The Great Reset – Keith Weiner

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by Keith Weiner, Sprott Money:

Before it collapsed, the city of Rome had a population greater than 1,000,000 people. That was an extraordinary accomplishment in the ancient world, made possible by many innovative technologies and the organization of the greatest civilization that the world had ever seen. Such an incredible urban population depended on capital accumulated over centuries. But the Roman Empire squandered this capital, until it was no longer sufficient to sustain the city (we are aware the story is more complicated than this).

After the collapse, the population fell to about 8,000 people. Some fled and arrived at safe places, but surely most perished.

Monetary Reset

This is what we think of when we hear someone say, “There will be a reset”.

A reset is not a good thing. No one should look forward to it, and you certainly cannot profit from it. Not even from owning gold. Sure, those who don’t own gold may be worse off than those who do, but no one does well in a catastrophe like that.

Keith saw a museum exhibit, displaying gold hoards dating from the time of the fall of Rome. It had been the gold of several very wealthy men (each hoard had hundreds or thousands of ounces of gold!) Yet it did not avail them. Those people either fled or died, and their gold was lost for 1,500 years. And rediscovered by workers who were excavating foundations for big buildings in the late 20 th century.

The monetary system is indeed headed towards this reset. We shouldn’t just wait passively for it, we should change course if possible. It is possible, but first, let’s look at what we can’t do.

Price Fixing Scheme

We can’t fix the right gold price. When you hear this proposed, don’t you get the picture of a central planner, a gnome with his tables and magic formulas? Lobbyists would line up in the greatest battle of special interest groups that Washington has ever seen. And a counter intuitive one, at that. We assume that most gold bugs are not debtors, and have savings (i.e. they are creditors). A low gold price benefits creditors. And a high price benefits debtors.

For example, suppose someone owes you $100,000. If the gold price is $1,000, he would need to give you 100 ounces. But if you owed that same amount, then a price of $100,000 lets you pay off your debt by handing over one gold Eagle.

Of course in any market, buyers always want a low price, and sellers always want a high price. There is no conflict of interest, unless the government fixes the price. Which is the essence of this approach.

That’s one fatal flaw. Another is that there is no way to set the price of gold. Look at all the banana republics which have tried to fix the exchange rate of their currency to the dollar. In the end, this scheme always fails. The problem is that Banco de Banana has to take the other side of the trade. So when market participants sell the baneso, Banco has to buy banesos and sell dollars. Since Banco only has so many dollars, it is overrun sooner or later.

The Swiss National Bank tried to fix the price of the franc in the other direction—they wanted to keep it down against the euro. Everyone believed they could do it, because obviously they couldn’t run out of francs when they have the power to print to infinity and beyond. Except it’s not printing, it’s borrowing. The SNB was borrowing francs to buy euro denominated assets. The market was pushing up the franc which is the liability of the SNB, and pushing down the euro which is the asset of the SNB. They could only take so much increase in their liability and so much decrease in their asset, before crying “uncle!” Keith wrote about this at the time, at Forbes.

Money Supply Targeting

Advocates of a gold standard based on a fixed price of gold don’t usually propose buying and selling gold in order to maintain the peg. Instead, they say the Fed should print dollars if the price of gold drops below the target and unprint (our word, not theirs) dollars if the price of gold goes too high. There’s just one problem. Can you spot it, in this graph?

Money supply has an almost perfect record of increasing, with the barest of downward blips during the worst crisis in nearly a century. At the same time, the price of gold is up and down. Suppose the Fed were trying to get the price of gold up to $1050 from 1996 through 2008. It was increasing the quantity of dollars at a good clip. But from 1997 through 2001, the price of gold was going down. What was the Fed supposed to do, borrow more dollars into existence even faster?

Then the price of gold begins to rise, accelerating after 2005. By 2011, it overshoots by almost 100%. What should the Fed have done at that point? Pull mass quantities of dollars out of the economy from 2009 through 2013? Would any Fed Chairman have the guts to do that, given what was going on in the economy at the time? Would any president allow such a Chairman to remain in office? Would the people keep their pitchforks unsharpened, their torches unlit if so?

At best, the connection between quantity of dollars and the price of gold is tenuous, and it isn’t realistic to think that the Fed could ever really reduce the quantity of dollars under any circumstances, much less do it in a crisis.

Gold Backed Currency

Another approach to the gold standard is to declare gold backing. Like many political slogans, this term is vague and ambiguous. What does backing mean, exactly? What could it possibly mean? We can think of two meanings. One is, “trust us, we have gold in the vault corresponding to X% of the dollars in circulation.” Uh, thanks guys, but our cup of trust is a little drained right now.

This is not a mechanism anyways. This leads us to choice two. Backing could mean, “we will buy gold below $X and sell gold above $X.” OK, that is at least a mechanism. And it would work—until the central bank runs out of gold. Just ask Banco de Banana about running out of dollars. And it would run out of gold when the market gets serious about buying gold. Which it will do, because the quality of the dollar keeps falling, regardless of its quantity.

Unlike during the classical gold standard, today the dollar is a completely different animal from gold. It is not a gold-redeemable promise—it is an irredeemable promise. There is no way to retroactively tie it to gold. That train left the station in 1971.

High Gold Price

One popular idea is that gold will begin to circulate as a medium of exchange, once the price gets high enough. The attraction of this idea is not so much economic theory, as relishing the thought that everyone will need gold when the dollar fails. Those who were foresighted enough to lay in a stock of gold will sell it to the masses. And thereby get very rich. One question arises, which is what does price mean when the dollar is going to zero?

This could never work. The collapse of our currency will be a calamity in the best case, even if it’s not 476AD. Those with capital will not be eager to consume it, by spending on consumer goods. Nor will they be buying businesses or real estate. Collapse will be a time of widespread defaults and bankruptcies. In a collapse, the gold will remain hidden. A rising price, much less a collapse, is not a mechanism to make gold begin circulating in the market.

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