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Gold Buying Hits New Quarterly Record – What Do Central Banks Know?

Central banks around the world are in full de-dollarization mode, diversifying their national reserves with a new record quantity of gold. Let’s take a look at the reasons central banks are buying gold at this mind-boggling pace…

Whats Driving Central Bank Gold Buying to a New Record?
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From Peter Reagan at Birch Gold Group

This week, Your News to Know rounds up the latest top stories involving gold and the overall economy. Stories include: A primer on central bank gold buying, what an expansion of the U.S. money supply will mean for gold, and India's renewed efforts to get its hands on citizens' gold.

Here’s why central bank gold buying just hit a new record

There's no denying there have been pieces as of late downplaying central bank gold buying and holding. Just last week, we quoted an analyst purporting how central banks buy gold for war only, even if they don't know it. The latest World Gold Council (WGC) data, along with an analysis on the LBMA website, will hopefully remind everyone that central bank gold buying is a huge part of the overall gold market.

Although the WGC notes that the 2023 first-quarter report of 387 tons of gold purchased represents a record, they also point out that quarterly demand has actually lessened year-on-year. However, the second-quarter decline, as has been the case with any respite in official sector buying in recent times, only comes as a result of gold fulfilling its purpose.

In this case, the central bank of Turkey sold gold to offset extreme economic instability. Turkey tended to be second only to Russia's gold purchases over the past decade. (Recently, the Russian central bank also sold gold to cover its budget deficit.) Regardless of why these nations reduced their gold reserves, it does serve to remind us of one important fact: gold is a reserve asset, not just for buying but also for selling when necessary. As a major gold mining nation, Russia’s economy is already somewhat dependent on gold (several of the larger miners are state-owned enterprises)

As the nation of Turkey parts with its gold to try and maintain some semblance of functionality, the citizens of Turkey have been buying it by the ton. For the LBMA, James Steel explains that countries hold an average of 10% of their reserves in gold. Though the statistic is reached due to some wild variations on either side, it's the kind of allocation that any safety-in-mind portfolio manager might prioritize.

Steel gives us a lot of reasons why central banks buy gold, including:

  • Portfolio diversification
  • Risk reduction
  • International payments (as well as settlements and collateral)
  • Crisis funding, as we just outlined in Turkey’s case
  • And quite a few more

So gold neither appears to be a wartime asset nor one whose purpose is being overplayed in regards to its place within a central bank's balance sheet. We now find ourselves in an era where we contemplate whether central banks have turned into permanent net buyers.

As Steel notes, these banks turned into sellers once the boogeyman of Soviet Russia, and by proxy the Cold War, was removed. Since 2009, the boogeyman appears to be the global economy itself, and it's hard to envision how exactly we'd go about clearing our beds' underside of it.

Wells Fargo: Quantitative easing will send gold soaring

John LaForge, head of real asset strategy for Wells Fargo Investment Institute, recently went into why gold and silver have underperformed over the past three years. It's something to be able to call $1,950 gold, riding off of consecutive all-time-highs, underperforming. But perhaps because of the uncertainty and "trouble brewing" that everyone seems to feel, we in turn feel that gold should be higher.

Even though gold has to be technically conceded to be in a bull market right now, LaForge said another one will start when the Federal Reserve stops hiking interest rates. Most analysts agree that the U.S. dollar will suffer in perhaps unprecedented fashion if more money is printed into the economy, and LaForge believes the allure is already shaping up as too hard to resist.

LaForge explained how there wouldn't need to be another historic stimulus to launch gold into the stratosphere, as the markets are highly sensitive to any tell of loosening these days. Though LaForge is interested in how politicians will convince the populace everything is okay heading to the November 2024 elections, it seems a long ways off for something that is already here.

The U.S. annual deficit now approaches $2 trillion, and it really wasn't that long ago that we wondered how a $1 trillion figure could ever be reached. Neither this nor the $32 trillion debt have any kind of solution, and they're issues that are independent of a general recessionary environment that will almost assuredly cause the Fed to bail things out. In other words, with negatives such as these, the economy should be as prosperous as ever as opposed to needing even more manufactured money.

"I don't think it will take much to wake people up to how fragile the economy actually is. There are a lot of potential little triggers that could create a big move in the market," noted LaForge.

While LaForge reinforces our point that we're only disappointed that gold isn't going higher, he says that the metal has been trading sideways. Were it not just mere months ago that gold stuck firmly to its $1,650 valuation? Point being, perhaps the yellow metal could get a little more credit for its actual performance as opposed to being urged to chase exorbitant highs.

India's failed “Gold Monetisation Scheme” returns

Roosevelt used the stick, and the Indian government is using the carrot. The results appear to be the same. If you aren't familiar with India's Gold Monetisation Scheme (GMS), here's a brief rundown.

Indian households are sitting on an almost absurd stockpile of 25,000 tons of gold. The Indian government would like to stop importing new gold for obvious reasons and, instead, introduce a bit of local reliance, not unlike Russia or China.

To this end, the government announced the GMS a few years back with a simple premise: turn that household gold over to the government in exchange for a sort of bank CD that pays an annual yield (2.5% for a 5-7 year deposit – and simply eyeballing the India inflation rate chart tells us that’s less than half the average inflation rate since the turn of the century). This allows the nation to add privately-owned gold to its reserves without forcing the central bank of India to compete in a bidding war with the rest of the world’s central banks on the open market.

Listen: the GMS is called a “scheme” in the British sense – a plan or program. Personally, I think “scheme” in the American English sense, a plot or contrivance, is more accurate.

Indian gold holders would have to part with their gold, which usually takes the form of jewelry. Though they're supposed to be doing so only temporarily, the depositors won't actually get what they loaned back. They'll get an "equal value in gold" return in the form of gold coins or bars.

This already sounds like a poorly thought-out scam, doesn't it? Gold jewelry is virtually always sold at a hefty premium – not for no reason. Consider the effort of fabricating, say, a 24k gold chain compared to the effort invested in a typical gold bar. Jewelry buyers are not paying anywhere close to spot price for the weight of gold they bought. They’re getting a simple weight of gold, in other words spot price, in return. The interest would need to be far higher for this to make financial sense.

Now, the government is trying again with the Revamped Gold Monetisation Scheme. I don’t expect it to do much better than the original. It's assumed that lots of Indian gold owners are partly or mostly outside the financial system. That’s one reason gold jewelry is the farmer's investment of choice. There’s a big reason gold jewelry is a traditional wedding gift for newlyweds! Gold jewelry is as much for financial security as it is for decoration.

This time, the marketing around the scheme promotes "financial inclusivity." Question: if you’re deliberately outside the financial system, what are the odds you’d open a bank account and hand over your heirloom gold jewelry for 2.5% a year and the absolute guarantee you’d never see the jewelry again?

Listen: the main reason “financial inclusivity” isn’t more successful in India (according to an informal poll among my acquaintances) is simple: People don’t trust the institutions. One of the major benefits of gold as an investment is that it requires no trust. There’s no promise to pay, no IOU – essentially, no counterparty risk. That’s a huge point in favor of gold everywhere, but especially in India (which infamously canceled 86% of its cash supply back in 2016).

As President Hoover famously told Franklin D. Roosevelt:

We have gold because we cannot trust governments.

Note that’s “governments,” plural. It’s just as true today as it was then – and just as true in India as it is everywhere else.

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