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Randy Strauss: Cheating commodity holders today cheats everyone tomorrow

Section: Daily Dispatches

By Randy Strauss
Centennial Precious Metals, Denver
Wednesday, September 10, 2008

Market analyst Don Coxe's comment in today's Toronto Globe and Mail made me smile:

"'This has done more damage to my personal wealth than anything in the last 20 years,' he said in an interview yesterday. But he has too much respect for how the U.S. authorities engineered the collapse in commodities -- a move he said was necessary to shore up the global financial system -- to be bitter.

"'My attitude is, 'Goddamn it, they're good -- it was brilliant.'"

First, a sincere tip of the hat to the deep reservoir of wisdom and maturity that is demonstrated in that soundbite.

All evidence I've been getting from the banking sector is that the seize-up of the financial system is on a par with that of the Great Depression, and so we should not dismiss lightly the efforts being made by monetary officials (both great and small) to keep the wheels from falling off. To acknowledge, even in the face of personal losses, that the global financial system needed shoring up is as accurate an admission as it is mature of Coxe to say so.

It nearly conjures up memories of the famous line of Spock in "Star Trek": "The needs of the many outweigh the needs of the few."

Unfortunately, the story can't so easily or happily end with a seemingly isolated sacrifice of commodity holders here and there for the benefit of price-conscious shoppers everywhere -- even if it is faced bravely and maturely by the aforementioned few.

A basic review of economics and market principles reminds us that free price movements are the necessary swing points upon which physical supply and demand can be balanced. And the ugly truth of the matter at hand is that a mere discounting of the price/value of commodity derivatives amounts to little more than a cheap parlor trick -- a trick that, though creating a nice illusion of lower prices, disregards the physical supply/demand pricing balance and thus sets the stage for shortages and other dire dislocations.

And to be sure, it is the reliable flow of actual commodities that makes possible a well-fed, well-clothed, well-housed, well-fueled population. While this seemingly innocent maneuver of derivative-based pricing (especially the pro-cyclical discounting of these derivatives amid this financial crisis) is being used ostensibly to "shore up the global financial system," the necessary value and workings of the real (physical) economy are being sacrificed for the mere shaping of temporary perceptions and mathematical adjustments within a paper (mental) economy.

Simply put, derivatives-based pricing of tangibles is very much akin to a child playing with fire and gunpowder. It doesn't end well. I would rather have high-priced food on my plate and expensive gasoline in my car's fuel tank and a valuable pile of gold coins in my vault, all appropriately priced (physically) at their inflation-ridden prices, than to live in a world where they are all derivatively priced at attractively lower levels and yet are physically unavailable.

Before a derivative selloff can cut too deeply into reality, there will have to come a point of price separation of the physical markets from their paper posers, or else we will be in for a real crisis, not merely a paper/digital one. In other words, knocking us all the way back into the Stone Age of barter would certainly not be appropriate policy response. Then the needs of the many also would be crushed after the needs of the few. In the end, after putting on a brave face to no avail, no amount of wisdom or maturity can tolerate such a disastrous outcome from the small-minded bureaucratic meddling that the structure of the current game implies.


Randy Strauss is Internet site manager for Centennial Precious Metals in Denver.

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