A Response to Toby Connor’s Thesis about the Gold Bear Raid

The “gold bear raid” was driven by the TBTF banks in an attempt to amplify their earnings. This is according to a  Toby Connor article on Resource Investor. In short, his thesis was that the TBTFs drove the price down so they could buy lower now so they could sell higher later. stack-of-gold-bullion-coins

Though I do not disagree with Connor’s technical analysis, I think his explanation for why the price of gold plummeted is just too damn complicated. Occams Razor tells us to look for the simplest explanation, and I think there are much simpler explanations than his.

First, the context: the price of gold fell from ~$1800 last October to less than $1300 in June. It’s recovered a bit of that price since then but is still down over 30% from October.  The fundamentals for gold haven’t changed.

In general, the main driver of gold’s price – at least in the West – is the expectation of monetary inflation. The main driver in Asia is simple demand .

Since the Fed is still creating $85B in brand new money every month, there is no change in the expectation that the new money won’t end up sloshing into the marketplace. Asians are still demanding gold in quantities that far outstrips supply, so there is no change from that perspective that would drive the price of gold down.

I think Connor overlooks at least two situations that serve as a better explanation for the drop in the price of gold.

In no particular order, they are:

  1. The disconnect between paper gold and physical gold
  2. Margin calls on big players

Its well-known that the supply of physical gold implied by the volume of “gold-backed” ETFs far exceeds the actual supply of physical. Nevertheless, paper gold has tracked the price of physical since it was introduced. If a big holder of paper deciding that the spread between implied supply and actual supply was just too big to justify, he might just decide to dump his paper. That could start a drop, which could then be exacerbated by other holders getting margin calls.

Suppose some of those getting margin calls were large holders of gold. Cyprus was proof that the Eurocrats will stop at nothing to keep the big banks afloat. Suppose some big hedge fund was massively short the Euro and massively long gold and found themselves on the wrong side of both those trades when the ECB decided to bail-in Cyprus? Or Portugal? Or Spain? Or Italy?

The amount of gold that was dumped on the market tends to argue that someone was reacting in “panic liquidation” mode, not coolly choosing to manipulate the price lower so they could buy a lot more so they could sell it a lot higher. That’s a cool theory, but it’s just too damn complicated to be believed. I’d put my money on forced liquidation due to margin calls.

Which banks are really “Too Big Too Fail”?

Here’s the list, from Economic Policy Journal. Read the brief story. Enjoy. (

  • Belgium: Dexia
  • China: Bank of China
  • France: Banque Populaire, BNP Paribas, Crédit Agricole, Société Générale
  • Germany: Commerzbank, Deutsche Bank
  • Italy: Unicredit
  • Japan: Mitsubishi, Mizuho, Sumitomo Mitsui
  • Netherlands: ING
  • Spain: Santander
  • Sweden: Nordea
  • Switzerland: Credit Suisse, UBS
  • UK: Barclays, HSBC, Lloyds, Royal Bank of Scotland
  • US: Bank of America, Bank of New York Mellon, Citigroup, Goldman Sachs, JP Morgan, Morgan Stanley, State Street, Wells Fargo

Why Gold, (instead of anything else)?

If you lack understanding about what money is and what it does, you cannot begin to understand why gold is historically the best money. All good money will ideally posses these qualities:

  1. Durability – does it rust? rot? corrode? melt?
  2. Divisibility – does its value change when divided into smaller units? Two halves of one cow is not nearly as valuable as one whole cow.
  3. Portability – Can it be easily transported?
  4. Non-counterfeit-ability – the reason for this attribute should be obvious
  5. Homogeneity – are different units of the same size essentially identical? Not all oranges are identical, nor are all cows. OTOH, gold is gold is gold is gold.

Gold has been the preferred form of money for 5000 years because it is a commodity that possesses all of these qualities.

All fiat currencies are portable, homogenous and divisible. But they are easily counterfeit-able, (just crank up the printing press and make more!), and not remotely durable.

If you look at the list of hard commodities traded on the Chicago Mercantile Exchange, you will see various commodities that have been used as money over the millenia. For use as money, though, they all have drawbacks of one sort or another. All except for gold.

Silver is closest to gold in usefulness as money, but its main use is industrial which actually dilutes its value as money. Platinum is similar to silver, but much rarer than gold. In fact, all the industrial and rare-earth metals share gold’s qualities, but they all have significant industrial uses. Strangely, because Gold is nearly useless as an industrial metal, it is actually more useful as money.

Oil has most of the properties of “good” money as well. It doesn’t degrade over time, is very easily divisible, and impossible to counterfeit. But because it is a liquid, it tends to be difficult to transport. And of course, like silver, it also has great industrial use.

Salt was used as money in the past, but it lacks durability. A good rainstorm or flood makes your money literally dissolve before your eyes. Livestock and agricultural commodities have also been used as money, but they all lack one or more of the monetary qualities that gold possesses.
Commodity-based monies impose fiscal discipline on governments. If a government wants to run a deficit, they have to come up with a way to collect actual money. They can take it from the people by force, but they cannot create it out of thin air.

Imagination-based monies, (fiat), impose no such discipline. With a fiat money, government is free to run up huge debts, and then pay them off with even more money they create out of thin air. (In other words, exactly what modern governments are doing.) This makes it much easier to do incredibly stupid things, like start crazy wars, support military excursions around the globe, and bail out giant banks that make crazy, risky bets and lose.

A Modest Proposal

From the very beginning of the financial crisis, the source of the problem has been evident: big banks committed systemic fraud to cover up their stupid business decisions, and made stupid business decisions to cover up their systemic fraud. (That puts the phrase “circle jerk” in a whole new light, doesn’t it?) When the government gave money to JPMorgan to buy Bear Stearns, (so that Bear Stearns didn’t have to go through the indignity of a bankruptcy), and then gave money to Fannie Mae and Freddie Mac, so that they didn’t go bankrupt, and then gave money to AIG so that they didn’t go bankrupt, and then gave hundreds of billions to various international banks so that they didn’t have to go bankrupt, We The People should have gotten the picture. The federal government exists to serve the banks.

The banks have to be stopped. The government won’t do it, so we will have to.

Here’s a modest proposal – a thought experiment if you will.

Suppose everyone who had a credit card with BofA, Chase, Citi or JPMorgan just quit paying their credit card bills – and deposited the money they save into a locally owned and operated bank? What would be the effect? Well, to start with, you’d deprive these companies of cash. They are already teetering on the brink – and they need to be pushed over the brink.

But if the Too Big To Fail banks fail, won’t that bring the global financial system crashing down?

Uhm, no. It will bring the insolvent banks crashing down. It will expose for all the world to see which banks are insolvent and which aren’t, and when that is done, the solvent banks will be standing and able to service the legitimate needs of business and consumers.

This idea that the world NEEDS these big banks is just stupid. The world needs trustworthy, solvent banks, not banks that – in spite of their great corruption and egregious insolvency – are just Too Big To Fail. We need insolvent banks to fail.

Suppose everyone who has money in one of those TBTF banks withdrew it and bought physical gold instead? Wouldn’t that apply even more pressure to the bad banks and make the good banks more obvious? Many of the TBTF banks have leased out the gold they claim to have in reserve. Such a move would drive the dollar-price of gold even higher because the liars would be forced to buy gold on the open market in order to meet their obligations. Of course, they couldn’t actually do it and would be driven into bankruptcy – which is what we want. No government oversight required – just consumers and businesses exercising their power of choice.

As it is, the bad banks who have engaged in rampant fraud, deceit and corruption, have been propped up with taxpayer money, and the good banks that are run by honest, competent and ethical people are being forced to compete in an arena where the BAD GUYS get bonuses instead of prison terms. Since the government won’t punish them, we will have to.

Terror and Addiction: Another Name for “Banking”

TOUGH LOVE: It means that you treat the person you love in a way that would be inappropriate were that person not an addict.

Normal people have a support system that consists of friends, family, home, money and transportation – all the things we need to maintain our lives. Normal people work to keep that support system healthy by being responsible with our time, money and relationships. Addicts also have a support system, but they do not work to maintain it. Instead, they use emotional, mental and physical manipulation to get other people to do the hard work of maintaining a support system for them. Because other people do the hard work, the addict is free to continue his self-destructive behavior.

Those of us who have loved an addict are intimately acquainted with the unique forms of hell an addict can create in the lives of the people who care for them. Addicts are masters of manipulation, masters of creating guilty feelings in those who care for them and – worst of all – masters of using our virtues as weapons against us. Terrorists use the same type of behavior to wreak havoc in free societies; they depend upon our laws to protect them whilst they simultaneously break those laws committing their acts of terror.

There is only one effective way of dealing with an addict, and only one effective way of dealing with a terrorist. You must cut them off from their support system.They will not change on their own, and if we continue to play their “games”, they will destroy not only themselves but us as well. Tough Love means we do whatever is necessary to stop their destructive behavior and protect the ones they are wounding, even if it means allowing them to destroy themselves.

It’s called “tough love” because it is hard to do. It goes against our instincts and violates the virtues by which we define ourselves. We are people who are giving, we are kind, we are thoughtful and responsible. We are self-sacrificing and eager to share what we have with those who have less. The addict knows this about us and uses these virtues against us. In the case of the addict, “tough love” means that you cut him off from his support system; it means you cease doing anything to enable his misbehavior. Cutting him off means we no longer give him a place to sleep. We no longer let him use our resources or our time. We don’t bail him out of jail. We don’t buy him food or gas or clothes. Tough love means we let the addict experience the full consequences of his addiction and we do nothing to rescue him from his own stupid choices.

The Too-Big-Too-Fail Banks are addicts.

  1. They have a self-destructive habit: they are addicted to money and will do anything to get more of it. They make loans to people who cannot pay; they sell insurance they cannot afford to pay off; they foreclose on homes they do not own; they package and sell the same mortgage multiple times to multiple investors. There is no law, no ethical code and and no standard of behavior they will not break in pursuit of more money.
  2. They have damaged those of us who are in relationship with them even though we have been responsible in our actions toward them. We took out loans in good faith. We pay our bills on time. We trusted that the Mortgage Backed Securities they sold our pension funds were AAA-rated like it said in the prospectus.
  3. They use mental, emotional, physical and financial manipulation to get us to take care of them instead of accepting the consequences of their own choices. They guilt us into paying our mortgages, even though our houses are worth far less than the mortgage. They threaten Congress with worldwide destruction unless Congress bails them out. They get the FASB to change accounting standards so that they do not have to face the fact that they are insolvent. They cook the books. They lie about losses and blame “deadbeats” for their fraud.
  4. They use our virtues as weapons against us. They remind us of our duty to be honest, responsible, loyal and self-sacrificing citizens. It is our honesty, responsibility, loyalty and self-sacrifice that enables them to continue to lie, steal, cheat and kill. They are the worst possible combination of leaches, zombies and vampires.

Because the TBTFs are addicts, they are unable to change themselves without Tough Love. We must stop enabling their destructive behavior. Because they do not accept responsibility for their own behavior, we must cut off their support system – Money.

When you send a check to a TBTF, when you make a deposit with a TBTF, when you take out a loan from a TBTF, when you buy a security from a TBTF, when you open an account with a TBTF – you are enabling their addiction. You must instead cut them off. That means do not send them any more money, withdraw your money from them and refuse to conduct any sort of business with them. Until you do that, you are enabling their addiction and helping them destroy you in the process.

Will it be painful? Yes. The TBTF addicts will strike back at you by threatening your credit rating. Let them threaten. They will threaten to take stuff from you. Resist their thievery. Whatever you do, do not give them any more money.

Watching them withdraw from their addiction will be painful. They will shriek with pain, threaten to destroy us all, use every guilt and manipulation technique known to man. They will get sick and beg us for help. We cannot help them because they must help themselves. They must break their own addiction and must learn how to live responsibly, just like all the rest of us do.

Tough Love means cutting them off.

Cut them off.