Wednesday, May 24, 2017

Reader Response - The Achilles' Heel of Capitalism

Recently we featured this article in The Wall Street Journal that quoted Johns Hopkins professor Steve Hanke as saying that financial volatility in currency exchange rates is "the Achilles' heel of capitalism."  

A blog reader here had a different take on that and provided me the input posted below by email. This reader prefers to remain anonymous, but gave permission to publish his comments. 

"I have a comment on Professor’s Hanke’s observation re: financial volatility ( as the Achilles heel of capitalism )

Using rough figures, global annual GDP is around $70 trillion, of which international trade comprises around 15%,
call it $10 trillion.  Using 250 financial trading days per year, that trade per trading day amounts to $40 billion per
day of real flows of trade in goods and services.

Meanwhile, daily FX trading volume is currently about $5.2  TRILLION per day (note: see here), with the dollar accounting for as much as 80% of one side of all forex trades.  That is A 130 MULTIPLE  of the “trade flows” that, presumably, forex trades are entered into for the purpose of “hedging” currency risk.  Clearly, something else is going on.

In the late 70’s, when hard pegs, crawling pegs, and all the other attempts at currency stability failed, the “free
float” was introduced, for lack of an alternative.  As Paul Volcker remarked later, the largest money center banks
found that this need to hedge volatility produced all sorts of means to profit, both as providers of currency insurance as well as trading for their own account, as they were "closest to the source” of the hedging needs of their large muli-national corporate customers.  These banks will be, until the next crisis, the loudest opponents of any change that would impair this source of profit.

So, we have “industrial capitalism” and “financial capitalism” but they don’t necessarily always correspond.  Further,
as the BIS’s Hyun Song Shin has repeatedly pointed out recently, in a series of papers, international financial flows dwarf trade flows, and have perverse spill over effects both on the way in, and the way out. Convertibility between currencies, combined with the desired “liquidity” (large trades possible with small price movements) while at the same time hoping for “stability” are an impossible trilemma.

Getting back to Professor Hanke’s observation, permit me to disagree.  The Achilles heel of (financial) capitalism
is the growth of DEBT, both public AND private, where the debt fails to produce a corresponding increase in the
net stock of real capital, bet it tangible ( goods and enabling infrastructure ) or intangible (education, scientific
progress).  Any system which lacks a brake on this non productive debt will eventually default on it, when the
holders of it desert, and leave only the central bank as the buyer of last resort."


My added comment: We always appreciate reader emails and comments such as this one. It turns out that this article by George Gilder appeared in The Dallas Morning News made somewhat the same point about "currency choas" as our reader did in his comments above. The reader forwarded me the link to that article and pointed me to the paragraph below in particular:

"According to the Bank of International Settlements, this market (currency trading) has swelled to some $5.1 trillion a day, 25 times global GDP and 73 times all trade in goods and services. Yet all the vast shuffle of money fails to achieve the crucial function of money and markets: to yield a reliable guide for international transactions."

Monday, May 22, 2017

CNBC - Feds "New Normal" Balance Sheet Could be Huge

CNBC runs this article which explains that the Federal Reserve may just let its balance sheet stay bloated in coming years for a variety of reasons. The article has a couple of points of interest since many have long argued that the enormous size of the Fed balance contributes to instability in the financial system and will lead to the Fed being unable to respond to any new crisis. Below are a few excerpts from the article and then a few added comments.


"While Federal Reserve officials have said they plan to begin a process to normalize their balance sheet, the end result is likely to be a balance sheet that is anything but normal.

Interviews with Fed officials, and public statements they've made suggest the Fed's new normalized balance sheet could end up being three times as large as it was before the financial crisis. And it could be bigger than that."

. . . . .

"In an effort to stimulate the economy in the aftermath of the Great Recession, the Fed cut its benchmark interest rate to zero and began buying up government and mortgage-backed securities to drive down interest rates further. The Fed stopped adding to its balance sheet in 2014 and it now stands at more than $4.4 trillion, compared with around $850 billion before the crisis."

. . . . .

"The biggest reason why there's no going back to the old balance sheet is currency. For a variety of reasons, the amount of currency in circulation has grown 7 percent a year on average over the past five years, or 3 percentage points faster than in the five years before the crisis. People are simply expressing a desire to hold more cash — ironic in a financial world that is growing more digital — and the central bank's job is to simply meet that desire for cash passively.

About $1.5 trillion of cash is currently in circulation and, if current growth rates continue, that level will be north of $2 trillion in the next five years, providing a floor for just how small the balance sheet can get."

. . . . .

Former Fed Chairman Ben Bernanke wrote in a recent blog post: "There are reasonable arguments for keeping the Fed's balance sheet large indefinitely, including improving the transmission of monetary policy to money markets, increasing the supply of safe short-term assets available to market participants, and improving the central bank's ability to provide liquidity during a crisis."

Bernanke added, "It's not unreasonable to argue that the optimal size of the Fed's balance is currently greater than $2.5 trillion and may reach $4 trillion or more over the next decade."

Opponents of a large balance sheet say the Fed should reduce it as much as possible so it doesn't become a victim of politics, where Congress or the executive branch could mandate that the balance sheet be used to buy certain types of securities to solve fiscal problems. They also worry that such a large balance sheet is potentially inflationary."

My added comments: This article lays out the Fed view that the 2008 crisis is past and has been successfully handled to avoid a major deflation event. They clearly are wanting to convey the idea that now that the crisis is past the changes in the world that have taken place mean the Fed should now keep a much larger balance sheet in place. This conveniently provides an excuse to simply do virtually nothing in the next few years and just let the bonds the Fed holds be redeemed. By doing this, the Fed does not have to worry about trying to sell (dump) trillions of US bonds. This would certainly spike interest rates. 

The other note of interest in this article is that the public is holding much more cash and that the Fed expects cash in circulation to increase by $500 billion or more in the next five years. If that is true, what happens to all those headlines we see telling us a "cashless society" is just around the corner? We see headlines and articles about that all the time even as cash in circulation continues to rise.

Fed skeptics will of course not believe any of this is going to happen. They believe the Fed has placed itself between a rock and hard place and is trapped. They do not believe the Fed will be able to simply sit by passively and let its balance sheet slowly shrink over time or that they intend to allow cash in circulation to continue to increase over the next five years.

So far though, the Fed skeptics predictions of massive inflation have not panned out. Most of the huge amount of money created by the Fed never really got into the real economy and boosted the velocity of money. Instead it appears to have boosted stock markets and housing prices again. Now Fed skeptics are predicting that a new recession coming soon will not allow the Fed to just slowly and passively shrink its balance sheet. They see the rising stock markets and house prices as new bubbles that will soon burst forcing the Fed to scramble once again with more massive money creation. So they view the Fed plan detailed in this CNBC article as fantasy.

Who will be right about all this? Only time will tell us. 

What we should watch for is any indication that the Fed is having to reverse course from this plan and start expanding its balance sheet again rather than to gradually shrink it. That is the kind of thing that could shake market confidence and lead to a new major financial crisis. If the Fed succeeds, it means a crisis is likely not on the immediate horizon. 

It will also be interesting to see if cash in circulation does increase by over $500 billion in the next five years. That would hardly be an indication of a "cashless society". What matters is what actually happens, not what the Fed says or what Fed skeptics say will happen.

Added note 5-24-17: Fed will let the balance sheet shrink gradually and keep it much higher per this CNBC article.

Friday, May 19, 2017

Robert Pringle - "We Remain Stuck in the Money Trap - Do We Not?"

Former Group of 30 Executive Director Robert Pringle has two new articles posted on this blog, The Money Trap. Mr. Pringle is also the author a book by the same name which analyzed the problems that led up to the major financial crisis of 2008 and offered ideas on how to deal with the problems going forward. Mr. Pringle has also kindly provided input for blog articles here sharing his decades of insight and experience into central banking. 

In his two new blog articles, he makes the case that the problems which led up to the last major financial crisis have really not been solved in any permanent way. Below are links to the articles and a couple of excerpts from each.


"Central bankers, who were by and large not responsible for supervision pre-crisis , immediately sought to pin the blame for it on regulators, diverting attention from monetary policies – stoking the credit boom, failing to sound the alarm for what they were responsible for, which often included a duty to monitor the system."

. . . . . 

"Given the diagnosis, the official effort since 2008 has gone into strengthening capital, regulation etc etc with adverse implications for growth but little effort to recast monetary policies. Basically they have had to resort to increasing debt further because they had no alternative, partly for political reasons; but there was also an intellectual vacuum, plus encouraging borrowing and debt by negative rates which risk undermining the entire capitalist system."

. . . . . 

"Is there really more confidence in the system, in money itself? Central bankers say there is, but how do they know? People like Professor Kevin Dowd have raised serious doubts about their so-called tough stress tests. Trust has not recovered. Without trust, money can’t work its magic. The quality of money declines as the central banks resort to desperate measures to maintain its quantity."

. . . . . 

"European and North American economies may be doing a bit better, after 10 years of painful effort post crisis. But that is despite, not because of, the banks and financial sector.

We remain stuck in The Money Trap, do we not?"


"When did the culture of ‘money mania’ start? When did people first set out to grab as much money as possible at whatever cost?  When did the momentum for credit creation —paper money calling for more money — become unstoppable?"

Let us contrast the past 30 years with the years 1880-1910. Under the classical gold standard gold was money and money was gold, the mark of a civilised society. Thus when people say that going back to gold was a mistake in the 1920s, they are correct but unhistorical: almost everybody believed it had to be tried, even Keynes’s disagreement was practical, to do with the price rather than the principle (he wanted a somewhat lower exchange rate).

It was seen as the key to restoring stability.

That went also with a certain set of attitudes and ethics towards money. Our problem is, when society rejected gold (or, as some would have it, grew out of it) it also lost the sense of what nasty things money, let loose, can do."

. . . . .


My added comment: These new articles are an important reminder that despite the general feeling that the 2008 crisis is behind us and the US stock market reaching new highs, we need to keep in mind that we are by no means out of the woods yet in terms of the problems that led up to that crisis. Global debt is much higher now, derivatives remain at record high levels, and monetary policies that may have staved off a severe global deflation have not been successfully unwound yet. We still don't know what the final results will be from all this.

When we see experts like Robert Pringle reminding us of this, we need to pay attention. People like Robert Pringle, Dr. Warren Coats, Jim Rickards and others have decades of experience dealing with these issues and also the wisdom acquired from that experience. We will continue to feature that wisdom and experience here as we monitor future events and see how things unfold in regards to the monetary system. 

Added note: Here is a clickable link from the reader comment just below:

Wednesday, May 17, 2017

Alasdair Macleod - Chinas Plan to Subvert the Global Dollar Standard

ZeroHedge runs this article by Alasdair Macleod which appears originally here at I am featuring this article not because I know whether or not China has a plan to overthrow the US dollar by using its gold reserves. I don't and Chinese officials never talk about such a plan in public. However, this is one of the most prevalent speculations you see if you spend any time at all researching the topics covered here on this blog. 

An article like this by necessity has to include a fair amount of speculation by the author since we can safely assume that Chinese officials are going to keep any plans they may have along these lines close to the vest. This article is one of the better ones I have read in terms of laying out a plausible theory as to why China might want to move away from the US dollar or even use their gold reserves if they had to do that some day. It is worth your time to read regardless and allows you to at least get an overview of this view regarding China and its desire to move the world away from the US dollar over time. Below are a couple of excerpts from the article.


. . . . .

"Already, China dominates world trade. Her own economy is already significantly larger than that of the US on the purchasing power parity (PPP) estimates. While being the largest consumer of raw materials, China also exports more finished goods by value than any other country. As the Asian powerhouse, she has lifted the economies of all the countries on the western side of the Pacific Ocean, which including her own between them have a GDP of $50 trillion. Her exports into Asia now exceed her exports to the US. Yet despite this dominance, most of China’s trade is conducted in US dollars, something China is bound to change, if she is to contain external economic risk and replace America as the dominant global empire. Both objectives can only be achieved by China replacing the dollar as a medium of exchange."

Why Gold Is Central to China’s Future Trade-Settlement Policy

"China’s challenge is the yuan as a purely fiat currency will take decades to replace the dollar, possibly never. And that assumes that China follows more stable monetary policies than the US. This has not been the case since the Lehman crisis, with China’s M2 broad money quantity expanding rapidly, accounting for much of the world’s monetary growth in recent years. The rate of monetary expansion is criticized as a dangerous credit bubble by western analysts, who are quick to condone monetary expansion in their own developed nations, but turn into hard-core monetarist critics over China. No, China will never replace the dollar with her own currency without a golden guarantee.

Therefore, China needs to deploy gold to displace the dollar. This might be done in one of two ways, one encouraging markets to evolve away from dollars toward gold, or alternatively by the state forcing the pace."
. . . . .

Added note: Below is a reader comment that contains links that are not live links. I have added them below to make them clickable links for readers who may want to look at them:

Monday, May 15, 2017

IMF - 50 Years After - SDRs Role in the Monetary System

At the recent spring meetings of the IMF, a discussion panel looked at what role the SDR has 50 years after its creation in 1967. The panel included some well known names including Catherine Schenk who did an analysis in 2011 on the potential for backing the SDR with gold. Also on the panel was Mohamed El-Erian who wrote this article on the SDR recently published at Project Syndicate. Below is the overview summary of the discussion and then some added comments.



In 1967, the IMF membership reached agreement on creating the special drawing right (SDR), the official reserve asset allocated and administered by the IMF. While to date the SDR has played a minor role in the international monetary system, the global financial crisis and its aftermath have spurred renewed debate over its role. This role includes not only its original function as an international reserve asset, but also other functions, such as the SDR as a vehicle for financing the provision of conditional liquidity, a denomination for financial instruments, and a unit of account. This seminar will examine how a greater role for the SDR in these areas would impact the functioning of the international monetary system, in today’s increasingly multipolar and financially interconnected global economy.
My added comments: If you listen to the panel discussion, it is pretty clear that while a possible expanded role for the SDR is being looked at and debated, there is no indication that a broadly expanded role is on the near term horizon. Having followed this for some time now the process moves very slowly. There are many reasons why this is the case. The tendency to maintain the status quo in any system is very powerful. Until the US dollar based monetary system is clearly demonstrated to have failed to the general public, it will be hard to change. Over time various small steps away from a US dollar based system may well take place such as the BRICS nations efforts to reduce use of the US dollar for trade and as a reserve asset. SDR denominated bonds may also be issued from time to time. But the process moves very slowly. Think in terms of years and even decades. The IMF announced several months ago they would setup an Advisory Group to study this. So far that group has released no public information that I am aware of. This new panel discussion is the first mention of an expanded role for the SDR I have seen since the Advisory Group was formed last fall.
What could alter the pace of monetary system change? The only thing I can see that might speed up any major changes would be another major global financial crisis in which the current US dollar based system is clearly perceived to have failed. That is possible, but has not happened so far and the timing for any such event is obviously unpredictable. Recently Jim Rickards did indicate to me that President Trump is somewhat unpredictable and might move forward with a review of the current monetary system without having to have a crisis prompt him to do so.

If a new crisis does arise, it is reasonable to think that proposals to use the SDR that are already on the table might be looked at first. Under crisis conditions, politicians and policy makers tend to fall back on accepted experts and potential plans that have already been thought out and put forward. This is why we have featured the Real SDR proposal from Dr. Warren Coats here quite a bit. It is simply more likely that his plan or something like it might be looked at first if any major change involving the SDR taking over from the US dollar were seriously considered. In this recent article, we talk about how ANY plan put forward has to have thought through a lot of detailed issues and questions that will arise. Since Dr. Coats has already done some of that in his proposal, it kind of gives it a "head start" on other ideas or proposals that involve using the SDR.
None of us can know if we will even have a major crisis soon that would prompt major change. Also, we cannot possibly know what major changes or plans might be considered for sure. For example. 2016 Trump campaign adviser Dr. Judy Shelton has hinted at the idea of "a new common currency linked to gold and silver" on her Twitter feed.

It just makes sense though, that if an greatly expanded role for the SDR is considered, Dr. Coats proposal is already out there now and ready to be discussed.

Saturday, May 13, 2017

Wall Street Journal - Volatile Money Hurts Growth & Trade

In a new article published in the Wall Street Journal. James Kemp and Sean Rushton of the Kemp Foundation ask why there is not more concern by policy makers about volatile currency exchange rates. They point to the recent Kemp Foundation forum on this very topic (which we covered here) as evidence that the issue needs more attention. Below are some excerpts from the article and then a few added comments.

 "It’s the most important price in the world: How many U.S. dollars does it take to buy one euro? The exchange rate between the two largest world currencies affects profits and financial conditions around the globe—and it has been dangerously unstable for more than a decade. Since 2007, the dollar-euro rate has swung up or down by about 20% no fewer than eight times. Exchange rates that gyrate this much produce crisis and weak economic growth, while undermining the case for free trade.

Yet virtually no one in Washington—not the big think tanks or the business lobby or the tea party or the International Monetary Fund—is talking about it. That’s crazy. The seesawing dollar-euro rate disrupts trade, reduces investment, and damages the bread-and-butter interests of working people on both sides of the Atlantic."

. . . . . 

"A stable dollar-euro rate would provide the world with a strong economic anchor. The end goal should be a unified international currency system that is consistent with the principles of free trade and would facilitate optimal capital flows.

For supporters of limited government, this is essential. Exchange rate swings are an enormous source of financial volatility, which leads to calls for greater regulation, bailouts and bigger government. Steve Hanke, a professor at Johns Hopkins University and co-chairman of the forum, put it well when he called financial volatility “the Achilles’ heel of capitalism.” Mr. Hanke’s research shows that all of the 100 largest American corporations cited volatility in exchange rates as a challenge in their 2016 annual reports."

. . . . . 

My added comments: I understand the statement in the article above "Yet virtually no one in Washington -- is talking about it". When you spend as much time as we do here trying to research these issues and the prospects for major monetary system change, one conclusion jumps out at you over time. It is very hard to get most people to understand why these issues matter to the average person and why we all need to learn more about them. Unfortunately, it seems to take a major crisis to get people to focus on these issues and problems. Sadly, by the time something like that does happen, it is likely too late to become educated on the problems or on ideas to try and solve the problems.

We are doing our best here to try and help encourage people to learn more and to understand that these issues are important and can directly impact their daily lives even if they are somewhat complex for the average person sometimes. We will continue to try and provide the best information we can here from the best sources we can find in an effort to try and assist anyone who is interested in these issues. Reader questions are welcome any time at:

Thursday, May 11, 2017

Dr. Judy Shelton - Thinking About a New Common Currency

This is a news note based on a recent twitter exchange with Dr. Judy Shelton. Dr. Shelton was an adviser to the Trump economic team and also a recent participant in the Kemp Foundation forum on exchange rates which we covered here. She is also talked about as a possible nominee for the Federal Reserve.

Dr. Shelton mentioned on her Twitter feed that she sees the gold convertible US bonds she talked about at the Kemp forum as "a first step towards a gold-linked common currency based on national currencies".  

When I saw her Twitter comment on this I asked her for a little more detail on what she has in mind since moving towards a gold-linked common currency would clearly be the kind of major monetary system change we watch for here. The result was this Twitter exchange you can see below:

By gold linked "common currency", are you thinking of some kind of supranational currency or just the US dollar used differently?

Larry, I am thinking of a new common currency, voluntary, linked by gold (and silver) resulting from sovereign issuance of debt securities.

Please note that Dr. Shelton has in mind a new common currency linked to gold and silver rather than the US dollar. This suggests some kind of common currency used globally on a voluntary basis. This is obviously significant news since Dr. Shelton does have input into the Trump Administration. 

Also, we have this recent Twitter comment by Jim Rickards (see below) in which he talks about the possibility of Trump calling for an international monetary conference at Mar-a-Lago. 

This gives us an idea what to watch for. If an international monetary conference does take place under Trump, we can expect that the kind of issues we cover here will be discussed and that Dr. Shelton may have some input at such a conference. We will keep an eye out for it.


When Trump convenes an international monetary conference at Mar-a-Lago you can say you heard it here first. Sarah got the scoop.

Added note: Dr. Shelton did this recent interview on CNBC with Rick Santelli.

Wednesday, May 10, 2017

Jim Rickards on Potential for War with North Korea

A full transcript text of Jim Rickards interview in April with Alex Sanczyk is now available here. Jim talked more about geopolitical issues in this discussion than usual. Since Jim has good contacts on this kind of topic and since North Korea is certainly a problem that dominates the news now, below is a portion of a Q&A on what Jim thinks about it.

Alex: "Speaking of North Korea, President Trump has ordered a U.S. carrier group to steam in the direction of the northwest Pacific in the vicinity of North Korea. The carrier group consists of the USS Carl Vincent (a Nimitz-class nuclear powered aircraft carrier), a Ticonderoga-class guided missile cruiser, two Arleigh Burke-class guided missile destroyers, and an unknown number of submarines.
North Korea’s response has been a threat of nuclear attack on the United States. That’s not anything new; they’ve been saying that for a long time now. And also, they’re warning that their nuclear capability – if we can call it that and is of a much greater concern in my opinion – is targeting U.S. military bases in South Korea.
Trump’s comments regarding China’s role in theater were that it would be better if China solved the North Korea problem themselves. He tweeted out that if China decides to help, that would be great, but if not, we will solve the problem without them.
Do you see this simply as strong talk, or given the action in Syria, do you think Trump is prepared to back that up? What does it mean for the overall Korean theater? And as a follow-on, how does this affect the rest of the world?"                                                                                                                        
Jim:  "I followed it closely and don’t see any of this as just talk or even strong talk. I think it has real potential to spin out of control and do something; certainly a possibility of nuclear war with Korea and maybe something much worse as I’ll talk about in detail.
By the way, I’m not sure if all the listeners know about your own military background and expertise, and I appreciate that rundown of the elements of the aircraft carrier strike force.
. . . . . .
Let’s start with Kim Jong-un, the leader of North Korea.
I’ll distinguish for the listeners the difference between a nuclear device and a nuclear weapon. A nuclear device is when I take fissile material, create a controlled chain reaction, have some detonators, let it explode, and I get an atomic explosion. This can be detected with seismographs, intelligence sources, and other technical means.
There’s no doubt that North Korea has that. They’ve detonated a number of these nuclear explosions. They have highly enriched uranium and plutonium, which is fissile material. An atomic bomb can be made out of either highly enriched uranium or plutonium. It’s estimated that they have enough for 10 weapons.
They’ve mastered the enrichment cycle, have fissile material, and shown they can blow it up. That’s all pretty bad, but the next step is to weaponize it. Can they take that fissile material and put it in the form of a weapon that furthermore could be put on a warhead or missile?
These devices are the size of trucks. You could put it on a truck and drive it around, but where are you going to go with that? They can’t, so they have to weaponize it. They have to do something else, which is they have to ruggedize it.
‘Ruggedize’ means to strengthen for better resistance to wear, stress, and abuse. Even if they have something that’s a weapon that will work and detonate in a warhead, they have to shoot it into space. There is enormous stress during the liftoff phase, then it goes into space, and then it must re-enter the atmosphere. It needs a heat shield. It has a very rough ride before it reaches the target, so they have to weaponize and ruggedize it.
The evidence is that North Korea is very far along in that. I won’t say they’ve mastered it, but they’ve put some models on display which experts have looked at and said, “Yes, it looks like they know what they’re doing.” Who knows exactly where that is, but no reason to think that they’re not pretty far along.
The other thing they need is a missile that can reach a target. They can get South Korea because they have fairly reliable short-range missiles. The next step up is intermediate-range missiles that’ll go out maybe 500 to 1000 kilometers and be capable of reaching all of Japan and parts of China.
That’s been hit or miss – no pun intended – but they do seem to have nearly mastered that technology. They still have times when it blows up on the launchpad or it launches, goes off course, and lands who knows where.
It’s not clear how much of that is imperfect technology on their part and how much might be sabotage on our part. Let’s hope it’s the latter. Actually, let’s hope it’s both, but they seem pretty far along in intermediate-range missile capability.
The last leg of that triad is an intercontinental ballistic missile. This is the one that could hit Los Angeles or a lot of big cities in the United States. It’s much longer-range, has to go into space, and come back again. It doesn’t go into orbit, it’s kind of a suborbital ballistic path, but it’s very long range. They have not mastered that although they’re trying and making good progress.
So, where do we stand? They have the enrichment cycle, the fissile material, and the ability to create atomic explosions. They have short-range to intermediate-range missiles and are working on miniaturization, weaponization, ruggedization, and ICBMs.
They’re not that far away and seem to be making very good progress. They are probably four years at most, maybe three years, from being able to fire an atomic weapon at Los Angeles and kill 3 or 4 million Americans. That’s the capability.
Whenever you do this strategic analysis, you have to look at capabilities and intentions. If you know the capability, then all the talk in the world doesn’t mean anything if you can’t do it. If you do have the capability, you still have to ask about intentions. India has nuclear weapons and missile capability, but do they intend to strike the United States? Nobody thinks that.
It’s a combination of the two, capability and intentions. They’ve come very far down the capabilities path and are getting dangerously close to being able to nuke L.A.
Now let’s talk about intentions. Kim Jong-un has stated his intention to attack the U.S. with nuclear weapons. I see no reason not to believe him. He doesn’t quite have the capability yet, but that’s a dangerous combination.
What is he thinking? It’s impossible to know. One line of analysis I’ve read recently, which is not reassuring, is that he’s actually crazy. It’s probably the worst possibility when you have a crazy guy with nukes.
Maybe he’s one of these people who’s very cagy, not crazy but acts crazy to keep everybody off guard, something called strategic ambiguity. Going back to World War I case history, it’s the confusion about other people’s intentions that causes strategic miscalculation. Jong-un is looking around the world and saying a couple of things.
Let’s look at different nuclear weapons programs in rogue states. Iraq was working on nuclear weapons programs. Again, they didn’t have them when we went in, but they were working on them as evidence clearly shows. They gave it up, and Saddam Hussain got hanged. Gaddafi in Libya was working on a nuclear weapons programs. He gave it up and he got a bullet in the eye. The lesson is, if you have nukes and you give them up, you get killed.
The Iranians are working on a nuclear weapons program and they’re still standing. Kim Jong-un’s takeaway is, “If you work with the United States and give up your nukes, you get killed. If you keep your nukes, they don’t mess with you.”
It’s a totally bad message and major blunder the U.S. foreign and military policy has created in three cases – Iraq, Libya, and Iran – where if you work with us and give up your nukes, you get killed, but if you keep them, we don’t mess with you. That’s the wrong message, but it’s what we sent, and that’s what Kim Jong-un has internalized, so he’s saying, “All right, I’m going to keep going on the program.”
I’ve done a lot of work on North Korea. It’s an illegitimate regime, a brutal regime, a thuggish regime run like a crime family. They actually sent a cable to their embassies saying, “All you embassies, we don’t have the money to pay for you, so you have to pay your own bills. We suggest you do it with criminal rackets like counterfeiting or drug smuggling in diplomatic pouches.”
It’s run like the mafia with the same ethic of the mafia, which is basically to kill anyone who looks at you cross-eyed including your own family members. That’s the best way to understand what’s going on there.
The first thing Kim Jong-un is thinking is to keep going with the nuke program because the U.S. won’t mess with him. If he actually perfects it meaning he has reliable ICBM technology, miniaturization, and all the things we just talked about, he’ll think, “You definitely won’t mess with me. If you do and you don’t disable the whole program, I will send a nuclear missile to Los Angeles and kill millions of Americans, so good luck with that.”
The second thing he’s thinking is, again, being illegitimate – how to keep this thing going. How do you keep any racket going? Well, the main way you keep the racket going is to pay your people, but how does he earn hard currencies? He’s been shut out of the banking system; he’s been de-SWIFTed.
As a quick footnote on that, SWIFT is fundamentally the central nervous system of the international banking system. It’s a message traffic system run in Brussels where all the big banks in the world exchange money. When Deutsche Bank is sending a billion dollars to Citibank, it goes through SWIFT. When someone is exporting an oil tanker and waiting to get paid however many hundreds of millions of dollars for the cargo, that goes through SWIFT. Whether it’s dollars, euros, Swiss francs, yen, etc., all that message traffic goes through SWIFT.
In 2012 during what I call the first Iran-U.S. financial war, we worked with our allies to what we call de-SWIFT Iran or kick them off the SWIFT payment system. They could ship all the oil they wanted but couldn’t get paid.
North Korea is the second country to be de-SWIFTed. It’s a pretty extreme remedy much like cutting off oxygen to a patient in an intensive care unit; they’re probably going to suffocate. That’s what’s happened to them.
There are ways around that, however. They can use front banks. Maybe a Chinese bank is willing to send message traffic, wire transfers really, on behalf of North Korea without disclosing the beneficial party.
You’re supposed to disclose. There are forms – MT201s and so forth – where you put the sender, recipient, account information, amount, currency, all that stuff. There’s a line at the bottom for beneficial holder if you’re acting as an agent for somebody else.
Leaving it blank is one kind of fraud. The Chinese might leave those blank for North Korea and the Russians. I just saw the other day that the Malaysians have been doing something similar.
Be that as it may, the U.S. obviously knows this as part of our intelligence gathering. Going back to the escalatory dynamic, what we’re saying to the Chinese banks is, “If you front for North Korea, we’re going to kick you out of the U.S. payment system.” That’s a big deal, because these Chinese banks obviously need access to the dollar payment system.
That’s really putting the screws to North Korea. I’m sure that’s what was discussed in part between President Trump and President Xi at the Mar-a-Lago summit a few days ago behind closed doors which is, “We’re about to get serious, and we will put pressure on you directly if you don’t help us.” Trump has been tweeting about this. He leaves out the details, you can only do so much on Twitter, but it’s pretty clear what’s going on.
As another aside, the way North Korea gets money to pay their people is by selling weapons to Iran. North Korean scientists are further along than the Iranian scientists. Iranians have the enrichment cycle down, and they’re under a lot of scrutiny. Their missile program is coming along, but the North Koreans seem to be further along than the Iranians with all the technological items I mentioned – weaponization, ruggedization, miniaturization, ICBMs – so the North Koreans are selling their technology to the Iranians. That’s a separate story I’ll save for another day, but they’re getting paid in gold.
This is why there’s very strong physical demand for gold. Something that has emerged that I’ve written about for one of the think tanks in Washington is what I call the axis of gold involving Iran, China, Russia, and Turkey, and I would include North Korea as an auxiliary member.
The story of Russia and China acquiring gold as an alternative to the dollar, to build up their reserves as insurance against inflation, and all the reasons any investor might want gold, which all apply, is a big story. We’ve talked about that a lot in the past, but there’s another reason, which is to avoid sanctions or interdiction.
Physical gold is not digital, you can’t hack it, you can’t erase it, you can’t interdict it. It doesn’t go through SWIFT. You just take the bars, put them on a plane, and fly them to Shanghai, Pyongyang, Moscow, Teheran or wherever they happen to be going. You need very good intelligence to know where it is, and even then, are you going to shoot down a plane? Probably not, so that gold gets around.
It’s how these guys are paying each other outside of the message traffic system that is de facto controlled by the United States. There’s a big demand for gold coming from that vector. North Korea is getting gold they can use to bribe people and pay them off or to buy other things.
It can be used it to buy imports, and they like luxury goods. The North Korean military leaders, intelligence assets, and the people Kim Jong-un has to keep happy like their fancy watches and fancy cars as much as anybody. You can import that stuff with gold, so there’s a gold trade going on there.
Kim Jong-un has two big reasons to keep his program going:  1) He believes that if he perfects it, the U.S. won’t mess with him and he can perpetuate his regime, and; 2) He can sell the technology for gold to keep his people happy and protect his regime. He’s like the Godfather sitting up there.
The problem is, the United States is not going to allow him to nuke Los Angeles. He might say, “I just want the capability so you guys won’t mess with me,” but the answer is, “No, you’re not going to get the capability.”
You can’t gamble with Los Angeles. You can’t even take a 1% gamble with Los Angeles. You can’t even take a fraction of 1%. This is something Dick Cheney called the 1% doctrine, which meant that when the risks are existential, you can’t take even a minute fraction of 1%. You can’t make that bet; you have to eliminate it.
Kim Jong-un is on a course to get the weapons, and the U.S. is on a course to prevent him from getting the weapons. Each side misreads the intentions of the other. Now, here’s where it gets really interesting and I think war could be imminent:  How do you actually root out this program?
There’s an old saying, If you shoot the king, don’t miss, meaning if you try to assassinate a leader – shoot the king, in other words – and you miss, you’re dead. They’re going to come back to you.
This is what happened with Hitler and the Wolf’s Lair plot when they actually got a briefcase bomb two inches from Hitler. It blew up, but the briefcase had been moved behind an oak panel at the last minute. Hitler was injured and wounded but not killed. Of course, that was bad news for all the perpetrators, because they all got killed.
If you shoot the king, don’t miss, so if we, the United States, are going to take out the North Korean nuclear program, we must get it all. We can’t leave them with any fissile material, any missile launch capability, any reactors, etc., because they’ll just come back and get us.
There are ways to do it. I’ve been talking about the ICBM in Los Angeles as the existential threat, but they could unleash a military barrage on Seoul. I’ve been to Seoul a number of times, and it’s very close to the North Korean border.
It would be nicer for them if they were down around Busan or someplace further away, but they’re not. They’re well within artillery range. I’m not talking about bomber range; I’m talking about artillery range of the North Korean border, and they will be massively bombarded. Then North Korea could use even their short-range missiles to attack U.S. bases in Korea and the region.
Even if they can’t reach L.A. because we hit them before they can get the ICBM, they can easily kill a lot of Americans in the region. That’s exactly what they’ve threatened to do and have the capability of. If we hit them, we have to take out everything, or else the retaliation on us, the South Koreans, probably the Japanese, and others will be pretty horrendous. So, if you shoot the king, don’t miss.
What does it mean when I say don’t miss? The North Korean stuff is underground buried in mountains and heavily fortified. We do have GBUs (bunker buster bombs) and have been working on that, but if we give them more time and let them burrow in deeply and dig more tunnels, we might have to use tactical nuclear weapons.
Now, atomic weapons. I’m switching back and forth between atomic and nuclear weapons to distinguish between Hiroshima-type bombs and thermonuclear devices, which North Korea is not even close to getting. Russia and United States have them.
Atomic weapons are the kind used in Hiroshima and Nagasaki. August 1945 was the last and only time these weapons were used in warfare, but obviously, they’ve been tested up until the 1960s.
There are some smaller-yield, tactical nuclear weapons called sub-nuclear, which are pretty powerful. They get up to a certain critical stage and unleash a lot of energy. I don’t want to get too technical on all this, but the point being, those are obviously more powerful than the bunker busters.
Will we have to use those to wipe out the North Korean program to make sure if we shoot, we don’t miss? All I know is the more time that goes on, the more likely that becomes. If you’re the United States and are saying “We don’t want to use tactical nuclear weapons, because that crosses a separate red line that gives Russia permission to use them elsewhere,” then you’d better act sooner rather than later.
Here’s the dynamic:  Kim Jong-un is on a course where he says, “I’m keeping my nuclear weapons to perpetuate my regime and so that the U.S. won’t mess with me.” The U.S. is on a course that says, “We have to take out your program sooner rather than later because it’s an existential threat.” That’s a recipe for war sooner rather than later.
My view is we’re on that course. This is not saber-rattling or bluster or talk. Just to connect the dots all the way back to Syria, Trump has shown that he’s decisive and is willing to shoot.
Not to be glib, but when you have a forward-deployed military with as much weaponry, technology, and capability as the United States, the generals don’t totally mind taking out a Syrian airfield. In some ways, it’s target practice.
Again, I’m not being glib; I’m just saying that when you have all this stuff, you have to use it every now and then to make sure it works, and you know that very well. So, the military is primed. They had a nice live-fire exercise in Syria. Trump has shown he’s decisive. We’re on a collision course with North Korea.
To cut to the chase, this is one of the drivers of gold right now with physical gold prices in particular in addition to the other things we mentioned. I think the gold market and the smart money has this figured out. Institutional investors and retail, unfortunately, are usually the last to know, but I think some of the hedge funds, some of the sovereign wealth funds, and some of the big players are going to gold because they see this happening."