Why Precious Metals Could Surge During A Deflationary Bank Run

Things appear to be escalating in the Eurozone crisis, which has now turned into a full fledged bank crisis. While we have walked through the steps of the policy responses from political and monetary leaders numerous times, let's take a moment to walk through the process from the eyes of a citizen on the ground.

Imagine that you are an average citizen living in Greece. You have a family with two children and by now it is very likely that you have heard the news of a bank run. You are beginning to understand the ramifications of Greece moving back to the drachma currency after it leaves the Eurozone (an immediate and massive devaluation that would destroy 60-70% of your wealth).

How do you act?

Up until this point, Greek citizens have responded by moving their money into Germany. James Turk wrote an interesting article this week discussing how safe this money actually was now that it was in German hands.

Each country within the Eurozone has its own central bank that allows tracking of cross border money movement. A bank in Germany can see exactly where the money has come from when a new account is opened. Should Greece be removed from the euro, both Germany and Greece can agree to convert these newly opened accounts into drachmas as well. These "speculators" will be branded as the people that caused the bank run. This means that while Greek citizens have smartly moved their money early, they may find out in the end that they were not protected after all.

There is a second option - which is to remove your euros from the bank and put them under your mattress. There is obvious danger in this strategy as well in the form of theft. People are beginning to starve in Greece as the austerity sets in and the depression deepens. When people get hungry, they will come for your cash.

Greece's national police spokesman made the following statement this week:

"Many people have withdrawn their money from the banks fearing a financial crash, and they either carry it on them, or find a hideout at home or in storage rooms. We urge people to trust the banking system, leave their money there, or at least in a safe place, not at home."

The statement was made to both keep people safe and "scare" people into leaving their money at the bank, but the people know that leaving it there will mean that 60% or more will be stolen through devaluation. So is there another option?

Yes. They could convert their cash into precious metals. There are two ways to do this. The first would be to find a local coin dealer and trade cash for coins. This strategy creates the same situation they were in above where their precious metals would be available for theft.

Another strategy, the one that I believe is most effective, would be to electronically convert their cash into precious metals through a facility that stores the metal for them - specifically an entity outside their country. For example, a customer could open a Goldmoney account and electronically purchase and store metals in vaults around the world. They could call Sprott Asset Management and discuss moving money into either the PSLV (silver) or the PHYS (gold) funds. They could do the same through the Central Fund of Canada buying into a fund such as the CEF (both gold and silver).

Does this create the same risk as moving money electronically into Germany? Yes, but not on the same level. This money will be much tougher for the governments to track because there are not two central banks working together. They would have to approach each individual company or government fund separately and ask to see their records. Many, or all, of these entities would most likely tell the central banks to go F themselves.

If my family was living in Greece how would I recommend they protect themselves? Spread it out. I would put 20% into Germany, 10% in cash at home, 10% in precious metals at home, 50% into precious metals located in various funds around the world, and 10% into arming themselves. (I'm only kind of kidding about the last one.)

This is how I see precious metals becoming an attractive investment even if we face a deflationary crash (total money supply and credit contract), which can only occur through a banking crisis. The following chart known as "Exter's Pyramid" shows the various investment options an investor can use to store their wealth ranked by liquidity. This means if there is a panic rush for money, how quickly you can convert it into liquid spending power. You'll notice that the base of the triangle is composed of precious metals.
If the financial system were to collapse on itself, then the paper contract structure would collapse downward on itself as well. There would be a rush to the liquidity found at the bottom of the pyramid. In the final section of my 2012 Outlook (see below for link), I said to focus on safe cash (the yellow in the pyramid above) and precious metals (the green in the pyramid above).

Federal reserve notes (paper money) held at the bank are not the same as federal reserve notes held at your home.  If you have cash sitting in a savings account you are loaning that money to the bank. You now rely on them to pay you back, known as "counter-party risk." It is up to both the FDIC (has no money) and the federal government to back stop that bank. See article below for a much more in depth discussion on this topic.

Now extrapolate this thought process through for the citizens of Portugal, Spain, Ireland, and Italy. Then move forward to Japan and the UK. Then the United States. How many people living in those countries will look at what is taking place in Greece and do some research on their own bank accounts? Those that do will find out that their savings accounts are being lent into an insolvent banking system backed by an insolvent government. What percentage of the hundreds of trillions of dollars in paper currency assets needs to move into precious metals (only a spec of dust in size in the physical market) to make the price move?

Will things get so out of control to the point where a conversation like this has relevance? We'll find out soon. The goal here, as always, is to project forward and look at the world through a possible future. If you can visualize and walk around in that possible reality you can better prepare yourself for it today.

How do I think it will play out? I think Greece will be forced to exit the euro and we will face another Lehman type moment where asset prices plunge. You will then see central banks and governments step in with "shock and awe" liquidity (money printing) to try and save what is left. This is exactly how it played out in 2008.

As I have been recommending for over two years now, I would have safe liquid cash available during a coming buying opportunity, and I would have insurance in place through precious metals. When everyone is panicking, you want to have the courage (and available capital) to step in and buy. In the meantime, all you need is patience.

For more on the safety of bank accounts see: What Backstops American Savings Accounts?

For more on where I believe is the best option to hold safe cash see: 2012 Outlook: How To Invest


  1. In deflation, money becomes worth more, not less.

  2. accessible cash becomes worth more not necessarily "money" as broadly defined, accessible being the operative word.


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