This week everyone has been reminded why they choose to invest in gold and buy silver. As markets reacted to Silicon Valley Bank’s demise, the near-collapse of Credit Suisse and the ensuing panic of policymakers, investors and depositors, gold, and silver have come to the fore. Why did they climb in the price? Because this story isn’t new.
The actors might change, the timings might change but ultimately the results are the same – banks collapse, central banks react, governments panic and people lose money. And in the background there sits gold and silver. Out of reach of printing presses, monetary policy and bailouts. Entirely sovereign and there to protect portfolios as the cracks in the financial system get bigger.
First, the government lets money get too easy. Second, that money floods into assets i.e. stocks, bonds, real estate, commodities, crypto, private equity, wherever the return is excitement and highest price action, while ‘times are good’.
Money sitting in a bank account is widely regarded as foolish since the bank pays deposit interest at rates far below the rate of inflation [by both official and unofficial calculations] and the euphoria and mentality of ‘always going up’ sets in.
Furthermore, free-flowing money is available at low interest rates to borrow, which encourages households, businesses, and even governments to borrow – to buy more assets and get ahead of inflation! The commercial bankers are happy to lend since their vaults are stuffed with cash that needs to earn a small return.
Entrepreneurs and investors notice colleagues who are more levered, or levered up years before they did; yet have made so much more paper wealth those who tried to be prudent.
The impact of SVB collapse on the economy
During these years governments are asleep at the switch. Politicians often use the tax system to create or destroy incentives. During the easy money years, incentives are all wrong. Interest income on money at the bank is taxed each year that it is earned. So, money in the bank must fight off both inflation and income taxation, leaving almost nothing left for return.
Meanwhile, investors that borrow money from the banks to buy assets pay little to no taxes because there is no ‘dividend or interest income’ generated by brand new startup companies or from owning piles of copper commodities.
The crazy perverse incentive during this part of the economic cycle when money is freely flowing into assets is – governments start to favour financial shenanigans through the tax code because it allows actors to avoid taxation by never selling [instead they borrow against their unrealized winnings to reinvest even more into the same inflation avoidance scheme].
Eventually, some unexpected day arrives when governments and central banks ‘pivot’ to tighten policy. In 2022 the ‘pivot’ came from the obvious realization inflation was too high, had been for too long, and was not caused by any acceptable enemy [they tried to blame it on temporary measures and then on Putin but in reality, it was the central banks that printed the trillions of Euros or Pounds or Dollars and it was the governments that handed the money out].
Central banks then panicked and the fear of being impotent set in. In the very long run, they are impotent to affect change and are fighting the tides while overreacting to events, but people working in central banks know this only on a subconscious level.
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