Gold and Bitcoin
By John R. Taylor, Jr.
Frustration and economic uncertainty must be on the rise as nothing else can explain the phenomenon known as Bitcoin. Put together with the growing interest in gold, we believe that the psychological underpinning of global economic activities is fraying. Paranoia is on the rise. Certainly in our lifetime, national currencies have been the vehicle which have performed all of the functions required of a currency: a store of value, unit of transaction (cash in the pocket), and unit of accounts (numbers on balance sheets), but now there is a growing undertow arguing that these national currencies did not perform their duties well. Almost all of those complaints came from supporters of the gold standard, who see the national currencies as failing in their roles as a store of value, and some, like Steve Forbes, argue that its failure is even worse in the role of unit of account. How could a global company plan its investment, production and sales strategy in a world of monetary uncertainty? When one considers that the value of a dollar today is less than 1% of its value in 1900 and that the value of the dollar against a basket of other national currencies has varied by as much as 20% in a single year, their point is bvious. But, my bias is on the side of modern monetary policy (see my part in a debate on a “Strong Dollar”: presented by Intelligence2 Debates last month). No matter how badly we are doing, bandoning the management of a critical variable of social wellbeing to a metal seems irrational. I would rather wear my wedding ring as a decoration and use modern economic theory for my currency.
Even the gold bugs tend to agree that the national currencies have filled the role as a unit of transaction pretty damn well over the past 100 years, but there are times when the national currencies can fail to be the optimal choice for this role. In this case it is because the national ones are too good. Enter the Bitcoin, the Wőrgl, and many others too numerous to name. Gresham’s Law, roughly “bad money drives out good”, means that you never spend the good money when you can get rid of the bad. Gold is not used to transact business, it is hoarded; national currencies are used instead. But if national currencies become too important to give up, they are hoarded and transactions just don’t get done. When business slows down and taxes or wages cannot be paid, “local” currencies are an answer. The most famous, the Wőrgl, eponymous with its hometown in Austria, was created in 1932 to combat local unemployment and improve tax collections. The volume of local business soared and the use of the national currency (the schilling) collapsed, unemployment disappeared and tax collections improved dramatically. The Austrian schillings in circulation were hoarded locally, as Gresham’s law would dictate, and the Wőrgls were spent as quickly as possible so retail sales took off. There were losers: the merchants in the next towns lost sales and those holding Wőrgls when they were banned. The strategy with these local coins was to spend them as quickly as possible. The latest Wőrgl is the Bitcoin, but local has now become global with the advent of the web. Because the Bitcoin has a monetarist system built in, its value bounces and speculating overcomes transaction volume at low prices. With Bitcoin value up, transactions are stimulated then everyone wants to buy with a ‘bad’ currency – sure to weaken. Those on the selling side must need the business, planning to turn their Bitcoin to some hard asset as soon as possible. It’s a fool’s game – the opposite of gold.
The Tight ECB Monetary Policy Will Cost the Eurozone
By Jonathan Clark
We find it difficult to get excited about owning the euro, although the strength seen during the past three weeks is easy to explain. Cyprus requested a bailout on March 16 and, after some back and forth, the Parliament approved it on March 22. Three trading days later, the single currency turned higher and began a relief rally, ignoring the declining confidence in Eurozone banks on the part of both investors and depositors due to the punitive nature of the Cyprus bailout. Although the short-term interest rate differential between the Eurozone and US has been stable for the past six weeks, the central banks of the two economic areas are pursuing very different policies. The Federal Reserve is buying $85 billion in Treasuries and mortgage-backed securities each month, while the ECB is allowing its balance sheet to shrink. The ECB is running a much tighter monetary policy than the Fed and this briefly boosts the euro, but this comes with a cost. It is extremely likely the Eurozone economy will continue to contract as a result of fiscal austerity, weak export markets, and constrained lending. Bank lending to both consumers and business has been trending lower and high interest rates paid by private businesses in the struggling Eurozone countries are adding to the problems.
Since there is little room for deficit spending, this leaves the ECB to rescue the economy and potentially stave off a crisis. So far it is not, but the likely options are a ¼% cut in the refinancing rate, another round of LTROs, and/or lowering lending rates to small businesses. This might take the form of allowing loans to small- and medium-sized firms to be used as collateral with the ECB. The difficult question is when will the ECB act? The German DAX just fell to its lowest level in four months and many of the peripheral equity markets are declining as well, so the ECB will eventually telegraph its next round of easing but the waiting will undermine the euro. EUR/USD has reached the appropriate time for a significant peak and it has most likely been seen. We believe the high for the upmove was seen on Wednesday and it should decline for a minimum of several weeks and almost certainly longer. A close below the support at 1.2935 will confirm our negative outlook and EUR/USD is headed lower into the week of May 6 when a medium-term low is due. It should then recover for a few weeks before resuming its downtrend into early June. Our initial target for this downtrend is the 1.2550 area. The longer-term cycles argue that this overall weakness should last into July and possibly August before a significant low is reached. Our further objective is the 1.2100 area. If our negative outlook is correct then the resistance at 1.3200 will hold and we doubt it will even be approached.
By John R. Taylor, Jr.
Frustration and economic uncertainty must be on the rise as nothing else can explain the phenomenon known as Bitcoin. Put together with the growing interest in gold, we believe that the psychological underpinning of global economic activities is fraying. Paranoia is on the rise. Certainly in our lifetime, national currencies have been the vehicle which have performed all of the functions required of a currency: a store of value, unit of transaction (cash in the pocket), and unit of accounts (numbers on balance sheets), but now there is a growing undertow arguing that these national currencies did not perform their duties well. Almost all of those complaints came from supporters of the gold standard, who see the national currencies as failing in their roles as a store of value, and some, like Steve Forbes, argue that its failure is even worse in the role of unit of account. How could a global company plan its investment, production and sales strategy in a world of monetary uncertainty? When one considers that the value of a dollar today is less than 1% of its value in 1900 and that the value of the dollar against a basket of other national currencies has varied by as much as 20% in a single year, their point is bvious. But, my bias is on the side of modern monetary policy (see my part in a debate on a “Strong Dollar”: presented by Intelligence2 Debates last month). No matter how badly we are doing, bandoning the management of a critical variable of social wellbeing to a metal seems irrational. I would rather wear my wedding ring as a decoration and use modern economic theory for my currency.
Even the gold bugs tend to agree that the national currencies have filled the role as a unit of transaction pretty damn well over the past 100 years, but there are times when the national currencies can fail to be the optimal choice for this role. In this case it is because the national ones are too good. Enter the Bitcoin, the Wőrgl, and many others too numerous to name. Gresham’s Law, roughly “bad money drives out good”, means that you never spend the good money when you can get rid of the bad. Gold is not used to transact business, it is hoarded; national currencies are used instead. But if national currencies become too important to give up, they are hoarded and transactions just don’t get done. When business slows down and taxes or wages cannot be paid, “local” currencies are an answer. The most famous, the Wőrgl, eponymous with its hometown in Austria, was created in 1932 to combat local unemployment and improve tax collections. The volume of local business soared and the use of the national currency (the schilling) collapsed, unemployment disappeared and tax collections improved dramatically. The Austrian schillings in circulation were hoarded locally, as Gresham’s law would dictate, and the Wőrgls were spent as quickly as possible so retail sales took off. There were losers: the merchants in the next towns lost sales and those holding Wőrgls when they were banned. The strategy with these local coins was to spend them as quickly as possible. The latest Wőrgl is the Bitcoin, but local has now become global with the advent of the web. Because the Bitcoin has a monetarist system built in, its value bounces and speculating overcomes transaction volume at low prices. With Bitcoin value up, transactions are stimulated then everyone wants to buy with a ‘bad’ currency – sure to weaken. Those on the selling side must need the business, planning to turn their Bitcoin to some hard asset as soon as possible. It’s a fool’s game – the opposite of gold.
The Tight ECB Monetary Policy Will Cost the Eurozone
By Jonathan Clark
We find it difficult to get excited about owning the euro, although the strength seen during the past three weeks is easy to explain. Cyprus requested a bailout on March 16 and, after some back and forth, the Parliament approved it on March 22. Three trading days later, the single currency turned higher and began a relief rally, ignoring the declining confidence in Eurozone banks on the part of both investors and depositors due to the punitive nature of the Cyprus bailout. Although the short-term interest rate differential between the Eurozone and US has been stable for the past six weeks, the central banks of the two economic areas are pursuing very different policies. The Federal Reserve is buying $85 billion in Treasuries and mortgage-backed securities each month, while the ECB is allowing its balance sheet to shrink. The ECB is running a much tighter monetary policy than the Fed and this briefly boosts the euro, but this comes with a cost. It is extremely likely the Eurozone economy will continue to contract as a result of fiscal austerity, weak export markets, and constrained lending. Bank lending to both consumers and business has been trending lower and high interest rates paid by private businesses in the struggling Eurozone countries are adding to the problems.
Since there is little room for deficit spending, this leaves the ECB to rescue the economy and potentially stave off a crisis. So far it is not, but the likely options are a ¼% cut in the refinancing rate, another round of LTROs, and/or lowering lending rates to small businesses. This might take the form of allowing loans to small- and medium-sized firms to be used as collateral with the ECB. The difficult question is when will the ECB act? The German DAX just fell to its lowest level in four months and many of the peripheral equity markets are declining as well, so the ECB will eventually telegraph its next round of easing but the waiting will undermine the euro. EUR/USD has reached the appropriate time for a significant peak and it has most likely been seen. We believe the high for the upmove was seen on Wednesday and it should decline for a minimum of several weeks and almost certainly longer. A close below the support at 1.2935 will confirm our negative outlook and EUR/USD is headed lower into the week of May 6 when a medium-term low is due. It should then recover for a few weeks before resuming its downtrend into early June. Our initial target for this downtrend is the 1.2550 area. The longer-term cycles argue that this overall weakness should last into July and possibly August before a significant low is reached. Our further objective is the 1.2100 area. If our negative outlook is correct then the resistance at 1.3200 will hold and we doubt it will even be approached.
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