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Wednesday, January 21, 2015

Complexity Theory Warning: Fed Policies Set To Detonate The Entire Financial System

This post Complexity Theory Warning: Fed Policies Set to Detonate the Entire Financial System appeared first on Daily Reckoning.

I’ve described some catastrophic scenarios where you go to SDRs or you go to gold, but at least for the time being or for the foreseeable future, US would like to maintain a dollar standard. China feels extremely vulnerable to the dollar. If we devalue the dollar, that’s an enormous loss to them.

So we have to, behind the scenes, keep China happy. And one way to do that is to let them get the gold. And that way, China feels comfortable. If China has all paper and no gold, and we inflate the paper, they lose. But if they have a mix of paper and gold, and we inflate the paper, they’ll make it up on the gold. So they have to get to that hedge position.

But gold is liquid, but it’s a fairly thin market. If I call JP Morgan and say, “Hey, I want to buy 500 tons of gold,” you can’t do it. I mean, that’s a huge order. An order like that has to be worked between countries, central banks, behind the scenes.

It’s done at the BIS, Bank for International Settlements at Basel, Switzerland. They’re the acknowledged intermediary for gold transactions among major central banks and private commercial banks.

That’s not speculation. It’s in the footnotes. Get the BIS annual report. Read the footnotes. I understand it’s geeky, but it’s there. They have to acknowledge that because they actually get audited. Unlike the Fed and unlike Fort Knox, the BIS does get audited, and they have to disclose those kinds of things, so it’s all there.

The evidence is there, so the effort is to say – China’s saying, “We’re not comfortable holding all these dollars unless we can have gold. But if we are transparent about the gold acquisition, the price will go up too quickly. So we need the Western powers to keep the lid on the price, help us get the gold, until we get the hedge position. At that point, maybe we’ll still have a stable dollar,” and that’s fine with them. But, if not, they’re protected by the gold. So this is the big play going on behind the scenes.

The point I’m making is that there’s so much instability in the system and the banking system and derivatives and leverage and all the other things we discussed that we’re not going to get from here to there. We’re not going to get to this happy ending. The system’s going to collapse before you get there, and then it’s going to be a mad scramble.

I’ll give an example. Let’s say I’ve got a 35-pound block of enriched uranium sitting in front of me that’s shaped like a big cube. That’s a complex system. There’s a lot going on behind the scenes. At the subatomic level, neurons are firing off, a lot going on. But it’s not dangerous. You’d actually have to eat it to get sick.

But, now, I take the same 35 pounds, I shape part of it into sort of a grapefruit, I take the rest of it and shape it into a bat. I put it in the tube, and I fire it together with high explosives, I kill 300,000 people. I just engineered an atomic bomb. It’s the same uranium.

The point is, the same basic conditions arrayed in a different way, what physicists call self-organized criticality, can go critical, blow up, and destroy the world or destroy the financial system.

That dynamic, which is the way the world works, is not understood by central bankers. And it’s not just central bankers themselves. I’ve talked to monetary economists. I’ve talked to staff people. They look at me. They can’t even process what I’m saying. They’re, like, “What are you talking about?” But the evidence is very, very good, in terms of the way I do the analysis.

Let me put it this way: They get this rebalancing that we just talked about, the need for China to get gold. They understand that. And that’s kind of old-school central banking, and China’s unhappy about their paper exposure. They want some gold to hedge it. That’s fairly straightforward. They get that, and they’re accommodating that.

But what they don’t get is complexity theory. What they do not get are the critical state dynamics going on behind the scenes because they’re using these equilibrium models.

An equilibrium model basically says, you know, the world runs like a clock, and every now and then, there’s some perturbation, and it gets knocked out of equilibrium, and all you do is you apply policy and push it back into equilibrium. So it’s like winding up the clock again, and it’s all good. That’s kind of a shorthand way of describing what an equilibrium model is. But that is not the way the world works. In complexity theory and complex dynamics, you can go into the critical state.

So do they understand the gold rebalancing and the need to appease China? Yes, they do. But do they understand complexity theory and the danger they’re creating? No, they don’t.


Jim Rickards

for The Daily Reckoning

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