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Central Banks Increase Demand for Gold

Written By Geoffrey Pike

Posted May 18, 2015

centralbankgoldGold has actually been one of the flattest and least volatile investments over the last couple of years. It has been bumping around the $1,200 per ounce price level, just recently getting above $1,220.

While it hasn’t been an exciting investment, or a very profitable one, over the last couple of years, it has actually held up reasonably well considering the strength of the U.S. dollar.

The World Gold Council recently released its latest report on gold holdings by country. The report stated that global demand dropped by about 1% in the first quarter on a year-over-year basis.

This slight drop in demand was not spread out equally. There were higher volumes of demand in the U.S. and India, while there were declines in China, Russia, Turkey, and other parts of the Middle East.

When we speak of demand though, it’s always in the context of the price. There is always demand for gold. It’s just a question of how much demand there is at a certain price.

In terms of the report, the U.S. central bank still has by far the largest reserve of gold, reported at over 8,000 tonnes. This is more than double that of Germany, which is in second place. There is always speculation that the U.S. central bank has sold or leased out some of its gold, but at this point, we can only go by the World Gold Council report.

The International Monetary Fund is actually third in gold holdings, although it is not a country. After that are Italy, France, Russia, China, Switzerland, Japan, and the Netherlands rounding out the top ten.

India is eleventh on the list, but we know the Indian people have a huge love for gold, so its central bank holdings do not reflect the large overall demand coming out of the country.

As for China, there is also much speculation that its reported reserves are not accurate. But on the flip side of the U.S., China would actually be underreporting its gold reserves, if anything.

Gold Demand: People and Central Banks

While it’s interesting to see the reported reserves of the various central banks of the world, it’s the central banks themselves that will create more demand for the yellow metal.

Central bank selling by the U.K. and Switzerland more than a decade ago was really the culmination of the two decades long bear market in gold. Gordon Brown sold about half of the U.K.’s reserves in the late 1990s and early 2000s. This helped push gold down below $300 per ounce, which was one of the best buying opportunities ever.

In more recent years, central bank buying has likely helped keep the gold price up. China is probably the most obvious example of building up gold reserves.

In the long-term though, it isn’t central bank buying and selling that’s going to affect gold demand and gold prices. To be clear, it isn’t central bank buying and selling of gold. What will greatly affect the demand for gold and the price of gold is central bank buying of assets – typically government debt – using money created out of thin air.

Even though China has likely been accumulating far more gold than what it reports, the central bank has also been creating money out of thin air like crazy. This is why the Chinese are now dealing with speculative bubbles in real estate and stocks.

So China’s gold reserves in terms of a percentage of its money supply are likely actually lower than what they were before. While none of the major currencies of the world are officially backed by gold, the major countries hold gold, which can at least be thought of as some kind of backing for the currencies.

The U.S. just finished up its third round of quantitative easing late last year. The European Central Bank and the Bank of Japan are both creating money out of thin air at a great speed right now. And China has had its foot on the monetary accelerator for quite a while.

The global fear of bad economic conditions has helped keep a lid on price inflation. There is a high demand for money because of this fear, despite increasing money supplies.

Over time, this still hurts the purchasing power of these currencies. It may reach a point where our world is just flooded with fiat currency and the general public awakens to the fact that their money is being debased.

Interest rates have risen off of their lows recently and stocks are becoming more questionable at their all-time highs. If stocks and bonds fall out of favor, where are people going to invest their money? Where are they going to protect their money?

The gold demand may appear low at this point, but it can turn around quickly. And it doesn’t take a lot of new buyers in the gold market to drive the price higher.

Central banks can buy and sell gold all they want, but it is their own policies of money debasement that will ultimately increase the demand for gold.