ausm solari report, nov '22
The role of gold and silver in the future economic system will be influenced by recent and future regulations but also by geopolitics.
Central Banks Switch to Purchasing
Since the abandonment of the gold standard (in 1971 in the U.S. and in 1999 in Switzerland), gold has not had an official monetary role tied to the currency. Central banks started to use their gold reserves for gold leasing, a mechanism by which they would rent their gold to other institutions while keeping the same gold on their balance sheet. This led to serious rumors of gold price fixing. Considering the importance of their gold reserves, central banks had uncontested pricing power.
As mentioned earlier, the price of gold and silver is fixed at the London Bullion Market Association by five European banks (ScottiaMocatta, Deutsche Bank, HSBC, Société Generale, Barclays) based on their gold and silver contracts to be delivered within 48 hours. The spot price published by the Comex is defined daily on contracts to be delivered in the future at a set price. Both systems have been criticized as being overseen by banks themselves, not being transparent, being subject to manipulations, and not being free of conflicts of interest as evidenced by the numerous publications of the Gold Anti-Trust Action Committee.
In 1999, central banks signed the first Central Bank Gold Agreement limiting the amount of gold that central banks can collectively sell in any one year. Prior to the agreement, the gold price was subject to sharp swings by central banks to maintain the price of gold at a low price. Since then, the attitude toward Investment Gold has progressively changed.
Starting mainly in 2014, many central banks in Europe stopped selling their gold reserves and started to repatriate their gold stored abroad in their home country.
In 2019, the ECB announced that the Gold Bank Agreements will not be renewed and further confirmed that central banks “had no more plans to sell significant amounts of gold” confirming that “gold remains an important element of global monetary reserves, as it continues to provide asset diversification benefits.”
Since then, this trend has remained relevant. The World Gold Council annual central bank survey 2022 shows that 25% of the central banks that responded have plans to increase their gold reserves over the next 12 months, listing as main reasons for holding physical gold in their portfolio: historical position, performance in times of crisis, long-term store of value, and no default risk
January 2023 — Basel III Implementation — Unallocated Gold Cost Increase
The Bank for International Settlements (BIS) is an international financial organization owned by 63 central banks, among which the European Central Bank, the Federal Reserve, the Bank of England, and the People’s Bank of China.
It was created under the Hague Agreement of 1930 and the constituent Charter of the BIS. The BIS has a dual nature: It has the legal status of an international organization governed by international laws, but at the same time is funded through issued share capital as a normal corporation. The BIS functions as a bank to the central banks.
From 1950 to 1958, the BIS served as payment agent to facilitate bank payments and currency convertibility between European countries. From 1962, it was the place where the G10 central banks discussed all arrangements made through the International Monetary Fund (IMF) to borrow among themselves and to maintain fixed exchange rate parity (GAB or “General Agreements to Borrow”). The BIS also trades gold globally and confidentially. It is exempt from taxation and protected by its privileged legal immunity. The BIS hosts several committees.
The most important is the Basel Committee for Banking Supervision (BCBS), created in 1974 to supervise the banking system following the bankruptcy of the Herstatt Bank. The Basel Committee is chaired by senior officials of central banks and by finance ministries. It elaborates accords (known as “soft laws”) that are not legally binding or enforceable but nevertheless are capable of exerting powerful influence over countries, public entities, and private parties. The BCBS decision-making process operates on a consensus basis. Governments and lobbies usually influence the content of the rules during the drafting process. The final draft has to be accepted by consensus by all members of the committee. Each country has a right of veto. Then, each member is responsible for implementing the framework into the legislation in its home country. The IMF and the World Bank then oversee member state compliance when reviewing a member country’s financial system.
In 1988, the BCBS introduced the Basel Framework to set a minimum standard for capitalization of banks. Originally conceived as a set of principles (Basel I, 28 pages), the Basel Framework grew into a more complex set of guidelines with Basel II, amended later on in response to the Global Financial Crisis of 2008 (Basel III, more than 1000 pages). Among other policies, the Basel Frameworks define banks’ minimum capital requirements, the type of assets, and the weighting of risks to be set against them on the banks’ balance sheet.
Each type of asset is weighted from 0% to 100% according to a predetermined perceived risk level. Originally, only cash and claims on central governments and central banks funded in national currency were 0% rated. Gold was weighted at 50%.
As of 2019, under Basel III, banks have been allowed to account for gold with a 0% weighted risk (allocated and unallocated).
However, from the first of January 2023, only physical gold held in the bank’s own vault and allocated gold will be given a 0% weighted risk. Unallocated gold (such as options and derivatives) will have to be weighted at 85%, meaning that 85% of the value of unallocated gold will have to be backed up by additional reserves. In practice,
bullion banks will have to hold more High-Quality Liquid Assets (HQLA) for longer periods of time to offset loans to their clients.
As each country is introducing the Basel III Framework into its own legislation, the introduction may occur at different dates. In Europe, the Basel III Framework has been implemented by the EU Capital Requirement Directive (CRD) and Capital Requirement Regulation (CRR)1 and from there, into the member countries’ home legislation. In the U.S., Basel III capital requirements are unlikely to enter into force before 2025. With the holding cost of unallocated gold becoming more expensive, it is expected that the demand for physical gold will increase, leading to problems of liquidity and increased gold pricing in the retail market.
Gold mines that tend also to finance themselves with gold loans will find it more difficult to find financing. In response to market concerns the BCBS has announced that clearing banks could apply for an exemption for their unencumbered physical stock of precious metals, to the extent that it balances against customer deposits (BAIL INS !!!!!). The question remains as to why the BCBS is intentionally willing to restrict the bullion market and is making gold investment less attractive. Central banks also will be affected as the measure will impact their gold swap and gold loan trade. The European central bank digital currency (CBDC) project was launched in July 2021. Holding physical gold and silver is a way for the population to ignore the digital currency and keep control of their finances.
Can the Basel regulations be interpreted as a way to put gold, together with cash, on the list of the next tangible assets to go, leaving no alternative to the implementation of the CBDC?
Gold as Part of Growing Russia-China Economic Cooperation
Since 2008, Russia and China have been buying significant amounts of gold and have increased their financial and economic cooperation. Russia’s central bank opened its first overseas office in Beijing in 2017, creating an institutional capacity to bypass the dollar and phase in a gold-backed standard of trade. Currently, about $130 billion of Russia’s gold and foreign exchange reserves are in yuan assets. Russia and China are also two of the biggest producers of gold in the world. China has also been buying mining operations all around the world. The official figures attribute a reserve of 2300 tonnes to Russia and 1948 tonnes to China, but those figures could be below the reality. The latest figures for Russia are dated from the end of January 2022. In June 2022, Russia passed a law classifying the size of foreign exchange and gold reserves a state secret. So, it is unclear when the next reliable update will be made public. Another important question is which strategic function the domestic gold mined in Russia will play from now on.
Two things have transpired over the past months.
First, the BRICS countries — Brazil, Russia, India, China, and South Africa — are said to be currently discussing the setting up of a new global reserve currency with the possible creation of a common bank.
Secondly, in a recent interview, Mr. Sergey Glazyev, a former advisor to the Kremlin, shared some insights about the design of another new digital monetary/financial system between the Eurasian Economic Union and China aimed at bypassing the dollar that could be built around a basket of national currency and a “price index” of important commodities including gold and precious metals. Whatever the outcome, the increase in the Chinese and Russian gold reserves leads one to think that gold will also play a key role in this part of the world.
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