Saturday, August 19, 2017
Book Review: 'The Death of Money' by James Rickards
The introduction suggests that this book is going to rehash some fairly common themes. Then, delightfully, the first chapters veers off on an unexpected tangent, followed by an equally astute, and unexpected second chapter.
The introduction suggests that we are in for a time of either inflation or deflation, and that they are both equally dangerous. The thesis he repeats throughout the book is that central banks favor inflation for a number of reasons, but that they are having a hard time forcing inflation it to occur. There is simply too much slack in the economy in the form of unused labor, capital, and production capacity. Other authors argue that increases in productivity are inherently deflationary: if automation reduces the cost of manufacturing a car, competitive pressures will force manufacturers to sell them cheaper.
The federal government must have inflation for four reasons. Deflation causes an increase in the real value of the federal debt. It has an adverse impact on the debt to GDP ratio. Third, although banks may benefit initially by being repaid more than they lent, the risk of default increases dramatically in a deflationary environment. The fourth and final problem with deflation is that it reduces federal tax income. As nominal earnings decrease, the tax rate schedules, which are graduated, yield less revenue in real terms. Though asset value may rise in real terms, you cannot tax capital gains unless the nominal value rises.
Central banks throughout the world are fighting the tide as they work to promote inflation. The result of Quantitative Easing has been massive malinvestment by those to whom the newly coined money has been funneled.
Chapter One covers the financial signals that telegraphed the World Trade Center attack, had anybody been astute enough to parse the evidence. Rickards consulted with the CIA during the decade of the 2000s, looking for ways in which markets predicted attacks on American interests. In analyzing how the terrorists benefitted financially from their own act, he offers a broad discussion of financial forensics. He matter-of-factly documents overwhelming evidence of insider trading and market manipulation. These are not central to his theme, except insofar as obviously rigged markets make investors wary.
Chapter Two discusses financial warfare. The key insight is that state actors are often more interested in relative than absolute strength. Every war has costs, but if country A can destroy country B at an acceptable cost to itself, it may do so. Destroying the dollar would have a major impact on dollar holders such as China, but at the same time increase their relative strength in the world. His analysis of the way the US used finance to cripple Iran and Syria is quite insightful. As Russia and China free themselves from reliance on the dollar, they might do the same to us.
Chapter Three analyzes the increased involvement of central banks in the economies of their countries, and the general ill effects of central planning. It didn't work for the communists, and it doesn't work for Yellen. The Fed gets tangled up when it targets inflation and unemployment statistics, when its own actions influence those statistics, and the Federal Government has ample room to fudge the measurement of the statistics. Any policy can be justified.
Of the four causes of economic depression, Rickards claims that the greatest is regime uncertainty. People refuse to invest when the rules keep changing. Amity Shlaes and others have concluded that Roosevelt prolonged the Depression by constantly changing the rules for labor unions and other politically favored groups. And Obama is doing the same, with the same result. Entrepreneurs are reluctant to invest, leaving a lot of capital and labor idle.
Fed policy of low interest rates is forcing people to take unusual risks in pursuit of a return. Neither common people nor money managers find it easy to sit tight and accept a zero return on capital for any period of time. Instead, they have been stampeded into the only games in town - overinflated real estate (again) and a rigged stock market. Interest rates, and especially the price of gold, have been forced down in order to push money into these bubbles.
Chapter Four focuses on China, beginning with a sweeping historical overview of the world's longest lived civilization. He observes that it swings rather regularly back and forth between centralization and decentralization, each in turn cleaning out the excesses of the other. This is a time of great malinvestment. Whereas consumers account for 71% of US spending, the figure for China is only 35%. For investment, it is 13% vs. 48%. The latter is an absurd figure, including vast amounts of malinvestment: empty cities, trains to nowhere, and the like. As in the US, the middle class is the victim. As their savings receive negative rates of return, vast amounts of money go into mutual-fund type vehicles which in turn invest in the bubble. It will not end well.
Though China, with $3 trillion in assets, could put its financial house in order, it will not. The powers that be make their money from the malinvestment. The growing wealth disparity represents a major threat to the regime.
Chapter Five is on Germany and the Euro Zone. It is refreshingly different from the mostly negative analyses most authors offer. He gives good reasons why the Euro should survive as a currency and cites optimistic statistics about the progress that the PIIGS, especially Greece, have made in cleaning up their economies. In particular he notes that contrary to the Keynes/Krugman theory of "sticky wages," wage rates have been able to fall by a whopping 22% even without abandoning the Euro. Moreover, Greece is attracting new investment.
The Euro zone is continuing to expand, with the recent admission of Latvia and Croatia, and the potential membership of Serbia, Macedonia and Turkey.
On the other hand, the Euro zone does suffer from a lack of uniformity in banking standards and deposit insurance. A bigger problem is that few of the member states meet the requirements for keeping their finances in order. They are to run deficits of no more than 3% if their Debt/GDP ratio is less than 60 (very few of them) and no more than ½ percent if debt is higher.
Chapter Six begins with a discussion of the BRICS, then goes on to the GIIPS (nice acronym for the PIIGS) and BELLS. The latter - Bulgaria, Estonia, Latvia and Lithuania - was new to me. His major point is that the BELLS swallowed their medicine after the crisis of 2008, accepting a plunge in the GDP and austerity, refusing to devalue, in order to retain investor confidence. The PIIGS did what the US has done - print money, in some cases devalue, and pretend the problem will go away. The BELLS have fared quite well - the PIIGS not so well.
He has a wonderful quote on Russia: "The Russian economy is best understood as a natural-resource-extraction racket run by oligarchs and politicians who skim enormous amounts off the top and reinvest just enough to keep the game going." That has been the game here in Ukraine as well, and the Maidan revolutions of 2004 and 2013 are attempts to wrench the country free of the oligarchs.
Chapter 7 - Debt, deficits and the dollar
What is the meaning of money? The classical definition is (1) a store of value, (2) a medium of exchange, and (3) a unit of account. These meanings are important, and Rickards has a great dissertation on the various points of view. This is a matter of practical import. Is gold money? Is Bitcoin money?
He offers an interesting view. We are already on the gold standard, in that anybody who wants to is free to buy gold and use it as a store of wealth. It is not in governments' interest that we do so, which is why they echo Keynes, calling it a "barbarous relic" and openly manipulate its price to make it unattractive. One reads so much about the manipulation that it is worth citing other sources. It is a major theme on zerohedge. Paul Craig Roberts did a good piece in January. The Gold Antitrust Committee covers it regularly, and I review Geheime Goldpolitik: Warum die Zentralbanken den Goldpreis steuern (German Edition).
Rickards says that government investment is justified if it satisfies three conditions: (1) only government could do it, (2) they can afford it, and (3) it has a positive return on investment. Two positive investments were the Interstate Highway System and the Internet. Most government investments, including just about everything Obama has done, do not qualify. They channel money the government cannot afford (has to print) to favored groups for investments (solar, education) which will never pay for themselves.
Chapter 8 is on the IMF, the banker to the world. At present the IMF's balance sheet is only about 600 billion, small compared to those of the central banks. His point is that the IMF is the ultimate backup when central banks fail. The IMF has recently, quietly gotten permission to act like a bank, lending in excess of the asset base formed by member-state quotas. The currently allowed ratio is a conservative (for banks) 3:1. But - the mechanism is in place to print vast amounts, if and when the world's central banks get in trouble.
The most interesting part of the chapter is a portrait of Dr. Min Zhu, the Chinese deputy to Christine Lagarde. He is a man who has seen both the Chinese and the Western systems, is smart enough to see the inherent contradictions within the IMF, and sometimes sufficiently candid to coyly reveal what he knows. A nice portrait. NB: Other illumination portraits in previous chapters include Andy Marshall of the Pentagon and Randy Tauss of the CIA. Rickards knows them not merely as a writer, but from having worked intimately with them.
One of the truths that is widely known in financial circles, but seldom admitted, is that today's economic problems are primarily structural rather than cyclical. Don't blame it on the business cycle. The changes in demography, technology and society are structural and will not reverse themselves. Neither Japan nor China will sprout a generation of new workers overnight. In the US, the number of people entitled to entitlements will not shrink; neither will the cost of "free" medicine.
His thesis is that the SDR, the IMF "currency" formed of a market basket of national currencies, could become a world currency. Moreover, it could, if his suggestions were followed, be pegged to gold as a deterrent to uncontrollable fiat currencies.
Chapter 9 - Gold
This is the meat of the matter. Gold is money. The purest money. It is not a commodity, despite where it may be traded, because unlike commodities it is rarely consumed, but used almost exclusively as a store of value.
Rickards writes openly and authoritatively about the ways in which central banks and government manipulate the price of gold.
Chapter 10 - Crossroads
Rickards writes as a throwaway that our governments are manipulating all the markets. It is so widely accepted as not to require amplification.
There is massive malinvestment, from Chinese ghost cities to US student loans. While the problems could be fixed, the structure of our political systems will almost certainly not allow it. The vested interests are too strong.
Chapter 11 - Maelstrom
Rickards has referred to complexity theory often throughout the book. Here he amplifies the discussion. Systems, especially those involving human beings, are simply too complex to be predicted. One never knows, by analogy, which snowflake will trigger the avalanche. All you can know is that an avalanche is likely.
He says that the crunch time is here for the Federal Reserve. There is a term used in complexity theory: a system about to fail goes wobbly, much as the top stars to wobble when it runs out of centrifugal force. He says that the Federal Reserve is already there, and it is unable to fill any of its roles other than to continue to monetize debt.
This is the pay dirt. Rather like a Biblical prophet, he lists seven signs of the end times. And most useful, he gives his assessment of how to brace for the storm. He would own gold, land, hedge funds invested in hard assets, fine art and cash.
Rickards cites a relative handful of sources repeatedly: Krugman, Reinhart and Rogoff, Bernanke, and Robert Rubin's acolytes. While he has an occasional good word for each of them, he is properly scathing when appropriate.
Rickards is more willing to accept official statistics on unemployment, inflation and the like than others. He does not express skepticism as to whether or not the gold is still in Fort Knox. The skeptics are well known - look at zerohedge - and I find it impressive that he can build such a strong case for the imminent "death of money" even taking government claims and statistics at face value.
The book could have been endlessly large. Subjects which Rickards chooses not to address are the declining quality of our human resources - poor education, and the skew of childbearing to the least capable members of society, the inexorable rise in entitlement spending, and the decline of the work ethic. See Coming Apart: The State of White America, 1960-2010 for this discussion.
All in all, a masterful job by a man who has lived with his subject for most of a lifetime, and yet writes with the clarity of a lifelong author. A rare treat.
Editor's note: This review has been published with the permission of Graham H. Seibert. Like what you read? Subscribe to the SFRB's free daily email notice so you can be up-to-date on our latest articles. Scroll up this page to the sign-up field on your right.