Debtor's Prison

Greetings fellow inmates:

In today’s post, we will look at data on gold held by either central banks or treasuries of sovereigns. A few days ago, the World Gold Council released its latest statistics on global holdings of gold as a reserve asset. It will be a succinct post where the data will speak for itself. We find the data extremely interesting from both a historical and contemporary perspective. We hope it will inform your knowledge of the degree to which gold is used as an actual store of sovereign wealth as well as your sense of the historical context of a few key points.

Our first table below indicates the top 20 gold holders up until June 2009, both in total tonnage and as a percentage of total reserve assets. Notice the wide range of gold as a percentage of total reserves. It is as low as 1.8% in China, the world’s 6^th largest holder and as high as 90% for Portugal. The top four sovereign holders – the US, Germany, Italy and France – all have gold as a high percentage of their total reserves. This is due to their use as reserve currencies and lack of a need to hold foreign exchange. We find it interesting, but not surprising, that the IMF is so high up the list.

These next graphs shows the historical distribution for each of the top 20 holders on a yearly basis from 1948 to 2007. In the first graph we include the total world and US figures, even though they skew the graph in such a way to obscure the other countries. Below, we look at this detail.

The World as a whole built up its reserves during the 1950s and 60s, reaching a max of 37500 tonnes. It then stayed very static above 35000 until the early 1990s. It has since continued to decline, to 30,000. Some of it has been due to the agreements between central banks, more on this below, to sell a determined amount of gold. In general though we can say that demand for gold as a reserve asset has declined over the past two decades, for what could be a variety of reasons. Perhaps, a strengthening of the entrenchment of the fiat system has led to a systemic reduction in the appeal/necessity of gold as a reserve asset. Or perhaps higher private demand for gold as an investment asset has also caused pressure. The underlying reason is most likely a mix of these and other variables.

The United States’ reserves have declined constantly ever since 1948 from about 22,000 tonnes until 1971 when Nixon closed the gold window, at which time they stood at 8000, where they have stayed ever since. Remember that Nixon’s action effectively terminated the Bretton Wood’s Agreement, putting the final nail in the coffin of the gold standard – at least in theory. This also allowed the gold reserves in other countries to go up, as several countries hoarded gold during the Vietnam War. Below is the chart of the countries 3-20, in order to be better able to observe some of their own detail.

The IMF built up a lot of reserves during the Vietnam War, as did many other countries, going from 2000 tonnes in 1968 to 4800 tonnes in 1972-1976. It then sold a large number of reserves after 1978 to 3100 tonnes, at which level it has stayed ever since. A number of countries in the survey increased gold reserves during the Vietnam War including Germany, Italy, Netherlands, Japan, Portugal and Lebanon. There is ample historical evidence that during times of war, demand for gold goes up. In WWI, gold was hoarded and exporting banned by several countries, including the United States. If history is any guide, and it might not be given the current long-term trend of lower official demand, then in the case of another massive armed conflict – say with Iran – could once again drive demand for gold up, at least in the official sector. Most likely, this would happen in the private market as well.

Notice that there is also another distinguishing feature that shows up in the data. The creation of the European Union led to the accumulation of reserves in France, Italy, Germany, and of course, the ECB itself. Germany had to build up its reserves from 0 after the WWII, and it did so spectacularly, reaching the second place with a current total of 3412 tonnes, right behind the United States.

A distinguishing feature of late has been the sales of central banks under Central Bank Gold Agreements CBGA(1) and CBGA(2). Under these agreements certain countries agreed to sell some of their reserves, an average of 400 tonnes per year over 5 years. Below is the chart of the countries that sold gold under the CBGA(1). Notice that Switzerland was the biggest seller, which is reflected in the above graph.

Under CBGA(2), more countries have participated. This time, France has been the leader with most sales, again, as reflected in the graph. Before September 2009, these countries are expected to sell another 364 tonnes.

The trend for the release of gold from central bank coffers seems set to continue. Some structural features of the market, such as the CBGAs, seem to portend a further reduction in gold reserve assets. Moreover, the increasing private demand for gold as an investment asset, as we saw in An Update on Gold, could also fundamentally be affecting the tendency for central bank hoarding. At the same time, the weakening of fiat currencies in the mid-term future might drive up official demand for gold once again, as could any potential armed conflict. It is quite uncertain what role, if any, gold will play in the institution of a single world currency. At this point, we believe it to be pure speculation to try to guess which direction total world gold reserves will take, so we will abstain from it.

May your capital be safe and your investments prosperous,

MAAA