India's massive purchase of 200 tonnes of gold from the International Monetary Fund, announced this week, served as a loud reminder of a couple of truths about gold. First, for all its other uses, it's essentially a currency. And second, it's a currency that lots of very wealthy central banks are sorely lacking.
With the purchase, India lifted itself to 11th place (from 14th) among countries and other central-banking entities (such as the European Central Bank and the IMF) in terms of total gold holdings. Yet gold GC-FT, which nearly reached $1,100 (U.S.) an ounce on Friday, still only accounts for a thin 6 per cent of its total foreign-currency reserves.
India's gold holdings, as a share of its total reserves, aren't even particularly low compared with other big export-intensive economies that accumulated large foreign reserves in recent years. As the economic upheaval of the past year prompts those countries' central banks to look to diversify their reserves and consider the security of hard assets, there could be some heavy competition for scarce gold supplies.
Beijing bling
At the top of the list is China, which is already the world's sixth-biggest holder of gold reserves. Yet despite the fact that China has been rapidly accumulating gold this decade, its holdings represent less than 2 per cent of its foreign-currency reserves. If China wanted to increase gold as a percentage of reserves merely to India's modest level, it would need to buy more than 2,000 tonnes – nearly as much as the entire world's annual mining production. And if India were to raise the proportion of gold in its reserves to 20 per cent, where it stood in the mid-1990s, it would have to buy an additional 1,200 tonnes – roughly equal to all the gold purchased for investment purposes in 2008.
Russia, Japan and Taiwan, all with gold reserve percentages below that of India, may also be in the market for gold. The big question is, where will they all get it?
A new course?
There's already evidence that gold as a proportion of the world's central-bank reserves, which had generally been in decline over the past decade, has reversed course in the past tumultuous year. If that trend continues, it would be a considerable shift for the gold market – which has gotten used to central banks being suppliers of gold to the market, rather than buyers. Since peaking at about 38,000 tonnes in the mid-1960s, central-bank gold holdings have steadily declined, with that decline accelerating over the past 10 years. Holdings are down 2,600 tonnes – almost 10 per cent – this decade. Quite possibly, the central banks that are in the market for gold will continue to turn to other central banks for supplies, as India did with the IMF. (Indeed, the IMF still plans to sell another 203 tonnes, and has ranked central banks as its first choice of buyers.)
Still, buying by India, China and others will keep gold out of a market that already has more annual demand than new supplies. Central-bank demand could be a key element in keeping gold prices high in the coming decade.
