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Ask the Expert – James Rickards (March 2014)

By Geoffrey Rutherford 5 years ago 6033 Views

In this exclusive interview, James Rickards answers questions from our readers about the gold and silver market and his outlook on the economy.


*Recorded March 21, 2014

Sprott Money News (SMN): Thank you, listeners, for joining us today on Ask the Expert. My name is Diana Nada of Sprott Money News and we're very excited to have the pleasure of speaking with James Rickards today.

James Rickards is the author of the national bestseller Currency Wars: The Making of the Next Global Crisis and the forthcoming The Death of Money: The Coming Collapse of the International Monetary System.

He's a portfolio manager at the West Shore Group and a partner in the Tangent Capital Partners, a merchant bank based in New York. He's also a counselor and investment advisor and has held senior positions at Citi Bank, Long-Term Capital Management in Caxton Associates. With that, I'd like to welcome James Rickards. Hi, James.

James: Hi, how are you?

SMN: I’m doing well today. Thank you for taking the time to speak with us today.

James: Thank you. Thanks for inviting me.

SMN: So let's just jump right into it. We've actually got a lot of questions regarding this topic right here where recently class action lawsuits have been filed against the five gold banks. They're alleging manipulation in the London Gold Fix. How serious do you see this investigation into the manipulation of gold markets and how long do you figure it's going to go on until prices actually reflect reality?

James: Well, I think it's very serious. The manipulation of the gold market is not something that's really debatable any longer. The evidence for it is very clear and I talked about this in my new book, The Death of Money: The Coming Collapse of the International Monetary System, particularly in Chapter 9 which is about gold, but also in other parts of the book.

Now the particular class action lawsuit that you're referring to is aimed at the five members of the London Gold Fix, which is a London-based process whereby the price of gold is set twice a day by kind of an interaction indication of interest among these five major dealers and we'll see how that plays out.

Now these lawsuits can take years to work out because the defendants typically come in, and file a motion to dismiss and that has to be argued and then decided by the judge. If the plaintiff gets to go forward, you get into discovery and then that opens up a lot emails and so forth. So the cases take years to play out.

But beyond the London Fix, there are other forms of manipulation that may be even more important to gold investors, particularly on the COMEX, that's the commodities exchange based in New York. And there are some very interesting recent statistical studies. I've seen some of them myself.

One is about to be published. It will promulgated out, but I've see some private research on this and what it shows is that, for example, if you could go back ten years and have two hypothetical accounts, then one of them would buy the open on the COMEX every day and sell it at close, so you would basically own the COMEX trading hours.

And the other account would buy the spot market after COMEX closes and sell in the spot market just before COMEX opens the next day. So one account, in effect, was on the COMEX trading day and the other account would own the afterhours.

Now what's interesting is that over a ten year period those accounts should perform almost identically. On any given day there could be some differences or some volatility based on the timing of particular events, but that's going to even out and over ten years they should be the same. In fact, they were nowhere near the same.

The COMEX accounts showed massive losses and the afterhours accounts showed massive gains, both deviants from the overall market. And what that tells you is that the COMEX is being manipulated, and the price is being suppressed, mostly with large sell orders at the close. Then it would pop back up again in the afterhours. So this is a smoking gun.

This is like if you find a body with a bullet hole in it that you didn't see the crime, detectives say "Who has the motive" and they look for DNA. So this statistical evidence is like the DNA. It proves the manipulation, even if you didn't actually see it happen. Although sometimes, you do see it happen with these larger...

So if I were running the manipulation I would actually be embarrassed at this point because it's so blatant. So I think the London Gold Fixing cases are important, but they're not the only evidence. The weight of evidence is clearly that the gold market is being very heavily manipulated.

SMN: Why has it taken this long for it come to light?

James: Well, because first you rely on the regulators to do their jobs, but the regulators were asleep at the switch. They either have an interest in turning a blind eye. In the US, the futures markets are regulated by the Commodity Futures Trading Commission. They've had vacancies that the president has been in no hurry to fill.

So it almost looks like the cops are in the doughnut shop, as far as that's concerned, and a lot of the manipulation's actually being done by governments. We know this because they operate through something called the BIS. That's the Bank for International Settlements, based in Basel, Switzerland.

The BIS is an interesting organization. It was formed in the 1930s, partly to do gold operations for other central banks. It's sort of the central bankers’ treehouse or clubhouse or whatever you want to call it. But notoriously during World War II, the BIS was run by an American named Thomas McKittrick and they were brokering Nazi gold.

So here you had an American brokering gold for the Nazi's. So that tells you where the BIS is coming from and they're still alive and well. And if you read the footnotes to their annual financial statements, they say that they conduct gold sale and leasing transactions of behalf of central banks and commercial banks.

But I disguise the identity of course, and so between the statistical evidence, the disclosures in the BIS, the fact that we know central banks have leased and sold gold from time to time, IMF dumping gold on the market.

In my new book, The Death of Money, I've actually uncovered some formerly classified documents which have been declassified from the 1970s. I've got some of these from the Gerald Ford Presidential Library that are explicit. Letters from the President of the United States to the Chancellor of Germany saying, "Hey, we want you guys not to buy any gold, because we want to keep the price down."

So it's historic. It's blatant. There's statistical evidence. It's very, very clear what's going on and I'm a gold investor. I manage portfolios by investing gold. I recommend it to clients, but you do have to understand that if you're investing in gold you're fighting every central bank in the world.

SMN: No, it makes sense. So speaking about your new book, since your first book, Currency Wars, how have your beliefs regarding the future of the global and US economies, such as the US dollars evolved, and is that mentioned in your upcoming book The Death of Money?

James: It is. I would say my views have evolved. My methodology is the same which is I'm a complexity theorist and I use a number of techniques. Complexity theory, Bayesian Technique, causal inference, network science. I have a number of scientific and analytical tools that I use to understand markets. So like any tools, the longer you use them you can refine them and get better at it.

So I'm probably getting a little better at it. But I'm using the same basic tools. See, that hasn't changed, but what has changed is that events are actually playing out the way we expected and predicted in Currency Wars. So the new book also has forward projections, so I hope leaders can take that to heart and feel some comfort that they're looking at the future when they read the new book.

Just to give you a concrete example. In Currency Wars, my first book, the first two chapters talk about a financial war game conducted by the Pentagon at a top secret weapons laboratory outside of Washington D.C. and a lot of readers really enjoyed that chapter. But what we did in that war game, and I was one of the planners and facilitators and I got to participate in the war game.

With some friends we cooked up a plan whereby Russia and China would pool their gold in a UK bank with a Swiss vault and issue a new currency backed by gold and say "Henceforth, any Russian energy exports or Chinese manufactured goods exports could only be paid for in the new currency. And if you wanted some, you had to deposit your gold and the bank would give you some of the currency.”

In other words, it was a way to turn your back on the dollar and dethrone the dollar as the global reserve currency. So that was something we did in 2009 and frankly some of the other people there, some of the Harvard types, we were ridiculed and people said, "That's ridiculous…"

SMN: Yes, I remember.

James: "…You're wasting our time," et cetera. But in fact what has happened since then? Since we did that war game in 2009, Russia has increased its gold reserves 70%. China has increased its gold reserves several hundred percent. No one knows the exact number, but clearly two or three or four times what they say they have.

And it was recently disclosed that in 2008 during the financial crisis, Russia called China and suggested coordinating, dumping their stock and bonds and Fannie Mae to make the financial crisis worse. This was actually disclosed by Hank Paulson who was Treasury Secretary at the time, in an interview he gave a couple of days ago actually to the BBC.

So here we have all the evidence of what we talked about. That China buying gold, Russia buying gold. China and Russia coordinating their efforts to the detriment of the United States and the US dollar. This is all documented facts. When we said it in 2009 people laughed at us, but since then it's all played out.

So I have a lot of things in the new book. I don't think it will be laughed at. I think people will take it seriously and I would just say, I think it would take the reader forward, taking the story forward, and giving people some glimpse of the shape of things to come.

SMN: I agree. So just backtracking a bit. So you said that China -- well, since 2008 China has been, yes, lessening its demand for dollar assets, creating bilateral trade deals thus dumping the dollar and now it's become the world's largest producer and importer of gold. The West more or less has done the opposite. Is China positioning itself to overtake US as the currency reserve or do you see something else in their plans?

James: Well, I think they're doing something else. There's been a lot of talk yet that China has acquired thousands of tons of gold. The world's largest gold producer. The world's largest gold importer and they're also bringing in gold that's not being reported in the official import statistics using military channels.

And I talk about that in Chapter 9 and Chapter 11 in my book, how they're using the People's Liberation Army to smuggle gold into China overland, without going through Hong Kong. So they're getting all the gold they can and so are others. But there's been a lot of speculation as to why is China getting all this gold.

Well, they must want a new reserve currency backed by gold. It may end up there, but that's not what they're doing in the short run. Here's the way to think about it. They own $4 trillion of reserves today, mostly in paper assets. Most of that is US dollar denominated and most of that are US Treasury notes. So they're the biggest creditor of the United States of America.

They actually don't want to gold to skyrocket. What they want is a strong dollar. Nobody wants a stronger dollar more than China because China owns more dollar securities than anyone else in the world. But they're worried. They're fearful that we will inflate the dollar and if you do a 10% inflation of the dollar, you reduce the dollar's value by 10%.

That's like a $300 billion wealth transfer from China to the US because their assets are worth less, our liabilities go down, so we're stealing wealth from China and they know it. Now they can't dump these treasury securities. There are too many of them. But what they can do is buy gold and here's how it works.

If we have a stable dollar maybe the gold doesn't go up that much, but they'll be very happy with that because their securities will be worth what they think they are. But if we inflate the dollar which we're trying to do, they're going to lose money on the paper, but they're going to make it on the gold.

Because we all know that if inflations comes along gold is going to go up very, very significantly. So in effect they're creating a hedge position. They've got paper over there, gold over here. They would like the paper to be valuable, but if the paper drops in value, the gold is going to go up. So they're actually building a hedge book.

SMN: James, can you just elaborate what you mean by hedge book?

James: Meaning that if the dollar's stable, they won't make a lot of money on the gold, but they'll have valuable dollar assets. If the dollar goes down because of inflation, they'll lose on the paper. But they'll make it up on the gold because the gold will go up a lot. So if you have enough gold, the increase in the price of gold can hedge the decline of the value of the paper assets. So that's what I mean by having a hedged position.

SMN: Oh, okay that makes sense. Now going back into this whole gold backed system. You did suggest a while ago about a new monetary system that required gold backing. Can you explain that briefly?

James: Well, I don't think there's any central bank in the world today that wants a gold standard, but they may be forced to go to a gold standard to restore confidence. In other words, right now the dollar's the leading reserve currency. I'm expecting that in the next dollar panic, the next financial liquidity crisis, which will happen sooner than later, it's going to be bigger than the Fed.

Meaning the Fed bailed out the world in 2009, but the next crisis is going to be so much larger because the size of the system is larger and the Fed has already trashed its balance sheet by printing $4 trillion in the last five years. What are they going to do? Print another $4 trillion? I mean they're at the outer limit of what they can print. So the next crisis is going to be bigger than the Fed. The Fed will not be able to re-liquefy the world, so where is global liquidity going to come from in the panic?

The answer is the IMF because they have the only clean balance sheet in the world and everyone knows that the Fed has a printing press. They can print dollars, but people don't know that the IMF also has a printing press. They can print world money which they call special drawing rights or SDR's, and so you re-liquefy the world by printing SDR's, and that's what the elites would like to do.

But it may not work in the sense that if people are losing confidence in dollar paper money, why would they have confidence in IMF paper money? Well, it might work if no one understands it, which is what the elites are hoping. But in fact, people might not have confidence in it. In that world, you may have to go to gold. Central banks may have to go to a gold standard, not because they want to, but because they have to.

SMN: But what happens to countries, such as Canada that have long disposed of its gold reserve?

James: Canada's going to have to piggyback on the United States. Canada is in a very vulnerable position. I like the Canadian economy and I like the Canadian currency in the absence of a crisis. So in the steady state where we are right now I think Canada's doing very well and doing a lot of things right.

But if you have a global financial panic, and people have to go to some kind of gold standard, Canada is going to be in a very weak position. Because they sold a lot of the gold and not accumulated very much. So the right solution for Canada actually is to print Canadian dollars and buy gold. That way they can target the exchange rate and get gold and keep the gold all at the same time.

So my advice to Canada would be to start building up your gold reserves and that would actually strengthen your currency and you could buy even more gold. I don't think they'll do that because to do so they would have to be honest about the fact that the dollar's in jeopardy and it's important to get gold. So they may just cross their fingers and hope for the best. But if I were looking out for Canada, I would tell Canada to buy more gold.

SMN: Definitely. So in September 2004 it was estimated that if all the gold held by the US government, were again required to back the circulating US currency, gold would need to be valued at $2,800 an ounce. Given the current instability in global politics, do you see the US making this move?

James: Well, as I said before I don't think the US wants to go to a gold standard. But if they have to do it to restore confidence then you have to ask the question, "Okay if we're going to have a new gold standard, what's the price?" And you've got to get the price right because if the price is too low, it's extremely deflationary and you don't want deflation. That's what happened in the Great Depression.

So it's a very simple math exercise. You just take the amount of money and divide by the amount of gold and that will tell you the price of gold in order to support the money supply. Now you have to make a couple of assumptions, there are a couple of inputs there. When you say money, in every gold standard there is some ratio of physical gold to paper money. Well, what's your definition of money?

Are you using M0, M1, or M2? Those are all very different, so you have to figure that out. The second thing you have to ask yourself is how much gold backing do you want? Is it 20%, 40%, 100%? You know in the 19th century, the Bank of England ran a successful gold standard with 20% backing.

In the 20th century, the US had a successful gold standard for a while with 40% backing. The Austrian economists would say it has to be 100% because they don't like fractional reserve banking. But whatever number you pick, you have to pick some number and stick to it.

The third thing you have to ask yourself is would this just be the United States or would it be all the major economic powers in the world? I think it has to include all the major economies and the reason is, if one country such as the United States went to a gold standard and others did not, we'd have the only currency that anybody wanted.

You wouldn't want sterling or euros or yen or any other currency if you could get dollars backed by gold. But that would be also extremely deflationary because it would make all the other currencies worthless and everybody would want dollars and the dollar would be the only thing that people wanted.

So taking all of that into account, if you use for example, M1 which I think is a great number, and if you did say 40%, which I think is probably reasonable. And if you included China, the ECB, and the US and then did the math I described, that number today is about $9,000 an ounce.

It may have been $2,800 for the US only back in 2003, but we printed trillions of dollars since then. So the formula is the same, but the amount of paper money is much greater, therefore the implied price of gold has to be much greater. So today even if we have a reasonable gold standard that was only partly collateralized, you're looking at $9,000 an ounce.

SMN: Do you see that going higher given the circumstances going on right now?

James: Well, it gets higher every day because the Fed's still printing money. In other words, with the ratio of paper money to gold and if the gold is about constant and the paper money keeps going up then the implied price keeps going up. So if you called me a year from now I'd have to do the math, but it might be $10,000 an ounce and that's assuming 40% backing.

But what if you had 50% backing or 75% backing? So now you're talking about $15,000 or $20,000. The numbers just keep getting bigger and they're not made up. They're not numbers that I pull out of a hat to make a few headlines. These are the actual numbers you get when you do the math.

SMN: So right now the current consensus in the precious metal markets is that it's being held down by central planners of the world to protect the integrity of the US dollar. But one of our submissions they argue that they see a strong correlation between precious metals and the Canadian dollar, platinum, Australian dollar, palladium, and maybe a little bit of the Japanese yen. So the question is, is the GATA argument flawed, or are all these markets rigged to an unprecedented degree?

James: Well, they're all rigged because of the Federal Reserve. In other words, all these markets key off the dollar. I understand they're not all denominated in US dollars, but all the major fixed income markets, commodities markets, et cetera, all reference back to the US dollar directly or indirectly.

So if you're manipulating US interest rates, which the Fed is, then indirectly you're manipulating every market in the world and therefore all the market signals we're getting are not really good signals. They're all the result of manipulation. So it's not as if the Federal Reserve goes out every day and intervenes in the Australian dollar market or the South African rand.

I'm not suggesting that. What I'm saying is that just by manipulating US interest rates, you indirectly manipulate every market in the world, because all these markets are connected and we saw very clear evidence of that last summer, the summer of 2013. What happened in May 2013, Chairman Bernanke who was the Chairman of the Federal Reserve at the time, dropped a hint that the Fed might start tapering, reducing asset purchases which is a form of monetary tightening.

Well, there was a huge selloff in emerging markets, debt and currency and stock markets because there were these leveraged trades where people had borrowed in dollars and they'd gone out and bought Indian or South African or Brazilian stocks and bonds. You have to buy the currency to do that because you have to pay for it in local currency.

And then as soon as the Fed hinted they were going to raise interest rates, these investors or speculators had to unwind the carriage rates, so-called. So what did they do? They dump the stocks and bonds, sold the currency, bought dollars, paid off their debt and went to the sidelines.

Well, there's an example of how just a hint, not even a policy action, it was just a hint by the Chairman of the Federal Reserve about future US interest rates caused a meltdown in emerging markets all over world. So there's a good example of how everything's interconnected. If you manipulate the dollar, you're indirectly manipulating everything. So that's how I would put it.

SMN: So jumping into more recent events. The current issue with Russia and the West. You know sanctions are now being imposed and many are saying that it might start affecting economies financially. What do you see -- how do you see this being played out?

James: Well, we're in financial war with Russia and this centers around Crimea. Russia invaded Crimea. They've taken it over. I think it's now a part of Russia and nobody in the United States, whether you're left or right or Republican or Democrat, nobody thinks that we should intervene militarily there and I don't either and that's not going to happen. But the US wants to appear to be doing something, so we threatened economic sanctions, which is a form of financial warfare.

The problem is if these sanctions are more than mild, right now they're extremely mild. It really amounts to saying a couple of oligarchs can't go to the Super Bowl next year. But if the sanctions were to get more serious what would happen is Russia would begin to take sanctions with us and the financial war between Russia and the United States would begin to escalate. So what could we do?

That would be more serious. Well, we could freeze the assets of Vladimir Putin's personal assets which are held in Swiss banks or Austrian banks. We could freeze that. We could kick major banks…the two biggest Russian banks are Sberbank and VTB and Gazprombank. We could kick them out of the global currency system.

Well, if we do that, I agree that would hurt Russia, but they would fight back. They would nationalize US dollar assets or freeze US corporate assets in Russia. They could dump their treasury notes, drive up US interest rates, sink our stock markets, and sink our bond market.

They could use their hackers to shut down the New York Stock Exchange. So some very, very disastrous, disruptive things could happen if we allow the financial war to escalate. So first of all we are in a financial war, however I would say that it won't go very far because the United States knows that if we push it too far, the Russians will escalate and then we'll have disastrous outcomes.

The US has a lot more to lose than Russia. You have all the talk is about imposing costs on Russia, that's fine. But if they start imposing costs on us, the United States, we have a lot more to lose and we would lose that war as it went on.

So for people who are thinking ahead and Putin, I would say is thinking three moves ahead, he knows that he could take Crimea. We're not going to intervene militarily and we're not even going to intervene financially because he can fight back and we would lose the financial war. But we are seeing financial war breaking out around the world.

SMN: And do you think that's why other countries such as China doesn't want to get involved in the whole issue?

James: Yes, it's interesting you say that because when we did this war game in 2009 that was China's posture. China actually won the game, but they did it so that by doing nothing, instead of fighting back and forth, they just kept their heads down. That's very typical of the Chinese to keep a low profile. But meanwhile behind the scenes, China's buying gold and they're getting ready for the day when the dollar collapses.

SMN: Smart move on their part, I think. So on to the EU. What are your thoughts on the EU at the moment and its euro currency, the way that it's performing right now?

James: Well, I have an entire chapter in the book just on the euro and the European monetary zone and Germany in particular, it’s Chapter 5. But I have been bullish in New York for years and you go all the way back to 2011. What was going on in 2011, you had people like Nouriel Roubini, and Paul Krugman, and Joe Stiglitz and others running around with their hair on fire saying the euro's going to collapse and Greece is going to get kicked out and Spain should quit and go back to the peseta and devalue the currency and lower the unit of labor clause and it was going to be a northern tier and a southern tier.

There was all this talk and I said at the time "No, that's all nonsense. The euros are going to stick together. Nobody's getting kicked out. Nobody's quitting. In fact, they'll be adding members from time to time, which they have done. They have a couple of new members in the last two years and the euro as a currency is strong and getting stronger.” Well, that's exactly how it's played out. The way I outlined it is exactly what has happened. The European Union has stuck together. They've added members. Their currency is getting stronger. It's approaching $1.40.

But I talked about that in the book. I explain the analytical failures of all the people who were predicting the end of the euro, what they missed, what they didn't understand, and how investors should understand it. So I continue to be bullish and positive on the euro as a currency and the European economy and I explain this in great detail in Chapter 5 of my new book, The Death of Money.

SMN: Great, so before we wrap up can you please tell our listeners any engagements that you have coming up?

James: I'm going to be on the road quite a bit. I'm actually leaving for a long trip to Asia and Australia. I'm going to be speaking in Hong Kong at Mines and Money. I'm going to be speaking in Melbourne, Australia at an event World War D about the end of the financial system.

I'll be there with Marc Faber. I'm looking forward to seeing Marc and then I'm going off to Sydney for some private consulting. Then I'll be back in the US for the launch of the book. Then I'll be in Oman, Jordan in early April for an event hosted by the CFA Society.

I would say if anyone's interested, the best way to sort of follow is to follow me on Twitter. My Twitter handle is @jamesgrickards. Rickards is R-I-C-K-A-R-D-S. So if you just put @jamesgrickards, in your web browser you'll find my Twitter pretty easily. It's an open account so anyone can look at it. Any events or speeches and so forth that I do are all on there. So that's an easy way to follow along.

SMN: Well, thank you, James, for joining us today. It was a pleasure talking to you and getting your insight on the world of money and good luck on your future engagements.

James: Okay, well thank you, Diana. I look forward to being in touch. Maybe we'll do it again in a couple months. So I'll look forward to it.

SMN: Thank you to our listeners for joining us today and submitting your questions of our interview with James Rickards. Remember to join us on sprottmoney.com for all your precious metal needs. This is Diana Nada for Sprott Money News. Have a great day.

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