Gold podcast: The gold/beer ratio and monetary madness

Speaker key:

BS              Boaz Shoshan
RP              Ronald-Peter Stöeferle

BS              Hello and welcome to another episode of The Gold Podcast. My name is Boaz Shoshan, I am an editor at Southbank Investment Research, and today we have a very special podcast for you. My guest is none other than Ronnie Stöeferle, who is a managing director and fund manager at Incrementum.

For those of you who don’t know, Incrementum are huge fans of gold. They publish every year what is called the “In Gold We Trust” annual report. They really cannot get enough of the stuff. Ronnie, as I said, is a managing director and fund manager and he’s also an author of the report. He’s also co-authored a book called The Austrian School for Investors and “Die Nullzinsfalle” (The Zero Interest Rate Trap), all about macroeconomics from a gold perspective. So there’s not much about gold that Ronnie has not heard of already. So without any further introduction we’ll start it off.

Ronnie, welcome to The Gold Podcast, it is great to have you on. I was thinking we could start with where the global economy stands today. You come from an Austrian background, which of course you don’t hear much these days; certainly not from the mainstream financial press anyway. So give us a rain check as it were as to where things are.

RP              Well thanks for having me, it’s a great pleasure. I’m not only an Austrian, I’m an Austrian Austrian, meaning that I’m a keen follower of the Austrian school of economics, but I’m also actually from Austria, from Vienna; where unfortunately the Austrian school of economics is not taught at all. We try to re-educate people about common sense economics. The Austrian school of economics of course has been very, very successful after the 2008 crisis, but now it seems it’s a Goldilocks scenario all over, and nobody cares about Austrian economics, but that’s going to change.

BS              That’s interesting actually, can we go back there?

RP              Of course.

BS              You said they don’t teach Austrian economics at all in Austria?

RP              No.

BS              Not even from a historical perspective?

RP              No I studied finance and economics over here in Vienna and it is not touched at all, and I think if you have a look at the programmes in the Western world, you know perhaps it’s too much common sense; it’s enough formulas, not enough mathematics.

BS              Not enough models.

RP              People think that’s not so sophisticated and therefore we create super sophisticated models with hundreds of different factors. The problem is they work pretty well within a trend, but they cannot anticipate trend changes. Like in 2008, my colleagues back in the day, super smart people, they had no clue about that because their models were just flawed. So I think you know for an investor the Austrian school of economics is not something that necessarily makes you a better investor, but it just adds to your tool box.

BS              Gives you a bit more common sense perhaps?

RP              Yes. A friend of mine called it the no-free-lunch school of economics. We all know there’s no free lunch and I think that politicians, market participants, central bankers sooner or later will also find out that there is no free lunch; that there is actually a massive consumption of our capital stock of our capital structure that is distorted, it is happening at the moment.

It creates many problems not only in economics but also in society, so the so-called continue effect is very important to understand.

BS              Could you go into what that actually in terms of the societal implications?

RP              Yes of course. If you talk to a monetarist he would say inflation, he would say that inflation is a monetary phenomenon, and I would agree to that, but that inflation is a monetary inflation, it’s neutral. So basically if you’re sitting in one corner of a room and you’ve got a big printing press, I would say that the people sitting or standing next to the printing press, they profit more from the printing press than people who sit on the other side of the room. It is no coincidence that wherever you go globally, in the most expensive areas, the city centres, there’s mostly banks and financial institutions. If you go to financial capitals like London, New York, Hong Kong and so on, it is no coincidence that prices there are significantly higher than if you go to more rural areas.

BS              Of course, yes.

RP              The main reason for that is from my point of view, those businesses profit significantly more from monetary inflation than other areas of our economies. The continue effect, understanding like Hayek explained it, like a saucer of honey that drips into the economy and that creates massive distortions within the economy and within the society. I think this is something that only the Austrian school of economics explains.

I was been sitting on a panel with a very prominent central banker a couple of months ago, and they said there is no inflation. I said I’m sorry there is massive inflation, we’re seeing massive monetary inflation and we’re seeing massive asset price inflation. What you are referring to as inflation is rising prices and that’s only a consequence of monetary inflation. Normally this is the third stage.

Based on Murray Rothbart, first there’s monetary inflation, then there is asset price inflation, which we’re already seeing big time; everything bubble. Only the third stage is consumer price inflation which is…

BS              Yes, so the last effect?

RP              Exactly.

BS              So that’s the people that are furthest away from the printing press in that respect?

RP              Exactly.

BS              What was the central banker’s response to that, when you said that?

RP              It was pretty ignorant; didn’t really care about it. I think you know central bankers, they’re not bad or stupid people per definition, but they’re just so stuck into their belief systems, and I think if you have a look at the Federal Reserve and all the economists and all the PhDs there, if you have a look at the FOMC committee, those guys are mostly educated at basically a couple of Ivy League schools.

BS              Right.

RP              So I think there’s not too much out-of-the-box thinking. There’s not a lot of room for different opinions. So sometimes I feel like, how’s this guy called Fox Mulder in, what was the TV show? X Files.

BS              Right.

RP              They don’t take you seriously because the stuff that you’re saying just seems so weird for them. The thing is like Eugen Böhm von Bawerk, another very famous Austrian economist, said there are fundamental economics laws, and you just cannot by politicians and central bankers, just cannot simply delete and get rid of those fundamental laws.

Of course there can be some sort of a delay, but sooner or later we will see the consequences of this monetary surrealism that we have experienced the last couple of years.

BS              Right. It’s interesting what you were saying with the group think of the central bankers. As you said they all get educated at mostly the same places and then once they’re finished their term at the central banks and institutions like the IMF and what not; it seems like they often go back to those universities and there they then teach the next generation, who then become the next. How exactly do you think this all started?

RP              It’s a good question. We should not forget that since 1971 we are basically in a completely new monetary regime. We have never had a global fiat money system, and I think that the next big crisis that will hit the market sooner or later will be a really systemic crisis. A crisis of our monetary system, it will not be like a cyclical crisis, it will not be an emerging market crisis, it will be really a big crisis of our global fiat money system.

Most of the charts in our “In Gold We Trust” report, they basically start in 1971 because from our point of view that’s when then this new monetary regime started. I think this is also a very important point that followers of the Austrian school of economics make, they say okay let’s talk about our monetary system, let’s talk about the gold standard, let’s talk about other monetary systems. Mainstream economists they just take it for granted, okay we’re living in this system and this will go on forever. From my point of view, we are seeing quite a lot of signs that this system will break down, collapse or at least get major problems in the next couple of years.

BS              On that point, in the latest “In Gold We Trust” you pointed out that where a strong dollar is obviously very bad for emerging markets, and we’ve seen there’s been a really strong rally recently in it, which has put them under significant stress. On that the Fed have said they’re committed to this hiking cycle, they’re committed to quantitative tightening (QT) and not using it as a monetary policy tool. In terms of the damage it does, they’re kind of in a bind as to whether or not to go back to easing again, if I’ve judged the situation correctly.

If they start easing again they’re keeping this monetary surrealism going for a considerable amount of time. You’ve already seen all these strange happenings have occurred in markets and you’ve have all this negative yielding debt, etc. So they can’t go back to easing, in the report you suggest that if they did, it would actually cause a loss of faith in fiat currencies generally starting with the dollar. Is that correct?

RP              Yes, but let me step back a bit because I think the fact that the whole market seems to be only about will the Fed hike rates three or four times this year? When will we see the next 25 basis points hike? What will the ECB do with quantitative easing (QE)? Will it stop it sooner or later? I think this already shows how sick the system is. This enormous dependence of central banks. That is something that we haven’t had in the 70s or in the 80s.

BS              It’s the cult of the central banker.

RP              Exactly and this shows how addicted the market is to cheap liquidity and low rates. You know normally in the course of a recession, rates are lowered between 400 and 500 basis points. The Federal Reserve is on a better course than the friends in Frankfurt at the ECB. They’ve got a bit more wiggle room, but still in the next crisis, what are they really going to do? They will probably introduce QE but on steroids. So I think 85 billion per month will not be enough, they will probably start buying stocks, they will probably start buying REITs whatever, and they will go into negative territory.

Coming back to your question, I think that this global shift from a QE environment to a QT environment will really be the big trigger or the big threat from markets going forward. I think that people they’ve vastly underestimated the consequences of quantitative easing, and now they’re in danger of vastly the consequences of quantitative tightening.

Let’s not forget the biggest central banks, they created 15 trillion US dollars out of thin air in the last ten years. Of course this has an effect on equity markets, on bond markets, on real estate prices all over the globe. It would be quite strange if that wouldn’t result in rising prices. Now the Federal Reserve starting this quarter, they will reduce their balance sheet by already 40 billion per month. Starting in Q4 it will 50 billion per month. So all together 2018 they will reduce their balance sheet by 420 billion. Next year it’s going to be 600 billion. That’s quite a lot of money.

It’s not only the Federal Reserve, it’s also the ECB, it’s many other central banks that are becoming more restrictive. I think it is very, very interesting that quite recently there was Mr Bullard from the Federal Reserve St. Louis, who said okay perhaps we’re going too far, perhaps we should step back. Then there was also Larry Kudlow. So the White House was basically pressuring the Federal Reserve not to raise interest rates too quickly, and being cautious with quantitative tightening. I thought that was really fascinating.

I think that for the medium term or the longer term, I think this shift from QE to QT is really a thing that basically nobody really cares at the moment, and this will probably be the catalyst for a correction, for a crash, or whatever. Let’s face it, many signs are already telling us that this is not a cheap market any more. We are seeing an M&A boom; we’re seeing that in the bond market, those interventions lead to crazy prices. I mean ten-year Italian government bonds at negative rates. That’s ridiculous. We’re seeing in Japan, they have completely socialised the bond market because we’re seeing already that the consumer is struggling because of rising rates.

Just one more point, I thought it was very interesting because we have recently seen in China that they devalued the Chinese yuan significantly, which is also a consequence of the trade wars of course. We are seeing that money supply and yuan, which is probably the best leading indicator for China, it has been falling off a cliff in recent months, and now the People’s Bank of China was the first major central bank that started a U-turn last week. They’re changing to a more accommodative monetary policy.

I think sooner or later the markets will react to this tighter environment and central banks all over the globe, they will have to reverse, and this will be the major trigger for gold going forward.

BS              As long as the Fed is trying to protect itself from White House pressure, and forgets about whatever’s going on in emerging markets, and before something breaks the dollar’s rally so far, will that just continue higher and we’ll just see such a strong dollar that it’s wrecking all parts of the emerging economies?

RP              Well that’s probably the most important question. The Dollar Index at 95, it looks overbought; we have seen a big shift in the commitment of traders reports. So I would rather be a seller of the dollar at the moment. We should not forget that last year the dollar was extremely weak. We should not forget that the international plumbing of the system is really important, that the whole world is basically short US dollars.

I can definitely make the case for a strong dollar; it’s not our main case, our base case. I think having a look at what Donald Trump says and does, and what Steve Mnuchin said in Davos. I think this was also really something that we haven’t really seen in the last decades. The secretary of Treasury saying they would welcome a weak dollar.

BS              Yes.

RP              Donald Trump also said that for his reindustrialisation of the US economy he needs a weak dollar. We’ll see how it’s going to turn out, but of course we can see that the strong dollar is already causing major problems. Argentina, Turkey, of course also in China. So that would be a classic example of this core-periphery disease, where a strong dollar, most of the time, leads to crises in emerging market countries.

BS              Certainly, and with a strong dollar causing pain and stress and the dominance that the US influences through the world being on a dollar standard effectively – through the SWIFT system, through the petrodollar agreement, etc –  is that not going to force more of the emerging market economies to de-dollarise as China has been doing with the oil futures contract denominated in yuan, etc? Is this stress not going to cause the dollar to lose more of its share as the global reserve currency?

RP              That’s of course a great question. I’ve just been to Kazakhstan, and as you know Kazakhstan is a great commodity producer, one of the largest producers or exporters of uranium. They’ve also got oil and gas, they’ve got gold, they’ve got silver, they’ve got base metals, rare-earth. It’s really fascinating. From what I could tell at this big conference of mining congress, there were so many Chinese delegates, there were so many people from Eurasia, but I haven’t seen any Americans.

BS              Interesting, yes.

RP              I think that’s only anecdotal evidence, but if you just follow the small news every day coming out – emerging markets signing trade deals where they completely circumvent the US dollar, where they’re settling their trades in their local currencies.

I think we’re in the middle of this de-dollarisation process. We’ve got a big chapter in that in our latest “In Gold We Trust” report. We’ve got a great interview with Luke Gromen, who’s probably one of the most interesting analysts in this space; who really follows all of those developments. I think Charles Gave, he said on Macro Voices something that was really interesting. He said that you have to understand that the gold price is now a big play between the US and China.

So the price of gold is going to tell you who is going to win in that effort to de-dollarise Asia. If gold goes up it’s China, if gold goes down it’s the US. I thought that was really a fascinating comment. Just the last couple of weeks we have seen Russia dumping 50% of the US Treasury holdings, and in the same month buying 600,000 ounces of gold.

There’s quite a lot going on, but of course the US will not just give up this privilege of having the world reserve currency. That’s probably the most important issue that the world faces at the moment.

BS              You mentioned Luke Gromen – there was a view expressed by Gromen recently which I thought was very interesting, which is that Trump’s gambit is essentially to irritate everybody in the world into stopping using the dollar and to de-dollarise themselves. In doing so he will accomplish an awful lot of what he ran on as a president. In doing so that would cause a huge bear market in dollars if nobody is interested in using them. So that’s a massive devaluation of the dollar and that essentially means that manufacturing in America is suddenly doable for all the companies who want manufacture.

The fly over America where all of the factories and the manufacturing bases been gutted can finally go back there. In a way if that is Trump’s strategy, it could be quite effective, what do you make of it?

RP              Yes I tend to agree, but in reality it’s not that easy. You can just say let’s devalue our currency by 30% and then we’re going to see a big boom in manufacturing. I think it’s also about capital, it’s about especially human resources, about technology and so on. I think the fact that General Electric was just kicked out of the Dow Jones is a sign that the US economy changed dramatically. Of course that’s also an advantage of the US that they’re extremely flexible, very pragmatic and so on.

I think if you really want to do some sort of reindustrialisation, it’s not only about the currency. It is one factor, but if it would be like that, then countries with weak currencies would have better products and better industry than countries with a strong currency.

Of course if you study all the statistics, who are the most prosperous, the wealthiest countries? It’s not countries with weak currencies, it’s hard currency countries. A strong currency is a fitness programme for the economy and all its participants. You have to be better; you have to deliver better products. You have to be more competitive, you have to be more innovative. I think just devaluing the currency, it works for the short term, but for the people themselves it’s a horrible long-term strategy.

BS              Oh certainly, it was just whether or not it was the strategy that was being pursued.

RP              Yes.

BS              You mentioned Russia dumping half their US Treasuries. Of course Russia isn’t the biggest holders of US Treasuries by a fair long shot. It was very interesting. What do you think was going on there, because they just did it all in one month, it was April right? What do you think was going on? Because they had been buying gold in huge amounts with both hands for a very long time now. They decided in April, right, we’re selling half of them, what do you think was going on there?

RP              Perhaps they needed some money for the World Cup and to build some stadiums, to finish some stadiums.

BS              For gold. Right.

RP              I actually don’t know. I think it was also, as you rightly said, they’ve got pretty low holdings of US Treasuries. I think they dumped like 50 billion, which of course it’s a sign, but it doesn’t really impact the market a lot. Actually I really don’t know what was happening; I just can say that the Russians, they keep buying gold all the time. Actually I think their money supply M1 or M2 has got the highest gold backing in the world.

So they’re operating on sort of a gold standard, one could say. It’s pretty obvious that most of the emerging market countries, they’re constantly buying gold, they’re accumulating gold, while industrialised countries – at least they stopped selling their gold.

Jim Rickards, he’s on our advisory board, he always says if you want to play poker with the big guys, you have to bring chips, you’ve got to bring plenty of chips and those chips are golden. I think it’s no coincidence that the US holds 8,000 tonnes, the eurozone and the ECB system, they hold 10,000 tonnes of gold. The Chinese probably hold much more than officially announced. The IMF holds 3,000 tonnes. So if there should really be some sort of realignment of our monetary system, I think the most important players, they will make use of their gold.

BS              When I was reading the “In Gold We Trust” report, you pointed out before that rising interest rates can actually be positive for the gold price. Generally everybody thinks the opposite: the higher interests rates go, why would you want to own a non-yielding asset like gold. Would you like to walk me through that?

RP              Yes, well we wrote more than 1,700 pages of research about gold; just this year’s “In Gold We Trust” report is like 230 pages. It’s quite a brick, good weekend or good holiday reading it seems.

BS              Right.

RP              We came to the conclusion that of course real rates are of course much more important than nominal interest rates, and most importantly it’s the direction of real rates. So do we see rising or falling real rates? Falling real rates are of course the best environment for gold because it reduces opportunity costs of holding gold. I think when it comes to gold, many people are really disappointed. Gold remains a laggard and what you should do is just keep accumulating it, in order to save yourself from the destruction of fiat currencies.

However, people are still chasing those assets that are trading at ridiculous valuations. I would say to people that are disappointed, I’m quoting my friend Adrian Day who said, people expect too much from gold. It is not the environment where gold should be trading significantly higher because opportunity costs are high; stockmarket is doing well, bond markets are still doing okay, real estate all over the globe is doing great. We’re seeing trust in the financial system and politicians is back. Volatility isn’t a big issue at the moment. We’ve got the whole crypto space that is stealing the show.

Per definition this isn’t really an environment where gold should be doing extremely well. I think those headwinds will become tailwinds, and as I’ve said if equity markets start cracking, if the economy now, that is really as good as it gets, if it should go weaker and central bankers slowly start making a U-turn, that’s really going to be the point in time when gold, when nobody is positioned at the moment, sentiment is really at its worst. This is really going to be the moment when gold will really become interesting again.

BS              That’s not something that market participants are really expecting. It was quite amusing your comment that at the moment a decline in US economic output seems as unlikely to most economists and market participants as Vin Diesel coming home with an Oscar or the national football team of Fiji winning the World Cup.

The idea that the party is going to keep on going, and the quantitative tightening is a nothing burger, it’s not going to have any effect. Everybody seems to think that everything is just going to keep on going right?

RP              Of course, and I don’t want to be the party pooper but perhaps it might be time to leave the party already, and perhaps we’ll miss a few good moments of this party, but from a risk, reward perspective it just doesn’t look too well. If my assumption is right, that a lot of this party is basically financed by the central bankers, then you should get even more cautious because central bankers are stopping this party.

We’ll see of course. Austrian economists often tend to be a bit too pessimistic so I try to be pragmatic. The positive thing is that there’s entrepreneurs all over the globe being creative, being innovative and trying to deliver better solutions. So that’s also the optimistic case that despite all this craziness in the markets, I think there’s quite a lot of interesting opportunities coming up at the moment. We all know that the cryptocurrency space and blockchain technology, it’s highly controversial so people either love it or hate it, there’s nothing in between. It’s even more extreme than gold. I think there’s really something going on in this space.

If you talk to those people in the industry they only see opportunity, they only see ways to deliver great technology, great products; while in traditional finance if you talk to people it’s a bit pessimistic. It’s actually pretty depressing sometimes because it’s just a dying business with all the legislation and restrictions and all the bureaucratic stuff that is coming out.

I think what’s going on in the crypto space, that might probably be some sort of a game changer; of course there will be also quite a lot of losers, but there will be quite a lot of winners because of this technology. I think that’s what we wrote in a recent gold report, gold being the oldest monetary technology and blockchain, cryptos being some sort of new technology, they can work together actually.

I think you can make the case for millennials; you can make it more attractive for millennials to buy, to store, to trade gold, real physical gold. Those kids, they will never go to a bank or a coin dealer and buy physical gold. I think you can also really make the positive case for gold and crypto.

BS              Speaking of being positive and optimistic, we must address the most interesting part personally for me from “In Gold We Trust”, which is always the gold/beer ratio. You never would have thought that the best time to sell your gold and buy beer was 1980. Would you like to tell me how exactly this all first came about, the tracking of the beer/gold ratio? How exactly do you see it moving in the future?

RP              It seems that there’s a very high correlation between people interested in gold and people being interested in beer. That’s a really tight correlation. So this chart is always one of the other charts that people like the most. In our report we always want to give long-term views about gold; from a relative perspective, how is gold doing against stocks, against bonds, against other commodities? Also how is the long-term purchasing power of gold doing?

We always try to get long-term data and actually for the Oktoberfest in Munich, there is pretty good data on the prices of one Mass, which is one litre of beer at the Oktoberfest. Then we said okay, we can do some sort of a ratio and we can see that the beer purchasing power at the Oktoberfest, so how much beer can you buy with one ounce of gold? Last year it was 99 litres of beer with one ounce of gold, the long-term average is 87.

So we’re slightly above the long-term average which tells you that gold is not extremely overvalued. Back in 1980, for example, you could buy 227 litres of beer with one ounce of gold.

BS              227 litres of beer. That would be quite a consumption for one year.

RP              Yes, you would have a fun evening with quite a lot of friends. I think it’s interesting because the annual inflation at the Oktoberfest is roughly 4%, and this also shows you that probably the real inflation that people actually experience in their normal lives is significantly higher than the inflation that is measured by all those calculations. Like PCE (personal consumption expenditures), CPI (consumer price index) and so on.

BS              And the hedonic adjustments and what not that are added.

RP              Exactly. What we want to show our readers on a really long-term basis, gold conserves, saves your purchasing power. I think that you won’t become really rich with just buying physical gold, but you can store purchasing power, you can protect capital, and this is what it’s going to be about. I think it’s also important to show that from a portfolio point of view, you should just own some gold because it’s low or even negatively correlated to most of the other major asset classes.

In 2008 it just stabilises your portfolio if you own gold. Now if that’s going to be 10, 15, 20 whatever per cent, that’s really up to the investor. I think it’s important really in this industry, where in the gold space there’s so much gloom and doom research coming out. You just have to tell institutional investors okay you can make a case for gold from a portfolio perspective, it just makes sense. So it’s important for us to show those numbers.

That’s really something that we’re proud of, that especially in the traditional finance area we’ve got very many readers of the report. We hope that we can make at least a slight difference, and can make people think about gold, about our monetary system and also about Austrian economics. That’s why we every year write more than 200 pages about gold, about inflation, about basically everything.

BS              I certainly think you’ve succeed Ronnie in getting people to look at gold in a different way. The gold/beer ratio is certainly a great way of seeing how much gold is really worth in your day-to-day life. When people think of these financial assets, which are so illusory, abstract, it’s very hard to bend your head around it, if you’re not spending your time looking at charts all day. When you see just how many litres of beer you can buy with gold, I think that’s a great way.

Thank you very much for joining me Ronnie, I understand you are a very busy man, but thank you for joining us on The Gold Podcast.

RP              Thank you very much, it’s been a pleasure and all the best to you and your listeners. Thank you very much.

BS              Thank you. Thank you very much for listening to The Gold Podcast. That was Ronald-Peter Stöeferle of the Incrementum investment company. As I’m sure you heard, Ronnie is very much on the ball when it comes to gold. A huge wealth of information in that head of his. In terms of where you can find out more about him, just search for Incrementum AG, or search for “In Gold We Trust”. You’ll find it pretty easily.

Incredibly, Incrementum give out this annual report for free to anybody. There’s a compact edition which is 45 pages long. If you’re really hard core, you can actually request the full edition, which this year is 230 pages long I believe. Just packed full of information on gold, how it’s measuring against loads of different assets. There’s also a lot in there on how gold is competing or whether or not it is competing with cryptocurrencies, we’ve got central bank ownership of gold, developed markets vs emerging markets. There’s a huge wealth of information in there.

If you do want to get a copy of the “In Gold We Trust Report” do just give it a Google. It was released I believe at the end of May, so it’s really not out of date by any measure. Definitely give that a look if you’re interested in Ronnie’s work.

In terms of us here at Southbank Investment Research, we are of course big friends of gold and cryptocurrencies as Ronnie mentioned earlier. So if you’re interested do give us a look. If you looked at Capital & Conflict or Exponential Investor, if you just go www.capitalandconflict.com or exponentialinvestor.com you will find our work. My college Harry Hamburg even writes a report called Crypto Wire, which is specifically just about cryptocurrencies.

Meanwhile I’m the editor of Zero Hour Alert, and we have a lot of gold insight and other tangible asset research as well. Thank you very much for listening to this podcast.