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For years I
have cautioned that changes in the ownership of gold held in the vaults of
key central banks around the globe may not have been accurately reported. A
report issued last month in Germany has once again brought these issues to
the fore. In today's environment of rampant money creation and questioning of
central bank activities, such uncertainty is bound to spark the curiosity of
an increasing number of investors.
Since the
depths of the 2008 financial crisis, central banks around the world have increased
their gold holdings. As of January of this year, the International Monetary
Fund estimated that official reserves had hit a six year high. Most of this
growth has come from emerging and developing nations who are estimated to
have swollen their gold reserves 25% by weight since 2008. Just a few years
ago, India purchased 200 tonnes on offer by the
IMF.
This increase
may surprise those who have been led to believe that central banks do not
traditionally accumulate gold during recessions. The fact that they are doing
so could carry an important message for private investors.
The United
States, which has gold holdings of some 8,133.5 tonnes
as of 2010 (currently valued at some $420 billion), is still by far the
largest holder of gold. Perhaps with deep memories of the social scars of its
Weimar Republic, Germany is the world's second largest, with some 3,396 tonnes. Oddly, Germany keeps its horde largely abroad
with an estimated 66 percent at the New York Federal Reserve and 21 percent
at the Bank of England. The gold was moved out of Germany during the Cold War
in the 1950s due to concerns of a potential Russian invasion of West Germany.
In late
October, Ambrose Evans-Pritchard reported in the UK's Daily Telegraph
that the German Court of Auditors told legislators in a redacted report that
the German gold held abroad had 'never been verified physically' and ordered
the Bundesbank to secure access to the storage
sites. The report included the surprise revelation that Germany had slashed
the amount of gold held at the Bank of England by two thirds back in 2000 and
2001. At that time, active gold selling by the UK government had apparently
made the Germans nervous. Further, Evans-Pritchard reported that the Court
called for the repatriation of 150 tonnes of German
gold over the next three years to test its weight and quality. The report
added fuel to the political movement within Germany to bring back all of its
gold reserves. From my perspective, the report also sheds light on three
fascinating issues.
First,
Germany has increased its gold holdings significantly between 2000 and 2009,
more than doubling the percentage of its foreign exchange reserves held in
gold. According to 2010 figures of the World Gold Council, Germany's gold
reserve now constitutes nearly 74 percent of its foreign exchange reserves.
This increase came despite rising storage costs and the massively reduced
threat of Russian invasion. What caused Germany to accumulate so much gold?
This question should not be lost on investors.
Second, the
report details a level of central bank cooperation and trust that staggers
the imagination. Allied governments appear to have "trusted" one
another with the stewardship of hundreds of billions of dollars
worth of unallocated, and in some cases uninventoried,
gold bars. This policy borders on financial negligence.
Third, some
central banks, such as the Fed, publish the total amount of gold held in
their inventories. However, they provide no details as to its ownership. It
is well known that some countries keep considerable portions of their bullion
reserves with the U.S. Fed and with the Bank of England. But the details are
lacking.
From 1999 to
2009 central banks drafted and executed three Central Bank Gold Agreements
that have the stated intention of coordinating the sale of gold on a global
basis. Many private investors see these agreements as simply an attempt to
"demonetize" gold by creating strategic price volatility, and
thereby investment uncertainty. The massive trading required to achieve these desired price movements must have
resulted in relative changes to central bank holdings. But as banks do not
reveal the owners of their gold deposits, the data is unavailable to prove
this.
In the coming
years, we expect general interest in gold as a store of value to increase
while confidence in fiat currencies declines. If this trend is energized by
increasing uneasiness over the safety, security, and ownership of the gold
held by the world's central banks, much greater volatility could result. If
the general breakdown of trust in fiat money is increased suddenly by a
sovereign debt crisis like we have seen in Southern Europe, the next action
could be a move by central banks to lay more formal claims to their deposits
held abroad. Such an eventuality could finally drag the shadowy central bank
gold market into the light of day.
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