The successful remonetisation of gold by a major power such as Russia would draw attention to the fault-lines between fiat currencies issued by governments unable or unwilling to do the same and those that can follow in due course. It would be a schism in the world’s dollar-based monetary order.
Russia has made plain her overriding monetary objective: to do away with the US dollar for all her trade, an ambition she shares with China and their Asian partners. Furthermore, in the short-term the rouble’s weakness is undermining the Russian economy by forcing the Central Bank of Russia (CBR) to impose high interest rates to defend the currency and by increasing the burden of foreign currency debt. There is little doubt that one objective of NATO’s economic sanctions is to harm the Russian economy by undermining the currency, and this policy is working with the rouble having fallen 30% against the US dollar this year so far with the prospect of further falls to come.
Russia faces the reality that pricing the rouble in US dollars through the foreign exchanges leaves her a certain loser in a currency war against America and her NATO allies. There is a solution which was suggested in a recent paper by John Butler of Atom Capital, and that is for Russia to link the rouble to gold, or more correctly put it on a gold exchange standard*. The proposal at first sight is so left-field that it takes a lateral thinker such as Butler to think of it. Separately, Professor Steve Hanke of John Hopkins University has alternatively proposed that Russia sets up a currency board to stabilise the rouble. Professor Hanke points out that Northern Russia tied the rouble to the British pound with great success in 1918 after the Bolshevik revolution when Britain and other allied nations invaded and briefly controlled the region. What he didn’t say is that sterling would most likely have been accepted as a gold substitute in the region at that time, so running a currency board was the equivalent of putting the rouble in Russia’s occupied lands onto a gold exchange standard.
Professor Hanke has successfully advised several governments to introduce currency boards over the years, but we can probably rule it out as an option for Russia because of her desire to ditch US dollar relationships. However, on further examination Butler’s idea of fixing the rouble to gold is certainly feasible. Russia’s public sector external debt is the equivalent of only $378bn in a $2 trillion economy, her foreign exchange reserves total $429bn of which over $45bn is in physical gold, and the budget deficit this year is likely to be roughly $10bn, considerably less than 1% of GDP. These relationships suggest that a rouble to gold exchange standard could work so long as fiscal discipline is maintained and credit expansion moderated.
Once a rate is set, the Russians would not be restricted to just buying and selling gold to maintain the rate of gold exchange. The CBR has the power to manage rouble liquidity as well, and as John Butler points out, it can issue coupon-bearing bonds to the public which would be attractive compared with holding cash roubles. By issuing these bonds, the public is in effect offered a yield linked to gold, but higher than gold’s interest rate indicated by the gold lease rates in the London market. Therefore, as the sound-money environment becomes established the public will adjust its financial affairs around a considerably lower interest rate than the current 9.5%-10% level, but in the context of sound money it must always be repaid. Obviously the CBR would have to monitor bank credit expansion to ensure that lower interest rates do not result in a dangerous increase in bank lending and jeopardise the arrangement.
In short, the central bank could easily counter any tendency for roubles to be cashed in for gold by withdrawing roubles from circulation and by restricting credit. Consideration would also have to be given to roubles in foreign ownership, but the current situation for foreign-owned roubles is favourable as well. Speculators in foreign exchange markets are likely to have sold the rouble against dollars and euros, because of the Ukrainian situation and as a play on lower oil prices. The announcement of a gold exchange standard can therefore be expected to lead to foreign demand for the rouble from foreign exchange markets because these positions would almost certainly be closed. Since there is currently a low appetite for physical gold in western capital markets, longer-term foreign holders of roubles are unlikely to swap them for gold, preferring to sell them for other fiat currencies. So now could be a good time to introduce a gold-exchange standard.
The greatest threat to a rouble-gold parity would probably arise from bullion banks in London and New York buying roubles to submit to the CBR in return for bullion to cover their short positions in the gold market. This would be eliminated by regulations restricting gold for rouble exchanges to legitimate import-export business, but also permitting the issue of roubles against bullion for non-trade related deals and not the other way round.
So we can see that the management of a gold-exchange standard is certainly possible. That being the case, the rate of exchange could be set at close to current prices, say 60,000 roubles per ounce. Instead of intervention in currency markets, the CBR should use its foreign currency reserves to build and maintain sufficient gold to comfortably manage the rouble-gold exchange rate.
As the rate becomes established, it is likely that the gold price itself will stabilise against other currencies, and probably rise as it becomes remonetised. After all, Russia has some $380bn in foreign currency reserves, the bulk of which can be deployed by buying gold. This equates to almost 10,000 tonnes of gold at current prices, to which can be added future foreign exchange revenues from energy exports. And if other countries begin to follow Russia by setting up their own gold exchange standards they likewise will be sellers of dollars for gold.
The rate of increase in the cost of living for the Russian population should begin to drop as the rouble stabilises, particularly for life’s essentials. This has powerfully positive political implications compared with the current pain of food price inflation of 11.5%. Over time domestic savings would grow, spurred on by low welfare provision by the state, long-term monetary stability and low taxes. This is the ideal environment for developing a strong manufacturing base, as Germany’s post-war experience clearly demonstrated, but without her high welfare costs and associated taxation.
Western economists schooled in demand management will think it madness for the central bank to impose a gold exchange standard and to give up the facility to expand the quantity of fiat currency at will, but they are ignoring the empirical evidence of a highly successful Britain which similarly imposed a gold standard in 1844. They simply don’t understand that monetary inflation creates uncertainty for capital investment, and destroys the genuine savings necessary to fund it. Instead they have bought into the fallacy that economic progress can be managed by debauching the currency and ignoring the destruction of savings.
They commonly assume that Russia needs to devalue her costs to make energy and mineral extraction profitable. Again, this is a fallacy exposed by the experience of the 1800s, when all British overseas interests, which supplied the Empire’s raw materials, operated under a gold-based sterling regime. Instead, by not being burdened with unmanageable debt and welfare costs, by maintaining lightly-regulated and flexible labour markets, and by running a balanced budget, Russia can easily lay the foundation for a lasting Eurasian empire by embracing a gold exchange standard, because like Britain after the Napoleonic Wars Russia’s future is about new opportunities and not preserving legacy industries and institutions.
That in a nutshell is the domestic case for Russia to consider such a step; but if Russia takes this window of opportunity to establish a gold exchange standard there will be ramifications for her economic relationships with the rest of the world, as well as geopolitical considerations to take into account.
An important advantage of adopting a gold exchange standard is that it will be difficult for western nations to accuse Russia of a desire to undermine the dollar-based global monetary system. After all, President Putin was more or less told at the Brisbane G20 meeting, from which he departed early, that Russia was not welcome as a participant in international affairs, and the official Fed line is that gold no longer plays a role in monetary policy.
However, by adopting a gold exchange standard Russia is almost certain to raise fundamental questions about the other G20 nations’ approach to gold, and to set back western central banks’ long-standing attempts to demonetise it. It could mark the beginning of the end of the dollar-based international monetary system by driving currencies into two camps: those that can follow Russia onto a gold standard and those that cannot or will not. The likely determinant would be the level of government spending and long-term welfare liabilities, because governments that leech too much wealth from their populations and face escalating welfare costs will be unable to meet the conditions required to anchor their currencies to gold. Into this category we can put nearly all the advanced nations, whose currencies are predominantly the dollar, yen, euro and pound. Other nations without these burdens and enjoying low tax rates have the flexibility to set their own gold exchange standards should they wish to insulate themselves from a future fiat currency crisis.
It is beyond the scope of this article to examine the case for other countries, but likely candidates would include China, which is working towards a similar objective. Of course, Russia might not be actively contemplating a gold standard, but Vladimir Putin is showing every sign of rapidly consolidating Russia’s political and economic control over the Eurasian region, while turning away from America and Western Europe. The fast-track establishment of the Eurasian Economic Union, domination of Asia in partnership with China through the Shanghai Cooperation Organisation, and plans to set up an alternative to the SWIFT banking payments network are all testaments to this. It would therefore be negligent to rule out the one step that would put a stop to foreign attempts to undermine the rouble and the Russian economy: by moving the currency war away from the foreign exchanges and into the physical gold market were Russia and China hold all the aces.
*Technically a gold standard is a commodity money standard in which the commodity is gold, deposits and notes are fully backed by gold and gold coins circulate. A gold exchange standard permits other metals to be used in coins and for currency and credit to be issued without the full backing of gold, so long as they can be redeemed for gold from the central bank on demand.
Submitted by Alasdair Macleod via GoldMoney.com,
Does America realize the consequences of forcing Russia into China’s arms?
Bryan MacDonald is a Russia-based Irish journalist and media commentator who focuses on Russia and its hinterlands and international geo-politics.
In 867AD, Æbbe the Younger, Mother Superior of the convent at Coldingham in Scotland cut off her nose and upper lip and urged her fellow nuns to also disfigure themselves. It wasn’t for sacrificial reasons; it was because Viking raiders had landed nearby and the Abbess feared they would rape the community and deprive them of their chastity. By destroying their appearance, Mother Æbbe, correctly, guessed the Nordic marauders would show no interest. She was right – the Vikings were so disgusted that they burned the entire convent to the ground.
From this event was born the phrase “cutting off the nose to spite the face.” Although the original circumstances were slightly different, the term is a warning against pursuing revenge in a way that would damage the instigator more than the object of the anger. The USA is doing precisely this in its current attitude to Russia. By “punishing” Russia for resisting Western attempts to “grab” Ukraine, it is laying the foundations for a far more serious estrangement.
A feud that began when President Putin stymied the hopes of elements in Washington to wage war with Syria now has the potential to reshape the entire world. You all know the story by now, neocon factions in the State Department took revenge against Putin’s perceived stubbornness by ratcheting up tensions in Ukraine, leading to a violent revolution and civil war. The Crimean people voted to rejoin Russia and Washington, in tandem with the EU, imposed sanctions on Moscow.
Except they weren’t the kind of sanctions designed to damage Russia’s ability to defend itself. Instead, they were clearly aimed at regime change by targeting close supporters of the Russian President. Subsequently, the short-sighted sanctions led to unprecedented approval ratings for Putin as the Russian people rallied around their leader. In their eyes, an attack on their President was an attack on the nation. What the State Department meddlers didn’t countenance is that Russians, with high levels of education, are too savvy to be hoodwinked by playground tactics.
Since then, bilateral relations between the White House and the Kremlin have reached their lowest point since the Russian Federation was founded in 1991. This has happened only 4 years after Putin advocated a free trade agreement between the EU and Russia. “A harmonious economic community stretching from Lisbon to Vladivostok,” as he wrote in Germany’s Süddeutsche Zeitung at the time.
In 48 months we have gone from a prospective giant Western alliance, with Russia at its centre, to a situation where Russia is now ready to possibly join an Eastern alliance led, to all intents and purposes, by China. We know neocons aren’t the brightest lights in the firmament but are they really this stupid?
If you didn’t know the personalities involved and were asked to suggest the obvious alignment of the world, you’d probably say that Russia’s place was in the European camp. It shares a Christian faith with the rest of the continent and has always been at least a “slightly” European power – much like the United Kingdom.
In truth, Russia has little in common with Asian cultures, aside from geography. Even in the far eastern outpost of Vladivostok (which is on the far side of China), an Italian is far more likely to blend in than a Malaysian. This is not related to appearance – there are many ethnic east-Asians in the region, who regard themselves as thoroughly Russian and, by virtue, European. Indeed there are millions of people east of the Urals who have actually never set foot in what is generally considered to be Europe, but describe themselves as being Europeans. It’s a state of mind but, then again, Europe has always been as much an idea as a place.
For years commentators have speculated: “imagine Russia’s resources and military power with Western Europe’s technology and fiscal heft?” It would, of course, be the single most powerful economic and martial bloc in the world. Not only that, but such a rapprochement makes complete sense and has done since 1991.
However, it is Washington’s worst nightmare. An EU-Russia alliance and partial union would erode America’s influence in Europe. Hence, to knock it on head, just as it seemed Germany was warming to the notion, the US has managed to drive a massive wedge between Moscow and its natural allies in Europe.
Before they clap themselves on the back too loudly, the Americans might want to pause for a second. In pursuing this haphazard course, they’ve managed to send Russia hurtling into China’s warm embrace.
Thus, cutting off their nose to spite their face. Instead of allowing a tri-polar world, the US in control of the Americas, China in Asia, and a giant Eurasian alliance as a buffer – Washington has managed to create a much more confrontational bi-polar world. In the blue corner, the USA and a castrated, divided Europe which is being pulled in all kinds of directions and in the red corner, a resurgent China and a Russia that, most likely, would prefer to be in a different corner altogether, or none,
This is the way the US State Department wishes the world to be – in a constant state of chaos. Now, instead of a US-EU-Russia detente, they have managed to manufacture a new Cold War for the 21st century with Ukraine as the new Berlin.
With Russia alienated by the West and China eager to buy high-end weaponry, a joint military pact seems the likely outcome. Concurrently, the previously zombie-like NATO has awoken like a pensioner who was discovered house music and fancies a last youthful dance.
If a Moscow-Beijing military alliance does take shape, such a bloc would dominate the Eurasian landmass, with naval bases all the way from the Baltic, via the Arctic and Pacific, to the South China Sea. A union between Russia’s advanced weaponry and China’s huge population and industrial muscle would eventually prove a match for NATO, thereby giving the US an excuse to ratchet up military spending. If Europe attempted to follow suit, it would likely deepen its economic malaise. The main point is that the whole notion is such an incredibly wasteful use of finite global resources.
The confrontation between Russia and the West is a gift that keeps on giving for China. Just as the self-destruction of the Euro-centric world a century ago allowed the building a new US-centric system, the weakening of the US will probably result in China becoming the world’s leading power. Europe’s last chance to stake its own claim, has evaporated into thin air thanks to a bone-headed, subservient (to Washington) strategy in eastern part of the continent. Europe’s inability to separate the European Union from the archaic NATO has been its undoing.
Four years after Putin proposed a Russian-EU alliance from “Lisbon to Vladivostok,” we instead have an embryonic new Cold War. It’s not too late to halt the wagons but time is limited. The next US administration, if it’s sufficiently blessed to be shorn of neocons, must decide which is more important to it: to antagonize Russia in the eastern borderlands, losing its world hegemony in the process, or to find a way of resolving friction with Moscow, thus halting the process of China’s accession to the role of global superpower.
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