supply of metal, which explains why I have always recommended owning physical metal. And there are only two ways to do that. You buy gold and store it yourself, or you buy gold and have someone store it for you, which is what we do in GoldMoney. But if you choose this alternative, be sure that the company you use has the same governance procedures that we have in GoldMoney, and particularly real audits where the auditor goes into the vault and verifies the weight of metal really exists. In GoldMoney these audit reports are available to our customers upon request.

Daily Bell: How did the gold cartel come about? You seem to believe former Fed chairman Alan Greenspan was involved.

Turk: He re-lit the fuse after it had been dormant for a while. Under the classical Gold Standard, gold and national currencies were complementary. Each central bank managed its country's national currency so that it would always be equal to the purchasing power of gold. For example, the British pound had essentially the same purchasing power in 1914 as it did when Sir Isaac Newton invented the classical gold standard two-hundred years earlier. But this complementary role changed in the 20th century. It became adversarial. Governments began to chafe at the discipline imposed by Newton's invention. This is when Keynes called the gold standard a "barbarous relic." He advocated government control of currency so it could be managed as government saw fit. Rather than being a neutral tool in commerce as it was under the classical Gold Standard, currency became a manipulative force available to government planners.

Anyway, in the latter half of the 1990s, the gold price began rising because of the inflationary and easy-money policies followed by the Federal Reserve. The banks realized that they had a growing problem. They had been borrowing gold and there was no way they could repay the gold they had borrowed without driving up the gold price, which would worsen their losses.

Daily Bell: How did the Japanese yen figure into it?

Turk: During the last banking crisis in the early 1990s, Greenspan purposely steepened the yield curve so that banks could borrow at very low rates and use this money to lend at very high rates. This strategy increased bank earnings to help them out of insolvency. The consequence was that banks looked for anything with a low interest rate to borrow, and the yen had low interest rates because the Bank of Japan was trying to revive the Japanese economy after their stock market crash in 1990.

Daily Bell: Can you explain the gold carry trade?

Turk: Interest rates and asset/liability management are the keys to understanding the carry trade. A bank borrows a currency with low interest rates and uses that currency to purchase assets in a high-interest-rate currency. Thus banks have been borrowing gold at interest rates less than 1 percent, then selling the gold to obtain dollars that are used to acquire dollar-denominated assets yielding 5 percent of more. It is a lucrative trade as long as the price of gold does not rise in dollar terms.

Daily Bell: Has the gold cartel caused losses to the average investor? How about professional investors?

Turk: The answer depends on how you have approached gold over the past decade. Given gold's outstanding appreciation this decade, if you regularly purchased gold under a dollar-cost averaging program -- which is what I have been recommending for years and continue to recommend -- you have done exceptionally well. However, many trend-following professional traders have been getting chopped up and whipsawed by the gold cartel trading against them. So I do not recommend trading gold. I recommend accumulating it. Buy gold as your savings, but you are saving sound money and not some debased fiat currency.

Daily Bell: Will the gold cartel fail?

Turk: Yes, because gold always wins. The cartel will win a battle or two but it will lose the war. Governments always destroy the value of national currency; it is inevitable. Look at the history of fiat currency. I challenge you to come up with one fiat currency that has not been debased. Eventually all fiat currency is destroyed. The creation of currency needs discipline, which is something governments lack. They will always find some politically expedient excuse to create money out of thin air, and as a result, the currency eventually gets created to excess until it collapses. Gold imposes an essential discipline on currency creation, which explains why Newton's classical gold standard was so successful.

Daily Bell: What are the most important -- seminal -- articles of yours that you would encourage everyone to read? Where can they be found?

Turk: There are two I think that stand out. The first provides basic information about gold, which its title makes clear. It is "8 Things Everyone Should Know About Gold." You can read it here:

http://www.goldprice.org/james-turk/2006/09/8-things-everyone-should-kno...

The second article is entitled "The Barbarous Relic -- It Is Not What You Think" and is posted on GoldMoney.com here:

http://goldmoney.com/documents/barbarous-relic.pdf

This article explains why gold is money and, just as importantly, why the real barbarous relic is central banking.

Daily Bell: On behalf of all of our readers we thank you for sharing your views with us -- and for providing us with such fine articles.

Turk: Thank you.