If the Federal Reserve does not cut its target for the federal funds rate by at least 25 basis points at the end of this month, many in the market will feel entitled to sue the central bank for breach of contract. Wednesday’s congressional testimony by Fed Chairman Jerome Powell and the publication of the minutes to the central bank’s last monetary policy meeting were the last chance to walk back the widespread assumption that a July rate cut is a certainty. Powell made no attempt whatever to do so.
Kotok invokes the relevance of the gold standard:
“The reference to Mundell and the trinity provoked a thought as I saw the Chinese continue to acquire gold and pursue what seems to be a gold for USD substitution. China is not alone as we see others like India and Russia pursuing something similar. So my question involves how a gold substitute for USD alters the Mundell construction.
“The recent expansion of negative rate sovereign debt to $14T only adds to the question as gold forward contracts have positive yield. Thus a country using gold as a part of its reserve allocation is incentivized to bias away from fiat currency and add to gold. This is a speculative assertion, of course, but the rising gold price seems to be reflecting the global downward march in interest rates. In a world where 95% of all high grade sovereign debt now yields below the fed funds rate and that rate is expected to fall, shouldn’t we question the Mundell construction? And if we do, isn’t gold reserve accumulation a force which might dampen the stress of Mundell’s trinity?
“Magnus doesn’t consider this option. We ponder the question. Any Thoughts?”
I have a lot of thoughts, although they are not yet well organized. Kotok is right that China is transferring to gold and has stepped up its purchases of late, but this is still on a very small scale. Its official gold assets are now $87 billion, according to the People’s Bank of China. This is a lot of money, but still a tiny proportion of total Chinese reserves of more than $3 trillion
Read the full article by John Authers at the Bloomberg website: www.bloomberg.com
