Last week, we shined a spotlight on a crack in the monetary system that few people outside of Switzerland (and not many inside either) were aware of. There is permanent gold backwardation measured in Swiss francs. Everyone knows that the Swiss franc has a negative interest rate, but so far as we know, Keith is the only one who predicted this would lead to its collapse (and he was quite early, having written that in January 2015).

Of course, in hindsight, it makes sense that durable negative interest rates would lead to permanent backwardation. What use to decarry gold—i.e. sell the metal, buy a future, and use the cash for some productive purpose—if there is no productive purpose? If no one bids a positive interest rate for said cash, then traders will not part with their gold to get the use of it.

There is an analogy to gold. In today’s world (other than us), the bid on the gold interest rate is negative. Gold typically serves no better purpose than to be stored. Which has a cost.

As an aside, this is how they manipulate the value of gold! How many people are like Warren Buffet, seeing no utility in gold because it pays no yield (and hence who own none)? If the government did not force people to stop using gold productively in 1933, then gold would still have the same utility today as it had then (and everyone would own some).

Gold can be traded for goods and services. But it serves no productive purpose while you hold it. So the marginal bid for its use is negative.

The franc is different than gold in one key respect. Unlike gold today, a great deal of lending and borrowing is done in francs. Yet said franc borrowers make a negative bid for francs. Why?

They’re drowning in francs. They were flooded with them, back in 2014 and January 2015 when the Swiss National Bank was borrowing like mad to buy euro-denominated assets, to keep the euro above CHF1.2.

Most people think a central bank prints money. It’s not money, but credit. And it’s not printed, but borrowed. The printing money theory cannot explain why the SNB abruptly allowed its currency peg to fail catastrophically. A short few weeks prior to that event, SNB President Thomas Jordan promised that the SNB “will continue to enforce it with the utmost determination…”

It seems simple enough. Unlike a banana republic, which tries to prop up its currency by selling dollars, the SNB was trying to keep the franc down. It would seem easy for it to print an unlimited quantity of francs to achieve that objective. Yet it failed, spectacularly. At the time, Keith argued the SNB hit its stop-loss.

The printing money theory is wrong.

The SNB borrows. It issues its credit paper, the franc, to fund its purchase of an asset, the euro. But the market wanted to sell off the euro and buy the franc. So the SNB borrowed more and more to fight the market.

The SNB is not bigger than the market. No one is bigger than the market. We are reminded of the sea change in rock music around 1982. The bands that had become successful, and filled arenas with music based on hard rocking electric guitar riffs changed to a synthesizer-based, softer, more processed sound. Look at Rush, Jethro Tull, Van Halen, and many others. The market did not want any more Tom Sawyers, Aqualungs, or Ain’t Talkin’ ’bout Love. Instead, the radio stations gave their air time to Distant Early Warning, Lap of Luxury, and Jump.

Anyways, back to the franc. So what’s the technical term for borrowing more and more to buy more and more assets?