Are the Swiss going back to the gold standard?

In a bid to reduce the risks of financial instability, the Swiss are weighing up the possibility of reintroducing a limited version of the ‘gold standard’.

Here’s a flash back to a confidential Reserve Bank of Australia board memorandum from December 1996: “While there is some benefit in holding gold as insurance against a breakdown in the international financial system … it is becoming increasingly difficult to justify being a passive holder of gold. Gold can no longer be regarded as something ‘special’."

Within months, the RBA confessed to selling 167 tonnes of Australia’s gold reserves, reducing holdings to 80 tonnes. In a somewhat entertaining media release, the bank said it made no sense to hold lots of gold as Australians had the luxury of being able to just dig some up in an emergency.

“A country in Australia's position, with large gold reserves in the ground and high annual production, derives negligible diversification benefits from holding a significant proportion of its international reserves in the form of gold,” is how the RBA phrased it.

The global economy looked very different back then. In the same month that release was issued, actions by the Thai central bank set off a chain reaction in currency markets that we now call the Asian Financial Crisis.

Then came the dotcom slump, global asset inflation, the 2008-09 stock-market crash of the global financial crisis, the sovereign debt crisis, unprecedented fiscal stimulus around the world, the US Fed’s bold experiment with quantitative easing and today’s uncertain future for financial markets and currencies.

For some, this has been too much excitement. As Oliver Marc Hartwich discussed on Thursday (Will the Swiss drive up gold prices, October 30), a popular political movement in Switzerland is looking to shore up the Swiss franc by reintroducing a limited version of the ‘gold standard’ that used to characterise central banks around the world.

Fresh from Scotland’s defeated independence poll, world attention is shifting to the Swiss referendum on central bank gold reserves, to be held at the end of November, and it has at least as much to say about financial independence, democracy and economic security.

Eighteen years after the RBA and then governor Ian Macfarlane were only too happy to trade gold for cold hard cash, the debate rages about whether world currencies have been debased by stimulatory measures (On the brink of monetary catastrophe, October 28).

Traditionally, the argument for holding gold is as a hedge against inflation, which appeared to work in the 1970s oil crisis.

For many it has been puzzling that the bout of money printing from the Fed and others since the GFC has not resulted in consumer price inflation (although there is undoubtedly asset price inflation).

And this is where the so-called ‘Modern Money Theory’ has increasingly gained acceptance. MMT states that a government like the United States cannot go bankrupt in its own currency, it will always be able to supply enough US dollars, and it is only constrained by full production and inflation caused by overspend, or artificially-imposed political constraints.

After three waves of injecting trillions of dollars, the Fed ended QE this week and expressed exuberant optimism toward the US economic recovery (A bullish Fed changes everything, October 30).

The real problem with QE has not been printing too much money -- which only boosts “inside” money used between banks to settle their transactions and not the “outside” money that is used in the real economy, proponents of the MMT theory say, though the buying of bonds actually reduces collateral for “outside” money supply.

“There’s this whole realisation that paper currency can exist in its own right (without the hard-backing of gold) and that central banks are not printing money … They’re not actually creating publicly useable money,” says Credit Suisse strategist Damien Boey.

So the Keynesians argue the US should not focus on printing more money that isn’t being tapped by the wider economy, and that far from austerity, world governments should be spending, spending, spending to get a healthy injection of authentic “outside” money into the hands of consumers. It is the rise of austerity around 2012 and the lack of accompanying inflation that fanned this thinking.

This is about as far from the initiative on gold proposed in Switzerland as you can get.

A yes vote would force a reluctant Swiss National Bank to increase its gold reserves to 20 per cent of assets (it’s currently around 8 per cent) and to stop selling precious metals. It would be an affront to the fiscal freedom of the central bank which has been likened to having their credit cards cut up.

UBS estimates that if the yes vote succeeds, the SNB would have to purchase about 1,500 tons or around $60 billion worth of gold over the next five years, which is even more than the 1,040 metric tons of gold it currently holds.

But fans of the initiative say a currency backed by gold means the government and the central bank cannot manipulate the currency at will and print additional francs, and that would stabilise the real value, or purchasing power, of the Swiss franc, promoting savings and investment rather than spending and credit. 

Since 2011, the SNB has pegged the franc to the euro and maintains a floor of 1 euro to 1.20 francs. There is a groundswell of opposition to the central bank’s expansion of its balance sheet to weaken its currency and stimulate growth, and a feeling that printed paper unbacked by an asset is too risky.

“The Swiss people just stood up and said in a very loud and clear voice that they do not like the financial direction that their country is taking,” one analyst said.

That confidential RBA memorandum of 1996 and its nonchalant declaration that “the financial circumstances which would require us to call upon our gold holdings for economic reasons look increasingly remote,” is a stark reminder of what a different world we inhabit post-GFC.

If the Swiss manage to put a more solid foundation under their currency, the big question will be whether other nations follow suit.