Washington, DC -- (ReleaseWire) -- 08/07/2015 --BENNETT: Ken Hoffman is the global head of Bloomberg Metals & Mining Research, where he manages a team based in New York, Hong Kong and London. Last month Hoffman shared with the media that the Chinese Central Bank has said it is considering backing its currency, the yuan, with gold. Ken said this would be a game changer. Ken, welcome to Financial Myth Busting.
KEN HOFFMAN: Thank you very much for having me.
BENNETT: My research indicates to me that China has already received approval from the central banks for a yuan denominated gold fix. My question is: if they move into some form of gold standard, will the rest of the world see gold as a currency again?
HOFFMAN: Well, China has not officially said that they will go to a gold standard. What we proposed in our research was that China has a big problem. They, in response to the 2008 recession, had this massive epic injection of capital spending, which they spent probably $2.5 to $3 trillion building up their infrastructure to put people to work. The problem now is that they've released all this money into the world, they have about double the money supply that, say, the United States does. So they have a problem if they want to make the yuan sort of fully available to the world and the only way we can see for them to do that is if they back it with something such as gold.
BENNETT: I understand that you're currently spending a lot of time in Hong Kong and China. The big news that we're reading here in the States is that China's efforts at stemming a major market crash have proven ineffective and now the Chinese authorities are blaming foreign interests for that collapse, arguing that they're the victim of an economic war. What do you make of all this? Do you think Chinese authorities will approach the next bear market differently?
HOFFMAN: Well, they seem to have many parts of the government that are almost at an odds with each other. On the one hand, they want to move forward, they want to make the economy more technological and more in the world, they want to make the yuan fully fundable with the rest of the world's currencies, but at the same time they look back to the past where the government can control everything. It is interesting, I was back in China in the past week and I remember when the stock market fell 8.5%. The anger wasn't towards the market falling, the anger was toward the government, why didn't the government do anything? Inside China they fully expect the government to do everything for them and when it doesn't happen, people get very, very confused.
BENNETT: Do they want it to be like our own Federal Reserve, where the Fed continues to hold up our markets? They must have the same expectations.
HOFFMAN: They do. I mean, and that's part of the problem, is the people have such faith in the government over there, that when they want to put the currency out there, they fully expect that their currency is going to be accepted by the rest of the world. The problem is that they really put this currency out there. In theory it's sort of economics 101, if you double the amount of currency that you have in an economy that is half your size, the currency is going to collapse just like the stock market. When I brought that up to the officials, there was a lot of shaking of heads and sort of saying, "You could be right about this."
BENNETT: You've said before that China could be planning on eventually reintroducing again a gold-backed currency to stabilize the yuan. Could that be an attempt to displace the dollar as the world's reserve currency? What are the chances of that happening?
HOFFMAN: Well, the Chinese are very upset that the U.S. dollar is so dominant in the world and I think that most of the rest of the world is upset that the U.S. dollar is so dominant. The fact that the U.S. can pretty much do anything that they want with their currency and the rest of the world sort of has to take it, is very upsetting to any currency. So, most of the world is trying to displace the dollar and China is trying to figure out a way to do it as are the Europeans, who tried with the euro and failed, the Japanese yen has pretty much failed. They tried to do it, the issue is that they've really tried to do it quicker than most people. You know, if they try to do it in the next four or five years, they will have a currency crisis just the way the euro does today.
BENNETT: Last week on the show, I talked about how China, without much notice to the United States, dumped a massive amount of U.S. debt. I'm wondering, based on what you're saying, why did they do that? Was it simply to tick us off?
HOFFMAN: No, I think it's more of an issue of, you know, inside of China right now, they're going through a major purge of a lot of parts of the economy. We've heard upwards of 100,000 people thrown in jail for corruption. Now, if you see corruption, what people try to do is take the money out of the country and in that taking the money out of the country, they're sort of being forced to sell those treasuries. So, I really don't think it's a government action, I think that it's something that we see in our own statistics that a lot of money is leaving kind of like that. And that's part of the reason why they want to make the currency more transparent. We sit there and say they can't do it unless they have it backed with something and so we suggested they somehow figure out a way they could back it with gold. Gold is a currency, it's been around for thousands of years, it's fully recognized by most of the world as a suitable currency, something that can't be tampered with like the dollar, and so there are people who will listen to me when I go over there and be very interested to learn more about how they could potentially use something like gold as a backing for their currency to stabilize things.
BENNETT: Do you think that it's possible that the world's longest running currency, gold, could be used to create some form of new order in the global currency markets?
HOFFMAN: It really could, I mean, it couldn't be used to back all the Chinese currency, there's just too much of it out there to make any sense, but China does run two currencies in the world. Most people don't understand that, there's an internal currency that China uses and then there is an external currency that they use to make trade. If they back the external currency only, they would have enough gold to back that and that would be a game changer because, again, the reason why central bankers absolutely don't like gold is because it puts structure on the central banks and the central banks want to be able to do anything they want at any time they want and that's why gold has always been something pretty suited from an investment banker standpoint. And the Chinese think completely differently about that monetary policy and so they would at least entertain the thought of it where most of the banks in the West would never do that.
BENNETT: In the last few weeks, China updated us on their stockpile of gold, and it turned out to be much smaller than most analysts expected. Some people feel they are just straight-up lying. Do you have any thoughts on what China might be trying to do with this gold report and why they may not be telling us the truth?
HOFFMAN: Part of the reason we heard in China for why they came out with that number is they're actually trying to pump up the stock market. They sort of came out and said, "Hey, we don't own a lot of gold," and it's forcing people to say, "Geez, you know, real estate here is dumping and it doesn't seem like they've bought a lot of gold, so let's go back to that stock market as a place to put our money." And remember, central banks have an interest in the accounting metrics. They have something called monetary gold, which is what they reported, and much less than most people thought. Even our own analysis suggested they had more than 3,000 tons, instead of the 1,600 tons that they said. But on the other hand, they still could be holding gold, but, like other banks, holding it beneath the line. There's another category that they can put a lot of things into that they don't want to disclose, so they may be in full compliance to what the central bank put on their balance sheet and still be only showing part of the gold that they have.
BENNETT: Speaking of central banks, there was an essay back in the 1960s that Alan Greenspan wrote entitled Gold and Economic Freedom. Do you remember that essay?
HOFFMAN: I've heard of that, yes.
BENNETT: In the conclusion of this essay, Greenspan makes it clear why the welfare and warfare status quos out there just hate gold almost with a passion bordering on complete hatred. Is that still true today?
HOFFMAN: Oh, I think it's probably even more so today, because again central bankers want the absolute flexibility to print as much money as they possibly can, if they think it's necessitated. In a financial crisis they sort of say, "Hey, look, we've had to print trillions of dollars to fix the problems that the financial crisis brought on. If we had gold, we would have been hamstrung." The pro-gold people would say, "Well, if you had a gold standard, you never would have been allowed to print all that money in the first place that caused the financial crisis," and so, they sort of go back and forth. I mean, I'm a gold analyst and so I like to talk about the possibility of these things, but I can tell you a lot of economists reached out to me and said, "I can't believe you would bring this up. Don't talk about it, it's just something you never should even bring up." It sort of surprised me, the anger against something like the gold standard, when in fact, it is something that had been used by the world economy for hundreds and hundreds of years.
BENNETT: So, why do you think that gold mining and manufacturing stocks, you know, gold, silver, I mean, all the precious metals, why do you think they're failing to catch fire despite their extensively inverse relationship with money printing and excessive government debt?
HOFFMAN: Well, the biggest kind of gold equities is something called the Gold ETF that was created a number of years ago by the gold industry itself, unfortunately, and Gold ETF gives people a very interesting and easy and liquid way to buy gold without worrying about the company's lines and individual risk, and individual stocks. So the gold mining industry created this ETF and that really helped the industry – the equities itself, because most investors are saying "Hey, it's really easy for me to buy the ETF and not the company." But, the company still has a lot of value and that's something I think investors need to look at. That's part of the main reason why gold equities have really underperformed even the price of gold, is because we've seen that money that used to go into gold stocks now go into Gold ETFs.
BENNETT: I want to go back to China for a bit. You travel a lot through China and apparently there are a lot of ghost cities and other signs that they might have already started popping the financial bubble. Are they feeling the same way, or is it just our media and the way that we're reporting it? Also, do you view this national strategy, putting resources in places like Africa, as being smart for China? They are purchasing quite a few mines there.
HOFFMAN: Well, I mean, it's definitely true that China has spent a lot. I mean, last year alone, China used more cement than North America uses in a year, every 11 days. So, they had been building, and building, and they have overbuilt the country, I mean, there's definitely overbuilding. When I travel through China all over the place, I see sort of semi-abandoned real estate sites. The real estate industry there has dropped substantially. I think there have been 18 months in a row where their real estate statistics have gone down, so they know that. The new government that came in about four years ago understands that and they now understand it for two reasons. Number one, they over built, so we can't build that much. Two, we've invested too heavily in heavy industries like steel, and coal, and cement which are heavily dependent on exports. You know, if you ever want to learn about China, there is a documentary on YouTube called Under the Dome. It's really chilling, but it talks about the pollution issues in China. It's very extreme and it was quasi backed by the Chinese government, talking about their problems and so that's something that they're really trying to do: upgrade the economy to more technology and using innovation. China has incredible innovators, they do a lot. Despite common perceptions, they're innovative and so that's something they're interested in. As for investments overseas, the government does see that you need in the longer term and particularly they think the mining industry really took advantage of them when things got tight, and so they believe they need to get out there to get their own investments and resources, and Africa has been a big area for them to go to, with much success. A lot of the investments they've made overseas have not come off very well, particularly in Australia, they built an iron ore mine where they're going to lose billions of dollars, but they keep trying and they keep investing, and they've been far more aggressive than say the United States in trying to reach out to a lot of these underdeveloped countries. So, you know, we can build infrastructure, we can build ports, make some investment in education, etcetera, and I think that's a national strategy of theirs. They call it "One Belt One Road," where they pretty much tie in most of the world, except for Europe and the United States, into a sphere that China can have influence over.
BENNETT: President Obama just toured parts of Africa where he made a point of arguing that Africans should look to the U.S. for economic partnership before China. I'm wondering, do you think he's too late?
HOFFMAN: Well, I mean, I do think we are very late to understand Africa. I think the Chinese have been in there quite aggressively. I think we need a sustained effort for a lot of countries, to say not only do we want to tell you what to do but we want to be partners with you. I think that the Chinese have done a good job with that and that's something we need to learn about.
BENNETT: Do you think markets and investors have done some premature grave dancing on gold? What's your two cents there?
HOFFMAN: Well, there's two things that are going to happen now that will impacg gold. One is that we estimate that almost half of all gold bonding in the world is now losing money at current prices, so you should expect a number of big gold bonds to start shutting down and to lose some supply. At the same time, numbers came out yesterday from India that their imports of gold are up 60 percent. For India and China, who are the two biggest buyers of gold, they're really ramping up their purchases, sort of bargain buying here. They're long-term holders, they buy low, they typically never sell, but they tend to buy low and so their reaction has been pretty normal, and you did see gold up about $10 on Friday and probably that might have been people coming into the market and buying gold low. So the restriction of supply and the bigger buying, I think it's those two things that bode well for those who are long on gold.
BENNETT: Depressed prices have, I think, led to a pretty unusual market response. There seems to be a surge in physical demand for bars and coins globally. Even here in the United States, I understand the U.S. Mint is seeing their highest sale of gold coins of the last two years in the last two weeks. Have you heard about that?
HOFFMAN: It has absolutely been a really good year, gold has come down, particularly when it fell below 1,200, you do see a lot of people in there bargain hunting and saying, "Look at the long-term funds in gold," and a lot of people tend to like it at this level. So, it's no surprise, particularly when you see a drop like you did, which as we said was significantly due to China announcing their holdings which seemed lighter than most people thought.
BENNETT: Picking up China again as the topic, why is the U.S. letting China accumulate gold?
HOFFMAN: You know, it's funny, there's always some Chinese officials that tell me the same story, they say, "You Americans at the central banks say that gold is worthless so we'll buy your gold out of Fort Knox and the Americans always say, 'No, no, we don't sell our gold.'" I think China wants to be recognized as becoming the world's second largest GDP, they understand that all of the big Western powers, even though they publicly disdain gold, are the biggest holders of gold and so they want to join that club and so that's why they're out there buying gold and I think you'll continue to see them buy gold. I'm at the Shanghai Gold Exchange which quasi-represents the government and their bold buying habits, and they are gold buyers and they will continue to be gold buyers long-term and they do want to have as much or more gold than the U.S. does eventually.
BENNETT: There seems to be so much instability in our market system and our economy, and especially with derivatives and leverage. Why isn't gold picking up on that, with its pricing so depressed? My understanding is that hedge funds have the largest net short position for the first time in history. Again, I have to wonder if that means gold is due for a bounce, but in the last six years it seems like it's not trading on its own.
HOFFMAN: Well, you know, the dollar has been very strong. Now, if I'm outside of the United States, in Russia for instance, and I own gold, over the last 20 years I'm up something like 70,000 percent. So it depends on what currency you're in. If you're in euros, you've done great with gold; if you're in Japanese yen, you've done great with gold. So pretty much every other currency on earth, relative to gold you've done really well. Gold has been number two in terms of performance over the last few years, the problem is, everyone thinks of number one, which is the dollar. When the dollar starts to have issues, that's when gold is truly going to sell.
BENNETT: Why is it that gold is an asset that our own Federal Reserve loves to hate?
HOFFMAN: Again, gold is something that every central bank from the West hates because it does something they hate which is it imposes discipline. Central banks don't want discipline. They want to be able to do whatever they want, whenever they want and that is the single biggest problem with gold, is you just can't create it out of thin air. You have to go out and mine it. Imagine this: Gold went from $300 to $1,900, and the amount mined stayed relatively unchanged. So it's complete pricing elasticity. You can't find a lot of gold quickly and, therefore central banks say, "Hey, wait a minute, I couldn't double my money supply overnight if I wanted to because gold wouldn't be there." Now, from the long-term stability basis, that's what makes gold really attractive and I think that the person on the street really gets that but the Federal Reserve and a lot of the Western central banks say, "No, no, no, I know better than anybody else and I need to make those decisions and if I want double the money then I should be able to do that."
All data sourced through Bloomberg
Securities offered through Western International Securities, Inc., Member FINRA & SIPC. Bennett Group Financial & Western International Securities, Inc. are separate and unaffiliated companies.
About Dawn Bennett
Dawn Bennett is CEO and Founder of Bennett Group Financial Services. She hosts a national radio program called Financial Myth Busting http://www.financialmythbusting.com
She discusses educational topics and events in the financial news, along with her thoughts on the economy, financial markets, investments, and more with her live guests, who have included rock legend Ted Nugent, as well as Steve Forbes and Grover Norquist. Listeners can call 855-884-DAWN a as well as take podcasts on the road and forums for interaction.
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