Sept 15, 2006 – “People of the same trade seldom meet together, even for merriment and diversion, but the conversation ends in a conspiracy against the public, or in some contrivance to raise prices.” – Adam Smith, The Wealth of Nations
The Gold Anti-Trust Action Committee (www.GATA.org) knows that Adam Smith told only half the story. If he were writing today he would have concluded his sentence: ‘to raise prices or to pick pockets’. The “conspiracy” in the gold market today is not to raise prices, but rather, to pick our pockets. Before explaining how, here’s some background information.
Shortly after Alan Greenspan was appointed chairman of the Federal Reserve in August 1987, the stock market crashed. The crash created uncertainty, which slowed the economy and in turn worsened the ‘savings & loan’ crisis that had been brewing for years. The collapse of countless S&L’s had softened the real estate market because many of the loans the S&Ls had made to build houses and office buildings turned out to be uncollectible. These buildings had no immediate use, so they were sold for whatever price they could fetch, often at bargain basement prices.
Given this glut of inventory and the volume of distressed selling, real estate prices nationwide then pretty much went into a bear market, and the knock-on effect was eventually felt by commercial banks. By 1990, giants like Citibank were essentially insolvent, and it looked like they in turn were going to need a taxpayer bailout like the one the S&Ls had received only a few years before.
However, taxpayer bailouts are never popular, and another one seemed politically impossible. The cost of the S&L fiasco was becoming all too apparent, and the public had become sickened by the banking industry’s corruption and management incompetence that led to the collapse of so many S&Ls.
So the Federal Reserve and Mr. Greenspan faced a dilemma. How do you save Citibank and other big banks from collapsing when a taxpayer bailout was not possible? It was here when the Federal Reserve started to pick taxpayers’ pockets.
The Fed dropped short-term interest rates to artificially low levels, but it kept medium term rates relatively high. To take advantage of this widening spread, Citibank and other banks borrowed large amounts of short-term funds at relatively low interest rates, and then invested this money in relatively high interest rate US government notes and bonds, earning the huge profits available from the spread between these assets and liabilities.
In time all the banks strapped on this feedbag, and within a few years their capital positions were replenished, even after allowing for all of the bad real estate loans they had to write off. In effect, the banks were bailed out in a hidden way. Taxpayers paid for the bailout, but not one in a million Americans realized that they had their pocket picked by having their taxes used to pay excessively high interest rates on US government notes and bonds. What’s worse, this form of pocket picking has led to another equally pernicious form of theft, namely, picking the market’s pocket.
The gold cartel is a handful of bullion banks that work together with governments trying to keep a lid on the gold price. These bullion banks execute the trades requested by governments and their captive central banks, and the problem for these bullion banks and their government handlers is that they are facing huge losses on the short positions they carry. So how do these banks get bailed out?
The Federal Reserve cannot ask for a politically impossible taxpayer bailout. Also, the Federal Reserve is not going to manipulate interest rate spreads again like it did fifteen years ago because only a few bullion banks are in trouble, and not the majority of the banking industry. So the bailout must be focused exclusively on bullion so that the bullion banks will benefit from it without adversely affecting other banks.
The scheme that the Federal Reserve is using takes advantage of ‘black-box’ traders. These traders manage vast amounts of money using proprietary mathematical formulas. The key point though is that these formulas are all very much alike, which is logical. They all try to track gold’s change in trend, so when the trend changes, these traders all tend to jump on board at pretty much the same time. So under this scheme, if the gold cartel can force these traders to buy and sell at disadvantageous moments, and the gold cartel is on the winning side of the trade, the profits generated from the winning trades can be used to bailout the bullion banks participating in this scheme. Here’s some proof to show it is happening, thanks to Bill Murphy and the September 14th report on his website, www.lemetropolecafe.com
Bill reports daily the changes in open interest on the Tokyo Commodity Exchange, which in contrast to the US commodity exchanges is very transparent and provides data on the positions of large commercial firms. These firms have been short gold as the price rose, so they are now taking profits on this recent drop. Bill reports that on September 13th: “The seven large gold shorts cut their net short position by a massive 23,242 contracts to a total of 115,439 contracts. Since the recent September 8th peak in their net short position they have shaved it by 54,217 contracts.”
He goes on to report: “From the recent high of $638/oz gold has dropped $50, the Goldman Sachs short position has been reduced by 2,864 contracts in that same time“, which means that one company alone earned a quick $4.8 million profit in seven trading days.
We have seen this scheme time and again over the past several years. For example, here is what I wrote on June 27,2005 about the market getting its pocket picked back then, which was not only prophetic, but is just as relevant today:
“When gold was trading in the $430’s and $440’s in March and April, the gold cartel was selling everything the black-box traders were buying. Eventually the weight of gold cartel selling outstripped this buying and in time forced gold down into the $420 area, helped of course by incessant anti-gold propaganda (for example, Gordon Brown talking about IMF gold sales) and the huge build-up in gold derivatives.
As a result, the black-box traders went from long to short, taking huge losses by selling in the 420’s or lower what they had bought from the gold cartel in the $430’s and $440’s. At the same time, the gold cartel was making huge profits by buying back in the $420’s or lower the short positions that had been put on in the $440’s and $430’s.
See how the scheme works? It’s absolutely diabolical, but it will come to an end. The reason is that governments do not possess enough physical gold to keep gold as cheap as it is today. People are increasingly fleeing national currencies and seeking the safety and security of gold, just like they did in the 1960’s and early 1970’s when the US government dishoarded 10,000 tonnes of gold from Ft. Knox in a vain and hopeless attempt to keep gold at $35 per ounce. They failed then, and they are failing again today. Gold will keep climbing, even though governments will continue trying to disrupt the gold market and its message.“
The greatest economist of the 20th century, Ludwig von Mises, warned us about governments and the havoc they can wreak on markets and the economy. In fact, we should take Mises’s warning to heart, that governments will destroy free markets long before they ever understand their importance. The longer we have a Federal Reserve and its gold cartel intervening willy-nilly in various markets, the sooner Mises will be proven right.