Transcript for Alasdair Macleod: Why The Europe Situation is Certain to Get Worse – Part II
Chris Martenson: Welcome back to part two of this really incredible podcast that we’re doing with Alasdair Macleod. We’re talking about Europe and here I want to build off of part one where we described the overall structural imbalances of the European system and why really none of them have been resolved up to this point so far through official actions – in fact, honestly why none of them could be resolved.
And so, what I want to talk about now is, Alasdair, what’s really at risk here? I mean, are we talking about the breakup of the Euro, a global financial meltdown, the end of Europe as an economic union, or something less dire? How does this, how does this play out for you?
Alasdair Macleod: What you said is very dire. I can’t see it all that much different. The immediate problem, if we just concentrate on Europe for the moment, is that the whole of the political European system is under threat. So, what we’re seeing I think is a rear guard action as much as possible by EU officials to try and keep the show on the road. So, regard markets in that context as an extremely inconvenient – not irrelevance – but something which really does a little more than interfere with their grand plans.
They are actually very, very worried about the whole thing. And, the outcome of this I am afraid is going to be pretty disastrous because I can’t see that the politicians are equipped, either to come up with the answers, or alternatively if they got even just the semblance of an answer of how to deal with it, how would they get the political mandate to do so? So, it’s rather like a Shakespearean tragedy. You know, we’ve seen Macbeth or King Lear. We know how it’s going to turn out, but we go again and still watch it. I am afraid it’s going to turn out exactly as it did last time.
As to whether the European Union will continue it its current form, it can’t continue in its current form. It’s as simple as that. We have the problem that within all the various treaties and so on and so forth, there was never ever any allowance for back tracking in the event that something turned out badly. So, the idea that a country can leave the Euro, it never actually entered into the treaties which put together the Euro in the first place. There was no mechanism for them to get out.
Chris Martenson: Having a prenuptial agreement is always important.
Alasdair Macleod: The politicians took the probably reasonable view if you went into it, it was in an irrevocable undertaking. Therefor you couldn’t put in the mechanism for countries to extract themselves from the Euro because it would defeat the object of the exercise. I suppose that they took the view that the Euro was a discipline at the time. And, of course as we know with the expansion of bank credit in particular, any discipline that the Euro has had at the central bank level has not really been translated at the national level and has led to property bubbles all over the place – as I think you eluded to in the first part of this interview.
I think it’s very difficult for Germany to extract itself. Now, Germany is now seeing that it’s got huge great imbalances on its central bank’s balance sheet. It’s running close to three quarters of a trillion Euros or a trillion dollars – something like that. It will be there very shortly I guess. Worse for Germany, when they first went into the euro, they saw it as a means of locking in to the natural market. That was 1999. Since then, things have moved on. The dynamic economies in the world, and no longer Europe in any way – not that they were ever really that dynamic – but now the economy which captured Germany’s attention most – are obviously China, southeast Asia, India, Brazil. If you like the BRIC, these countries which is really where the growth is now. The Germans are selling Mercedes Benz, BMW’s, all the rest of it, all around these countries who have got a sensational appetite for them.
So, that really is where Germany’s future is. No longer is it really amongst its neighbors. So, that gives Germany a huge great problem because Germany is being asked to chuck yet more money at the European problem as if that would resolve anything. So, the appetite within Germany for a continuation of this crazy scheme, Euros end scheme, is rapidly diminishing. This is why the exposure of the TARGET II imbalances is politically quite important.
Chris Martenson: Let’s paint a scenario then. Sooner or later somebody throws their hands up and says enough. It’s either Greece saying we can’t suffer under two decades of austerity. This is really going to be too painful. Let’s rip the band aid off quicker. We’re out of here. We’re going back to the Drachma or Germany says enough. We just can’t continue with this charade any longer. We have to look after ourselves. Now, I want to cast back. 2008, I actually warned my subscribers that we were very close to a banking system meltdown. I actually said go get cash out of the bank – really crazy idea right? But, I was looking at financial stocks and credit spreads and all kinds of warning signs that said there’s something very dire here. A year later, Mervin King – then the head of the Bank of England – came out and said we’re just hours away from a big banking meltdown there in October of 2008.
This was all precipitated ostensibly by a single meltdown in a single US company…well, maybe two. It was Bear Stearns but really it was the Lehman collapse that precipitated a whole host of market illiquidity events that were actually quite frightening at the time. So, it boggles my mind to think what would happen if that throw up the hand in Europe moment happens, what does that scenario look like to you? How does that play out?
Alasdair Macleod: That’s an extremely difficult question because we don’t know until it happens. There are two different views you can take which are equally valid. The first view is the one that I think the authorities would like to persuade is that is the correct view. That is since the Lehman crisis what’s happened is the banks have actually become a lot more aware of the risks in international banking transactions including lending to Eurozone. And, therefore, have taken whatever actions they deem necessary to take to ensure that their balance sheets have a reasonable degree of protection from a political collapse of the European Union.
The other way of looking at it is probably the safer way of looking at it. That is that this looks like it could be extremely nasty. Therefore, as an individual, I should protect myself from this by angling my investments so that they are not harmed by the possible collapse of the European Union or the Eurozone and might even benefit from it. I think that you’ve really got to concentrate being slightly cynical maybe but also having learned through experience, you’ve got to really concentrate on the later. Don’t believe what the authorities might tell you. But, I do think there is something in the thought that banks collectively have actually rearranged their affairs to try and protect themselves to a degree. But, that protection can only go so far because as we all know, banks really run on other people’s money and not their own money. When other people start taking money out of the banks, then that gives the bank a problem.
Chris Martenson: Banks protecting themselves I think is certainly logical. Obviously they’ve learned from the first set of missteps back in 2008. However, when bank’s interest and individual listener’s interest may not necessarily be aligned. So, even if the banks do protect themselves… I want to focus down on this part you started down which is how individuals would specifically protect themselves and what sort of measures they might take. Let’s say I live in Greece. I love in Spain. Or, I live in Germany. Would my reaction change depending on which country I live in?
Alasdair Macleod: I don’t think it should. I think what they have done so far is they have tried to get money out of banks that they perceive to be at risk. That’s really what this capital flight that has led to the imbalances within the national central bank’s books. But, I think that the basic principle that you have to embrace is you have to get your money out of paper money and get it into something more substantial, more stable. My personal view is what we’re seeing in essence is the end of a long period of the growth and development of fiat currencies. I think it is that that is coming to an end – government money if you’d like. It will, in due course, be replaced by a shift towards the money the market’s more automatically have accepted in the past, and that is gold and silver.
I am convinced that we are… if you like in the throes of a collapse of paper currency. How long it takes, I don't know. But, once it starts running it could actually be quite quick. I think that’s the important thing about Europe because we’re looking at Europe and we are seeing all sort of nasty things going on. While we may not feel that we’ve got exposure to Europe, we’re seeing some similarities with our own situation – my case here in the United Kingdom, your case and a lot of your listener’s cases in North America.
You sort of say well, this is not looking good. Are we next? I think the answer is that as the situation evolves, I think it will tend to support the price of gold and silver much in fiat currency terms. More than anything else, there are other commodities perhaps which you could play with. I don’t mean just sort of palladium and things like that, platinum. You know, if you’re not unduly worried about a potential collapse of the derivatives market, there are energy plays that you can indulge in because there is no doubt about it that energy is a must have for any economy that sees itself even surviving the current maelstroms in financial circles.
Energy is something that I know you have talked about a lot. I remember you making the point when we met in Madrid about energy. I whole heartedly agree with it. I think oil prices are likely to go up substantially.
Chris Martenson: Yes, it’s a shift towards real value of course. Money is not value itself. It’s a marker for value. It’s a marker for real things and it has use and utility as long as you can use it and use it in the future more specifically. That’s where it gets its value from. So, what you’ve described though is this potential that there’s a generalized loss of confidence in fiat currencies themselves that we are now…August of 2012 we will be 42 years into this experiment, no 41 years into this experiment of floating exchange rate currencies.
Alasdair Macleod: Yes, more correctly I think the last stage of this experiment.
Chris Martenson: The last stage of this experiment and here’s where we get into the unknown because the globe has never faced a global collapse or an individual collapse of mismanaged currencies – perhaps Argentina, perhaps in Zimbabwe, perhaps over in Mexico. There have been localized collapses. It’s happened a lot. It’s never happened in a global fashion before. So, you’re describing… there’s going to be a process more than an event. It probably won’t happen between eight thirty and eight thirty-one some Tuesday morning.
It’s going to be a long process. I submit we’re in the midst of this process actually right now. It takes a while to unhook and unravel people’s ideas around money itself. Part of this process for me, so let’s imagine if we were Argentina. Here we are and we’re facing a collapsing currency. There aren’t that many tools in the toolbox for a central planner for a government to really pull out and say here’s how we manage this process. One thing you can do is you can just stock the printing press. You go to Zimbabwe. You just let that thing burn itself out and you come up with a new currency at the end of it and start over. That’s the reset button approach. But, if you are going to try and manage it and come at the end of this with a Euro, with a dollar, with a yen that people would recognize, what do you have? You have rising interest rates. You have to convince people and entice them to participate in your currency and you have to do that with attractive returns.
I don't know of any other mechanisms out there besides also letting them know that you’ve stopped this abusive practice of printing. So, you really have to let the chips fall where they may, which again what I am arguing that you have to let the market set the price for your money. It might not be a price you’re exactly happy with and you have to live with the consequences of that. Is that what you’re talking about here?
Alasdair Macleod: Yes it is entirely. You know I think you’re absolutely right to point out that this is the first time in history really that you know the problem is a global problem rather than confined to one particular country. If you read the very, very well documented course of the hyper-inflation in Germany, the one thing that stands out is not so much the gold that was used in transactions, but the dollar and the pound were used as foreign currency actually had purchasing value. The foreign students had an allowance from mom and dad and actually lived life the real high life. They did incredibly well. They were able to even buy property on their allowance.
That is what a collapsing currency does to real asset prices. It brings them down, even though in paper money terms, they go up. We’re facing this on a global basis. It’s actually very, very serious because without having someone else’s currency to if you’d like, replace our own, then how do you pay the baker for a loaf of bread? How does the baker go to the miller who may be a 150-200 miles away and get him to supply the flour? How does the miller pay the farmer? You know, you need that money for life to take along. Whether it’s going up or down is not the point. You need to have the medium of exchange.
Our whole global economic system works on an effective medium of exchange. What we’re contemplating is that governments are now on the last lap, which started in 1971 with the Nixon shock. They’re on the last lap of destroying any faith in their paper currencies. It’s accelerating really quite rapidly. What we have seen in Europe is a very, very nasty vision of one fundamental truth. That is that governments are subject to the same laws of finance that all the rest of us are. What happens is they conceal their liabilities. They conceal the fact that they can’t magic something out of thin air by pretending that they’ve managed to magic something out of thin air.
All governments actually do face that reality at the end of the day. When they stop printing money because it no longer has any use at all, their finances collapse, the whole thing. So, I think on one level, the one thing that I can forecast, I think quite confidentially, is that the central bankers will move heaven and earth to ensure that you still have money in the bank; the bank is still there – even though it might be nationalized or somehow the bad bits hived off into a bad bank. They will ensure that money’s there so you can continue to buy the things you need in order to live. Because the moment that fails, we’re all doomed. It’s as simple as that.
But, governments themselves, they are likely to continue printing and printing. I can see already that if you look at true money supply, which is cash, balances in checking accounts, and also instant access deposit accounts. That is accelerating faster than a parabolic rate. This is very, very important because this is happening at a time where interest rates are at historic lows. Bond yields are at historic lows. And, they are held there for a very, very good reason. If you have rising interest rates, how is the interest paid? It paid us in more borrowing.
So, you can see that the situation with rising interest rates just destabilizes as far as governments are concerned. We are probably on the cusp of that beginning to happen. We’re beginning to see it happen in Europe and the process has not ended yet. I mean, when you look at yields in places like Spain – Spain is what six percent, six and a half percent for a ten-year bond? Would you take six and a half percent for a ten-year bond in Spain? I won’t.
The rates are totally wrong. The thing that makes it even more wrong is that if there’s to say you and I pick a figure out of the air and we say well, 20% we might look at it. But, at 20% is so obviously bust, they’re not going to be able to repay the principle anyway. In other words, they’re in a debt trap from which there is no escape. This idea that government somehow work to different sets of rules than the rest of us is nonsense.
Chris Martenson: Funny how that construct came out. So, I have I guess a two part question here – really important one. It begins here: How concerned should somebody be about the ideal of capital controls being imposed at some point in the future due to reemergence of this crisis into a new phase?
Alasdair Macleod: That’s a very, very interesting question because the traditional reaction of any government getting into problems is to impose capital controls. But the world has changed a lot since that was normal. I mean, we’re going back to the days of fixed exchange rates and all the rest of it. That was the primary purpose of capital control so that governments could manage the exchange rates effectively. We now have a situation where finance is just totally international. Any country that introduces capital controls rather like Argentina, then finds rather different reaction. It finds that it gets stuff excluded from the markets rather than actually managing to protect itself.
I think the other thing you’ve got to bear in mind is that all this monetary inflation over the years has actually destroyed the domestic savings base from most countries. So, by the time you come round to imposing capital control – say a country like Greece – you’re not going to get any money to finance anything by doing that. You’re going totally in the wrong direction. Now, having said that, you can’t overestimate the politician’s ability to get things wrong. So, I wouldn’t be surprised if some try and go down the capital controls route.
But, I think it would be so anti-productive that I don’t take it really all that seriously. What I think we’re more likely to see is an attempt to extend controls if you like, over people – loss of freedom if you’d like, financial freedom – at the G10 level, G7, G10 level. I think that’s where it’s likely to come from. But, it does need everybody in effect to agree. A very good example of this might be the situation over gold. As we know, gold ownership was banned in America from 1933 and there’s lots and lots of references as you go around the internet there is possibilities of these happening again.
Now, I don’t think that if Obama or his successor tried to do that, that he would actually have the support of the people – which you really do need – behind the move. It would create so many internal problems I think. It would create a situation where your own citizens will be willfully disobeying the law. The law goes into disrepute. I don’t think it’s a natural way forward now. And, furthermore, I think spent the last 41 years trying to say that gold doesn’t matter and it’s not a currency. It’s just another commodity and a pretty useless one at that, it’s actually quite a hard U-turn I think for the authorities and for the Treasury and the Fed to turn around and suddenly take the angle we do need protection from gold or from the problems of a rising gold price.
I have an open mind on that sort of thing. I think the wise man probably has gold and silver in bullion form and has it somewhere else from where he lives, just in case.
Chris Martenson: So gold ownership is sort of in the same vain as capital controls. You think the problems that will result from attempting to impose either of those conditions is larger than the benefit that might accrue and even your average politician will figure that out eventually. And, so with respect to gold ownership you’d say it’s too much of a U-turn to go from, “hey it doesn’t matter, it’s irrelevant”, to “it’s too important for you to own”. That’s quite a hard shift. There would have to be some steps in between those two extremes there.
So, here's part two of my question, an important part. Let’s imagine people have seen this coming. Many of them have and more and more are thankfully seeing this coming. So, they’ve taken some of their money, some of their wealth and they’ve invested it in their homestead, they’ve invested it in themselves, becoming more personally resilient. That doesn't take a huge amount of capital. They go to stage two. They put some percentage into gold and silver as a means of protecting themselves in case something happens. But, for those people who are lucky enough to still have money left over, that’s got to stay out there in the financial system, in the paper world.
So, my question is: Once we take sort of the risk of the risk of capital controls off, it frees up our thinking a little bit in terms of where we want to invest. A lot of what we’ve been talking about seems to support the idea that two things are very inevitable at this point: more printing and an inevitable rise of interest rates at some point. So, is the obvious player… is the suggestion that comes out of this, should people be shorting European sovereign bonds or is that fighting the Fed?
Alasdair Macleod: I always hesitate to give investment advice. I think on the face of it, that would be the extremely sensible thing to do on the basis that I see European bond yields – not only the obviously ones, but France as well. France is ridiculously… France has 10 year bond yields at three percent. It should be eight or ten percent plus. It’s just absolutely crazy. On that basis yes you should short it. Whether the government can interfere with that one or not, shorting bonds, I don't know. I mean that would be a very, very difficult thing for them to do. But, conception I think it does make sense to short those markets, yes.
If I can just go back to gold for a moment Chris, there is another aspect of whether the authorities might interfere with the gold price, which is extremely important I believe to understand. That is China has been building her gold reserves. She has declared so far that she’s got a thousand and fifty-four tons I think it is. But, she’s actually got a lot more than that. We know she’s got a lot more than that because she’s been taking all her mine production for quite a number of years now and just stashing it away in house. It may not appear in the central bank’s balance sheet, but they have got it. The other thing I am convinced of is that there is a lot of gold in China and some of it – probably quite a lot of it – in government hands, which is completely undeclared. The reason I say this is I don’t trust the statistics from the world gold council who keep on telling us we’ve got 170,000 tons of gold.
I think they have missed the importance of historical gold mining, China in particular, and also – believe it or not – in Japan. There were reports going back to Marco Polo’s time of huge quantities of gold in Japan. So, the point is that China has a lot of gold. China is trying to set up an alternative settlement system to the dollar. And, I suspect that wouldn’t necessarily be gold backed, but it could involve China saying to her trading partners in Asian, my currency the Yuan is better backed than the US dollar. Therefore, why don’t you consider accepting this as the currency of trade?
The other thing she might do is she might turn around and say, we’ve got now sufficient gold that actually what we can do is we can trade on a net basis by gold credits. I think China is going to go down that route. Now, the reason this is important to any holder of gold is that if the American response at this moment in time to its own domestic economic problems is to try and confiscate gold. You have to think of what that would do to gold price. I believe it would push it up very, very substantially. Now, under those circumstances, what you’re doing in sort of grand strategic basis is you are transmitting an awful lot of extra power, economic power, to China.
I suspect that the advice to the politicians – your politicians in America would have – is that would be not a desirable thing to do.
Chris Martenson: Right, excellent points. A lot of people ask me, you know gold and silver, should I look at the extraordinary run gold has had? Should I buy? My answer is yes – just a simple tailwind sort of a story where we look at negative real interest rates that have always been highly correlated with nice gold gains. When we look at fiscal policies, monetary policies, trade imbalances, all of the things that we would want to see exist is tailwinds. But, the thing that really keeps me interested in gold is that, like you, I believe that we’re in the final throes of a global experiment with floating exchange rate fiat currencies and that this experiment will fail at some point. When it does, we will find ourselves in the usually situation – to sort of paraphrase Churchill at that moment – we’ll be in crisis. The solution that will be adopted will come from a set of things that happen to be lying around.
Well, at this point, we don’t have any other known workable, global settlement system that we know works besides a gold standard. And, it imperfect and we can say maybe theoretically we could build a better one. And, I am sure the IMF has plans and I am sure the World Bank has plans. I am sure everybody has a plan, but nothing else has been tried and I truly believe that in a moment of crisis, very strong possibility we will use what we know works.
So, on the chance that gold could be in some way – maybe on a limited form, maybe on a fractional form, maybe on a fully backed form – will become a backing of sorts either within regions or potentially globally. And, if it does, now we have an extraordinary thing around gold, which is that it has an option value embedded in within it. A wonderful strike price should it…you know if you bought it here at sixteen fifty, and just an outrageous potential future value if it does get remonetized, because there we have to pick silly numbers right? You know, you do whatever. Global monetary gold into money supply and you get a silly number or something. But yes, I love the option value of gold at this point in time.
Alasdair Macleod: Well, I agree with you Chris on that one. Just for you information, I look at the stated reserves that America has which is 8,334 tons or whatever it is, and the amount of true money – which I described earlier – in circulation. And, at the moment, for every ounce of gold that you say you have there are thirty-two thousand dollars of true money in circulation. Now, the point is that level of true money is rising at a hyperbolic rate. What I mean is, even with low interest rates – in other words, almost no cost of borrowing – the rate at which true money supply is increasing is faster than exponential. That’s frightening.
If on top of that you make alarms for the thought that interest rates will rise, and if on top of that you further assume that those interest rates will be paid by yet more borrowing, you can see the potential for the currency collapse is already there. We have already passed the point of no return in what is an enormous, very wearing debt trap. So, the price of gold when I say thirty-two thousand dollars an ounce, that is today, or rather it was last month because those are the most recent figures we have. What it’s going to be at the end of this year and the end of next year, God alone knows. I have no idea whatsoever. But, I do know at the rate of which it is accelerating… it’s not a straight line upward. It’s going to be a very, very high number. At some stage, that option money which you refer to is going to turn into something a lot more real. That I am convinced of because it has to.
Chris Martenson: You know, I have a slightly different twist on that same story, which is that there is a rate of interest at which you could pry my gold out of my fingers. Today for me, that number becomes a wash somewhere between eight and ten percent. I would have to think hard about would I buy another ounce of gold or accept an eight or ten percent rate of interest in today’s world? But, of course by the time we actually got to an eight or ten percent rate of interest, I think my perspective would shift.
Alasdair Macleod: I am sure it would.
Chris Martenson: It might be 20% by then or some other number, right?
Alasdair Macleod: But the point, which I think is very, very important in this, is that if interest rates rise to eight percent then the level of money printing would accelerate to accommodate it. So, actually we have a situation where rising interest rates are going to make gold more attractive in dollar terms, simple because it will bring about the collapse of that paper currency a lot more quickly.
Chris Martenson: Simple because of the outstanding sovereign debt levels standing at 100% or greater of GDP, depending on the country that we’re talking about.
Alasdair Macleod: Absolutely, and the important thing you’ve got… you’ve got the Fed making sure, they will always make sure the money is available to pay the interest, which means an expansion of true money supply. And, you also go the Fed there to ensure that the Wall Street banks don’t fall over. You’ve also got the Fed there to make sure the politicians can recycle money towards the electors so they don’t fall over. So, we have a situation, unless someone is really prepared to bite the bullet, then the whole thing is going to fall over anyway.
I didn’t see that rising interest rates are going to do it. Volka managed to do it, and he jacked up interest rates 20% very briefly, but at what cost? Was it the savings and loans fell over and all the rest of it?I mean it actually was over very, very quickly. It would – in that sense – be a very sensible thing to do, but nobody is going to do it because the cost now. The perceived economic cost is not too great even to consider that.
Chris Martenson: It actually is too great. It was very different under Volka. There’s tenure… a lot of things were different at that moment in time. The US was still in next export positive nation. It was still in that creditor nation. It still had a very high savings rate.