In the absence of intervention, economics is just supply and demand. That’s it. Everything else is just the study of interference. The only business that the government has in a free economy is to provide a level playing field, otherwise the well heeled players will attempt to “corner the market” via monopolies. This was most famously (or infamously) done in the 1890’s, when nearly every segment of the economy was under the control of consortiums known as “Trusts”. Mines, railroads, sugar, beef – you name it. All were price fixing monopolies, until Republican president Teddy Roosevelt got a sympathetic Supreme Court. He went on to break up or “bust” a total of 44 different industries.
The Hunt Brothers Corner the Market
A more recent example is the attempt by Nelson and Herbert Hunt to corner the silver market in 1980. In the midst of a deep recession, stocks, the dollar, and real estate were all plummeting. The Hunts, worth nearly 5 billion, decided that silver was a safe haven. They formed an investment group (that included wealthy Saudi OPEC oil ministers) and began buying futures contracts and taking delivery of the metal, which they warehoused in Switzerland. They eventually controlled a full third of the world’s silver, causing a eightfold increase in price. At this point, the government decided to step in. Still smarting from the OPEC oil embargo and a public perception of incompetence and weakness (Jimmy Carter was president), regulators and the Federal Reserve (the Fed is not part of the government, no matter how much they may want you to believe) put the squeeze on the Hunts.
The Squeeze Is On
Would the government have gotten involved in the absence of Saudi investors? Probably. Never mentioned publicly was the fact that in order to buy futures on silver, somebody else has to sell them. Unlike the stock market, where a company only has X number of shares outstanding, the act of selling a futures contract actually creates it out of thin air, much like a bank that loans out more money than it has in its vault. As long as the bank has a certain percentage of the money (reserves) available, it is all perfectly legal. As long as a commodities trader puts up a small percentage of the total value of the contract (margin), he is good to go. Unlike most traders, who settle in cash by closing their positions, the Hunts made it clear that they intended to take delivery on the amount of silver specified in the contract. Industry insiders were frantically trying to cover up the fact that they had fraudulently sold contracts for far more silver than existed; they were massively short and couldn’t deliver. So they turned to the commodity exchanges and their federal regulators, who obligingly suspended trading in silver, and to the Fed, who cut off all credit to the Hunt brothers and their investment group. Blocked from selling their silver futures, and unable to borrow due to the Fed, the Hunts missed a margin call of $100 million. The collapse was spectacular. From a high of $50.00, silver eventually settled at $10.00 per ounce. Markets collapsed worldwide, in what became known as “Silver Thursday”. Forced into bankruptcy, the Hunts’ losses eventually totaled nearly 4 billion dollars!