The Privateer

2011 Volume - Mid November Issue - Number 691

GLOBAL REPORT

AN ECONOMIC REFORMATION?

“One of the severest forms of monetary policy being roped in for fiscal

purposes is monetary financing, in colloquial terms also known as the

financing of public debt via the money printing press.” (The prohibition

of monetary financing) “...is one of the most important achievements in

central banking. Specifically for Germany, it is also a key lesson from the

experience of the hyperinflation after World War I.”

That is a quote from a speech given on November 8 in Berlin by Mr Jens

Weidmann, the head of the German Bundesbank and a council member of

the European Central Bank (ECB). In the tumultuous noise which passes

for financial “debate” amongst the politicians and central bankers of the

world, it represents a lingering spark of fiscal sanity.

The tragedy of this excerpt from Mr Weidmann’s speech is that it contains

within it a fundamental contradiction. The reluctance to indulge in

“financing of public debt via the money printing press” is NOT “one of

the most important achievements in central banking”. Central banks are

now and always have been institutions set up specifically to debauch the

currency by having a monopoly on its issuance. From there, every central

bank in history has progressed to the stage of financing the public debt

without the inconvenience of having to find a “buyer” for such debt. A

central bank can create any amount of the “currency” necessary for the

purpose. Sooner or later, all of them do. The only solution to this problem

is not to have a central bank at all.

Speaking In Euphemisms:

The crowning financial cop-out is the coining of the phrase “quantitative

easing” as an innocuous description of the practice of direct monetisation

of government debt by central banks. The phrase first appeared in The

Privateer in our last issue of 2008 (#619 - December 21, 2008). This was

the issue which dealt with the Fed’s decision to drop their controlling

funds rate to 0.00 - 0.25 percent on December 16, 2008. The Fed’s

adoption of zero rates was the end of Fed monetary policy.

If commercial banks, businesses and individuals wouldn’t borrow at that level, they wouldn’t borrow at

all. This is fatal to any “credit-based” monetary system. The only means to provide a stay of execution is

for “somebody” to keep borrowing new money into existence. If nobody else will do it, the government

must. As the deficits blow out and as the interest rates remain cemented in place, the “pool” of willing

lenders diminishes. At some point, they are not sufficient to keep the new money being borrowed into

existence at a sufficient level to service the debt issued to underpin the money already in existence.

When that point is reached, the central bank steps in. By that time, the quality of the money has been

destroyed. All that is left is its quantity - hence the term “quantitative easing”.



The ECB Is Not A “Proper” Central Bank:

On November 1, Mario Draghi took over from Jean-Claude Trichet as the president of the ECB. On

November 3, the first governing council meeting of the European central bank under Mr Draghi’s

leadership took place and announced a 0.25 percent cut in the ECB’s governing rate to 1.25 percent. In

doing this, the ECB negated the 0.25 percent increase they passed in July 2011 and pushed their

governing rate back to the level it was at between May 2009 and April 2010. This rate cut came as a

surprise to most ECB observers inside and outside Europe. But what came as a bigger surprise, especially

to observers outside Europe, was the refusal of the ECB to invoke the “nuclear option” and go straight

into “quantitative easing” on a massive scale.

In a response to many questions fired at him during the post-meeting press conference, Mr Draghi had this

to say: “What makes you think that becoming the lender of last resort for governments is what you need

to keep the Euro region together? That is not really in the remit of the ECB.” “Remit” in this context

means a task or area of activity officially assigned to an organisation. According to Mr Draghi (and his

predecessor Mr Trichet) - “the remit of the ECB is maintaining price stability in the medium term.”

Before the end of 2008, this was the “remit” of every central bank in the world except one - the Bank of

Japan (BoJ). Japan at that time had been in a rolling “recession” for nearly two decades and the BoJ had

subjected the system to many bouts of “debt monetisation”, to little if any avail. In late 2008, the entire

global credit-creation mechanism froze. It showed no signs of thawing even after the Fed lowered to

zero, the Bank of England to 0.50 percent and the ECB to 1.00 percent. So, in March 2009, the Fed and

the BoE detonated the financial “nuclear option”. The BoE has not stopped to this day. The Fed has,

twice, both times relying on the US Dollar’s status as the world’s reserve currency to preserve the

reputation of Treasury debt as the world’s “safest” paper asset.

The problem - for the Fed, the BoE and the BoJ - is that the ECB has yet to succumb to the temptation of

“quantitative easing”. Yes, the ECB is buying sovereign European debt paper. The total up to and

including early November was officially about 185 Billion Euros “worth”. There are two problems, as far

as the other central banks see it. First, the ECB’s sovereign debt buying has so far been minuscule in

comparison to what the other major central banks have indulged in. Second, the ECB “sterilises” its

sovereign debt buying by draining an equivalent amount of Euros from the banking system. As far as the

Fed and the BoE is concerned, this is not what a central bank is “supposed” to do because it robs

“qualitative easing” of its alleged stimulatory effect.

What The ECB Is “Supposed” To Do:

The demands have been incessant from politicians on both sides of the Atlantic ever since the European

sovereign debt crisis was ramped up again in the wake of the US budget deficit “deal” in early August.

US Treasury Secretary Geithner and his counterpart in the UK, George Osbourne, have been speaking

with one voice for months. The ECB needs to start printing Euros - BIG TIME. In reaction to Mr

Draghi’s comments quoted above, the latest version of this tune was sung by Irish Finance Minister

Michael Noonan: “The ECB needs to go to the market and say we have a wall of money here and no

matter how much speculation there is, we’re going to keep buying Italian bonds or any other Euro bonds

that are threatened.” Variations on this theme have been flowing thick and fast ever since the European

announced their Greek bailout deal on July 21 and have reached deafening proportions since the “grand”

European plan was unveiled just over two weeks ago on September 27.

According to these critics, “austerity” plans are not viable because they take too long to show any results

at all and because they stunt economic “growth”, making the desired results impossible to achieve.

Jawboning the markets won’t “work”. Appeals to financial sanity won’t “work”. Nothing will “work”,

except the modern equivalent of running “money” off a printing press in unlimited quantities. The ECB

is still refusing to go along. It is not a “proper” central bank. It refuses to wantonly destroy its “money”.

The Privateer - Number 691 Page 3

Mr Micawber Revisited:

“Annual income twenty pounds, annual expenditure nineteen and six, result happiness.

Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.”

Given the sums involved, you may take it for granted that the setting was in mid nineteenth century

England. The speaker is Mr Micawber from Charles Dickens’ David Copperfield. Mr Micawber knew

whereof he spoke. He gave this advice to David Copperfield from his cell in debtors’ prison. That is

another gulf which separates the mid nineteenth century from the present. They took debt seriously in

those days - even small amounts of it. Please note the term - debtors’ prison. The vast majority of the

people in Mr Micawber’s day lived in what was literally a MONEY economy. In 1860 in England, the

average ANNUAL wage for a farm labourer was about 40 pounds. For a miner it was 60 pounds and for

a skilled worker between 60-80 pounds. The “big” money was made by those in the higher reaches of

government and especially by lawyers. The government “workers” got about 250 pounds a year while the

lawyers made between 1100-1200 pounds.

Now here is something very interesting about average wages in England. In the 50 years between 1860

and 1910, nominal annual wages throughout the private economy increased by 65 to 100 percent. In

terms of purchasing power, they actually increased more than that since prices were falling. But annual

wages for more highly-placed government employees FELL by about 40 percent over that same half

century while lawyers saw their average incomes decline by about half that amount.

In 1850, most private workers neither patronised banks nor took out loans. They carried their money on

their persons or put it “under the mattress”. Those who lived off the income derived from government

debt paper (called “gilts” or “perpetuals” in those days) were strictly the higher classes. Fifty years later,

the large increase in wages at the lower end of the scale had hugely increased both the access to bank

“finance” and the appetite for same. The attitude of “Buy now - pay later” was still in its infancy but it

had definitely raised its head. The attitude of “buy now - pay NEVER” had yet to be born.

It took a world war and a global recession to give birth to that way of “doing business”.

A Comparison Of Scale:

By the end of the 1930s, there was for all intents and purposes only one nation left on the international

“Gold standard”. That nation was the US, although the fact that the US Dollar was “backed” by Gold was

irrelevant to Americans who had been forbidden to own Gold in any form since 1933-34. In 1944, the US

officially became the only world money with any formal tie to Gold. That lasted for less than 30 years.

The US government repudiated its promise to redeem the US Dollar with any amount of Gold in August

1971. The German Bundesbank had agreed to forego its right to exchange US Dollars for Gold as far

back as March 1967. The French went in the complete opposite direction. Under Charles de Gaulle, they

were sending the US Dollars earned by their US exports back to the US and demanding Gold in return - at

$US 35 per ounce. With European interest rates higher than US rates, US Dollars were flowing out of the

US to buy European currencies at what were still fixed exchange rates. To keep these fixed rates in place,

European central banks were forced to “buy” these Dollars with new issues of their own currencies

created for the purpose. The pressure on the fixed system became immense - and unsupportable.

How big was the problem? In January 1971, foreign central bank holdings of US Dollar “assets” reached

an all time high total of $US 20 Billion. By May 1971, that total had increased by 60 percent to $US 32

Billion. By modern standards, these totals are derisory, they are not even “rounding errors” in the fiscal

calculations of modern governments and central banks. Yet a mere 40 years ago, they were enough to set

the entire global financial system on its ear. The result was the end of money and the beginning of the era

of government promises to pay - and NOTHING else - circulating as money.

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How A Little Became A Lot:

From the distant vantage point of late 2011, the $32 Billion in US Dollars held by global central banks in

mid 1971 seems unbelievably low. The problem - for the US and the global monetary system - was that

the US Treasury only held 261 million ounces of Gold at that time. At $US 35 per ounce, 261 million

ounces was “worth” a mere $US 9.135 Billion. That’s less than 30 percent of the foreign US Dollar

central bank holdings still officially “redeemable” in Gold.

In mid 1971, the US had two choices. The first was to increase the official ratio between the Dollar and

Gold to cover these foreign holdings. That would have required a US Dollar/Gold ratio of a bit less than

$US 125 per ounce. It would also have required an immediate cessation of US government deficit

spending and of Federal Reserve interest rate manipulation. The other choice was to repudiate Gold

redemption altogether. That was the choice taken, and that is the reason why the world now faces an

insoluble and all but incalculable fiscal, financial and economic morass. That $US 32 Billion in US

Dollars held in foreign central banks has become multiple $US TRILLIONS today. The US Treasury

updates what it calls its “intergovernmental holdings” of US Dollars on a daily basis. At the end of

October, those holdings totalled $US 4,738 Billion. The Treasury still lists its Gold holding at about 261

million ounces. In mid 1971, it would have taken a Gold “price” of $US 125 to cover all central bank

holdings of US Dollars. In late 2011, it would take a Gold “price” of $US 18,155 to do the same job.

In mid 1971, the fixed Gold price of $US 35 per ounce would have needed to be multiplied by just over

3.5 to cover foreign central bank held US “assets”. In late 2011, the current “market” Gold price of $US

1770 (as of November 9) would have to be multiplied by 10.25 to perform the same function. And that is

with a Gold price which is already more than 50 times higher than it was in mid 1971.

What was a “rounding error” in 1971 has become an all devouring fiscal monster 40 years later.

The One Central Bank Which Has Not Given Up - Yet:

As it presently stands, the European Union in general and the Euro nations in particular are constrained by the latest version of the European Treaty - the one which was negotiated in Lisbon and came into force on December 1, 2009. It is not a coincidence than no sooner had this treaty come into force than the first breath of what was to become the European sovereign debt crisis was ushered in by the US ratings agencies. On December 8, 2009, Fitch cut its rating on Greek sovereign debt to BBB+. This was the first

time in 10 years - since the birth of the Euro - that any ratings agency had cut Greek sovereign debt below

the “A” status. On the following day, S&P cut its outlook for Spain from “neutral” to “negative”. S&P

also officially ruled out any possibility that Greece would go “bankrupt”. Like the rest of the world, the

EU had - and has - a central bank after all. It also has taxpayers - lots of them.

The problem for central banks outside Europe was that the Lisbon treaty which came into force on

December 1, 2009 contained something called Article 101. That article specifically prohibits any lending by the European Central Bank (ECB) to European governments. Don’t forget, the BoE and the Fed had begun specifically lending to their own governments nine months earlier in March 2009. They did not

appreciate the ECB being prohibited from following suit. They appreciate it even less today.

Almost two years after the first whiff of this European debt crisis, none of the five of the “PIIGS”

European nations can service their current debt because the markets have pushed the interest rates on this debt up by multiples of what they were two years ago. The latest “member” of this club is Italy, which saw the rates on its 10-year paper surge above the 7.0 percent level on November 9.

The only “solution” to this problem is claimed to be the repudiation of the EU treaty and for the ECB to embark on the same program of “quantitative easing” which has engulfed most of the rest of the

“developed” world. The ECB is still holding out. It will probably not hold out for much longer.

The Privateer - Number 691 Page 5

There Is Only One Solution:

The most cogent evidence that the global economy needs reforming can be seen from just one price on world markets. Exactly ten years ago, Gold was trading at $US 275 per ounce. That is a multiple of just

under 8 from its 1971 “fixed” price of $US 35 an ounce. Today (November 9), Gold is trading at $US

1770 (having been as high as $US 1900 five weeks ago). That is a multiple of more than 50 from its 1971

fixed price. Gold, as the only viable alternative to the monetary system which has girdled the globe for

four decades now, is public enemy number one to central bankers everywhere. Despite this, and despite

the ever increasing chaos in the global finance system over the past decade, Gold has staged an unbroken

rise throughout. Barring a HUGE ($US 350) fall from its present level, Gold will end 2011 with its

eleventh consecutive annual gain in US Dollar terms. There is little if any historical precedent for a rise of this consistency in the annals of any financial “asset”.

Governments and central banks have not given up in their efforts to “cap” the Gold price. Consider the big Gold fall in the last week of September 2011. That fall was precipitated by LARGE increases in the

margin requirements for trading Gold on the futures markets in both the US and China. More recently,

when MF Global collapsed due to its derivative exposure to (among other things) European sovereign

debt, the regulators concerned EASED the margin requirements for customers of the firm. The message

is clear: “You must see Gold as ‘risky’ and paper (any type of paper) as comparatively ‘safe’!”

The last global head of state to publicly call for a return to Gold as circulating MONEY was France’s

Charles de Gaulle in the late 1960s. About the only politician calling for this today is Ron Paul in the US.

These men have one thing in common. De Gaulle presided over the end of any French pretensions to empire. Ron Paul is calling for the same thing for the US today. De Gaulle knew that France couldn’t afford it either from a financial standpoint or from the standpoint of maintaining internal peace. Ron Paul knows that the US is in exactly the same situation today. He is the one US politician not afraid to say so.

An Economic Reformation?:

Whether on a national or global basis, a genuine economic reformation must begin with what it uses as money. No advanced economy can function without a medium of exchange and no medium of exchange has ever held its purchasing power once government monopolises it. There are no historical exceptions.

“A billion here and a billion there - sooner or later it all adds up to ‘real money’.” That was the refrain of those who looked askance on the seemingly inexorable buildup of government debt which “forced” the

world off Gold 40 years ago. Today, the saying is still current but the terms have changed. What was a

“billion” then has become a “TRILLION” now. The problem is that whatever the amount in question, the

total ends up as the opposite of “real money”. It ends up as worthless confetti.

Most of the world’s central banks which matter have chosen to ignore this simple fact. They can still

afford to do so. The interest rates they pay on the debt they have already accumulated has not yet budged

off historic lows. Europe is different. All around the periphery of the continent, interest rates have risen

(or are rising) to reflect the REAL risk faced by those who still treat the debt issued by government as an

“asset”. On November 2, the European Union reported that Italy, the latest market victim, had a

“primary” (government spending excluding debt servicing costs) SURPLUS of 8.2 Billion Euro. The

actual Italian deficit - still one of the lowest in Europe on a GDP percentage basis - is entirely composed

of debt servicing costs. This is the only thing the “markets” are concerned about.

The ECB is still clinging to the idea that if it doesn’t knuckle under and join its fellow central bankers in

directly monetising the debt of its member nations, it can maintain the fiction that the Euro is not just

another fiat currency backed by nothing but government promises. But the Euro IS just such a currency.

An economic reformation cannot come before a monetary reformation. And a monetary reformation

cannot come while money is backed by nothing but government debt. The ECB cannot change that.

The Privateer - Number 691 Page 6

INSIDE THE UNITED STATES

GIVING THANKS FOR NOTHING

Let us review the state of play as time ticks down towards the US Thanksgiving holiday on November 24.

As a side dish served up with the recipe to increase the Treasury’s debt limit, a Congressional “super

committee” was born. This committee is “tasked” with coming up with a plan to cut between $US 1.2

and $US 1.5 TRILLION off government spending estimates over the next ten years. When the committee

was set up, the deadline for this plan was put at November 23, the day before Thanksgiving. Shortly after

the committee began its deliberations, the Congressional Budget Office (CBO) demanded the plan in the

first week of November so that they could run the numbers through their computers. There is no “plan”

on the horizon. The first week of November is history. There are less than two weeks to Thanksgiving.

Since the debt limit deal was done on August 2, US Treasury debt has increased by about $640 Billion.

If the super committee comes up with a recommendation, Congress has a month to approve or disapprove

it by what is called an “up and down” vote. That means that there can be no amendments, filibusters or

“super majority” conditions attached to the vote. If the committee’s recommendations are accepted, that’s

that. If they are not accepted, or if the committee does not come up with anything, then automatic cuts are

scheduled to take place. There is only one caveat on both these potential outcomes. They do not come

into force until January 2013. In January 2013, there will be a new Congress. AND NO NEW

CONGRESS IS BOUND BY ANY DECISION OR LAW MADE BY THEIR PREDECESSORS.

Nifty, isn’t it? Is it any wonder that the US Congress has an “approval rating” of nine percent?

It Gets Even More Grotesque:

Way back on February 14, 2011, President Obama presented his budget for fiscal 2012 - the US financial

year which began six weeks ago on October 1, 2011. That budget has not yet been granted the required

legislation from Congress. At the beginning of the current fiscal year, Congress passed a “continuing

spending resolution” which would keep the Treasury borrowing and spending until November 18.

What is remembered now about fiscal 2011 in the US is the month of “brinkmanship” indulged in by the

US Congress in the lead up to the patched together debt limit deal of early August. But almost from the

beginning of the year, Congress was repeatedly plagued by debates over “continuing spending

resolutions”. It looks like fiscal 2012 is going to be a repeat, with the first one coming to a head less than

a week before the super committee is scheduled to reveal its grand plan. There is only one problem for the US Congress (and the administration). 2011 was not a US election year - 2012 IS!

We’re Having An Election - Nobody Would Dare Disturb Us!:

The “shock” Treasury debt downgrade by S&P which took place on August 6, shortly after President Obama signed the debt limit deal, was not endorsed by the other two ratings agencies which matter. Nor

have they any intention of doing so, not with a US election year looming. Moody’s, which has long had a “negative” outlook on Treasury debt but which still rates it at the AAA level, has made that very clear.

According to Moody’s, the decision (or lack of same) of the super committee on November 23 will not be

a decisive factor in their Treasury rating. Instead, they say they are looking towards the results of the

November 2012 election and the budget for fiscal 2013.

Fitch does not even have a “negative” outlook on their AAA Treasury debt rating. They haven’t ruled one out, but again they will only be reviewing the situation after the 2012 elections are held. Meanwhile, Fed chief Ben Bernanke is polishing the central bank’s “image” at town hall meetings. In Texas, he assured his listeners that Treasuries are still a “safe haven”. Mr Bernanke was far more “concerned” with Italy and Europe in general. Clearly, so are the ratings agencies. Happy Thanksgiving!

The Privateer - Number 691 Page 7

INSIDE JAPAN

WHAT’S “BAD” FOR CHINA IS “GOOD” FOR JAPAN

In amongst all the other contradictions which are proliferating in the global financial system these days,

one that stands out is the attitude towards currency interventions. As far as public pronouncements from

US politicians are concerned, it’s fine if some nations do it but beyond the pale if others indulge.

Nowhere is this “dualism” more stark than in US (and global) reactions to the policies of the two major

Asian nations - Japan and China. Japan makes no secret of its currency intervention policies. Nor is there

any hue and cry from the US Congress (or anybody else) when the Japanese government embarks on yet

another of a long line of central bank interventions to weaken the Yen. The attitude towards China is the

exact opposite. Like any other national government with a central bank, China manipulates the value of

its currency on the international exchange markets. But it does not make a big song and dance act out of

the practice. That job is left to US politicians, who love to fulminate against the perceived Chinese

government policy of stopping the Yuan from rising as fast as it “should be” rising against the US Dollar.

An Uphill Battle For Japan:

To a greater extent than any other developed nation in the world, Japan relies on its exports for its very

survival. Japan cannot and has never been able to feed itself - for that it must trade. Japan is unique in

another aspect too, and this one relates directly to the fiat currency era ushered in by the end of US

Dollar/Gold convertibility in 1971. Consider what Japan has had to cope with since then.

In January 1971, one US Dollar was worth 360 Japanese Yen. The beginning of the 1970s roughly

coincides with the explosion of Japan as a manufacturing and exporting nation. One of the reasons for

Japan’s huge exporting success which began in the 1970s was the quality of what they were selling. But

another was the cheap prices at which they were selling, aided by the very low Yen exchange rate. That

low rate didn’t last for long. By the end of 1972, just before global currencies “floated”, the US Dollar

was down to 300 Yen. By 1979, it had collapsed to 200 Yen. In March 1987, the Dollar fell below 150

Yen for the first time. Finally, by mid 1994 the Dollar hit 100 Yen.

By 1994, the Japanese bubble stock and real estate markets had already collapsed and the Japanese

economy was following fast. The US Dollar did not fall below 100 Yen again until the Lehman crisis hit

in September/October 2008. The 100 Yen level has not been seen since. Early in trading on October 31,

2011, the US Dollar hit a new post WWII low of 75.4 Yen. The Japanese government and central bank

couldn’t take this any longer. On October 31, they launched what was described as a “massive”

intervention in the foreign exchange markets, selling Yen for US Dollars. It certainly “worked”. By the

middle of the trading day on November 1, the US Dollar had soared to 79 Yen.

When the Bank of Japan intervened in the currency markets in August, their “boost” to the US Dollar

against the Yen lasted barely a day. This time, it has lasted two weeks, and counting. But back in

August, the world’s “debt” focus was still on the US. Now, it is squarely on Europe.

Japan is the Asian nation which preceded the rest of the “developed” world into the economic doldrums

by a full decade. Its credit markets and economy collapsed in 1990, the rest of the world followed suit in

2000. For this reason, Japan has the lowest interest rates and the highest government debt to GDP ratio in

the world. Yet on October 31, 2011, the Japanese Yen was the best performing of all the major

currencies against the US Dollar in 2011. This trend goes back a long way. In 1971, 360 Yen bought

$US 1.00. Today, 360 Yen buys $US 4.60. That is a huge handicap for a nation which MUST export.

Japanese currency “manipulations” are tolerated because Japan has lost its position as the top foreign

buyer of US Treasuries. China’s “manipulations” are not - because it has replaced Japan in that role.

The Privateer - Number 691 Page 8

INSIDE THE EUROPEAN UNION

THE FINANCIAL VERSION OF UNILATERAL DISARMAMENT

“If a government does not have its own central bank on which it can draw cheques freely, its

expenditures can be financed only by borrowing in the open market in competition with business. This may prove expensive or even impossible, particularly under conditions of extreme emergency.”

That reads like a typical mainstream commentary on the current situation facing the peripheral European nations and threatening the core European nations like France. It is not. It is a quote from a commentary

written back in 1992 by the British economist and critic of European monetary union, Wynne Godley.

1992 was a signal year in Europe. It was the year in which the European Union was born as a “marriage”

between the twelve-nation European Community and the seven-nation European Free Trade Association.

Europe already had a “single currency” - the European Economic Unit or “ECU” which was brought into

being in 1979 as global interest rates were soaring and the US Dollar-centric global monetary system was

tottering. The ECU was never a circulating currency, however. It was, in essence the European version

of the IMF’s Special Drawing Right or SDR. The ECU was an “accounting” currency only.

The ECU was conceived to fill the same role as the Euro but never made it. In fact it was actually

replaced by the Euro under the Maastricht treaty signed in 1992. But unlike the ECU, the Euro was

introduced as a non-circulating currency (in electronic transfers and banking) on January 1, 1999. It was

introduced as a physical circulating currency composed of notes and coins three years later on January 1,

2002. Two months later, the former national currencies of the Euro nations had been phased out and the

Euro took over. Ever since then, the “problem” for the Eurozone (according to non Eurozone analysts) is

that it has many different governments but only one central bank. That makes it much more difficult to

apply the financial “nuclear option” which is being urged on Europe by the rest of the world.

The Apostate Central Bank:

The Eurozone does have a central bank, of course, the European Central Bank (ECB). The ECB has

raised the almost hysterical ire of the rest of the world’s central banks by doing its best to stick to a

financial version of “unilateral disarmament”. For two years - and counting - it has refused to take the ultimate step and directly monetise the debt paper being issued by European governments. It has the temerity to claim that it is expressly forbidden this course under the treaty which governs the Euro zone.

It has not had the temerity to point out that under the “treaty” which created the US (aka the US

Constitution), there is no provision for a central bank at all, let alone one which finances government through monetising its borrowing. In short, the ECB is not playing the fiat money game.

Here is a quote from a recent Mike Whitney article: “Imagine if Henry Paulson - instead of nationalising Fannie and Freddie when they were about to blow - had decided to set up a structured investment vehicle funded by issuing bonds to China that would cover 20 percent first loss provision on Fannie mortgagebacked securities. Do you think investors would have still held onto their Fannie bonds? No way!”

Quite true. Instead, the Fed absorbed them onto its balance sheet - at 100 cents to the Dollar. It then went on to cut its rates to zero five months later and to begin monetising Treasury debt three months after that. Had these things not happened, the US and global economy would have collapsed and the process of purging the bad debts and malinvestments would have begun. By now, more than three years later, the world would have already started to emerge from what surely would have been a HUGE recession.

Europe is still advocating “austerity measures” instead of outright printing. For this, they are being

pilloried on the “markets” and singled out as the sole “cause” of the again worsening global financial crisis. The REAL cause is that NO nation - thus far - has drawn a line on credit creation and said: this

far and NO further. Europe is the only one still trying - unilaterally - to disarm their printing press.

The Privateer - Number 691 Page 9

AUSTRALIAN REPORT

DON’T BALANCE THAT BUDGET- AND - HAIL TO THE CHIEF

On November 2, the Aussie central bank did something they hadn’t done since April 2009 - they cut their controlling interest rate by 0.25 percent to 4.50 percent. That 2009 cut came at the end of a sequence which had seen the Reserve Bank of Australia’s (RBA) “cash rate” swoon from 7.25 percent to 3.00

percent in just over a year. The same period saw the Aussie Dollar swoon from virtual parity with the US

Dollar to a low of $US 0.63. Today, the Aussie Dollar has been at parity or better with the US Dollar for the vast majority of the past year. To put that in perspective, the Australian Dollar was “floated” against the US Dollar in December 1983. It did not reach parity until November 2010.

This comparative “strength” of the Aussie Dollar has bred a high degree of complacency in both the

Australian government and the Australian central bank. The Gillard Labor government - and in particular

the Treasurer Wayne Swan - have often pointed to the “Mighty Aussie” as a prime exhibit in their claims

of economic management competence.

As for the RBA, they stopped raising rates (at 4.75 percent) in November 2010, just as the Aussie was

reaching parity. And now, on November 2, 2011, they have started lowering them again. There have

been instances in the past where a central bank RAISES their controlling rates only once (or at the most

twice) before reversing their field. But once a central bank starts LOWERING rates, it usually keeps

going. That is especially true in present global economic circumstances. As the Fed and the Bank of

Japan (BoJ) have shown, the only thing that stops a central bank these days is not having an interest rate

left to lower. Ominously, Mr Swan has already pointed to the fact that, unlike the Fed or the BoJ, the

RBA “has room” on the downside for Aussie rates - should that prove necessary.

A Celebrated Precedent:

After months of pleading, the legions of Aussie debtors (at all levels of indebtedness) have got their way.

Ever since the RBA lowered their rates, the chorus has, if anything, become louder still. Aussie

businesses of all sizes and descriptions are pointing in panic to “deteriorating conditions”. By that they mean that Aussies are not borrowing and spending enough. Aussie “economists” are pointing at China and its deteriorating trade surpluses in growing alarm. Worse still, the raw resources that Australia

exports are coming under pressure. Over the month of October, iron ore prices have fallen by 30 percent.

Coal prices are coming under increasing pressure too as Chinese demand wavers.

Some Aussie pundits are even saying that the mining boom has peaked. By that they mean that raw

materials prices have peaked, not that Aussie mining infrastructure has peaked. This may or may not be

true, but it is being touted as a danger to economic “growth” and therefore something that both the RBA

and the government must take VERY SERIOUSLY!

In the eyes of these people, the RBA has belatedly started to take it seriously with their rate cut. But

much more is said to be needed here. The Aussie government (Mr Swan in particular) is not taking it

seriously. They are still persisting in the claim that they will balance their budget by the end of June

2013. To show they mean business, they have just passed their “carbon tax” through the Australian

Senate. But to the economic prognosticators, a budget surplus in the face of waning economic “growth”

would be a disaster. The universal plea to Mr Swan is to forget about a budget surplus. That is the kind

of “precedent” that none of those who rely on credit-created money want to see established.

THE MAN COMETH:

US President Barack Obama is visiting Australia next week. According to all reports, he will announce the establishment of a US military base in Darwin during his visit there. Hail to the Chief!

The Privateer - Number 691 Page 10

GLOBAL MARKET REPORT

RISK: GONE TODAY - HERE TOMORROW

Investors in the global paper markets don’t quite see it that way. They have coined a phrase to describe the manic swoops and dives which are now affecting pretty well all of the investment markets in the world. They call it - “risk on - risk off”. As Doug Noland described it in his current Credit Bubble Bulletin, the week just ended gave us a perfect example of this global syndrome.

On Wednesday, November 9, the interest rates on Italian sovereign ten-year debt spiked above the 7

percent level. As both market participants and the computer programs they use instantly registered, this

was the level at which Greece, Ireland and Portugal gave up trying to “jawbone” their way out of trouble

and stampeded to the European Union (EU) - pleading for a bailout. The EU complied, with great

difficulty. Italy, though, is an entirely different kettle of spaghetti. Italy has the third biggest bond market

in the world and owes almost 2 TRILLION Euro. It is, according to the pundits who matter, too big to

bail out. The reaction to the spike on Italian rates was instant. Stock markets all over the world swooned.

The Dow lost almost 400 points on the day. Meanwhile, the US Dollar soared.

Two days later on November 11, both the elected Italian and the Greek heads of state had signalled their resignation and “caretaker” governments were being hastily set up in both nations. The “austerity”

programs demanded by both the EU and the European Central Bank had been passed. Presto, Italian bond rates fell well below that critical 7 percent level. The US Dollar dived and global stock markets recovered most, or in some cases all, of their November 9 falls. Global markets everywhere are now doing a very good impression of a huge roller coaster. Every time you get to the end of the ride you are

right back where you started. But the ride itself has scared the hell out of you.

The Hazard Of Financial Morality:

We have all heard of “moral hazard”. It is something that was said to have kept Treasury Secretary Hank

Paulson awake at night when he was agonizing over how to thaw out the frozen inter-bank credit system

in mid-late 2008. Moral hazard is defined as the risk that the monetary powers that be take when they

create “money” out of thin air for the express purpose of bailing out banks and corporations whose failure

would drag the entire economy down with them. In 2008, it loomed large in the US. The problem is that

economic “booms” and “busts” are an inherent part of any economic system where prices and interest

rates are NOT set by the markets but by those in power to control them. Those in power love to take

credit for the booms but they don’t want to be faced by any busts. Thus, every time that a credit-based

economy “falters”, the temptation to spice the punch bowl with another dollop of credit money is

irresistible. From there it becomes orthodox “policy”. And from there it becomes “politically

impossible” to do otherwise. Mr Paulson couldn’t stand up against that orthodoxy. That is not surprising.

The only US monetary official who has at least partially bowed to markets was Paul Volcker at the end of the 1970s. And he only did it after an ultimatum from the Europeans in late 1979. “Either let US interest rates rise to reflect the risk of holding US Dollars or we’ll dump them wholesale”. He had no choice.

Moral hazard is “risk” that too big to fail financial entities will not be allowed to fail. The only means to

put such a failure off is to literally keep pumping money into them. That process guarantees eventual

failure. The longer it is put off, the bigger it will be and the more certain it is that the entire economy and

financial system will be dragged down in its wake. Market-set interest rates in the US - especially for US

Treasury paper - only lasted from late 1979 until mid 1982. They have not been resorted to since and

everything conceivable is being done to prevent them from asserting themselves now. The hazard of a

“voluntary” reversion to financial morality is warded off like a dread disease. The “authorities” never tire

of painting pictures of Armageddon if they had “done nothing” in 2008. Europe is being vilified for not

doing “enough” now. This has led to a situation in which the debt “underpinning” the system is too big to

do anything but fail. Hence the sudden realisation that “sovereign debt” is not risk free.

The Privateer - Number 691 Page 11

The Desperate Chase For “Returns”:

For the “developed” world and the Anglo-Saxon nations in particular, the legacy of the boom market

decades of the 1980s and 1990s still cast their spell. The global stock market crash of late 2008 - early

2009 shocked and impoverished nearly everybody, but the real damage was done when the dot.com boom

unravelled in 2000. That marked the end of a two-decade period in which the US investment world

became used to the prospect of 15-20 percent annual returns stretching out “forever”.

Many investments schemes, notably those used by large institutional investors in charge of retirement

money, still try to work on those assumptions. To take one example, consider US pension plans. As Mr

Charles Hugh Smith points out on oftwominds.com, these plans are still functioning on the basis of 8

percent annual gains in perpetuity. Admittedly, this is somewhat scaled back from the expectations of 20

percent gains forever complacently held by stock market investors in the late 1990s, but it is still VERY

ambitious in today’s “markets”. On the basis of its November 11 close of 12153, the Dow is now

showing a gain of 5.0 percent for 2011 to date - but nearly half of that gain was made on November 11.

A Tale Of Three Decades:

Over the decade of the 1980s, the Dow climbed from 838 to 2753 - a gain of 1915 points or 229 percent.

That’s a compound annual gain of a bit more than 14 percent over the decade. The 1990s were better

still. Over that decade, the Dow climbed from 2753 to 11497 - a gain of 8744 points or 318 percent.

That’s a compound annual gain of more than 17 percent over the decade. Two decades of such huge

annual gains is enough to set a lot of investment plans in concrete. By the end of the 1990s, they were.

From the end of the 1990s to the present, the picture was VERY different. From the start of 2000 to the

Dow’s all time high close of 14164 set on October 9, 2007, the index gained less than 3.0 percent on a

compound annual basis. The performance of the paper markets had radically changed. The investment

“models” forged in the 1980s and 1990s had not. The pressure on “performance” had become acute.

When the Dow hit its October 2007 high, the GFC was already well underway. Since then, there has been

no annual gain at all. At its calamity low close of 6594 on March 5, 2009, the Dow sported a loss of 53.5

percent achieved over less than a year and a half. To turn that around, the Fed and the Bank of England

detonated the “nuclear option” of direct sovereign debt monetisation. It worked, for a while. But it did

not get any of the major markets back to the highs they had set in 2007. The market “performance” over

the GFC to date has totally nullified any prospects of cumulative annual gains, yet most of the investment

vehicles set up during the two-decade boom of 1982 - 2000 are still based on them. Over that period, an 8

percent annual gain was a very conservative target. Since 2000, it has been a hopelessly optimistic one.

Unless one had switched to Gold, of course. Gold last closed below the $US 260 level in April 2001.

Ten years later in April 2011, Gold reached $US 1550 - up $US 1290 or 496 percent. Its compound

annual gain over the decade was nearly 20 percent. That’s better than the Dow’s record over the 1990s.

But very few, if any, investment “plans” made the switch in 2001. And you can bet that NONE of the

official government programs even considered it.

You Cannot Turn An Ocean Liner In A Bathtub:

That’s even assuming that the bathtub is big enough to fit one into it. After seven years (2002 - 07),

during which stock markets went nowhere and four more (2008 - 2011), during which they went

backwards, conventional investment “analysis” has changed very little. There has been a dwindling in

annual “profit” expectations, but not nearly to the extent that profit opportunities have evaporated. That’s

in the “paper” markets, of course, there are other markets which have taken over from conventional

investments in the period since 2000. But they are still not on the radar of most investors, especially the

big institutional investors whose future plans still involve achieving impossible annual revenues.

The Privateer - Number 691 Page 12

A Reversal Of Economic “Orthodoxy”:

In the days of “growth” through debt creation - which ended in 2008 - any idea that the debt issued by governments might be “suspect” was a “here today - gone tomorrow” phenomenon. If it cropped up

anywhere in the world, the full armoury of the international financial community was immediately

deployed to overcome it. Sovereign debt was sacrosanct. It had to be. It was officially the backing for

every national (and international in the case of the Euro) paper currency in the world.

There is no government in the world today that will ever “repay” its debt except in “money” which has

seen its purchasing power gutted. There is no government in the world today which could even afford to

service its debt at the interest rates being faced by the peripheral Euro nations. The risk of government

borrowing is as old as the practice of government borrowing. Government borrowing itself (especially longer-term borrowing) is - in the words of Ludwig von Mises - “a vicious practice”. It always has and always will end up in the bankruptcy of the government and of all those who regarded its IOUs as being risk free. What is going on in markets today is a last gasp effort to maintain this “risk free” fiction.

Every day that the paper markets do not implode, the risk is “gone today”. The problem is that as the

markets become ever more manic, it always comes back tomorrow. That is the future facing the paper

markets. The roller coaster ride will get ever more manic until the mechanism breaks down completely.

The only way to avoid this is to discard the economic orthodoxy that debt is the route to economic

“growth”. It isn’t, it is the way to penury. Ask any US underwater mortgage holder or food stamp

recipient. Ask any Greek private citizen protesting outside their parliament. Ask any banker who has

already begun to dump European sovereign debt paper despite the losses imposed. The time is coming

when risk can no longer be put off until a tomorrow which is never supposed to become today.

Recent Events:

We have seen another manic two weeks on global markets as a European debt Apocalypse is staved off by

the resignation of two heads of state and the imposition of a new round of “austerity” measures. We have

also seen a central bank - the ECB - make the heretical statement that there is little if anything more they

can do to prop up the sovereign debt of their governments.

The pressure on the ECB to succumb to full scale “quantitative easing” is immense and growing

continually. The universal market assumption is that they will break and print whole-heartedly. If the

ECB does succumb, and it probably will, there is likely a huge “relief rally” waiting in the wings. We

have seen many of those since 2008. They never last. This one, if it does come to pass, won’t either.

Gold:

For more on Gold - please see Gold This Week (GTW):

http://www.the-privateer.com/subs/goldcomm/gold.html

What’s Next?:

Italy and Greece have new heads of state and new governments. Meanwhile, the focus on sovereign debt

now potentially moves back across the Atlantic as the countdown to the November 23 deadline for the

Congressional “super committee” nears its end. The Privateer’s first issue of 2011 was titled: “The Year Of Truth Or Consequences”. There has been very little “truth” and the consequences are obvious. Right

now, they are fixed in Europe. The question now is can the US last the year out before they move there.

Mid November Issue - Number 691 William (Bill) Buckler

Published: November 13, 2011 © 2011 - All Rights Reserved