Question – Gold & Interest Rates

1. You have been pretty consistent in your position that gold is yet another commodity with business cycles affecting it as much as corn or copper and therefore a gold standard would never work. But wouldn’t you agree that at the least a gold standard would serve as a speed bump on government’s constant expansion of monetary base and there by debasing the purchasing power of the currency. Surely they can’t produce as much gold on an average as much as governments creating currency units through their quantitative easing. In that sense I feel gold’s role is still important as something which imposes discipline on their print and spend programs.

It is a nice theory, but we had Bretton Woods and that failed to provide any speed bump. They don’t print money, they create it by borrowing. The problem we have is that politics complies with the Invisible Hand. (1) Government will not plan long-term so there is no collective knowledge, and politics functions by borrowing today (2) they will never admit a mistake so they will not adjust a gold standard it simply goes to the point of collapse, and (3) regardless what is money, it can never be fixed for it fluctuates based upon ANTICIPATION just as the euro is declining right now. So it is a nice THEORY, but there is no evidence that this idea has ever worked even once. It is like saying gee what would happen if everyone voted Republican or Democrat. The answer – IMPOSSIBLE.

2. With interest rates being so low and mortgage rates also being historically lower around 3.5 – 4% on 30 year fixed mortgages, what will happen when interest rates eventually starts rising one day? Would the banks still be able to honor these rates given to customers? surely when they can let you re-finance when rates are going lower they are  also going to pass the burden of rate increases on home owners even if they have financed with fixed mortgages. I have seen examples in other countries where when rates rise, even fixed mortgage customer’s EMI installments were increased unilaterally by the banks. Do you think that can happen here?

The difference between the USA and other countries is the banks package the mortgages and sell them. They securitize the mortgages. The banks have sold that risk elsewhere. That is not the critical issue. The increase in rates will be caused by a decline in deposits as capital is attracted to the share market and other investments. Then banks historically get in trouble for the yield curve eventually inverts. That is when bank failure take place.