Cash Ban Coming
16 August 2019
Precious Metals Commentary
The gold price consolidated this week with trading bouncing off $1,500 but being capped at $1,525. There was one sell-off mid-week in reaction to better US CPI figures and Trump delaying China tariffs until mid-December.
However investors became risk adverse and dumped US stocks as the yield on 10-year Treasury bonds dipped below the 2-year Treasury, the first time since June 2007. We discussed yield curve inversions back in March, when 3-month interest rates went higher than those for 10-year bonds.
We noted at the time that many commentators consider the 10-year minus 2-year as the real signal of an upcoming recession. Well, here we are five months later. The local market picked up on those fears with the ASX200 lower by 2.2% and gold stocks in favour.
Continuing protests in Hong Kong and talk of Chinese troops mobilising on the border, India and Pakistan tensions, collapse of the Argentine peso and a contraction in German GDP gave the markets plenty of doom to focus on and gold looks firm at time of writing as it tests $1,525.
Silver, after a bit of catch up late July, continues to track movements in gold holding above $17. It is still at a historically high gold:silver ratio of around 88 and we were expecting more outperformance by now, but both metals appear to be consolidating.
The Australian dollar has also been moving sideways this week just under 0.68, resulting in Aussie gold moving around in the low $2,200s and silver in the mid-$25s.
China Restricting Imports
This week, Reuters reported that China has been severely restricting imports of gold since May, cutting “shipments by some 300-500 tonnes compared with last year”.
While many are aware that local and international banks require a license to import gold into China (with exports not allowed), it is less known that those banks are given monthly import quotas by the Chinese central bank.
In situations when the yuan weakens and the Chinese government wishes to control capital outflows, restricting gold imports is an option as it is a non-essential consumer good. Such changes show up in the premium/discount that the local Chinese gold price trades at relative to international gold prices.
You can see from the chart below from the World Gold Council that the premium has been elevated recently.
Not all premium fluctuations are related to explicit import quota curbs and can result from banks misestimating Chinese local demand and then having either too much or too little gold to sell. Reuters reported that the high local gold price has resulted in some domestic sales of gold by investors looking to book profits, and this can provide a counter balance to any import restrictions.
We would say that the strength of the gold price while these import restrictions have been in place is encouraging and further support to prices will be provided when China inevitably reopens its gold market.
While commercial imports have been curbed, China’s central bank recently reported that it purchased another 9.96 tonnes of gold, so any concerns about the outflow of dollars is not affecting China’s ongoing diversification of its reserves away from the US dollar.
Cash Ban Coming
Six years after the 2013 Cypriot financial crisis, in which Cypriot banks were overleveraged local property companies, uninsured depositors (accounts over €100,000 in value) of the then second-largest bank in Cryprus, Laiki Bank, are expected to only receive around 6 cents on the dollar for their savings used to bail in the bank.
In Australia, bank deposits are protected under the Financial Claims Scheme, which has its own website https://www.fcs.gov.au/, which we guess is to provide reassurance to the average person. The scheme, which is managed by APRA, protects deposits up to $250,000 for “each account holder at each licenced bank, building society or credit union incorporated in Australia”.
Note the wording is “account holder” not “account”, so if you have multiple accounts at one bank, all of the account balances are added together for purposes of the $250,000 limit. Also, for SMSFs, the limit applies to the whole fund, irrespective of the number of trustees.
Interestingly, the Financial Claims Scheme website does not mention the fact that the scheme only has a “standing appropriation from Parliament” for up to $20.1 billion per failure ($20 billion for payouts and $100 million for administrative fees).
In the case of a single bank failure we think that public pressure would result in the Government appropriating as much money as required to cover all deposit holders, $20 billion limit or not. The issue, however, is that in the case of an economy-wide financial crisis the capability of the Government to cover all deposits across multiple banks would be constrained.
The average person’s initial reaction to a financial crisis is to pull cash out of their bank. In late 2008, Australia nearly had a full blown bank run as The Australian reported in 2010:
"It was a silent run, unnoticed by the media. Across the country, at least tens and possibly hundreds of thousands of depositors were withdrawing their funds. Left unchecked, there would soon be queues in the street with police managing crowd control."
While this may work in the case of a single bank failure, in a crisis that affects the entire financial system it should be noted that cash is ultimately a claim on the Government – cash does not get you out of the system. If the Government is under pressure with multiple bank guarantees to cover and other financial pressures, one has to consider that those physical dollars will end up being worth less as the politicians inevitably resort to their favourite stop gap – inflation.
While we are talking about cash, we noticed that the ban on cash payments over $10,000 is moving closer to coming into force with submissions on the draft legislation closing this week.
Initially recommended in the 2017 Black Economy Taskforce Report, it was supposed to come into effect on 1 July 2018 but that was pushed back to 1 January 2020. The law looks to impose an economy-wide cash payment limit of $10,000 for payments to businesses for goods and services. The limit applies to a “single supply of goods or services”, so splitting a payment into multiple sub-$10,000 amounts will not work.
Excluded are transactions such as bank cash deposits and withdrawals and all consumer to consumer transactions (but not for land). Importantly, it will be a criminal offence to make a payment to a business – this is not a law that just applies to the business receiving the cash.
In respect of bullion purchases, this law will not have much effect as bullion dealers are currently covered by AUSTRAC rules that require reporting of any cash transaction over $10,000, which effectively means that few people paid for plus $10,000 bullion purchases in cash anyway.
Latest figures from the RBA show that cash transactions have been declining for many years anyway, compared to electronic forms of payment.
The Citizens Electoral Council says that the real purpose for the cash ban is to “trap Australians in the banking system, so they cannot escape negative interest rates or having their bank deposits ‘bailed in’” on the basis that the law or regulations will be changed to ban cash withdrawals from banks. We would say that the Government doesn’t need this law to do that, as a bank holiday is always an option or alternatively, the RBA could simply refuse to give banks cash in exchange for their loan and other “assets”.
Of course, the most popular way to protect oneself against such situations is physical gold or silver, as it is a highly liquid, easy to get in and out of asset that is outside the financial system. With the trajectory of bank deposit rates towards lower and lower rates, it certainly isn’t like that insurance would cost an investor much in forgone interest income.
For those who don’t want to engage in a bit of “midnight gardening” with their gold or silver and are looking at storage options, it is important to note that in the case of a “bank holiday” access to a safety deposit box in a bank will be restricted. A prudent alternative would be a private, non-bank, non-government facility like Custodian Vaults.
Gold Will Fall to $700
This week we came across an article by newsletter writer Harry Dent who said that $1,525 was a key resistance that gold needed to break through before he would become bullish which, “if pierced, gold would have substantially higher targets –$1,600 to as high as $1,800”. We can see the logic in the $1,525 level and will be watching it with interest as gold is currently testing it.
It caught our eye because we remember Harry pushing not more than two years ago the claim that “Gold Will Fall to $700/oz!” (with exclamation mark) due to “unmistakable signs” that gold would “melt down” because of a great economic crash forecasted for 2017.
We don’t generally pull up forecasters on wrong calls as predictions are a tough task but flipping from $700 to $1800 stretches credibility in our opinion. Maybe Harry should memory hole that webpage although that may not help as reading through various precious metal discussion forums we see many that wouldn’t let him forget that call.
On the more encouraging side, we saw two mainstream mentions of $2,000 gold as a possibility – one from TD Securities worded as “a case for” and Bank of America Merrill Lynch phrasing it as “see scope for gold to rise towards”.
We are not interested so much in the forecasted price itself, more that these more speculative price forecasts are coming from the mainstream and that there appears to be a ratcheting up of the figures involved. As gold made that initial break in June, the talk was only of $1,500 or $1,600 as a “stretch” call but now we are seeing $1,800 and $2,000 mentioned - an indication in our opinion that the gold bull market is starting to be seen as sustainable by the wider financial market.
This is a necessary precursor to the (always late to the party) wider public participation in gold as they need the reassurance of obvious bullish chart action and positive mainstream analyst coverage before they feel comfortable buying precious metals.
Thankfully you, our reader, have already bought your insurance before the proverbial house burns down – right?
Until next time,
John Feeney and Bron Suchecki
If you have any questions or feedback about this week’s report, we would love to hear from you. You can contact John Feeney (@JohnFeeney10) and Bron Suchecki (@bronsuchecki) directly on Twitter, otherwise please feel free to send us an email at [email protected], or call us during trading hours on 1300 361 261.
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