The numbers are in, and central banks around the world are buying record amounts of gold, and planning to buy more. Physical gold, that is. Today we will have a look at how much they are buying, why they are buying it, and why we as individuals should also consider doing so ourselves. Banks generally know stuff, and try to get out ahead of everyone else. Thankfully, if you have been a subscriber to this blog for awhile, you’re likely ahead of them. Due in part to the fastest interest rate policy reversal in Federal Reserve history, the dollar is temporarily strong in international markets. This makes additional gold purchases less expensive for Americans than for many others around the world, and allows us the opportunity to participate with central banks.
A Historical Prospective
In order to understand why central banks around the world are purchasing record amounts of physical gold, perhaps we should start with why the United States owns so much physical gold. Approximately 8,300 tons, or 16,600,000 lbs, or 265,600,000 oz of physical gold sits on the balance sheet of the United States. This is the highest amount of official gold reserves held by any country, and partially explains why we have been the stewards of the primary World Reserve Currency since the end of WWII. The United States was largely paid in gold for tons of manufactured and agricultural goods delivered around the world during and after the war. Gold tonnage peaked at over 20,000 tons around 1954, and began declining steadily until President Nixon closed the gold exchange window at the treasury department in 1971. Until then, the dollar was considered “as good as gold”, and exchanged at a fixed rate.
Today as back then, nations are continuing to question the wisdom of holding dollar-based assets instead of holding gold. Gold seems to have a magnetic personality, when it comes to trust and stability. That is, those looking for dependable stability and purchasing power seem naturally drawn to gold. Throughout history, mankind has temporarily used thousands of different types of currencies, including sea shells. As the linked article indicates, the financial center of the world (downtown Manhattan) was purchased initially with sea shells. Purple ones, to be exact. Purple shells today probably wouldn’t purchase a cup of coffee in Manhattan, or anywhere else for that matter. But gold will still purchase a country, or a city, or oil and gas, or anything else. Because gold will always convert into whatever temporary currency is being used at the time - anywhere in the world.
The dollar is more ubiquitous in world trade than purple sea shells ever were, but the comparison is useful for illustration. A more modern example of using sea shells for currency could be Chuck E Cheese game tokens, which some were trying to use as currency in Massachusetts. It turns out that not every place of business or government office is willing to trade goods and services for arcade tokens. In the world today, sides are being chosen, and the dollar looks unlikely to be the only arcade token accepted for goods and services (such as energy, for example). Due to international conflicts centered in Eurasia (Russia-Ukraine) and the Far East (China-Taiwan), there are increasing numbers of nations that prefer to use nearly any other arcade token besides the dollar. The currencies most often preferred in those regions are either local currencies, or gold.
When Western nations began to impose sanctions on Russian energy supplies after the invasion of Ukraine, the Russians began offering the energy to whomever was willing to buy it. Of necessity, they began accepting (sometimes preferring) other currencies, and gold, for oil and natural gas purchases. We began writing about this trend a couple years ago, before the Ukraine conflict moved into full blown war. Oil used to be purchased exclusively with dollars, no matter who was buying or selling. The United States then used a sanctioning regime to punish and restrict any nation doing something we didn’t like, as a means to modify international behavior. As a result, sanctioned nations had to learn to survive outside the realm of the World Reserve Currency.
In essence, alternative methods of trade began to develop and expand, getting us to where we are today. Whereas dollar-based assets used to make up over 80% of world reserves, today they comprise less than 60%. Sanctioned nations such as Russia are leading the change to a gold vs dollar-based reserve and trading mechanism. Gold is the universal arcade token that is accepted at most any arcade (country) worldwide, and useful to play any game (purchase any goods) worldwide. Even when the dollar was the only recognized trading currency, sanctioned nations began to accept gold under the table in exchange for goods and services necessary for their societies to function. Central banks purchased 400 tons of gold in the 3rd quarter of this year, the most recorded in history. Something is up.
The Gold - Energy Connection
Today developing examples of trading gold for energy among non-sanctioned nations are a direct result of the pioneering work done by sanctioned nations in recent years. The idea has gone from something done in the shadows by those who had to, to a valid choice between the world’s largest energy exporter (Russia) and the world’s largest energy importer (China). With recent efforts by BRICS nations to extend a welcome to half the world’s population, it is fast becoming commonplace to see energy resources traded for non-dollar assets. This, in essence, is driving the willingness and desire for nations to exchange dollars for gold.
As a result of the move towards physical gold, the dollar is moving towards becoming a Western-based regional currency accepted by friends of the United States. But friends sometimes have strained relationships, especially when they live near neighbors that are hostile towards us. When push comes to shove, leaders try to take care of their people the best way they can. If that means buying energy more cheaply from a nearby neighbor with something other than dollars, then so be it. Large nations such as India are increasingly willing to secure resources in a way most advantageous to themselves, without feeling the burden to be the policeman of the world. Since most goods purchased in the United States are currently imported, it makes sense for us to protect our purchasing power by owning some gold ourselves.