What Should the Gold Price Be?!
(So many ways to calculate!)

Silver Stock Report
by Jason Hommel,

November 16th, 2011

You will often read how various experts in the financial press will say that the gold price "should be" about $2000/oz., to $3000/oz., or slightly higher.  But what they almost never say is how they arrived at their figures, and what assumptions they are making.

The reality is that the gold price, today, given today's conditions, should be about what it is right now.

But conditions are likely to change, and change dramatically, and can change very quickly.  The conditions that are mostly like to change the most quickly are people's perceptions and understanding of the reality of the dangers of theft due to inflation.

The US Federal Government is spending about $1.6 trillion more than they take in from taxes, which is $1600 billion, which is $1,600,000 million, which is $1,600,000,000,000 dollars. The news on TV this morning said that the US national debt increased by $400 billion in the last 3 months, which confirms the numbers. They are not able to fix this problem anytime soon. This problem could not be fixed even if they taxed incomes at rates of 100% per year. And they are mostly just printing this money, which creates inflation, which means that prices will go up, for everything, including, and especially, for silver and gold.

Today, very few people in the USA understand that they need silver and gold, and that is likely to change, and historically, those kinds of attitude changes happen very quickly, which result in dramatic and very sudden increases in the prices of silver and gold.
day, in the USA, only about $3.5 billion is being spent annually on silver, (estimated at 100 million oz. x about $35/oz.) and only about $3.4 billion is being spent annually on physical gold (estimated at 2 million oz. at about $1700/oz.), for a total of only about $7 billion spent on precious metals to protect itself from inflation.

But the USA has about $18 trillion of cash, savings, and short term bonds in the banking system, which can also be expressed as $18,000 billion, $18,000,000 million, or $18,000,000,000,000 dollars. So, mathematically the reality is that new money creation is about $1600 billion, out of $18,000 billion, which is an annual increase of nearly 9%, and yet only $7 billion out of $1600 billion of new money creation is being spent on precious metals, which is only 0.4%, or expressed another way, is only $1 out of every $229 dollars of newly created money being spent on silver and gold, and only $1 out of $2,571 of money in the banks is being spent on silver and gold, which is only 4% of 1%.

So, currently, this is next to nothing compared to the avalanche of money that is going to be spent on silver and gold.

So, we could ask ourselves the following questions

1.  What is likely to happen to the gold price in the event that 1% of money in the USA were to be spent on gold and silver in a year.

2.  What if 10% of the money in the USA were spent on gold and silver in a year?

3.  "What if 10% of the money in the world were spent on gold and silver in a year?"

4. "What if 100% of all paper money had were to be spent on gold and silver in a year?" 

5.  "What if 100% of US paper money had to be backed by all the official US gold?"

6.  "What if 100% of US paper money had to be backed by all the US gold that the US government is likely to have left?"

See, the gold price will be dramatically different, given the different assumptions, as follows:

First question. What if 1% of money in the USA were to be spent on gold and silver in a year Money in US banks is about $18 trillion1% is $180 billion.  This is 26 times what the USA currently spends on silver and gold, which is only $7 billion.  The entire world annual gold market production is about 75 million oz.. The USA buys only about 2 million oz. of that. The USA spends about half on silver, and half on goldWhat if that continues?  Well, if the US spent $90 billion on gold, at $1700/oz., that would be 53 million ounces. Clearly that kind of new demand would push up the price, probably to triple the current price, taking the gold price to $5100/oz.  For silver, $90 billion at $35/oz. would buy 2.6 billion ounces. But here we have a major problemWorld silver production is only 0.7 billion ounces, or 700 million ounces. Furthermore, there is no large above ground stockpile of silver, as most has been consumed by industry, and furthermore, most of the silver market is already being consumed by industry, leaving very little left over for investors to bid over, which is only about 150 million oz. left over for investors.  But let's assume that industry gets squeezed out, leaving 300 million oz. available for investors who wish to spend $90 billion on silver.  This gives us an easy calculation for the price, which is $90 billion divided by 300 million, or .3 billion.  So, 90 / .3 = $300/oz. for silver.

But those numbers are extremely unrealistic.  Only 1% spending money on silver and goldReallyNot likely, it's likely to be far moreConditions of inflation are only likely to change when interest rates are as high as the annual increase in the silver and gold prices, which are above 20% per year.  After all, why earn 1% in bonds if you can earn 20% in gold

Second question.  What if 10% of money in the USA were to be spent on gold and silver in a year This would be $1800 billionHalf into gold would be $900 billion. With world annual production at 75 million oz.  If the USA bought half of world production, that would be only 37.5 million oz.  $900,000 million / 37.5 million oz. is $24,000/oz. for gold.  If $900 billion were to be spent on half of world annual silver production, that would be only 350 million oz., which would lead to a price of $2,571/oz. for silver.

Third question. What if 10% of money in the world were to be spent on gold and silver in a yearWorld money is about $60 trillion10% would be $6 trillion. If half were to be spent on total world gold production, that would be $3 trillion spent on 75 million oz., which leads to a price of $40,000/oz. for gold. If $3 trillion were spent on 700 million oz. of world annual silver production, that leads to a price of $4,286/oz. for silver.

Now, the interesting thing about rising prices, is that they tend to attract more money, because everyone wants in on it.  People today who think silver is expensive at $35, will be scrambling to buy silver as it just keeps relentlessly climbing
For two reasons. First, they will recognize that dollars are just used paper, like newsprint, and they will be fearful to hold them as their values just keep going down, and fast. Second, they will want to become wealthy, and they will see that they only way to do that is through owning real wealth of silver and gold. So, this leads us to the inevitable question, the 4th question, what happens when the entire US money supply is spent on silver and gold, over a nice, slow pace, of over an entire year. Now, think about that again. This is still well before hyperinflation really kicks in, well before people are spending their entire paychecks on silver and gold the instant that they get paid, and well before the government starts printing new money with several more zeroes at the end of it.

So, 4th question, what if 100% of US money is spent on silver and gold in a year?  $18 trillion, or $18,000 billionHalf for gold is $9,000 billion, spent on, say 2/3rds of world gold production of 75 million oz., would be 50 million oz$9,000,000 million spent on 50 million ozleads to a price of $180,000/oz. for gold.  And if $9,000 billion is spent on 2/3 of world annual silver production of 700 million oz., which is 467 million oz., that would be $19,272/oz. for silver.

But let's assume that the US government tried to prevent that from happening.  Let's assume that the government would be smart enough to back all US currency with the official US gold, at a rate that would give the dollar a 100% gold backing.  (I know, kind of a crazy assumption to assume that the government would be smart, but let's assume anyway.)  The point of considering these numbers is that, in theory, the US government could stop runaway inflation with a 100% gold backing and a balanced budget, but given today's political climate, that's currently impossible.  But let's say the Tea Party wins a full sweep of both houses of congress and we get Ron Paul as president, and let's assume that instead of trying to return to the gold standard, he tries to simply prevent runaway inflation with full 100% gold backing all dollars in all US bank accounts. It's a very simple calculation  $18 trillion divided by 261 million oz. of official US gold$68,966/oz. Given the previous calculations, silver could hit a 10 to 1 ratio to gold, which would be about $7,000/oz. This is what the gold and silver prices "should" be, given the givens of honesty, and living up to the basic pledge of FDIC "governmentinsurance on all bank accounts.

Ah, but finallymany people reasonably expect that the US has already sold off a lot of the official gold to protect and defend the dollar at current low gold prices, which is more consistent with government reality and stupidity and rising gold prices. In that event, the dollar is like burnt toast, and there will be no stopping the coming runaway gold price increases.

The reality is that we live in an age of deception, because the dollar is a deception. Over the entire last 12 years of the gold bull market, our prices for gold and silver have never been lower.  Our current low prices are limited to about the next $300,000 worth of customer orders, so get your order in quickly, before prices move back up.
I strongly advise you to take possession of real gold and silver, at anywhere near today's prices, while you still can. The fundamentals indicate rising prices for decades to come, and a major price spike can happen at any time.

Jason Hommel

JH MINT & Coin Shop
13241 Grass Valley Ave
Grass Valley, CA 95945
(530) 273-8175

Markets Insight 

November 15, 2011 4:53 pm

Take flight from Europe’s policy food fight

A 12-year-old coffee mug has a permanent place on the right corner of my office desk. Given to me by an Allianz executive to commemorate Pimco’s marriage in 1999, it reads: “You can always tell a German but you can’t tell him much.”

It was hilarious then, but less so today given the events of the past several months, which have exposed a rather dysfunctional euroland family. Still, my mug might now legitimately be joined by others that jointly bear the burden of dysfunctionality.

Beware of Greeks bearing gifts” could be one; “Luck of the Irishanother; and how about a giant Italian five-letterScusi” to sum up the current predicament?

The fact is that euroland’s fingers are pointing in all directions, each member believing they have done more than their fair share to resolve a crisis that appears intractable and never-ending. The world is telling them to come together; they’re telling each other the same; but as of now, it appears that you can’t tell any of them very much.

The investment message to be taken from this policy food fight is that sovereign credit is a legitimate risk spread from now until the “twelfth of never.”

Standard and Poor’s shocked the world in August downgrade of the US one of the world’s cleanest dirty shirts – to double A plus. But what was once an emerging market phenomenon has long since infected developed economies as post-Lehman deleveraging exposed balance sheet excesses of prior decades.

Portugal, Italy and Greece hit the headlines first, but “new normalgrowth that was structurally as opposed to cyclically dominated exposed gaping holes in previously sacrosanct sovereign credits.

What has become obvious in the last few years is that debt-driven growth is a flawed business model when financial markets no longer have an appetite for it. In addition to initial conditions of debt to gross domestic product and related metrics, the ability of a sovereign to snatch more than its fair share of growth from an anorexic global economy has become the defining condition of creditworthiness – and very few nations are equal to the challenge.

It was in this “growth snatching” that the dysfunctional euroland family was especially vulnerable. Work ethic and hourly working weeks aside, the euroland clan has long been confined to the same monetary house. One rate, one policy fits all, whereas serial debt offenders such as the US, UK and numerous G-10 others have had the ability to print and “grow” their way out of it.

Beggar thy neighbour if necessary was the weapon of choice in the depression, and it has conveniently kept highly indebted sovereigns with independent central banks afloat during the past few years as well. Depressed growth with more inflation, perhaps, but better than the alternative straitjacket in euroland.

As currently structured, euroland’s worst offenders now find themselves at the feet of a Germanic European Central Bank that cannot be told to go all-in and to print as much and as quickly as America and its lookalikes.

The European Union’s imposed fiscal solution is to “clean up your act”, but, in the process, to impose years of deflationary relative wage policies on a rather spoiled southern citizenry. Perhaps they will stand for it, perhaps they won’t. But, as time winds on, a rather permanent credit spread of damaging proportions threatens these economies with higher bond market yields, increasing rather than decreasing debt to GDP levels. Sovereign creditworthiness and potential default become greater downside probabilities, indicating a greater likelihood of significant losses.

Italian bond market yields have declined as fast as they went up in the past few days , proving that technicals and market psychology are an important dynamic to consider as well. But with 10-year rates in the 6-7 per cent range – and topping 7 per cent on TuesdayItaly would require an annual primary surplus of nearly 5 per cent in order to prevent an accelerating increase of its debt-GDP ratio. Temporary technocrats and a new prime minister have their hands full.

Investors, then, must be leery of the self-reinforcing dynamic that has many fathers and spreads much of the blame: ad hoc and insufficient policies from fiscal and monetary authorities; decades of balance sheet and savings abuse from the southern euroland periphery; unresponsive and insufficient support from supranational agencies, including the International Monetary Fund; a me-first attitude from developing nations that control global reserves. All of them join the world’s most dysfunctional familyeuroland – in telling others what to do, but not listening much.

As a result, deleveraging, fiscal tightening and potential defaults are on the economic and investment horizon. Investors should be in a “risk offmode. When this is finally over, a lot of parties will owe the world one giantScusi”.
Bill Gross is founder and co-chief investment officer of Pimco.
Copyright The Financial Times Limited 2011.

11/15/2011 03:14 PM

Saving the Euro

Germany's Central Bank against the World

Jens Weidmann, the new president of Germany's Bundesbank, is strongly opposed to making the European Central Bank the lender of last resort in efforts to prop up the common currency. It's a lonely fight, however, and the pressure from Germany's European partners is intense. Some warn that Weidmann's course could end up destroying the euro. By SPIEGEL Staff.

An unsuspecting observer witnessing last Wednesday's meeting in room E 400 of the Paul Löbe House, a parliamentary building in Berlin, could have been mistaken for thinking it was the defense of a PhD thesis. The candidate, wearing a dark suit, sat down politely at a separate table, his youthful-looking face revealing a mixture of shyness and confidence. He folded his hands and placed them on the table in front of him, waiting patiently until someone addressed him. Sitting across from him, the members of the Finance Committee of the German parliament, the Bundestag, could easily have been a board of university examiners.

But the man being questioned was none other than Jens Weidmann, the 43-year-old president of Germany's central bank, the Bundesbank, and it didn't take long for his audience to realize that he should not be underestimated. Speaking in a quiet but firm voice, Weidmann delivered his assessment of the bailout policy of the euro-zone countries and the European Central Bank (ECB). In the end, it was Weidmann who was handing out the grades -- and they weren't good ones.

Politicians still hadn't done their homework, the Bundesbank president said critically. He assigned the blame for the crisis of confidence in the euro zone to politicians and said that they were jeopardizing the central bank's independent position. And then came the statement without which no German monetary watchdog can complete an appearance. The ECB, Weidmann said, has only one purpose, namely "to keep prices stable."

Growing Pressure

One man is bracing himself against the storm. In the battle to save the euro, Europe's monetary watchdogs are under growing pressure from around the world to buy up unlimited quantities of the sovereign bonds of ailing member states. But the head of the Bundesbank is saying no, and he is making his message loud and clear, not only in Berlin, but also in Brussels, Paris and Washington. If the ECB gave in to the pressure, Weidmann argues, it would not only be violating European treaties and the German constitution. Such a move would also be "synonymous with the issuance of euro bonds."

The crisis surrounding the common currency has reached a new stage. Less than two years after the Greek government first admitted that it was in deep financial trouble, Europe's politicians are running out of options to save the euro. They have already put together half a dozen bailout packages and come up with half a trillion euros. The heads of six governments have been toppled or have resigned.

Many of the principles on which the common currency was once based have been violated, ranging from the ban on assuming the debts of other countries to the requirement to keep the euro zone's central bank out of politics.

Breaking the rules has become standard practice, but to no avail. Greece is closer to leaving the euro zone than ever before, and Italy seems to be drifting inexorably toward a national bankruptcy. No wonder that, last week, German Chancellor Angela Merkel once again found herself having to deny the rumor that Germany and France are already preparing for a split in the euro zone.

These are desperate times, so much so that most EU leaders feel that it is time to clear away the last remaining taboo in the euro zone. Until now, the ECB was only buying limited numbers of Portuguese, Spanish and Italian sovereign bonds to prop up the euro.

But if most European politicians have their way, in the future the ECB will vouch for all of the outstanding debt of the debtor nations, permanently, to an unlimited extent and in violation of all applicable laws. Their recipe is to print money and drown the debt crisis in a sea of liquidity.

Risk of Inflation

Weidmann believes that what many politicians see as the easiest solution would only exacerbate the problems. In his view, it would be "sweet poison" for the debtor nations, inconsistent with all of the Bundesbank's traditions and a means of government financing that has triggered a financial catastrophe in Germany once before, in the form of the hyperinflation of the 1920s.

For weeks, Weidmann's resistance has been the dominant topic at all financial summits. In Germany, the central banker knows that he enjoys the support of the majority of the population and most experts.

But the pressure from abroad is growing. From US President Barack Obama to French President Nicolas Sarkozy to European Commission President José Manuel Barroso, all are urging the Germans to abandon their resistance to the ECB plan. The ECB, the London-based Financial Times wrote last week, must finally use its "silver bullet."

The stakes are high for the young monetary watchdog. Former Bundesbank President Axel Weber and ECB chief economist Jürgen Stark resigned in the midst of the dispute over purchases of government bonds, an issue they felt was increasingly isolating them within the ECB. They also felt abandoned by the government in Berlin. Weidmann, too, cannot feel confident about how long the government will support his position.

The chancellor and Finance Minister Wolfgang Schäuble, constantly under fire from their allies, would be only too happy to send a signal of their willingness to make concessions. As a result, the campaign of Germany's most important monetary watchdog has also turned into a personal struggle to assert his independence. A former adviser to Merkel's administration, Weidmann must now prove himself in the role of opponent to his erstwhile patrons.

Plenty of Space

A few weeks ago, the Bundesbank president was strolling through the headquarters of the International Monetary Fund (IMF) in Washington. The fall meeting of the IMF and the World Bank has just begun, and finance ministers, central bankers and senior government officials were chatting in the hallways. In the past, when he was still working for the administration as a department head in the German Chancellery, Weidmann consistently made a wide berth around the major stages, and was always prepared to react to a wave of the chancellor's hand.

Now, sitting on a large stage next to Finance Minister Schäuble, he took advantage of the opportunity to tease Merkel's most important cabinet member. "Did you deliberately leave so much space between us?" Weidmann asked. The podium was in fact very large, with practically enough space to accommodate a soccer team. "We did it because of your independence," Schäuble replied with a sarcastic smile.

The minister was feeling annoyed. He had just spent hours listening to his French, British and American counterparts pester him to finally agree to the use of the ECB to rescue the euro. But the man next to him was unmoved, as he mechanically recited the traditional mantras of the Bundesbank: "independence," "a culture of stability" and "credibility." The finance minister scrutinized Weidmann with a sullen look on his face.

Applying Lessons Learned in Berlin

Since Weidmann took office six months ago, he has not made the slightest impression that he is dependent on the chancellor and her administration. Only a few weeks after taking the helm at the Bundesbank, he went on the offensive against the euro members' bailout policy and also against the majority in the ECB's Governing Council.

In early August, the Bundesbank president voted against reinstating the ECB's bond purchase program and the plan to buy the sovereign bonds of Italy and Spain, which had come under financial pressure.

But Weidmann was virtually alone in his position, with the overwhelming majority of the ECB council voting in favor of the measure.

It was a bitter defeat, but for Weidmann it was not a reason to abandon his resistance. On the contrary, he applied what he had learned in Berlin politics, and waited for a new opportunity to apply the brakes.

It would happen soon enough. Because the European Financial Stability Facility (EFSF) has only limited funds at its disposal, French President Nicolas Sarkozy sought to use a trick to provide it with access to the ECB's unlimited funds: The Luxembourg-based EFSF was to be converted into a bank.

"Out of the question," Weidmann said testily. The plan would enable the central bank to indirectly provide unlimited sums of money to fund government budgets. The EFSF could deposit the bonds it had purchased as collateral with the ECB and receive fresh money in return, with which it could then buy even more bonds.

Weidmann objected, and this time key colleagues on the ECB Governing Council came to his support. In light of the resistance of German monetary watchdogs, the German government also supported Weidmann. There were certainly other ways to increase the EFSF's financial resources, Finance Minister Schäuble conceded.

Controlling the News Agenda

In his tenure as government adviser, however, Weidmann did not only internalize the art of political timing. He also learned that successes only count when they are appropriately packaged, such as the most recent dispute over the Bundesbank's so-called special drawing rights. These rights consist of billions in receivables that are counted as part of the Bundesbank's reserves and, like gold and foreign currency, can also be monetized.

The idea was that the countries of the monetary union should transfer their special drawing rights to Europe's bailout fund in order to make them available for rescuing the euro. Unanimity on the issue was already largely achieved at the G-20 summit in Cannes. France was in favor, as was the United States, the IMF had no problem with the idea, and even the other national central banks in the euro-zone countries had few objections.

But Weidmann did. First the Bundesbank president submitted his veto to his former boss, who then opposed the initiative. But that still wasn't enough for Weidmann. At the end of the summit, when the plan no longer played a role in Cannes, Weidmann leaked information about the discussions to the press, knowing full well that any attempt to touch the Bundesbank's reserves would cause a major upset.

He wasn't mistaken. A cover story in the heavyweight Frankfurter Allgemeine Sonntagszeitung newspaper was titled "And Now Our Gold." It didn't matter that there had never been any mention of the Bundesbank's bullion. Either way, Weidmann had won the battle, and he had also cleverly made sure that his victory would dominate the news agenda for an entire weekend.

Growing Calls for Intervention
Now the question is how long the cheering will last. Although Weidmann won a battle with his successful handling of the special drawing rights issue, he certainly hasn't won the war. Last week, as it became increasingly clear that the Italian debt crisis was coming to a head, there were growing calls for a massive intervention by the European Central Bank, and they were supported by credible arguments.

In the crisis, the ECB has proven to be the only functioning institution that can make a stand against global speculators and expect to succeed. If it pledged to buy unlimited amounts of sovereign bonds to keep the yields on those bonds low, not even the wealthiest hedge fund would dare to speculate against it.

Keeping the speculators in check is a laudable goal. The only problem, in Weidmann's opinion, is that a victory over speculators would come at too high a price. The central bankers know perfectly well that by purchasing bonds, they are serving policymakers and jeopardizing their real function of keeping prices stable.

When the ECB buys bonds today, it is still taking just as much money out of the market as it is injecting into it. Experts call this "sterilizing." The goal is to ensure that the money supply does not grow excessively, thus reducing the risk of inflation.

However, the process only remains unproblematic as long as the interventions in bond markets are kept within reasonable limits. But now that they are propping up Italy, the central bankers in Frankfurt have had to inject more and more money into the market to achieve any effect at all.

Climbing Yields

Weidmann feels that these interventions are completely unnecessary. Italy, unlike Greece, is not bankrupt, he says. On the contrary, the country is very prosperous and could easily raise money by, for example, increasing taxes.

Last week, it became apparent that the ECB's money hose can achieve little in the long term. The more the political crisis intensified, the more billions the ECB had to spend on Italian sovereign debt, because no one else wanted to invest in the bonds. Banks and other major investors, fearing that they would soon be faced with high losses, as with Greek bonds, threw their Italian bonds on the market.

Traders reported that the ECB bought up bonds worth significantly more than €10 billion ($1.37 billion) last week alone. But yields kept on climbing, despite the interventions, topping 7 percent by the middle of last week. The market for Italian government bonds is simply too big. Only when a political solution to Italy's crisis was in the works did rates fall again.

If the country doesn't get its problems under control, the ECB will have to intervene to the tune of billions. The consequences would be considerable. If monetary watchdogs are unable to reel in liquidity, the money supply will expand and, sooner or later, will lead to rising prices.

One of the biggest fears of critics of the bond-purchase programs is that they will deprive governments of any incentive to sort out their finances on their own. When the ECB decided in August to buy Italian bonds, Berlusconi, trusting in the Frankfurt-based rescuers, cut back his austerity program. As in the case of Greece, valuable time was lost without structural reforms being addressed -- and everything just got worse.

"Here in Europe, we spent a year and a half talking about irrelevant alternatives," says former Bundesbank President Axel Weber, who is currently teaching at the University of Chicago and is in a position to express inconvenient truths. "All previous ideas follow the principle: How can I use other people's money to help myself?"

Deep Holes

Since August, the ECB's bond purchases have doubled to more than €180 billion. This is only a fraction of the amount that the American central bank, the Fed, has spent on treasury bonds since the financial crisis.

But in the United States, the liability rests with the federal government and not with the individual states. In Europe, by contrast, the Germans always bear 27 percent of the risk, corresponding to their share of the ECB's capital. If the securities were downgraded as a result of a national bankruptcy, German taxpayers would have to cover the losses.

Should the ECB start generally propping up government finances, it would create deep holes in Germany's federal budget. And it would also be a clear violation of the law, since the European treaties expressly bar the ECB from financing the euro-zone countries. If Germany truly wished to allow the central bank to finance governments, constitutional law experts argue, the matter would have to be decided by the German Bundestag. In fact, a referendum might even be necessary.

It's no wonder that Weidmann's campaign is highly popular in Germany. Last week, the five members of the influential German Council of Economic Experts, which advises the government, announced their support for the Bundesbank president. Most members of Germany's banking industry also support the Weidmann line. Deutsche Bank CEO Josef Ackermann, for example, favors imposing tight restrictions on the central bank's mandate. "If we start developing the ECB into a bank that performs completely different tasks beyond maintaining price stability," he says, "we will lose people's confidence."

Michael Heise, chief economist at the insurance giant Allianz, advises "strongly against unlimited purchases of government bonds." If a country is unable to sort out its finances," he says, "we should let the markets speak." And Commerzbank chief economist Jörg Krämer warns against turning over control of the money presses to national governments. "If the virus of mistrust spreads to the ECB, it will have serious consequences," says Krämer. As a result of the bond purchases, he explains, wealth is being permanently transferred from northern to southern Europe, "without democratic legitimization and without the debt problems being solved."

The top officials of the German banking lobby also clearly oppose all plans to make the central bank largely a tool of policymakers. "Then it'll only be a short step from the use of currency reserves to firing up the money presses to pay for government debts," warns Andreas Schmitz, president of the Association of German Banks. "However, the ban on government financing by the ECB is a valuable asset that cannot be compromised."

Weidmann agrees. In his campaign, he can count on the support of the German banking industry, as well as on the Bundesbank's tradition. Its presidents have always considered resisting pressure from politicians to be their most important task.

Strong Independent Streak

Since its birth on July 26, 1957, the actions of the Bundesbank have been shaped by two genes. First, it has a strong independent streak, which it is particularly likely to demonstrate in its dealings with politicians. Second, it can be enormously combative when it is called upon to secure the stability of its own currency.

It is as if the institution had implanted these two core characteristics into its respective leaders, from the first Bundesbank president, Wilhelm Vocke, to the current president, Jens Weidmann.

The position and the responsibility have had a greater influence on the respective Bundesbank presidents than they in turn had on how the institution is run. Bundesbank presidents who were members of the center-left Social Democratic Party (SPD), like Karl Klasen and Karl Otto Pöhl, ran the central bank in much the same way as center-right Christian Democratic Union (CDU) member Hans Tietmeyer: They all did their utmost to fight inflation.

As a result, it was not uncommon for Bundesbank presidents to clash with chancellors and cabinet ministers. Their disputes were usually about interest-rate increases, which the central bank used to avert risks of inflation. The governments, on the other hand, preferred low interest rates, because they hoped that this would stimulate the economy, bring down unemployment and improve their election prospects. But the keepers of the currency routinely proved to be stubborn.

Former Chancellor Konrad Adenauer berated then-Bundesbank President Vocke as a "stale refrigerator." Former Finance Minister Hans Matthöfer dismissed his counterpart Otmar Emminger as a "miserable know-it-all." And former Chancellor Helmut Schmidt referred to Helmut Schlesinger, who had long opposed the introduction of the European Monetary Union, as a "German nationalist."

The German government does not appoint the head of the Bundesbank. It can only nominate a candidate, who must be accepted by the Bundesbank board of directors before becoming president.

Keeping the Politicians Away from the Money Presses

The independence of the Bundesbank is a gift from the Western Allies. After World War II, the Americans and the British wanted to prevent political and economic power from falling into the same hands in Germany, as had been the case during the Hitler regime. They established the Bank deutscher Länder (Bank of German States), the precursor to the Bundesbank, as an independent institution. Later, all Bundesbank presidents took advantage of this freedom, albeit to varying degrees.

Hans Tietmeyer, head of the bank from 1993 to 1999, protected its gold reserves from then Finance Minister Theo Waigel, who wanted to use them to pay for some of the costs of German reunification.

Tietmeyer demanded strict adherence to the Maastricht criteria for the monetary union. He was suspicious of Italy's stability policy and, as a result, was berated by Italian newspapers as a descendant of the Huns.

It long seemed as if the Bundesbank tradition would live on in Europe's monetary authority. The ECB kept the money supply smaller than central banks in other parts of the world, and inflation rates in the euro zone were even lower than in Germany in the days of the deutschmark.

But then came the financial crisis, and the longstanding ECB president of the time, Jean-Claude Trichet, yielded to pressure from European leaders to rush to their aid with the central bank's theoretically unlimited resources -- at least a little.

Divided in the ECB Council

The ECB council has been divided since then. The representatives of the southern European countries are largely in favor of the bond purchases, while their German counterparts are strictly opposed.

Sometimes they can count on the support of central bankers from Luxembourg, the Netherlands and Austria. But this isn't sufficient for a majority because, under the ECB statutes, the central banks of euro countries like Malta or Luxembourg, both with only about half a million inhabitants, have the same vote as the Bundesbank.

To strengthen the Bundesbank's influence, the CDU proposes revising the balance of power in the ECB council. It wants larger countries with greater economic strength to receive more votes, as is commonly the case in many international financial institutions.

But the chances that this will enable the Bundesbank to strengthen its influence are slim. The European treaties would have to be amended to bring about the necessary reform. All countries would have to consent to this, a requirement that is regarded in Brussels as completely hopeless.

For this reason, Weidmann is not pinning his hopes of stopping the bond purchases on an ECB reform, but on the power of persuasion. As long as the ECB was only occasionally buying Portuguese or Greek bonds, Europe's central bankers were not particularly concerned. All it took was a few billions to bring yields down to the desired level.

But that has changed since the central bankers began buying up large quantities of Italian bonds. After only a few weeks, the ECB had purchased Italian government bonds worth close to €100 billion, so that even the notoriously nonchalant representatives from the continent's southern countries are now gradually asking themselves how much longer this can continue. Last week, Spanish ECB Executive Board member José Manuel González-Páramo stated: "The ECB is not a lender of last resort. It does not have a magic wand."

The new ECB president, Mario Draghi, is also no fan of an unlimited ECB mandate. In fact, he would prefer to unload the burden of the purchase program as quickly as possible. "It is pointless to think that sovereign bond yields could be stably brought down for protracted periods of time through external interventions," Draghi said in his first public appearance as ECB head.

Addiction to Free Money

But the politicians' addiction to tapping the seemingly free source of money at the central bank remains unbroken. They launched their most recent attempt with the help of the IMF and Italian ECB Executive Board member Lorenzo Bini Smaghi. According to a legal opinion Smaghi had recently ordered, the currency reserves, like gold, foreign currency and special drawing rights, do not belong to individual nations but to the ECB members as a whole.

It isn't difficult to guess what the purpose of obtaining the legal opinion was: Resources that belong to everyone can also be used for the community, such as to bolster the EFSF.

But the Bundesbank has rebuffed the most recent advances. It argues that the central banks' currency reserves are not available to be used as collateral for the financing of government agencies. According to an opinion prepared by the Bundesbank's lawyers, this is incompatible with the legal underpinnings of the EU. The Frankfurt experts also cited three paragraphs in the Treaty on the Functioning of the European Union, which state that loans by the ECB to countries or the direct acquisition of debt securities by the ECB are proscribed. In addition, they argued, the detour through the IMF is questionable, because it conceals the fact that the Europeans are ultimately the ones held liable.

It's clear that Weidmann's campaign isn't over yet. The worse the euro crisis gets, and the more countries require bailouts, the more pressure there is to use the central bank's ultimate weapon. Weidmann knows this, but he is determined to resist the pressure.

Of course, not even Weidmann can rule out the possibility that his strategy will ultimately lead to the breakup of the monetary union. But he believes that the likelihood is low, or at least lower than it would be if the bond purchases continue. And he feels that those purchases are only justified if they are democratically legitimized. Germany's top central banker clearly does not believe that the end justifies the means. He sees himself as the defender of the law, as the preserver of tradition at the Bundesbank, and as a combatant against the omnipotence of the financial markets, which are not just trying to exert control over politics, but over the central banks, as well.

Calls for the Big Bazooka

Only recently, a group of analysts from London were sitting in the black visitors' chairs in his office. They were the same analysts who, a few months earlier, had assured him that Italy was solvent and had no financial problems. Now they were urging him to fight the euro crisis with the central bank's "big bazooka." And he is supposed to take advice from these people, these so-called financial experts, who, in actuality, base their assessments on nothing but the breathlessly fast pace of the markets?

Weidmann has opened his office window, which offers a view of the Frankfurt skyline with its bank skyscrapers. The ECB tower, however, is hidden in the fog. "We at the Bundesbank," he says, closing the window with a smile, "are easier to see."


Translated from the German by Christopher Sultan