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Gold: The Central Banks Safe Haven in Turbulent Times!

Kam Hesari

Join us for the third episode of the Sprott Money Report featuring Kam Hesari, a seasoned financial sales representative dedicated to securing your and your family's financial well-being. With a wealth of experience and a comprehensive financial background, Kam holds prestigious designations including the Canadian Investment Manager (CIM) and Derivatives Market Specialist (DMS) from the Canadian Securities Institute. Tune in to our YouTube channel to gain valuable insights and expertise from Kam on navigating the financial landscape.

In the world of finance, gold stands out as a unique asset. Its value is influenced by a variety of factors, from investor sentiment and monetary policy to inflation rates and central bank demand. Short-term fluctuations in gold prices can also be driven by economic indicators such as GDP growth, manufacturing data, jobs reports, and wage data, as these metrics often influence the Federal Reserve's monetary policy decisions.


Why Invest in Gold?

Gold often thrives during periods of uncertainty. When investors are faced with systemic risks, political instability, or stock market volatility, they frequently turn to gold. This trend can drive up the price of the precious metal, earning it the moniker of the 'crisis commodity'. History has shown us that gold's price tends to rise when confidence in governments wanes, as evidenced during various international conflicts. The appeal of gold as a financial asset is deeply rooted in its ability to serve as a hedge against inflation, deflation, and geopolitical uncertainty. 

Furthermore, gold's low correlation with other asset classes like equities and bonds makes it an essential component for portfolio diversification. It provides a buffer against market fluctuations and enhances the robustness of investment strategies. Gold's historical performance during recessions has shown its capacity to mitigate risks, often offsetting losses from other assets and providing valuable liquidity. This strategic role has contributed positively to the overall performance of diversified portfolios. Ray Dalio, the founder of Bridgewater Associates, the world’s largest hedge fund, stated "I believe it would be both risk reducing and return enhancing to consider adding gold to one's portfolio."


Gold Jewelry

When analyzing gold, the significance of the jewelry sector shouldn't ever be overlooked. The appeal of gold jewelry is not just aesthetic. It's a significant driver of gold prices, accounting for around 50% of total demand, according to the World Gold Council. In terms of volume, China and India are the largest markets for gold jewelry. As the world's appetite for gold jewelry grows, the price of gold is likely to continue its upward trajectory. 

Supply constraints have also contributed to gold's valuation. As central bank purchases rise and mining output falls, the rarity of gold only enhances its appeal, cementing its status as a safe haven in a volatile world. Gold's resilience is clearly demonstrated by its performance against major currencies. Over the past century, gold has significantly outperformed the US dollar and other major currencies, preserving purchasing power for generations. The enduring value of gold is further underscored by the liquidity of the gold market, which remains robust even during financial market pressures. Recent aggressive interest rate hikes by central banks have only reaffirmed gold's status as a safe-haven asset. Despite the sharp interest rate hikes, gold has remained one of the best-performing asset classes, highlighting its lack of credit risk and its nature as a tangible asset rather than a liability.


Geopolitics and Gold

After Russia's expulsion from the SWIFT system, Russia's Foreign Minister Sergey Lavrov embarked on a global tour, encouraging nations to join the BRICS alliance and abandon the US dollar and the euro. The response was overwhelming, with over 40 countries, representing the vast majority of the world's population and natural resources, expressing interest in joining the BRICS. This development spells trouble for the US dollar. Essentially, the freezing of Russia's currency reserves by the US and the EU has shown the rest of the world that it cannot trust that it will be able to redeem its US dollar or euro-denominated currency reserves. So, countries that have foreign policy conflicts or disagreements with the US will be less likely to use the dollar as a reserve asset. They will be looking for other reserve assets as an alternative and, gold will reveal its true extent of robustness in the context of an accelerated devaluation of fiat currencies or a reorganization of the monetary architecture.

In the aftermath of the sanctions imposed by the US and Europe on Russia in 2022 for its actions against Ukraine, the share of the US dollar in global currency reserves took a steep dive, dropping from 73% in 2001 to just 58%. Official gold reserves surged by a record 1,136 tonnes in 2022, while foreign exchange reserves plummeted by a record $950 billion. China has been consistently offloading its US Treasury holdings and now retains around $800 billion, a significant decrease from its peak holdings of over $1.3 trillion. Faced with escalating geopolitical risks, previously nonaligned nations are now forming alliances. We are witnessing seismic shifts across the geopolitical landscape as countries rapidly embrace alliances with organizations such as the BRICS and the SCO (Shanghai Cooperation Organisation). Interestingly, many of the countries that are increasing their gold reserves through their central banks are the same ones seeking to join these organizations, hinting at the emergence of a new gold-linked monetary system.

A growing number of nations, including China, India, and Brazil, are selling their US Treasury bills, increasing their gold reserves, and conducting bilateral trade in their local currencies. This trend signifies a major shift in the global monetary system, with emerging markets promoting the use of their own currencies for international transactions. The following are just a few notable examples:

  • Russia sold oil to China and received payment in the yuan.
  • Russia sold oil to India and received payment in the rupee.
  • The UAE sold oil to India and received payment in the rupee.
  • Saudi Arabia sold oil to China and received payment in the yuan.
  • Russia sold oil to Pakistan and received payment in the yuan.
  • Saudi Arabia and the UAE sold oil to Kenya and received payment in Kenyan shillings.
  • Brazil accepted the Chinese yuan for bilateral trade.
  • In 2023, Iraq's central bank authorized its private sector to conduct transactions in the yuan. The central bank is facilitating this by supplying yuans to Iraqi financial institutions for payments to their Chinese counterparts.   
  • Bangladesh and Russia agreed to use the yuan to settle payment for a nuclear plant that Russia is building in Bangladesh.
  • Ghana bought oil with gold instead of US dollars. 
  • Indonesia urged its banks to reduce their reliance on the US dollar, and to stop issuing Western credit cards.

Holding the status of the world's reserve currency is like having a credit card with no spending limit, allowing a nation to live beyond its economic means. If rival nations choose to trade in your currency, thereby strengthening its value and allowing your country to further extend its economic reach, it would be an enormous mistake to prevent such actions. The recent decision to exclude Russia from the SWIFT system appears to be the catalyst for an accelerating trend of de-dollarisation.


Our Final Thoughts on Gold as an Investment

In conclusion, central banks are actively amassing gold as a geopolitical tool and a monetary instrument, anticipating that gold could form part of a new monetary system. These institutions are driving the price of gold higher. In a world divided, gold could serve as the monetary intermediary that prevents further economic disintegration. With its inherent neutrality and absence of counterparty risk, gold emerges as a viable candidate for use in international trade or as a partial backing for currencies. Tokenized solutions could potentially play a role in this scenario. This idea has been a hot topic of discussion among the BRICS nations. The high demand for gold by central banks indicates that gold is regaining its importance in this era of multiple crises. The ongoing banking crisis in the US has tarnished the dollar's reputation as a safe haven. Coupled with the skyrocketing US budget deficit, the outlook for the dollar becomes even more grim. Adding fuel to the fire, bilateral trade in local currencies is gaining huge momentum. This combination of factors suggests that the era of dollar dominance could be drawing to a close. 

Furthermore, the limited stock and supply of gold, combined with potential demand surges, could significantly increase the price of gold. The total amount of gold mined throughout history is approximately 193,000 tonnes. Shockingly, the market is seeing a mere trickle of new supply - a tiny 3,000 tonnes annually, with only a fraction more coming from recycled sources. The amount mined remains relatively constant. Against this backdrop, the US Geological Survey estimates there are only 52,000 tonnes of minable gold worldwide. In short, the stock of gold appears finite, with only a limited supply added annually to the stock. 

As we grapple with the intricacies of the global economy, the enduring attributes of gold - its resistance to inflation, portability, divisibility, durability, and inherent value - continue to glow. Whether it's for hedging against inflation, seeking a portable store of value, diversifying a portfolio, or simply preserving wealth, gold remains a reliable solution.



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