Russia Has Doubts About the Almighty US Dollar

The printing presses will be working as we approach 2018 to allow for operational continuity within the US financial system. Meanwhile, Russia will keep buying gold. 

Sun, Jun 25, 2017
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St. George gold coins issued by the Central Bank of Russia
St. George gold coins issued by the Central Bank of Russia

Sometimes you just have to take a pause in the constant whirlwind of news, take a break from picking apart what you feel is ‘fake vs; real’ and in stepping back take in the bigger picture of any given topic.

These past months have seen both China and Russia painted in villainous colors. Even respected professionals like Oliver Stone have been dissed by talking heads for his Putin interviews, even while some of his critics openly admit to not having watched the interviews… I for one think that is a step too far even for today’s norms.

It is apparent that trust is rapidly eroding both in the news media and in the geopolitical arena. Currencies ultimately are an agreement based on trust and confidence, and tend to erode if either confidence or trust in the currency’s issuing government is questioned.

In this hurly burly soap opera of perceptions, the subject of gold and central banks keeps popping up with greater frequency, especially because both Russia and China have been steadily buying and storing ever greater amounts of it. There is a saying among market professionals “the trend is my friend”.

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This is a truism with a caveat – which trend? Most news focuses on the daily rise and fall of technical numbers, with both amateurs and pro’s glued to their trading screens, twitching along with the ticks rising and falling. That is not a trend; it is just ‘punting’. However when you step back months, then years, then decades and get out of the ‘noise’ zones trends tend to clarify.

Perhaps Russian Central Bank Head Elvira Nabiullina has done just that in a proactive way. After all, she was honored recently as the European Central Bank “Chairman of the year”. Perhaps she is aware that her CB numbers among the 60% of all central banks that have stated their intention to increase their gold holdings over the foreseeable years, while just over 10% are committed to hanging on to what they currently have. The rest are in the unenviable position where they can only respond to outside pressures and react, i.e., they are not the drivers of their own bus.

 

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Both Russia and China have been steadily buying and storing ever greater amounts of gold

 

As a matter of historic record, the greatest amount of gold ever held by official (central banks) holdings was 52 years ago when all the worlds foreign currency reserves assessed were valued at $69 billion. That was in 1965, and at that time, fully 65% of those currency reserves were backed by physical gold holdings. Fast forwarding to 2017 when world foreign currency reserves are estimated to now be $11 trillion, only 12% of those reserves are backed by physical gold holdings.

Just as an exercise, consider if the central banks tried to achieve that 65% currency reserve level today. They would need to scamper and find an additional 46,501,000,000 troy ounces (46.5 Billion tr/oz.) to add to their current reserve holdings. That would represent three quarters of all refined gold there is.

Seems doubtful that it would be possible, nor would the various owners be pleased to part with their shiny possessions. Therefore, that leaves the market to adjust to the value of Gold in such a case. To achieve the same reserve balance of 65%, gold would have to be valued at just over $6,500 per troy ounce (todays value is approx. $1,250). Take the exercise further, even in smaller increments, say 24%, 48% and so on the trend remains the same.

The behavior of the Central banks and gold has come full circle over the past decade. The sales by the US and European central banks have indeed slowed but have not stopped. At the same time purchases by the CB’s of emerging market countries, Latin America, the Middle East and Asia are growing. Since 2010, these emerging and other central banks have been net buyers of gold, and their desire is growing from less than 2% of total world demand in 2010 to approximately 16+% today.

 

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Notice a trend?

 

This change clearly acknowledges the benefits gold brings to CB reserve portfolios. Some CB’s have bought gold to diversify away from overweight US dollar denominated assets, with which gold has a strong negative correlation. In addition the CB’s see gold as a hedge against currency risks and because of gold’s inflation-hedging characteristics.

Getting back to Russia and Ms. Nabiullina’s conservative Central Bank, so far this year the following monthly increases were made to Russia’s official gold holdings: JAN = +1,000,000 oz, FEB = +300,000 oz, MAR = +800,000 oz, APR = +200,000 0z, and MAY = +700,000 oz.

This comes to 93.3 tons (3,000,000 troy ounces) in the first five months of 2017. It may be of interest to note that of the estimated 106 metric tons of gold produced by Russia between January and May 2017, the CB added 93 mt to their official gold reserves. Contrast that with the U.S., which produced 96 mt in the same period, adding nothing to official reserves. In sum, the addition to reserves between January and May 2017 represents 88% of Russia’s domestic mine supply. At the same time, the United States is continuing as before to export all of its gold supply.

One of the key reasons the US is not increasing its reserves is because it continues to run and suffer from both fiscal and trade deficits. If a country is running deficit’s it cannot add gold to its reserves; that can only happen when there are surpluses. Hence, this adds one more reason to the probability of continued US Dollar printing, QE, helicopter money, or whatever name we will call it when we do it.

Call it what you will, the printing presses will be working as we approach 2018 and 2019 to allow for operational continuity within the US financial system domestically as it operates today. Fed rate adjustments notwithstanding.

The question remains, will the trend allow the United States to do so? That is worth some dispassionate, apolitical thought.


Paul Goncharoff is Chairman, Disciplinary Committee, National Association of Corporate Directors, Russia

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