Gold vs. the Narodny Rock
By Adrian Ash
February 21, 2008
Individually or together, erm,
in pretty difficult and uncertain times, erm...
IN TIMES OF CRISIS, it's good to know there are
strong men of action working non-stop to sort things out. Or so
everyone seems to think.
Stormy weather needs strong, decisive characters
manning the tiller. Smart thinkers like Alistair Darling, for
instance, now Chancellor of the Exchequer here in the United
Kingdom.
Darling took charge of the Treasury last June, back
when the previous finance minister Gordon "Gold
Sales" Brown promoted himself to Prime Minister of the
world's fourth largest economy.
It was right around the time Bear Stearns was
closing two heavily-leveraged subprime mortgage hedge funds. The
Bank of England's policy committee appointed but not
directed by the chancellor since Darling's party, New Labor,
first came to power 10 years earlier was just about to raise
UK interest rates to 5.75%, a six-year high.
And UK house prices offering less than
one-third the square footage of the average US home, and with
the smallest room sizes in Europe were fast-approaching an
all-time peak price of £184,191, some $350,000.
By Sept. 2007, however barely three months
later the global banking crisis had spread onto Britain's
high streets, creating the first open "banking run" in
more than 130 years at Northern Rock, one of the nation's top
five mortgage lenders.
Clearly Mr. Darling has been hard at work ever
since, fixing everything that let Northern Rock go from £12.29
per share to £0.52 on the stock market a full 95% slump
as it soaked up £26 billion ($50.4bn) in emergency loans from
the Bank of England.
Gold vs. the G7's Men of Action
"What you can do at an international level, I
believe, is make sure we have better early warning
systems," Darling told CNBC in a relaxed chat last week
after the G-7 summit in Tokyo.
"[We can] make sure that, er, when it comes
to, er, off-balance sheet arrangements, or when it comes to the
way that credit reference...er, credit rating agencies behave,
then there does need to be international co-operation.
With it so far?
"But of course," the chancellor went on,
"most banking supervision is a matter for the individual
countries concerned. The lesson that I think we need to draw,
though, is you need to get the right regulatory systems,
supervisory systems, and you've also got to make sure it works.
"Er, and, you know, the system is only as good
as the people who are in it, and the key thing is, the prime
responsibility for getting these things right lies with the
company. It's for a bank to make sure that it knows what its
employees are up to, it's for a bank to ensure it's got a
business plan that works."
Got that? The woman from CNBC sure didn't. So she
asked again without bothering to jab a finger into his chest
in the way that a BBC radio or television anchor would at home
quite what the British chancellor meant by international
action.
"Individually or together," he
replied, "we need to do everything we can, right across the
world, to get ourselves through what is a pretty difficult and
uncertain time."
And with Alistair Darling running the UK finance
ministry, the times ahead are only certain to become less pretty
and more difficult.
So just what might "everything" mean for
policy going forward?
"Going forward, we will continue to watch
developments closely and take appropriate actions, individually
and collectively, in order to secure stability and growth in our
economies," the G-7 statement announced.
Which sounds round about as clear and purposeful as
Darling's ramblings to CNBC. Which in turn would suit us just
fine here at BullionVault...if
only the world's chief policy wonks would stick to talking
gibberish, rather than actually trying to put it into practice.
Those sterling men Ben Bernanke and Hank Paulson of
the United States are now committed along with Japanese
finance minister Fukushiro Nukaga, the two Jean-Claudes of the
Eurozone (Juncker and Trichet), and assorted policy wonks from
Canada, France, Germany and Italy, as well as Darling's own
central banker, Mervyn King of the Bank of England to the
following course of action:
#1. Sell Gold
Following the famed success of the UK
Treasury's gold sales which saw 415 tonnes of gold sold
right at the bottom of the monetary metal's 20-year bear market
the G-7 thinks now would be a good time for the
International Monetary Fund (IMF) to swap Gold
Bullion for "income bearing assets" such as US
Treasury bonds.
Or more immediately, in truth, the IMF founded
at the end of the Second World War should now be bailed out
so it can continue advising poor nations on how to run their
budgets.
It's currently running an annual budget deficit of
$400 million all of its own. And as our friend Julian Phillips
of the Gold
Forecaster notes, the IMF's gold doesn't actually belong to
the IMF yet. The gold still belongs to the original sponsors of
the Bretton Woods currency agreement, an agreement which
collapsed in 1971 when US president Richard Nixon cut the Dollar
free from what remained of the international Gold Standard.
But why let detail get in the way of bailing out a
failed institution?
#2. If at First You Completely Screw Up...
Speaking to the Nikkei news agency just before the G-7 summit,
"I believe you could make a good case...particularly with
the European banks [that] the way they implemented Basel [the
international accounting standards agreed in 1988] may have been
partially or largely responsible for the conduit and SIV
issues," said Hank Paulson.
Put another way, the former head of Goldman Sachs
thinks the last set of pan-national banking rules threw the door
open to precisely the "off-balance sheet" tomfoolery
that's led us to the current world banking crisis.
But never let hard-won experience get in the way of
cocking things up afresh. Right?
"Not only has liquidity dried up since
summer," as Marine Cole reports for Finance Week,
"making the funding of [special investment] vehicles more
expensive, but with the upcoming application of Basel II capital
rules next year, banks will have to start setting aside capital
for off-balance-sheet vehicles, which they havent had to do
under Basel I."
Basel II specifically demands that banks match
their off-balance sheet risks with some level of funded
provision. But the new rules so complex that their
implementation has been delayed by more than three years
still rely on "the same flawed approach of using internal
risk models, credit rating agencies ratings and some band aid
capital charges," notes Nouriel Roubini in his Global
EconoMonitor blog.
So what to do? "There are a number of things
that are being looked at," says Paulson, the
poacher-turned-gamekeeper. "Rating agencies are one of
them. We're looking at the mortgage underwriting, origination
process in the US, looking at securitization, looking at
evaluation and accounting issues and capital issues."
Nothing is safe, in other words, from the new slew
of regulation about to hit the world's banking sector. Which
will only increase fear and uncertainty on Wall Street and in
the City the perfect policy outcome now that banking
confidence has shrunk to nothing.
#3. Bail Out Anything & Everything
Within days of returning from Tokyo, Alistair Darling finally
took the only course of action he thought left open to him, and
he nationalized the failed Northern Rock.
Shareholders are apoplectic not least those
shareholders who bought into the new People's Bank of Great
Britain during its 95% plunge, hoping to turn a quick buck on
the bounce.
If current investors aren't given full value when
the Narodny Rock is re-privatized, "the British
government's actions would amount to robbery under the
law," wails Tim Congdon, an otherwise highly respected (and
apparently sentient) economist. He pleads in the Financial
Times that simply letting the Rock go under was never an
option.
"Central banks exist for the purpose of
preventing [banking] runs or, at any rate, ensuring that runs
are met by lender-of-last-resort loans so the hurried
liquidation of assets can be avoided."
Help me when I screw up, in short, but don't
interfere when I think I've been clever. Which in the bigger
scheme of things underpinning the British public's faith in
the security of its banking deposits if just what
nationalizing Narodny Rock will do for the UK finance industry
as a whole.
"If US policymakers want to avoid a
recession," writes David Bowers of Absolute Research
Strategy also in the Financial Times "they
need to ensure that Americas $750bn annual funding
requirement from overseas is assured, and at a reasonable
price."
How to keep money flowing into the US financial
sector so that its very real-world trade deficit doesn't
implode? "We believe they should move more rapidly to
restore confidence in credit ratings and, thus, in securitised
paper," says Bowers. "This could be done through more
regulatory oversight of the ratings agencies.
"As a last resort, the government could even
'share' its credit rating with key private sector operators such
as the [ailing bond insurance] monolines" which is
precisely what nationalizing Northern Rock achieves for the
failed UK mortgage lender.
Expect ever-more government meddling in short,
begged for by the Western world's finance industry and willingly
supplied by policy-makers desperate to appear decisive.
And for as long as this circus keeps rolling on,
you might want to keep Buying
Gold as defense.
The men of action, after all, are trying to sell it
once again.