Financial Repression 2.0
The shift we saw over the past couple of years has been a historic one and its implications are sure to be far-reaching and long lasting. After over a decade of monetary easing and ultra-low interest rates, a policy direction that came to a crescendo during the pandemic, inflation finally and inevitably reared its ugly head.
At first, central bankers shrugged off public fears by claiming the phenomenon was “transitory” and that prices would soon return to normal levels, as everything was under control. When that tactic proved to be ineffective, mainly because its core tenet was proven blatantly untrue, a massive policy reversal took place, and interest cuts turned into interest hikes. This measure, however, failed to rein in spiraling prices as central banks had hoped. Months went by, and then a year, and that pesky inflation problem refused to go away. Sure, official CPI figures did decline from record highs in some advanced economies, but these figures are far from accurately representative of the actual, real-life expenses of the average household.
At this point, it appears that higher prices are something people have accepted and learned to live with. Yet this pressure alone, severe as it is especially for lower-income households, might have been survivable if it weren’t for the additional pressure applied by the higher rate environment. Businesses small and large have felt the sting of the higher costs of borrowing, and individual consumers have been cornered by this “pinch maneuver” of higher prices and costlier credit. As a result, the entire economy has come under threat of a serious and prolonged recession. And while major central banks have begun to pivot to yet another U-turn, by pausing rate hikes and preparing for a return to easy money and QE, it can be argued that by now, it is “too little, too late”.
Does the left hand know what the right hand is doing?
There is no doubt that the belief in the idea of total central bank independence is objectively naive. Some are more discreet than others; for example, China’s PBOC is clearly a lot more overtly politically “malleable” than the Fed. However, no central bank is truly, actually, and thoroughly independent, nor have they been for years - arguably since their inception. What’s different this time is that the political need in Western economies for accommodating monetary policy is getting more dire by the day, as is the pressure on central bankers to forget about inflation and focus on economic growth - or at least stability - regardless of the long-term cost.
On top of the existing raging war in Ukraine, there is another one in Gaza now which threatens to spill over to the entire region. Higher interest rates have also been very detrimental to public debt servicing costs. On top of that, there’s an election on the horizon in the US and the incumbent will need full state coffers to woo voters and secure alliances with big spending programs, as is usually the case during pre-election years. Additionally, businesses that were kept artificially alive for years thanks to cheap credit have been massively downsizing or even folding, while banks have already shown signs of cracking under pressure. All these problems and concerns are as crucial to resolve as they are expensive, and the solutions could prove unaffordable without a full return to easy money.
Financial repression is loosely defined as "policies that result in savers earning returns below the rate of inflation" to allow lenders to "provide cheap loans to companies and governments, reducing the burden of repayments." This is what we saw during the QE era, of course, and it is what we can expect to see again after the coming policy U-turn. Savers will once again be punished and penalized, while speculators, debtors and over-leveraged businesses will be rewarded. “Zombie companies” will roam free once more and the stock market will have another spectacular, but short-lived and totally artificial, rally due to another wave of asset price inflation fueled by cheap credit.
However, this time around, there will also be the “permanently higher plateau” of consumer prices to contend with, a problem we didn’t have last time. Pursuing an extremely inflationary policy in an already inflation-stricken economy doesn’t sound like a strategy that will yield any positive results for anyone apart from the state and state-connected or -dependent enterprises.
No way out
It isn’t just inflation that is adding a new complicating factor into the mix this time, though. There is another key part of the equation that has changed since our last experiment with monetary easing and ultra-low interest rates. During the previous era of ZIRP and NIRP, savers and investors had a few options if they wanted to avoid seeing their savings dwindle on a no-interest or even negative-interest bank account. They could “invest” their money in overvalued stocks, they could spend it, or they could simply withdraw it and wait out the storm while sitting on a pile of physical cash. Granted, that pile earned no interest either, but at least it was safe from negative rates and from the risk of a banking crisis, of which we saw quite a few, e.g., capital controls in Greece, “haircuts” in Cyprus, etc.
This last option is unlikely to be on the table this time around. Given the fervor with which central banks all over the globe are pursuing Central Bank Digital Currency solutions (CBDCs) and given the rate of progress they are making, it is safe to assume that cash could soon be facing an extinction event. The FedNow system that we already discussed in previous BFI Bullion (and BFI Capital Group) analyses is now live and it is widely seen as a precursor to the transition to a full digital dollar system. Over in Europe, the ECB recently announced that it will begin a two-year "preparation phase" in November for the digital euro, finalizing rules and selecting private sector partners. In fact, as DW reported in mid-October, “more than 100 central banks worldwide are either exploring or preparing to put in place digital currencies as electronic payments grow.”
We have already outlined the very real, practical risks of CBDCs in a previous edition of our Digger, including concerns over privacy and the potential for governmental abuse. However, what is particularly pertinent in this context is the danger of direct policy transmission. Without cash, there will be nowhere to run from negative rates, or whatever “monetary experiment” comes next. After all, if the absurd notion of paying for the privilege of lending your money was so easily normalized and constituted official policy in the Eurozone, in Japan and elsewhere for years, what’s to stop central bankers from going a step further to combat the next crisis, especially if they have a “captive audience”?
With CBDCs the possibilities are endless: from directly enforcing negative rates on individual savers, to employing the concept of “programmable money,” to enforce bans on purchases or investments that are not “sanctioned”, or to create stimulus payments with an expiration or “spend by” date.
The true cost of fiscal activism
Even beyond all these known risks from the monetary side, there are very serious concerns that investors urgently need to consider from the fiscal side too. As the FT highlighted in a recent analysis, “Governments have been emboldened by their interventions during the pandemic and the recent energy crisis in Europe, when they organized the rollout of mass vaccination programs and financial support packages to households and businesses. The revival of big government that is more active in addressing social needs brings the need for higher public expenditure to solve problems... Unprecedented government support to businesses and individuals during the pandemic has already pushed up public debt levels in many advanced economies, while a spike in inflation has triggered a surge in interest rates as central banks battle to tame rising prices. Increased debt levels and higher interest rates will make it harder and more expensive to borrow in the financial markets, especially for day-to-day spending.”
The next best thing to borrowing is of course taxing. It’s certainly not an easy sell, especially in advanced economies where the taxpayers are already carrying a heavy load. It can, nevertheless, become more politically “marketable” under specific circumstances. As the FT also highlights, “levels of taxation remained fairly flat until this decade, but they have been rising since the pandemic. The average was 34.1 per cent in 2021, according to the OECD.”
If a pandemic can be a persuasive reason to get voters to agree to parting with a higher portion of their hard-earned money, then a war is bound to be an even more compelling argument. This is particularly true for a generation that hasn’t even seen one on TV, barely remembers the invasion of Iraq, and is now facing two active war fronts that could spread and morph into a much wider conflict, potentially involving direct Western participation.
But we don’t even need to tax our imagination to conjure up such dramatic or extreme scenarios. There’s always another “door” to tax hikes and it has already been tried and tested. Climate change has led to the emergence of an entirely new sector within the financial services industry, to wit ESG and green investing, as well as a wave of regulatory interventions and new taxes. Most of the direct tax hikes or new taxes have so far been aimed at the corporate world, but indirect burdens have also targeted individuals too. The (in)famous Ultra Low Emission Zone (ULEZ) in London, for example, introduced daily emissions-based charges for all non-compliant vehicles driving in that zone, forcing many citizens to pay £12.50 a day to use their car to get to work. One can easily envision this sort of policy being applied more widely, while still evading the official definition of a “tax,” as it still presents a choice, albeit an impractical one.
All in all, just as we described in detail in our latest Special Report, Deeper Into the New Era - Navigating the Shifts & Turning Points Ahead, it should be clear to all investors by now that we have entered a whole new chapter in terms of monetary and fiscal policy. Financial repression, emboldened governments and a destabilized world order all present new and serious challenges for long term financial planning.
With equity investments, pension savings, bank accounts, and now even cash failing to provide a safe haven from what lies ahead, physical precious metals remain the only reasonable and reliable choice for those who seek to protect what is rightfully theirs.
What investor behavior is telling us about gold, and why we should listen
You might be surprised to know that when I was a teenager in American high school and trying to figure out what I wanted to do with my life, my Junior-year guidance counselor asked me if I ever thought of becoming a priest (I attended a private, Lutheran high school).
I was in high school in the mid- and late-80s, so back in my day, a counselor suggesting I consider being a computer programmer, stockbroker, travel agent, or fitness instructor would have been pretty cool. But a Lutheran priest?
It took a few seconds for the answer to show up on my face before my counselor explained why. I was patient, I was a good listener, I worked well with and had an interest in helping others, and I was apparently a keen observer who used these observations to make good decisions.
These reasons the counselor gave as to why I should consider the priesthood are what got me to writing this article. Observation, patience, and an interest in helping are all relevant when it comes to what we might learn from some very interesting developments and trends we’ve seen here at BFI Bullion from investors and partners. From July up to today, I think it’s quite interesting to take note of what people are doing - or not doing. What are these trends telling us, and should we listen?
The Smaller the Bar or Coin, the Better
One of the most interesting trends we saw this summer and fall has been an increase in interest in smaller gold bars and coins. Naturally, there is a logic to buying, for example, 100gr gold bars vs. 1kg gold bars. While the premiums per ounce an investor pays over spot fall the larger the bar they buy, having 10 x 100gr gold bars gives you more liquidity and flexibility than one large bar. I’ve heard of quite a few cases of investors that tried liquidating a 1kg gold bar with a metals dealer in their nearest city and found it was almost impossible, but a dealer will pay you on the spot for a 100gr bar.
Still, what we saw this quarter was remarkable. There was a sudden surge of interest in, for example, quarter ounce or tenth-of-an-ounce coins, or the 50-gram “combi bars”, where you can break a 1-gram piece off of the entire bar. The reason behind this surge in demand was quite clear and practical. If global economic conditions continue to deteriorate, and “fiat currencies” continue to lose value, suddenly crash, or even disappear altogether, these small formats will give a person more options as a medium of exchange. What would you rather buy a loaf of bread with: a 1oz South African Krugerrand, or a 10th-ounce Kruger?
The logic makes sense and so do the legitimate fears that support it. But more importantly, this tells us that the savvy investors are concerned enough to start positioning themselves for that “rainy day” - that harsh crisis scenario - that us gold owners always have in the back of our minds. Even though the markets performed relatively well into July, August, and September, and it felt like summer was “quiet” when it came to any new economic, inflation, or even geo-political news, uneasiness and uncertainty are now on the rise again - and for good reason.
What do I think of the smaller formats? While I love the idea of keeping metals at home as a potential medium of exchange, a lot of investors forget that “the smaller the format, the higher the premiums”. The “economy of scale” principle applies here too, so the costs over spot get higher the more detail and work that goes into these smaller bars and coins. And you’ll be lucky to recoup even a part of those high premiums you pay today, if you should sell in the future - most likely, you’ll sell at a loss. Personally, I prefer 1oz silver coins as my back-up. If I don’t want to use a 1oz silver coin for one loaf of bread, I’ll make a deal with the baker to make sure I’m set up for the month. That’s what bartering is all about… and a fiat money collapse scenario is all about bartering!
High Supply + Low Demand = Lower Premiums
We heard the same from our metal’s providers and refineries this quarter, as well as other metals dealers: things were slow. I don’t know if you get as many PM newsletters and reports as I do, but nearly everyone was offering “deals” this summer and fall, or lower premiums over spot, more than anytime earlier this year.
There’s a lot of supply right now, but demand is low.
What’s that telling us? The reason that supply is currently outpacing demand and why premiums are so attractively low at the moment is that so many investors believe the narrative of the mainstream financial press: that the US and the global economy miraculously avoided the recession that the consensus anticipated only a few months ago; that central banks have inflation under control; that the aggressive and persistent interest hikes we saw in most advanced economies inflicted no damage to the real economy and that we are well on our way back to solid and sustainable growth.
Clearly, as any serious and observant investor surely understands – as well as many of our clients evidently do, as they continued with a steady flow of purchases this fall - this outlook is merely wishful thinking, as it contradicts basic fundamental indicators almost as blatantly as it contradicts plain common sense.
the Alternative to a Savings Account
Since summer, from speaking with many of our newer investors that only recently went into physical metals and stored with BFI Bullion outside of the banking system I gleaned that they viewed our offering as an alternative to a traditional bank savings account.
"While I love the idea of keeping metals at home as a potential medium of exchange, a lot of investors forget that “the smaller the format, the higher the premiums”. The “economy of scale” principle applies here too, so the costs over spot get higher the more detail and work that goes into these smaller bars and coins."
I’ve often said that we don’t like to be looked at as a bank because the services banks offer come with a lot more paperwork, regulation, and other bureaucracy. Most importantly, for me at least, they come with an impersonal, cookie-cutter approach that is focused on extracting short-term profits from clients. They push products that make sense for them, without taking into account the client’s particular needs or considering the value of a long-term relationship. Instead of providing a service, the process is more akin to an automated production process, an assembly line.
But why would a “mainstream” investor who previously shunned real assets turn to physical metals, stored outside of the banking system, as a banking alternative? Well, the answer is quite simple: it is because they are still (rightfully) nervous about the banking system. We had the SVB’s, the FRB’s, and the Signature’s earlier this year, and then the Credit Suisse fiasco that had us seeing a huge uptick in Swiss investors. Their decision was clearly justified: even though gold doesn’t pay interest, at least by investing their money into something that will always retain some kind of value, they feel better than just holding cash at a bank. And they had even more solid assurances buying and storing with us at BFI Bullion, as liquidation is quick, easy, and payment, from the request of sale to showing up on their account, is normally made in four working days.
Long-term Investors are Long-term…
Until They Aren’t
When gold spot prices were hitting their low (or lowest, since February earlier this year) recently at the end of September and beginning of October, we started hearing from some of clients with concerns about what was happening to the gold market.
We’ve seen this before and it always reminds me of a saying I came up with awhile back: “Long-term investors become short-term investors when they think they are losing money”. Now, I’m not saying all gold investors are like this, but there is always a small uptick in inquiries when spot drops $80-100/ounce from where it was.
Nearly every one of our clients say they invest with BFI Bullion and in physical metals for the long term. Yet, when the spot price drops, a few get jittery. As I’m finishing this article, gold spot has surged to over $1980/oz again…and needless to say, the worries have eased.
The learning point here is that physical gold and other physical metals need to be looked at more as “insurance” vs. as an “investment”. Insurance is something you pay into with the hope you never have to use it, but then it’s there for you when you need it. If you look at it as an “investment”, you are always thinking “this is what I would lose if I sold it now”. And perhaps that’s also important to remember: you only “lose” money, per se, if you sell it at a time when it is lower than you paid for it. I stopped following spot prices years ago, after understanding the real role physical gold and silver play in my overall portfolio.
This is why I met the latest dip, as I did with ones before it, with a shrug.
You Don’t Need to Join the Priesthood to be a Good Listener and Observer
Again, as I was thinking of how to share some of the things we’ve seen “on the ground” here at BFI Bullion that I thought were important for you to know, the main point I kept coming back to was that it has never been more important than now to listen, to observe, and particularly for the gold and precious metals investor, to have patience.
Even if things seem calm, you must look at the big picture. Even if the financial press says everything is fine, even if the central bankers say things are going well, you should still rely on your own critical judgment, on the evidence of your own eyes and ears and on your plain common sense. I think most of us understand how we can’t, for example, continue to kick the can of debt down the road.
There are real risks on the horizon that must be planned for, and it requires thinking outside the box. While gold has served as real, sound money for more than 6,000 years and so doesn’t feel much like “thinking outside the box”, considering physical gold as an alternative to just holding cash in the bank, or having some metals at home to help provide that insurance if things really do get bad, is clearly the sensible and responsible thing to do. I’m one of the most optimistic people in the world, but it doesn’t stop me from having a monster box of 1oz silver Noah’s Arc coins at home.
Finally, it is true that patience may be required as you wait for gold to fully pay off as that insurance I’ve talked about. It is certainly worth the wait though, a lesson I personally learned during the 2007 – 2013 turmoil, when precious metals investments, especially those of physical gold, helped my family and I ensure that we could weather the storm and come out stronger than before.
I continue to hold all those same metals I purchased back then, consistently buying a little more here-and-there on the dips like the one we saw recently. And as I’m striving to still be that same person that could have been a priest and I do my best to still be a good listener, a good observer, and to be patient and helpful to others, I sincerely hope you’ll find something important and constructive in the experiences and lessons I’ve shared.
Most of all, I hope you’ll heed the warnings all around us and prepare for what lies ahead.
The pursuit of safety in the age of uncertainty
The unprecedented, atrocious attack by Hamas against Israel on October 7th reverberated across the world and quickly sparked fears of a wider conflict in the region.
As politicians, leaders of international organizations, or other influential figures released their public statements, ordinary citizens were still shocked by the eruption of yet another warfront and struggled to come to grips with its implications, not just for those directly affected, but for them as well.
Geopolitical risks reach a new high
Even before October 7th, the world was already on high alert due to the Ukraine war and all its far-reaching ramifications. Chief among them was the threat of a dangerously dichotomized world, which had been growing and festering for years, and which has created a new reality in international affairs, global trade, and security. This ongoing conflict, which has outlived most optimistic expectations, has claimed thousands of lives and shows no signs of abating, and caused widespread uncertainty both politically and economically.
Even in nations not directly involved, the impact was severe and continues to be. In the West, defense and aid budgets have exploded, fear continues to grow, while mis- and dis-information campaigns have divided societies. The specter of all-out war soon appeared real and imminent, especially in Europe. Ordinary citizens were directly affected by the embargoes and sanctions against Russia that plunged the continent into an energy crisis, which came on top of an inflationary crisis that was just beginning to take hold.
Thus, with winter approaching, most of the world had its eyes fixed on the Ukraine front, when the attack on Israel caught everyone off guard. The magnitude of the offensive, the brutal slaughter of civilians and the harrowing images and witness accounts that were published quickly drew near total international condemnation. The fatalities, exceeding 1400, led U.S. Secretary of State Antony Blinken to describe the carnage as “the equivalent of ten September 11th’s”, relative to the nation’s population.
The retaliation was swift and decisive, perhaps predictably so. Israel unleashed an equally unprecedented air strike offensive in Gaza and warned of an imminent full scale ground incursion to eradicate Hamas. Though this hasn’t materialized yet, at least as of the time of this article, Palestinian casualties have already surpassed 8000 from the bombing campaign alone.
And while there is some glimmer of hope stemming from international mediation efforts and the release of 4 hostages captured by Hamas (which still holds at least 220 more, according to news reports), there is no tangible reason to hope for a diplomatic solution or a quick de-escalation. On the contrary, there are many legitimate fears of a spillover, as Iran threatened direct involvement and the US and its allies firmly pledged unwavering support to Israel.
A local crisis with a global impact
The sheer number of human casualties in such a brief period of time, especially the horrific deaths and inhumane suffering of innocent children on both sides, has triggered a visceral reaction in most outside observers. Social media has once again served as a petri dish for fake news, propaganda, and radicalization and as a catalyst for de-humanization. Protests and demonstrations have broken out all over the world, societies have been divided even further, while blind hatred and bigotry have drawn battle lines in most Western nations that leave no room for dialogue. Officially or unofficially, security threat levels have been raised in most metropolitan hubs. In a parochial sense, the spillover has already begun.
From a global, geopolitical point of view, however, this new war front only served to exaggerate and supercharge the preexisting tensions that first came to the front due to the Ukraine war. The divide between the West and the Sino-Russian sphere of influence has been highlighted by their responses to this new conflict. Both Russia and China have failed to condemn the Hamas attack, while the Russian President described the current situation as “a clear example of the failure of United States policy in the Middle East”. President Biden held an extremely rare Oval Office address (only the second one of his presidency), in which he drew a direct comparison between Hamas and Russia, arguing that “Hamas and Putin represent different threats, but they share this in common: they both want to completely annihilate a neighboring democracy”.
Cold War II is clearly in effect, the global alliances are very well defined, the Thucydides Trap seems more well-sprung than ever, and at this point, concerns over further escalations or even a wider conflict perhaps do not sound as hyperbolic as they might have been even just a month ago.
Hope for the Best, Prepare for the Worst
While we still do not see this outcome as the most likely scenario and choose to keep our faith in the prospect of the diplomatic approach and hope for de-escalation on both the Ukrainian and the Middle Eastern front, we recognize the need to prepare for worst case scenarios. After all, even without further hostilities, the current geopolitical environment still presents serious threats that every citizen, saver and investor must take into account, even if they are fortunate enough not to be directly exposed to any conflict.
This recent spike of internal sociopolitical divisions comes on the heels of a much deeper divide, that we described and warned against in our latest Special Report, one that is fueled by social media “echo chambers” and by tribal politics, and which results in fellow citizens falling prey to polarization and effectively living in different versions of reality.
Economically, the risks are crystal clear: a total breakdown in global trade and cooperation would make the “supply chain” problems of the pandemic pale in comparison. On the monetary front, a concerted and accelerated abandonment of the USD as the world reserve currency would wreak havoc with the very fundament of our current system. These concerns and considerations have already been reflected in the markets and even priced into them to some extent. This is precisely why investors instinctively flocked to gold again (triggering a price spike of 1.7%) in the face of this latest crisis, as they are consistently and reliably wont to do at such times.
Celebrating 30 Years in a very Swiss way
As we’ve mentioned a few times throughout 2023, this year has been very special and important for us, as we are celebrating our 30-year anniversary of being in business at the BFI Capital Group: 30 years of helping our international investors protect and grow their wealth! While we didn’t have a large party with colleagues, partners, and clients like we did for our 25th anniversary, we still did something special with the entire BFI family…we went rock climbing in the Swiss Alps!
On August 31st, the teams of BFI Consulting, BFI Infinity, and our own team here at BFI Bullion all met in the beautiful mountain village of Engelberg to start our adventure. The rock climbers amongst us – there are still a few of us Swiss and BFI team members that prefer to keep their feet on the ground - got an earlier start on the gondola and chair lift getting up the Via Ferata area of Brunni to tackle the Brunnistöckli, the Zittergrat, the Rigidalstockgrat, and the Rigidalstockwand.
Those that chose not to hang off the side of a mountain got a fire going by the Härzlisee, a small pond next to the Brunnihütte where we were staying for the night, broke out the outdoor Jenga, and proceeded to simply enjoy the fresh air and the view of the Alps all around us. Or, you could take your shoes off and walk the Härzlisee’s “Kitzelpfad”, or “Tickle Path”, a path that went around and into the icy-cold pond, meant to do barefoot and in shorts, that supposedly was good for blood circulation and health purposes (or to just provide a wake up!).
Once the climbers reconvened with the rest of the group around the fire, we spent time discussing the Special Report, Deeper into the New Era – Navigating the Shifts and Turning Points Ahead, to see what had changed, what had remained the same, and how we can continue on our same principles and values in how we work with clients, with partners, and with each other. The nearly 2-hour discussion concluded with some of our newer employees asking questions to those of us that had been at BFI for 15 years or more.
As the sun went down, and we enjoyed a hearty dinner, the rest of the night was spent playing games, sharing stories, and a beer mug/wine glass or two could be heard clinking together to celebrate 30 years. As the cool, crisp early-fall air crept in, we settled for a peaceful night’s sleep in this mountain “hut”, away from it all. That quiet was interrupted early the next morning by gunshots: the proprietors of the hut were hunting rabbits.
The next day, the team took part in the “Engelberg Games” back down in the village. This Swiss-mountain village “Olympics”, if you will, included different team-building events like a horseshoe toss, a mini-bike ride, sack races, and other coordinated activities that required the different team members to work together. To the victors went the spoils, consisting of different treats, candies, gummi bears, and certainly a generous serving of bragging rights. After one more lunch together, the team broke for the weekend a bit tired, a little dirty, but mostly feeling blessed for our days in the Alps.
The year isn’t over, and we’ll surely take one last look back to 2023 during our Christmas event in December. But one thing was very clear: while we certainly enjoy the few times every year that we can get together, the common goal of “protecting and growing what’s rightfully yours” is alive and well. A team that “plays” together is also stronger, more determined, and more united in their shared mission to deliver their very best for our clients and partners.
Here's to another 30 years!!!