More dark and dastardly goings-on by the world’s central bankers.

And I’m not just referring to the corrupt money-printing taking place at the Reserve Bank of Australia’s (RBA) money printing agency Securency.

You may have read the odd story or two about what Securency has been up to. Accusations have been made that it has bribed foreign officials in order to win contracts for its polymer bank note business – such as the plastic Australian notes you use each day.

Even RBA officials have been drawn into the fire with accusations that current RBA chief, Glenn Stevens, “helped lobby Indonesia’s central bank for a bank note printing contract”.

Mr. Stevens was deputy governor of the RBA at the time.

In today’s The Age, the paper runs with the headline, “RBA counterfeiting claim”.

The paper says:

“The Reserve Bank of Australia’s currency firm, Securency, produced millions of partly made foreign banknotes without authorisation from overseas central banks, in a practice described by former staff as effective counterfeiting.”

We’ll make a point here. It’s not “effective counterfeiting”, it is counterfeiting.

Isn’t it a shame that the mainstream press still can’t make the connection between unauthorised printing of paper money and authorised printing of paper money.

Because if they put their ant-sized brains to the task they’d soon figure out that not only is unauthorised printing of paper money a counterfeit job, but even the authorised printing of money is fraudulent.

Furthermore, they’d figure out that a central bank doesn’t even need to print actual bank notes in order to counterfeit money. It can just add it to the bottom line with a click of a mouse.

And even better for the central bankers is that they can get the retail banks to do the dirty work for them, thanks to fractional reserve banking. That’s where banks entice people to deposit money and then then it lends out to other customers using the savers’ money as collateral.

It’s counterfeiting because even though the savers’ cash has supposedly been loaned out for to a borrower, the saver still has the ability to withdraw their deposit without any need for the borrower to repay the loan.

How’s that possible unless new money is created from thin air?

But given how Securency seems to operate its business, we’re surprised The Age didn’t print what it really thinks rather than skirting around the edges. To us it seems clear. Why else would a money printer print counterfeit foreign currency unless it planned to use that currency in it’s [ahem] business dealings…

In other words, backhanded payments, bribes or the new term that everyone likes to use, graft. It all means the same thing, political corruption.

I mean, after all, why bribe someone by exchanging Aussie dollars for the foreign currency when you can just print as much of the foreign currency as you like? It’s pretty easy when you control the printing presses…

But of course, counterfeiting currencies isn’t unique to Australia. The US Federal Reserve is all over it at the moment.

Today’s Australian Financial Review reports that:

“One of the US Federal Reserve’s most influential officials has publicly thrown his weight behind another round of asset purchases, warning the current economic situation facing the US is ‘wholly unacceptable.’”

What is it that New York Fed president William Dudley – the successor to Treasury Secretary Timothy Geithner – finds so “wholly unacceptable”?

He explains:

“I conclude further [monetary] action is likely to be warranted unless the economic outlook evolves in a way that makes me more confident that we will see better outcomes for both employment and inflation before too long.”

It won’t surprise you to learn that the better outcome for inflation is higher inflation.

In the world of central banking, inflation is good. You know that, we’ve told you a hundred times before that’s how the central bankers, retail bankers and the mainstream view inflation.

But Dudley isn’t the only one to complain about low inflation. Boston Fed president Eric Rosengren told The Forecasters Club of New York last week that:

“While it’s clear to everyone why a high unemployment rate is a problem, one of the reasons we worry about a too-low rate of inflation is that the closer to zero the inflation rate gets, the greater the risk it could fall into a harmful deflation.”

We won’t cover old ground by pointing out the fallacy about the fears of deflation. We’ve written about this several times over the past couple of years.

But the fact is, deflation is only bad if you’re hocked up to the eyeballs, or if you’re the one doing the lending.

And seeing as the Fed – and every other central bank – is supposed to be the lender of last resort, the last thing the Fed wants is for it to actually have to be the lender of last resort. Doing so would expose to the world that it doesn’t have the capital to meet that obligation.

Not without printing more money that is.

Hence why the Fed is so keen to induce inflation. That way the retail banks can counterfeit their way out of the debt bubble rather than facing the prospect of overtly going bankrupt.

The reverse side of this of course is that while it saves the bankers, it destroys everyone else – people are encouraged to keep spending 50% and 60% of their salaries to pay off a debt when they would have been better off defaulting.

And at the same time they don’t realise their wealth and wages are being eroded over time as inflation takes its dastardly toll. That means you have to work harder and longer in order to receive the same wage.

Yes friend, we’re sure a valid case can be made that it wasn’t the women’s lib movement that helped draw more women into the workforce, but rather it was the inflationary policies of central bankers that forced women to enter the workforce because families were finding it increasingly hard to live on just one income.

Who’d have thunk it? Men in pinstriped suits doing more for feminism than the Suffragettes! What d’ya think of that, sister?

Anyhoo, it’s worth noting a chart Mr. Rosengren used in his speech. It was this one:

The red line shows where the US Fed Funds rate would be if it wasn’t for what’s known as the zero bound.

The zero bound simply means that a central bank can’t have an official negative interest rate policy. Doing so would mean the bank would charge customers to deposit money.

Think about it this way. It would be the equivalent of Commonwealth Bank charging you, for instance, 5% per year for you to deposit your savings in an account with them.

Now, that’s not to say that it doesn’t cost you money to deposit money with a bank. Once you add on monthly fees we’re sure plenty of people do pay to store their money in a bank – we won’t get on to the subject of whether paying for storage is a good thing or not, that’s for another day.

But can you imagine seeing an ad from the CBA telling you it will only cost you 5% a year to deposit your cash? It would hardly have savers busting the doors down to give them their money.

That’s why the central bankers have to go about it in an underhanded and deceitful way.

What it ultimately means is that a negative interest rate is a tax on savers. It penalises savers for having money.

But it’s not a tax in that you’re only taxed on the income produced from the savings. A negative interest rate involves deducting from the principal. It means a saver depositing $100, but only getting $95 back a year later.

What this chart does is give away the game. It reveals to one and all what the Fed’s real policy position is.

The Fed knows it can’t overtly tax savers by giving them back less than they paid in. So that’s why the Fed – and other central banks – choose to go about it fraudulently, by not telling people what they’re really doing.

Because of this, as Mr. Rosengren notes:

“Constrained by the zero bound, the Federal Reserve utilized less conventional policies…”

He then showed another chart, showing the extent of the unconventional policies:

This chart shows how the Fed had to pump liquidity into the economy by buying up a whole bunch of worthless assets.

You can see how the chart jumps from somewhere around USD$50 billion in early October 2008 to over USD$1 trillion just a month or so later.

The reality is that it didn’t really matter what the Fed was buying. That was just the beard, the cover, the disguise. All the Fed really wanted to do was push more new money into the economy to make sure most banks didn’t fail and so that its inability to fulfil its promise of being the lender of last resort wasn’t exposed.

The upshot is that by pumping the extra liquidity into the market, the Fed has achieved its negative interest rate goal. If negative interest rates involve charging savers on deposited money, then devaluing savers’ money by increasing the money supply does exactly the same thing.

Mr. Rosengren from the Boston Fed confirms this with his chart. He confirms that it’s central bank policy to devalue the currency in order to save the bankers.

And they’re doing it in cruel, dishonest and underhanded way.

Which, when you look at how the RBA and Securency have behaved, appears to be pretty much par for the course when it comes to the world’s central bankers.

Cheers.
Kris Sayce
For Money Morning Australia

And seeing as September stubbornly insists on having only thirty days, it’s important we get this month’s issue out to subscribers today.

So, if you’re a subscriber to Australian Small-Cap Investigator, look out for the latest issue in your inbox after 4.10pm today.

However, that does leave a hole to fill. Your editor asked around the office today to see if anyone could fill in. Unfortunately, at this time of the week our editorial team are busy working away on the weekly updates to their own advisory services.

We even got in touch with Greg Canavan, the editor of Sound Money Sound Investments to see if he had anything to serve up.

As luck would have it, Greg sends out his weekly update to subscribers on a Wednesday. And so, after a bit of arm twisting Greg agreed to let me send an edited version of his weekly update to you.

Seeing as it has been less than twenty-four hours since Greg’s paid subscribers have seen this it’s a big favour. A once-off big favour…

Anyway, take a read of what Greg has to say, and if you think he makes sense then why not take a four week trial of his service by clicking here.

We’ll be back tomorrow, more than likely looking at the decision of Fitch Ratings Service to stress-test Australia’s banks, and also to look at the latest piece of the property spruikers weaponry to fail – the massive drop in population growth.

Until then, over to Greg…

Central Bankers Are Out of Control
By Greg Canavan, Editor, Sound Money Sound Investments

“The wavelike movement affecting the economic system, the recurrence of periods of boom which are followed by periods of depression, is the unavoidable outcome of the attempts, repeated again and again, to lower the gross market rate of interest by means of credit expansion. There is no means of avoiding the final collapse of a boom brought about by credit expansion. The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion or later as the final and total catastrophe of the currency system involved.”

Make no mistake; central bankers are laying the groundwork for their own demise.

Their hubris knows no bounds.

Federal Reserve Chief Ben Bernanke is preparing the market for quantitative easing part two (QEII). It is widely believed that the Fed’s balance sheet will expand by a further $1 trillion.

This is leading to heavy selling of the US dollar. As a result, currencies all around the world are rising in terms of the dollar, and their governments and central banks don’t like it.

The dollar index (see chart) has previously traded lower than it is now:

Click here to enlarge

But demand from the world’s consumer of last resort, the US, is probably more tepid than it has been at any time when the dollar index was at lower levels. Hence dollar weakness is leading to a loss of competitiveness for many nations who have built their economic model on exporting to the US.

As a result, we are now seeing nations from Asia to South America deliberately try to weaken their currencies against the US dollar in a vain attempt to maintain the post 1971 (end of Bretton Woods currency system) global economic order.

This is the beginning of currency wars not seen since the 1930s.

In addition to Ben Bernanke readying the markets for QEII, officials from the former head honcho of the central banking world, the Bank of England (BOE), have been spouting their own hubris.

Deputy Governor Charles Bean recently told savers that it was part of the BOE’s strategy to keep interest rates low and that they could not expect to live off the interest from their savings.

In non-central banking parlance he means to say; the BOE is determined to maintain negative real interest rates to cause mild but persistent inflation. Inflation is an insidious tax on society, affecting in particular the prudent and the savers (who, as you will see below, are the ones who actually provide a nation with its productive capital).

But inflation benefits the banking class because it erodes the value of the bad debts made during the boom. Instead of taking responsibility for the bad lending decisions, by writing off debts and wiping out the management and investors who made the lending possible, inflation allows the system and status quo to be maintained.

Mr Bean’s comments reflect the complete arrogance of the central banking community.

Following hot on his heels was Adam Posen, external member of the BOE’s Monetary Policy Committee. He recently delivered a speech with the title, ‘The case for doing more’. In it, he argued the same tired old mantra of central bankers everywhere:

“The risks that I believe we face now are…ones of sustained low growth turning into a self-fulfilling prophecy, and/or inducing a political reaction that could undermine our long-run stability and prosperity. Inaction by central banks could ratify decisions both by businesses to lastingly shrink the economy’s productive capacity, and by investors to avoid risk and prefer cash.”

So according to Posen, inaction by the central bank could threaten England’s prosperity. We would argue that previous action by the central bank is exactly what has threatened the country’s prosperity. More action can only make things worse in the long run.

How?

Let’s go back to the Mises quote at the beginning of the article. He says that booms and busts are the unavoidable outcome of repeated attempts to lower the market rate of interest by means of credit expansion. It may have been written in 1949 but it still holds true today.

It effectively means that central bank attempts to push the market rate of interest below the ‘natural rate’ cause widespread distortions in production and consumption. This leads to a misallocation of resources and consequently, booms followed by busts.

We’ll show you how this happens.

First, a description of the natural rate of interest. The interest rate is the price of money at any particular time. The natural rate, or equilibrium rate of interest, is the rate that seeks to balance out the needs and desires of savers and consumers.

In a world without central bankers, a falling rate of interest would be the result of an increase in savings. Basic economics tells us that savings = investment. So as these savings make their way into the banking system banks have more money available to lend to investors. The increased quantity of funds available pushes down the price of money. In other words an increase in savings causes the natural rate of interest to decline.

Think carefully about the signals that are being sent here. An increase in savings suggests individuals are deferring consumption into the future. We would therefore expect to see consumption declining as savings rise. The lower rate of interest improves the economics of longer-term projects designed to take advantage of an expected increase in future consumption.

But if individuals decide to consume more of their incomes now and save less, there will be less ‘money’ available for investment and in a free market in money, the natural rate of interest will rise under this scenario. In short, the price of money, set by the market, has a natural tendency to curb excesses because they help coordinate economic production over time. If there are not enough savings, interest rates should rise and vice versa.

Now, let’s introduce the central bank into the equation. When a central bank lowers the rate of interest it does so by injecting money into the banking system. These additional ‘reserves’ are created from nothing. Commercial banks then utilise these reserves as the basis for a new round of fractional reserve based credit creation.

In effect, the artificial boost in reserves provides a signal that savings have increased which leads to an increase in investment…but the signal is false. Investments increase even though the real level of savings is quite low. And as we point out above, if savings are low that means consumption is high. Because the signal is false, in time the investments turn out to be ‘bad’ and the boom turns to bust.

This is exactly what was behind the credit crisis of 2008/09. An excess of false savings in the banking system led to overinvestment. As soon as credit dried up, the mal-investments were exposed and projects all around the world were put on hold (because future consumption levels were in doubt). In a short period in 2008/09 commodity prices fell more than they did in the Great Depression. Even the largest producers in the world suffered share price falls of more than 50%.

You may recall that when the full force of the US housing bust hit financial markets around September 2008, interest rate ’spreads’ over government bond yields, and therefore market rates of interest, began to rise sharply.

Why? To signal the need for an increase in real savings and to lower consumption. The effects of such an adjustment would not have been pretty. Indeed, allowing rates to increase would have caused a deep recession.

Building on the wisdom gained from decades of central banking experience, what happened next? Errr…co-ordinated global interest rate cuts…another huge injection of artificial savings and the promotion of consumption. Exactly the opposite of what would occur if a free market in money existed.

Now the monetary stimulus from 2008/09 is beginning to dissipate. But even more distortions have resulted, the effects of which are morphing into nascent currency wars.

This brings us to the second part of Mises’ quote:

“The alternative is only whether the crisis should come sooner as the result of a voluntary abandonment of further credit expansion or later as the final and total catastrophe of the currency system involved.”

Today’s currency system, with the US dollar as the global reserve currency and all others in some way tied to it, is beginning to break down. With reckless and clueless central bankers still held in high esteem by governments and wider society, at this point there does not appear to be any reason to think that ‘the final and total catastrophe of the currency system’ will be avoided.

That is not meant to be a sensationalist comment. For those of you who have been reading for a while know we are not into hyperbole. But this is the reality facing investors who choose to look beneath the headlines and shallow analysis. If you’re genuinely interested in protecting your wealth, this stuff matters.

How a disintegrating monetary and currency system impacts investment markets is a very tough call to make. At the two extremes there is hyperinflation or deflation. Neither scenario is good for investors but at this point we still lean toward a deflationary outcome.

One thing is for sure though – central bankers are out of control. Future generations will look back on this period of economic history and wonder how we could have been so stupid to allow unelected officials to brazenly, inexpertly and contemptuously control the price of money.

Greg Canavan
Editor, Sound Money Sound Investments
For Money Morning Australia

[Ed note: Greg Canavan is editor and publisher of Sound Money, Sound Investments, a weekly financial report devoted to unearthing great value investments amid today's "money illusion" of fiat currency. For a four-week free trial of Greg's service, go to Sound Money, Sound Investments.]

GOOD JOB that gold bullion is just an inert lump of metal and holds no grudges.

Because twice in the last decade, the value of gold in the Swiss National Bank’s vaults has nearly halved as a proportion of its total reserves. Yet still it sits there, helping save the SNB’s blushes when policy fails.

“The Euro-crisis has torn a deep hole in the calculations of the Swiss central bank (SNB),” reports Tages Anzeiger. “It spent CHF 104.9 billion on Euros [US$104bn] in the first-half of 2010, leading to foreign exchange losses of over CHF14bn [$13.3bn].

“Bottom-line losses were reduced to CHF4bn however [$3.8bn] by gains on other foreign currencies like the Japanese Yen, plus the strong rise of the gold price, which revalued the gold reserves of the central bank.”

Long before gold hit last month’s record above CHF 46,600 per kilo, gold’s first plunge as a proportion of Swiss reserves was very deliberate and clearly flagged.

Gold bullion sales totaling 1300 tonnes between 2000 and 2005 coincided with a gentle rise in total reserves, slashing the metal’s weighting from 44% to below one quarter. Not coincidentally coinciding with the launch of the Euro – bureaucracy’s greatest monetary hubris to date – the Bank wanted to reduce its huge gold allocation, and buy apparently more useful, more valuable things instead.

The surge in the gold price starting in the middle of last decade soon put paid to that, however. And so the second plunge in gold’s weighting, in contrast, has come thanks to a trebling of the SNB’s total reserves, driven in no small part by its print-Francs-to-buy-Euros policy, aimed at keeping Swiss exports competitive.

But again, no dice! The Swiss Franc has risen vs. the Euro regardless of the SNB’s huge money creation, gaining 12% against the single currency since quantitative easing began at the start of 2009. And gold still accounts for almost one quarter of Switzerland’s central-bank reserves, now massively swollen to US$162bn.

Not that gold enjoys such jokes or historical irony, you understand. It is simply a lump of rare, indestructible metal, after all.

Adrian Ash
For Money Morning Australia

Adrian Ash is head of research at www.BullionVault.com