Wednesday, May 11, 2016

Former BIS Stefan Gerlach - Global Financial System's Weakened Defenses

Former BIS official Stefan Gerlach writes a new article appearing on Project Syndicate here. He notes that the potential for a major crisis still exists in the global financial system and has some interesting comments on gold. Below are some quotes from the article and then some added comments. See Jim Rickards comment on the article below.

"Eighty-five years ago this month, Credit-Anstalt, by far the largest bank in Austria, collapsed. By that July, banks in Egypt, Germany, Hungary, Latvia, Poland, Romania, and Turkey had experienced runs. A banking panic hit the United States in August, though the sources of that panic may have been domestic. In September, banks in the United Kingdom experienced large withdrawals. The parallels to the 2008 collapse of the US investment bank Lehman Brothers are strong – and crucial for understanding today’s financial risks.

For starters, neither the collapse of Credit-Anstalt nor that of Lehman Brothers caused all of the global financial tumult that ensued. Those collapses and the subsequent problems were symptoms of the same disease: a weak banking system.

In Austria in 1931, the problem was rooted in the breakup of the Austro-Hungarian Empire after World War I, hyperinflation in the early 1920s, and banks’ excessive exposure to the industrial sector. By the time Credit-Anstalt collapsed, the world had been in deep recession for two years, banking systems in a number of countries had become fragile, and tensions were easily transmitted across national borders, with the gold standard exacerbating financial vulnerability by constraining central banks’ ability to act."

. . . . . .

"Unable to rule out a new crisis, how well are we equipped to cope with one? The short answer is: not very.

In fact, if a financial crisis were to occur today, its consequences for the real economy might be even more severe than in the past."        . . . . . .

"In the early twentieth century, central banks could all devalue their currencies against gold, thereby raising the price level and escaping debt deflation. And, indeed, nine countries, including the UK, did exactly that in 1931, with another eight countries, including the US, following suit over the next five years. Today, however, currency depreciation is a zero-sum game."

Click here to read the full article on Project Syndicate


My added comments: I passed this article along to Jim Rickards and he offered a very interesting reply as follows:

"Thanks. This is the third elite economist to say the same thing after the PIMCO paper (Rumplestilskin) and Ken Rogoffs piece. The power elites are now speaking openly about revaluing gold, which is just a form of currency devaluation."

He then kindly forwarded me the links for the other two economists he mentioned in his reply here:

I think all this is very intriguing. Jim Rickards just released his new book, "The New Case for Gold" in which he talks about gold back in the 1930's time period Mr. Gerlach mentions. He also says that currencies could be devalued against gold today if financial authorities wanted to use that tool again. Please note that Mr. Gerlach points out that currencies were devalued against gold once before in his article as well (see the quote above). It is interesting to see so many articles on this idea (revaluing gold) surfacing lately. Dutch author Willem Middelkoop also mentioned to me in a recent email that he is seeing the idea of revaluing gold higher mentioned more frequently.

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