Category: Government

2017 War on Cash

US dollars and troops2017 War on Cash

Overshadowed by colossal events such as Brexit, the U.S. election and the Dow nudging 20,000, investors may not have noticed an escalating war over the past year: the sinister War on Cash.

We have previously covered the ongoing “currency wars” of central banks that continually try to depreciate their currencies with lower interest rates and quantitative easing. But this goes even further because it is a war on actual, physical, paper cash.

Unprecedented Strikes Against Cash

2016 saw prominent academics and politicians shamelessly writing about the benefits of reducing or even outlawing cash. Former Secretary of the Treasury, Lawrence Summers, called for the U.S. to get rid of the $100 bill.

Former Chief Economist for the IMF and Harvard Professor, Ken Rogoff, published a book entitled The Curse of Cash, followed by numerous op-eds and endorsements by the New York Times and Financial Times endorsing a ban on cash. Australia is currently reviewing whether it will ban its $100 note.

India’s Prime Minister, Narenda Modi, announced without warning on November 8 that all 500 and 1,000 rupee notes would cease to be legal tender. Although claiming these were “high-denomination” notes, they actually equate to approximately US$7.50 and US$15 respectively, and they constitute 86% of the country’s cash currently in circulation!

Banning Cash: Rationale versus Reality

One of the biggest reasons cited for banning cash is to cut down on crime. While it is true that criminals prefer cash for the anonymity and the ease of transactions, there is no reason to believe enterprising criminals will stop their activity because transaction costs will be higher.

Criminals will easily substitute other forms of payment: lower denomination bills, other valuables like silver or gold bullion, diamonds, bitcoin, etc. Even Tide detergent has been found used as a common currency for drug trades.

The popular press surmised Tide was used by drug users because it could be stolen easily and traded for a quick fix. Yet this misses the point of why drug dealers would accept Tide as a currency at all.

The reason Tide became a currency was because it fit most of the properties of what makes a currency viable. It is recognizable (given the brand name), homogenous, easily divisible, and it has a (relatively) high value-to-weight ratio, making it portable. Bottom line: criminals are enterprising enough to surmount all kinds of obstacles inherent in illicit trade, so banning cash will not turn them into law-abiding citizens.

The next reason for banning cash is a little closer to the truth; to curb black and grey market transactions and collect all of the taxes the government is currently missing out on. India’s actions are squarely aimed at this because most Indians make virtually all daily business transactions in cash.

Further, the government will be receiving a report on any Indian citizen who deposits more than 250,000 rupees as a result of trying to rid themselves of the now illegal notes. The intention will then be to assess a tax and penalty on any of this money, if viewed by the government as unreported income.

While this may give a little boost to government coffers in the short-run, it is likely to backfire because the overall effect will be to tamp down economic activity in general, leading to even less wealth creation and less tax revenue.

The Real Reason for a Ban on Cash

The biggest reason for banning cash, especially in developed countries, is for governments to have the ability to enact even more extreme negative interest rates. Rogoff and others are actually quite transparent about this, recognizing that if banks charge an ever larger negative interest rate on deposits, savers have the option of withdrawing their money in cash and stuffing it under a mattress or in a vault, costing them less in relative terms than paying the bank to hold their money.

This highlights the ludicrous position in which central banks have put themselves, yet it is obviously the next logical step in their fallacious reasoning. To a central banker, if zero interest rates have not sufficiently spurred an economic boost with increased borrowing and spending, then the next step is to make interest rates negative, something we are already witnessing on a smaller scale.

But if minimally negative interest rates do not work, then their logic is to remove the next barrier to make interest rates even more negative. Thus the wrong intervention of the first action necessitates further interventions that distort the regular function of banks and interest rates even more.

Savers and Investors

The biggest surprise of the recent currency bans and proposals to ban currency in developed countries has been the lack of protest from citizens. Most people already use credit and debit cards for many transactions anyway and don’t seem to see the problem.Many coin bank of yellow and white metal. Cash closeup.

However, if negative interest rates are imposed on regular bank accounts, and savers have no way to withdraw their money, they will likely become more a lot more interested in what is really going on here. Fortunately, many alternatives exist to regular currency, and while governments may try to curb an exodus to these alternatives, it will likely be hard for them to do so, given the myriad of substitutes available.

For example, gold and silver will remain popular substitutes, as well as other alternative assets like other commodities and real estate; perhaps Tide detergent will even become more widespread as a common currency! Technology will also enable the ownership of these assets to be transferred and verified more readily.

In any case, investors and savers need to stay properly diversified and remain informed…..

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Production Spurs The Economy, Not Consumption

Economy

Economy

With Black Friday and Cyber Monday now behind us, economists and investors are hoping people shopped till they dropped in order to give the economy an extra boost. In addition, the latest GDP report on Tuesday came in higher than expected, largely driven by consumer spending. However, buying more flat screen TV’s  isn’t what makes an economy healthy.

Many people believe the fate of the economy relies on retail sales and consumer spending, especially because news outlets continually note that “the consumer sector accounts for two-thirds of the economy.” Unfortunately, this is not only misleading but it is also mistaken economic theory.

What GDP Is – And Is Not

The measure of GDP, or gross domestic product, is simply the value of all goods and services sold within a country. While this seems like a simple enough calculation, the devil diddles in the details.

One problem is that the calculation only accounts for the sale of final goods and services. This is done in an attempt to avoid double counting. For example, if a steel maker produces steel that is then sold to an automaker to build a car, only the final sale of the car will be counted and not the earlier sale of the steel. This is one reason why GDP data is so dependent on consumer spending.

This leads many to believe that consumer demand and spending is what drives an economy forward. This is a notably Keynesian idea where recessions are caused by drops in demand and cautiousness causes consumers to keep their wallets closed. Following this line of thinking, the solution to any stagnant economic growth becomes obvious: get people spending!

True, there is a grain of truth here because the money I spend on a new sofa goes into the hands of the shopkeeper who then has income to spend. In the same manner, if nobody buys my services, I will not have any money to buy that new sofa. The gears of the economy would grind to a halt without spending.

Putting The Cart Before The Horse

Spending money does move the economy, but only to the extent that it is an exchange of goods and services. The critical step everyone seems to forget is that in order to spend money, you must have that money in the first place!

How do you get that money? By producing something of value that someone else wants. Therefore, it is production that drives the economy, not consumption. There is never a problem or a drop in consumer demand because people never tire of wanting new and better things; the problem is maximizing production to fulfill more of those wants and needs.

How is production increased? By increasing productivity. How is productivity increased? By saving, or deferring consumption so new tools can be forged and research undertaken to increase productivity.

A Robinson Crusoe Economy

Imagine you and your friends are stranded on a deserted island, and it takes all day to catch that one fish or harvest those few coconuts that you need just stay alive. Your economy is 100% consumption, correct?

How could you improve your standard of living? Not by consuming more, but by actually consuming less. You and your friends would need to go hungry for a day or two and use your new-found spare time to construct a fishing net, fashion a spear, or create other tools to make procuring food easier.  

This would in turn make you more productive, allowing you to gather more food during the course of a day. With the extra food, you could go back to 100% consumption and live a slightly better life, but to achieve an even better standard of living, you would need to continue to save and continue to defer consumption.

Why This Is Crucial

It is saving and producing that should be the focus in order to grow an economy. Sustainable increases in

Production

Production

consumption are a symptom of an economy that has already grown and produced more, not the cause of prosperity.

GDP is merely a statistic. Although it is not a bad thing per se, what gets measured also gets managed – even manipulated – by governments. Telling the populace that consumer confidence is high and consumer spending is up can make an economy look stronger, inducing governments and central banks to continue to pursue policies that boost spending.

Indeed, not only are central banks continuing to try to keep interest rates low and stock markets high to produce a “wealth effect” of more debt and more spending, but governments are also considering additional spending measures (government spending is also counted in GDP).

Investors need to remember the true causes of wealth creation, and seek to protect their own wealth in the face of a government-managed economic environment.

Losing Credibility – Japan’s Central Bank

The central bank of Japan headquarters in TokyoWith the latest Federal Reserve meeting and subsequent announcement last week that interest rates will not be raised at this time, many missed the news from the Bank of Japan. The central bank of Japan not only unveiled a new monetary policy experiment, but also admitted it’s current plans thus far have not worked and that it’s losing credibility.

From Influencing to Manipulating

By now, almost everyone understands that central bank policies push short-term interest rates lower, even though these policies are prompted by a desire to spur borrowing, increase hiring by businesses and boost spending in an effort to increase wealth in a “virtuous circle” that jumpstarts the economy.

The Bank of Japan has been trying particularly hard to shovel money into the economy, not only to spur activity but also to combat deflation. The bank fears falling prices will lead to consumers resisting spending and businesses becoming too risk-averse. As we have noted here before, both of these theories – jumpstarting an economy with money-printing and fearing deflation – are wrong.

Japan Doubles Down on Failure

However, instead of realizing this, the Bank of Japan continues to double down on failure. On Wednesday last week, the bank unveiled a new experiment. Rather than announcing it would inject a certain amount of money into the economy, such as buying a predetermined amount of bonds, it will instead target long-term interest rates directly.

Specifically, the central bank will target the 10-year government bond yield to be zero percent. This means the Bank of Japan will stand ready to buy or sell 10-year bonds so the yield stays near zero. Let that concept sink in for a moment.

Interest rates are important price signals in any economy. Simply stated, they are the price to borrow money. Even more crucially, they coordinate people’s time preference; in other words, they coordinate resources between people who need them now, versus those who want to use them later.

Any institution claiming they know what a price should be, while interfering with the natural free market process of price-setting, is bound to run into trouble. Governments and central banks have tried to control prices of goods before, always resulting in a market shortage or surplus since the price is not left alone to freely coordinate supply and demand.

In this case, the Bank of Japan is setting a hard price on government loans. Japan is one of the most heavily indebted countries on the planet at over 200% debt-to-GDP. If investors ever lose confidence in Japan to pay back this debt, or do so in its own currency, they will sell the bonds, driving up the yields. The central bank will then have to stand ready to buy up all of these bonds to keep the yield at zero, effectively monetizing its debt.

Losing Credibility

Haruhiko Kuroda, the Governor of the Bank of Japan, in a speech accompanying the new policy announcement, noted their 2% inflation target was obviously not working. The bank’s former plan had been to make a strong verbal commitment to a 2% inflation target, and back it up with the bank’s large asset purchases (their QE), hoping they should then see inflation move towards their goal.

Instead, prices continue to fall in Japan. Mr. Kuroda concluded that the plan is not working, theorizing that consumers base their inflation expectations on past prices and psychology, rather than what central bankers tell them.

Too Late

Unfortunately, rather than admit defeat and recognize the limits of centrally-planned monetary policy, the Bank of Japan will continue to pursue any and all policies, ever bolder and more absurd, until it sees the consumer price inflation it desires.

Japanese currency with the text, YENBut higher consumer prices due to monetary policy will not generate more wealth and economic prosperity for Japan. By the time prices rise above their 2% target, it will likely be too late, because confidence in the central bank’s control and the country’s currency will have already been eroded.

The Bank of Japan has frequently been at the leading edge of new monetary policies and experiments, such as negative interest rates and now direct and blatant manipulation of the yield curve. Expect other central banks to watch closely and to try similar measures soon.

No Bunnies & Elephants with Negative Interest Rates

BunnyThe idea of negative interest rates has been given renewed attention with the Bank of Japan being the latest central bank to actually implement negative rates on some deposits. Recently, Bloomberg Business published a cute cartoon featuring Janet Yellen and bunnies to explain the theory of how negative interest rates are supposed to work. Unfortunately, this theory is fatally flawed and a more apt cartoon illustration would be Dr. Seuss’s The Cat in the Hat Comes Back.

The Theory
We covered negative interest rates a year ago when European bonds started trading at yields below 0%; so for a crash course or refresher on what negative interest rates are and how they work, check out our previous article first.

Bloomberg’s cartoon starts with the fact central bankers want negative interest rates to incentivize spending and borrowing and to deter people from hoarding money. People are not dumb, and if they are charged money on their savings in a bank, they will take it out and stick it under a mattress rather than pay for it to sit in a bank.

Central banks, the theory goes, should instead focus on the big players: the banks. Since they have so much money and need to keep some of it in electronic form with the Federal Reserve, they won’t be able to ‘stick it under a mattress’. If central banks charge them on the margin (in other words, a portion of deposits, but not necessarily all of their deposits), then it should incentivize the big banks to hand out more loans.

More loans will spur businesses to invest, grow and hire more people. In addition, negative rates will drive down the value of the dollar, making exports cheaper, which will also fuel growth. Sounds like cute bunnies and sunshine right? Not quite.

The Reality: The Cat in the Hat Comes Back
The foundational flaw to this entire approach is the Keynesian idea of jump-starting the economy by trying to increase aggregate demand: borrowing and spending is the ultimate goal for central bankers. But sustainable spending can only come after savings, production and wealth creation.

Bank Cash Withdrawals Raise Suspicion

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Imagine walking into a bank to withdraw funds to buy a used car from a private party, or withdrawing emergency cash for a friend who becomes unemployed and has no bank account. Suspicious? Do you know that if that amount is $5,000, your trusted bank teller is under a legal requirement to file a report to the Feds on what is deemed ‘suspected criminal activity’?

In what many see as an acceleration of statist control of U.S. citizens, the Justice Department has called on bank employees to report customers whose financial transactions appear to be suspicious or unusual. Known as a Suspicious Activity Report (SAR), this federal requirement has surprised many bank patrons who have discovered that their benign intentions have run afoul of The Feds.

Because banks are required to complete a SAR for questionable transactions (typically $5,000 or more for banks; $2,000 or more for money services businesses), unsuspecting customers are subjected to scrutiny for perfectly legal actions, such as merely withdrawing cash. Banks often file SARs even for smaller amounts due to regulatory fear, in what could be deemed a ‘defensive filing’ approach.

Tragically, this action against an innocent customer could result in a larger enforcement action such as a thorough investigation or even the seizure of their cash. And it could land one on a terrorist watchlist that could result in travel and other restrictions.

Beyond these requirements for brick-and-mortar entities, new legislation aimed at greater cybersecurity transparency between the Feds and financial institutions has taken root with the Cybersecurity Information Sharing Act. Now, these financial institutions are required to be extra vigilant in terms of monitoring and including online information in their suspicious activity reporting. 

Top 5 Must-Have Stocks For 2016

stock-market-3 Join the gym. Stop smoking. Cut out fast food. Be kinder. These are just a few phrases that will be uttered to ring in the New Year. If you’re like me, the resolutions may only last for a short while, but at least you tried, right? Unfortunately for us, change is difficult and it seldom happens that we find a resolution worth keeping. That’s where Anthem Vault’s own John Stuart comes in with his Responsible Resolutions, encouraging you, the reader, to save more money and to make wise investments.

In order to help you become a wise investor and increase profits as a consequence, here are my Top 5 Must-Have Stocks For 2016:

  1. Alibaba

If you don’t know much about this Chinese e-commerce juggernaut, Anthem Vault’s Michael Scott wrote a compelling piece about Alibaba and what he sees for them in the near future. Though 2015 started off slow, there was no greater market presence than Alibaba in the second half of the year. Since the beginning of October, we’ve seen stocks grow by 41% in that short period. Alibaba also happens to be the largest e-commerce site in the world with 1 in 5 Chinese consumers as active shoppers. Alibaba offers a widespread tech market, and with China’s tech-savvy young consumers, they look to increase website traffic and business significantly in 2016. It’s no secret that the buyer is back in control at Alibaba, and with CEO Jack Ma aiming to make the company a global force through the partnerships with tMall, Starbucks and Disney, Alibaba should be one of the top stocks on your watch list.