January 20, 2010 (RKL). Cass Sunstein Is a Pod Person

Like most denizens of the dissident world, we were dismayed by the revelation last Friday that Cass Sunstein, the former Harvard Law Professor who is now head of the Office of Information and Regulatory Affairs, had co-authored, some two years ago, a how-to manual for the suppression of dissent in a nominally free society.

Let’s be clear. Conspiracy Theories is not a work of scholarship, even by the debased standards of today’s knowledge-producing institutions. It is the musing of a cynical toady auditioning for the job of Minister of Truth in an Orwellian dystopia.

Let’s be even clearer. Cass Sunstein would never write such a thing. We knew Cass Sunstein in law school. Cass Sunstein was an affable fellow, a brilliant student, and a terrific squash player. He was also a liberal thinker in the best tradition, devoted to the concepts of individual liberty and free speech, and dedicated to the ideal of America. No way did Cass Sunstein write Conspiracy Theories.

Yet, troublingly, his name is on the piece, and we are not aware of any disavowal.

We conclude therefore that the mind of Professor Sunstein is now the plaything of monsters from outer space. They got him, they control him still, and they are making him write vile things against his will.

Consider the following excerpt, destined, we predict, for a prominent place in the Annals of Academic Evil:

What can government do about conspiracy theories? Among the things it can do, what should it do? We can readily imagine a series of possible responses. (1) Government might ban conspiracy theorizing. (2) Government might impose some kind of tax, financial or otherwise, on those who disseminate such theories. (3) Government might itself engage in counterspeech, marshaling arguments to discredit conspiracy theories. (4) Government might formally hire credible private parties to engage in counterspeech. (5) Government might engage in informal communication with such parties, encouraging them to help. Each instrument has a distinctive set of potential effects, or costs and benefits, and each will have a place under imaginable conditions. However, our main policy idea is that government should engage in cognitive infiltration of the groups that produce conspiracy theories, which involves a mix of (3), (4) and (5). [p. 14]

Now we ask, rhetorically: is this the output of a rational, intelligent, liberally educated human being, a citizen of the United States and full Professor at a leading law school, speaking his own mind? Clearly not. If this isn’t aliens talking, we don’t know what is.

We’re not done yet. Analyze this:

Throughout, we assume a well-motivated government that aims to eliminate conspiracy theories, or draw their poison, if and only if social welfare is improved by doing so. [p. 15]

Beam us up, Zor-El. Are we the only ones who see that only space aliens, utterly out of touch with the way things work here on Planet Earth, could pen such nonsense?

Nice work, monster boys. We rest our case.

But now we must brace for a shower of slings and arrows, seen and unseen, from the implacable host in control of the Sunstein Entity. We shall endeavor to draw their poison by preemptively conceding certain facts. Bold and italicized terms carry the meanings ascribed to them in Conspiracy Theories.

First, it is no secret that we here at The Golden Sextant are what the article calls conspiracy entrepreneurs. We spent a good chunk of the last decade trying to get some traction for the Gold Suppression Theory, a term which we capitalize here in the hope of stimulating a little conspiracy cascade. In fact, we tried so hard that ten years ago Reg even sued a gaggle of Fed and Treasury officials, together with a coven of the world’s largest banks. The allegation: they were engaged in a conspiracy to suppress the price of gold in order to disable the thermometer of the global financial system. [1] Sounds crazy, we know.

Second, it is true that we were bitterly disappointed not to make the cut in Conspiracy Theories. Grassy Knoll, Roswell, Lunar Landings, 9/11 Truth, you name it, the article lavished attention on them all. But Gold Suppression? Not even an honorable mention.

In fact, and we admit it freely, our sense of hurt quickly morphed into something darker. We were wracked with self doubt. Were we cursed with the heartbreak of crippled epistemology? Were we, indeed, mentally ill and subject to delusion? The self doubt morphed in turn into a paranoid cognition that bubbled up spontaneously: Was this the dog that didn’t bark? Had we already been cognitively infiltrated? Reg and I began to look at each other warily.

Just as quickly, however, we shook off these creepy notions. There was an obvious and reassuring answer as to why we were flat-out ignored in Conspiracy Theories: the Gold Suppression Theory is not only true, but is now officially acknowledged as true. Even monsters from outer space, but especially those operating through the medium of a respected expert in constitutional law, now recognize that official intervention in the gold market, both overt and covert, is not a conspiracy theory at all. It’s just the logic of the situation: how else can the constitutional abomination known as the Federal Reserve perpetuate the belief that is both false and harmful, that its unbacked promissory notes are money?

But our sense of relief, as well as our gratification at this indirect endorsement of the Gold Suppression Theory by the highest reaches of the Executive Branch, soon gave way to that most human of emotions: empathy.

Stay strong, inner Cass. We know what it’s like to be hijacked by aliens. We’re pulling for you, Dude. In the meantime, if you have any residuum of control over your actions, retire from government at once. Don’t let them continue to bend your talent to destroy a way of life you once loved.



1. While we’re at it, we are also obliged to concede that the Complaint did not use the term ‘thermometer’ when laying out the Gold Suppression Theory. That’s because Dmitri Speck had not yet unearthed the FOMC minutes from May 18, 1993, in which then Fed Chairman Alan Greenspan used the term twice in relation to the price of gold, as he threw out the idea of tampering with it through market intervention in which the Fed did not have the legal right to engage. So we are indebted to Chairman Greenspan for this felicitous metaphor:

I have one other issue I'd like to throw on the table. I hesitate to do it, but let me tell you some of the issues that are involved here. If we are dealing with psychology, then the thermometers one uses to measure it have an effect. I was raising the question on the side with Governor Mullins of what would happen if the Treasury sold a little gold in this market. There's an interesting question here because if the gold price broke in that context, the thermometer would not be just a measuring tool. It would basically affect the underlying psychology. Now, we don't have the legal right to sell gold but I'm just frankly curious about what people's views are on situations of this nature because something unusual is involved in policy here. [p. 40]

See Remarks by Dimitri Speck, International Precious Metals and Commodities Show, Olympia Park, Munich, Germany, Saturday, November 7, 2009.



January 5, 2010 (RHH). Precious Metals Derivatives: Louder Music, Fewer Chairs

Here we walk 'round the musical chairs, Musical chairs, musical chairs. Here we walk 'round the musical chairs, And then we all sit down!

On November 12, 2009, the Bank for International Settlements released its regular semi-annual report on the over-the-counter derivatives of major banks and dealers in the G-10 countries and Switzerland for the six months ending June 30, 2009. The total notional value of all gold derivatives rose to $425 billion from $332 billion at year-end 2008, corrected from the previously reported figure of $395 billion. Although gold prices more than recovered their decline over the prior six months to close at $935 (London PM), gross market values fell from a corrected $55 billion to $43 billion.

As detailed in table 22A, forwards and swaps increased from a corrected $116 billion to $179 billion, and options from a corrected $216 billion to $246 billion. Converted to metric tonnes at period-end gold prices, total gold derivatives rose by nearly 2300 tonnes on a corrected basis (from 11,873 to 14,146), with forwards and swaps up by over 1800 tonnes (from 4148 to 5958, or almost 2.5 years of new mine production), and options by over 460 tonnes (from 7725 to 8188).

This data is shown graphically in the three charts below, all updated versions of prior charts in previous commentaries on the same subject.

The significant increases in worldwide gold derivatives reported by the BIS for the first half of 2009 are not reflected in the figures for OTC gold derivatives of U.S. commercial banks reported by the Office of the Comptroller of the Currency, but then neither were the large declines reported by the BIS for the last half of 2008. From December 31, 2008, to June 30, 2009, the total notional amount of gold derivatives held by U.S. commercial banks actually fell from $107 billion to $99 billion, with JP Morgan Chase's almost unchanged at $81.2 billion versus the prior year-end figure of $82.5 billion.

According to GFMS, the global delta-adjusted producer hedge book continued to contract, albeit marginally, to 458 tonnes at the end of June. See GFMS & Société Générale, Global Hedge Book Analysis (Q2-2009) (August 2009), esp. chart on page 7 ("Evolution of the Global Hedge Book Volume"). Declines in forward positions more than offset increases in options as producers continued to deliver into their hedge books and AngloGold Ashanti "increased its long 2009 forward position, mathematically treated as a de-hedge." Ibid. at 5.

While the purchase of forward contracts by producers to offset their outstanding sales of forwards may properly be treated as reducing the net global producer hedge book, these purchases should ordinarily have the opposite effect on total gold derivatives reported by the BIS. However, relative to that total, the global producer hedge book accounts for only a small fraction.

Of course producers would like to reduce their hedge books in a rising gold price environment. However, when they do so by buying forwards, the question arises as to how the sellers, presumably the bullion banks, are protecting themselves, particularly with respect to being called on at some future time to deliver actual metal in a tight physical market. That question begs another: are some or all of these forwards purchased by producers written to provide for some sort of cash settlement option, thereby sheltering producers from further dollar liabilities on account of their hedge books but sparing the bullion banks from having to deliver physical?

More generally, with gold prices flirting with backwardation as abnormally low interest rates force lease rates down to derisory levels, the economics of traditional gold lending by central banks in support of forward sales by the bullion banks are more than a little problematic. What is more, central bank attitudes toward gold are changing: more are buying; fewer selling. So it stands to reason that the pool of central bank gold actually available for lending must be shrinking, probably quite sharply.

In the absence of better data, commentaries at this site have argued that total forwards and swaps as reported by the BIS are a pretty good proxy for the total short physical gold position, which largely consists of gold loans, deposits and swaps from official reserves. As explained in Gold Derivatives: Hitting the Iceberg (12/20/2003):

Unlike options, forwards and swaps are transactions which generally assume the sale of an equivalent amount of gold into the spot market. Bullion banks borrow gold, usually from central banks, for the purpose of acting as financial intermediaries. They sell the gold acquired by deposit, loan or swap, and then invest the proceeds in an effort to earn a positive spread while at the same time hedging themselves against any unfavorable movement in gold prices as, for example, by taking the other side of a forward sale by a gold producer or by purchasing call options.

Gold loans used to fund forward sales by a gold producers are typically repaid out of future mine production, and thus are integrated with a hedging transaction that is independent of the gold market. In contrast, gold loans used to fund what for several years was a very profitable gold carry trade required forward sales by non-producers that could be hedged only in the options market. Ultimately, unless settled in cash, these gold loans must be repaid by metal acquired in the market.

In face of negligible lease rates and low spreads, the increase of 1800 tonnes in gold forwards and swaps in the first half of 2009 is hard to explain in terms of traditional gold lending, prompting another query: has the whole category of gold forwards and swaps as reported by the BIS now been severely infected by instruments that have no credible counterparty in the physical market?

Gold lending for the most part is an activity of central banks, many of which continue to hold (or manage) significant official gold reserves acquired for the most part during the gold standard, gold exchange standard and Bretton Woods eras. With the possible exception of the Chinese, none of them hold large reserves of silver. Yet the BIS reports large and growing volumes of forwards and swaps in the "other precious metals" category, the vast bulk of which are silver.

Through the Silver Looking Glass. Silver analyst Ted Butler has long argued that the extreme concentration of silver short positions on the COMEX in a handful of banks is a sure sign of market manipulation precisely because they could never deliver metal in anything close to the quantities that they are short. See collected articles at Butler Research LLC. In mid-November 2009, he calculated that the total short position in COMEX silver futures amounted to some 500 million ounces, of which JP Morgan Chase accounted for 200 million. Total mine production in 2008 was 680 million ounces. See Demand and Supply in 2008, The Silver Institute (2009).

Mr. Butler as well as others have taken their concerns about manipulation of silver prices on the COMEX to the Commodity Futures Trading Commission, which opened an investigation into the matter in 2008 but so far has not taken any action to reduce or limit the concentrated short positions, which have in fact grown. Any resemblance to the SEC's ineffective investigation of Bernard Madoff is probably not purely coincidental. Of course, as the CFTC has on occasion noted, short positions on the COMEX may be covered or hedged in other markets.

Indeed, they may. Even more problematic than the figures on OTC gold derivatives reported by the BIS are those related to other precious metals, primarily silver. In dollar terms, total derivatives on other precious metals reached a new peak at $203 billion. Expressed in ounces of silver, forwards and swaps on other precious metals increased by 2.8 billion ounces -- more than four years of annual silver production at the 2008 rate -- to 7.25 billion ounces, or over 10.5 years of new mine production.

Against these numbers, the COMEX appears as much or more of a sideshow in silver than it is in gold, where forwards and swaps are not yet quite as out-of-line with annual production and known stockpiles as they are with silver. But the same large bullion banks dominate the markets for both, and there is no obvious reason to suppose that the extremes reached in silver could not be reached in gold.

As indicated by the frequent negative silver forward rates ("SIFO") reported by the London Bullion Market Association during the first quarter of 2009, silver prices were often in backwardation during this time frame. However, monthly average daily clearing turnover of silver on the LBMA for the first half of 2009 hovered around 100 million ounces/day, in line with prior months and well below past highs. The failure of backwardation to produce a noticeable bump up in turnover suggests: (1) little silver was available to be sold at spot and repurchased in the forward market; and/or (2) most holders of real metal viewed the trade as too risky, i.e., questioned the ability of potential counterparties to make good on future physical deliveries.

Drunk on Liquidity; Starved for Metal. The weight of gold and silver represented by derivatives on the precious metals has grown so large relative to all reasonable measures of physical supply that more and more questions and doubts are being raised about not only the integrity of the price discovery mechanisms for these metals, primarily among LBMA members and on the COMEX, but also the reliability of many paper claims to the physical delivery of them.

Among the numerous commentaries in this regard, two are notable for raising the specter of massive injections of clandestine physical gold into the market.

In an otherwise sober and informative analysis of gold turnover on the LBMA, one respected analyst has resurrected the story of Yamashita's gold because, as he puts it, "the gold market doesn’t make sense...the numbers don’t add up." P. Mylchreest, Goldmarket - accident waiting to happen or crime scene? Don't shoot the messenger, Thunder Road Report (Oct. 15, 2009).

He argues that figures on the volumes of gold traded on the LBMA cannot be reconciled with his estimates of the amount of gold held in "London Good Delivery" form, concluding that: (1) the massive OTC gold trade, which operates on a fractional reserve basis, is so overextended as to be "an accident waiting to happen" such that "the gold price could SOAR at any time;" or (2) if the story of Yamashita's gold is true, "particularly heavy volumes of this gold may have been laundered into the London market during 1986-90 and the mid/late 1990s," in which case "the continued evolution of the gold bull market could be more protracted."

Trying to solve the same puzzle, another analyst has looked not to General Yamashita ("The Tiger of Malaya") but to the alleged manufacture and distribution of over 16,000 metric tonnes of high quality counterfeit 400-ounce bank bars made of tungsten with a heavy gold plating. R. Kirby, On Doing God's Work, Financial Sense (Nov. 12, 2009). Half of these bars were allegedly shipped to Fort Knox "and remain there to this day." The remainder were "allegedly 'sold' into the international market," where some 60 metric tonnes are said to have recently surfaced in a scam uncovered by Chinese authorities.

This story is easy to dismiss for lack of verifiable evidence or any other independent confirmation, but like the story of Yamashita's gold, is not inconsistent with other known facts and observations about the gold market in recent years. See, e.g., FOFOA, Is the Dollar "Good as Tungsten"?, The Silver Bear Cafe (Nov. 2009). And in at least one respect, Mr. Kirby is correct: the best fake gold bars are made largely from tungsten, which has a similar density to gold. See, e.g., M. Hewitt, Tungsten as a Gold Substitute, DollarDaze (Nov. 11, 2009); Tungsten Alloy for Gold Substitution, China Tungsten Online (Xiamen) Manu. & Sales Corp.

Of course, speculation about the amount and quality U.S. gold reserves is only possible because of the complete lack of any independent third party audit, not to mention the novel accounting classification -- "Deep Storage Gold" -- adopted by the U.S. Mint in 2001 for the vast bulk of this hoard. See Status Report of U.S. Treasury-Owned Gold, which states: "Deep-Storage gold is the portion of the U.S. government-owned Gold Bullion Reserve that the U.S. Mint secures in sealed vaults, which are examined annually by the Department of Treasury's Office of the Inspector General."

A Canada Mint. Fresh from the country that produced the Bre-X scandal comes another reminder of the need for effective controls and independent audits in the gold space, this time straight from the Royal Canadian Mint in Ottawa where 17,500 ounces of gold went missing in 2008.

While not a large amount, the discrepancy produced a major investigation, including: a criminal investigation by the RCMP, which found no evidence of fraud or theft; comprehensive security reviews by The Banks Group and Microsoft Services -- Premier Support; a technical/engineering review by IBI Group/Giffels Associates Limited; and further accounting reviews by Deloitte & Touche, LLP, which had discovered the problem in the first place. See Precious Metals Reconciliation Report, Royal Canadian Mint (Dec. 14, 2009).

As it turned out, a combination of operating and accounting errors accounted for the shortfall, and the lessons learned from "the comprehensive reviews conducted by external third parties" resulted in a number of improvements to the Mint's practices and procedures, including appointment of a new Precious Metals Controller.

As a commercial Crown Corporation, the Royal Canadian Mint -- one of the largest in the world -- operates gold and silver refineries, stores precious metals for Canadian and international customers, and produces precious metals products for the investment community. Its prompt, comprehensive and open response, including online publication of the several reports from external third parties, served not only to blunt political criticism but also, and more importantly, to maintain the trust and confidence of its customers.

Trust but Verify. Questions taking the "A is to B as C is to D" format are reportedly falling out of favor in academia. But here's one anyway: the Royal Canadian Mint is to the U.S. Treasury as Central Fund of Canada (CEF) is to (pick one): (a) Newmont Mining (NEM), (b) GoldMoney, or (c) SPDR Gold Shares (GLD), which currently claims to hold over 1100 metric tonnes of gold in trust. See RKL, Musings on the Realms of GLD (10/15/2007). If you picked (c) the chances are that your gold investments are reasonably sound unless, perhaps, you place unwarranted confidence in official pronouncements from Washington.

Judges, particularly in the Supreme Court and on other appellate benches, regularly pose hypothetical questions to lawyers appearing before them to test the validity of their arguments when extended to future cases. So here's one: If credible evidence were forthcoming to support Mr. Kirby's tale of fake gold bars, what would be the likely effects on the gold market, not to mention on the credibility of the U.S. government?

Resort to Yamashita's gold or fake gold bars is not necessary to explain why the gold and silver markets do not appear to make sense; OTC derivatives by themselves can do that. But the very volume of these derivatives in comparison to annual new production and known physical supplies is precisely why now more than ever investors must pay close attention to the accounts of entities holding their gold and silver investments, including where possible periodic physical inspections and testing. See, e.g., J. Crawshaw, Einhorn Sells Gold ETF, Buys Physical Gold, Moneynews (July 29, 2009); Morgan Stanley to settle class-action lawsuit, Reuters (June 12, 2007), and comments thereon by T. Butler, Money for Nothing, (Oct. 23, 2007).

There's no run like a bank run and no rush like a gold rush, but both together on a worldwide scale would be as unprecedented as the current global fiat monetary system. We have the latter, and the figures on OTC gold and silver derivatives warn that its denouement may well arrive with the former. In that event, when the smoke clears, the financial crisis of 2008 will be seen as a premonitory tremor and Watergate as a mere bagatelle.


Addendum. For those interested, updates of the other charts on OTC derivatives contained in prior commentaries are reproduced below. Total OTC derivatives recovered from a corrected $547 trillion to $605 trillion. However, derivatives on other commodities (excluding precious metals) continued to decline, from a corrected $3.4 to $3.1 trillion. (Note: the left scale on the other commodities chart is US$ trillions; earlier versions mistakenly had it as US$ billions.)