by Ronan Manly, BullionStar:

There has been a lot of media coverage recently about the re-emergence of central bank gold buying and the overall larger quantity of gold than central banks as a group have been buying recently compared to previous years. For example, according to the World Gold Council’s Gold Demand Trends for Q3 2018, net purchases of gold by central banks in the third quarter of this year were 22% higher than Q3 2017, and the highest quarterly level since Q4 of 2015.

True, there have been a number of ‘new’ central banks announcing gold purchases recently, such as India, Poland and Hungary, central banks that had not been buying gold for a long time until now, but as the World Gold Council admits in its Q3 report, “Russia, Turkey and Kazakhstan continue to account for the lion’s share of purchases“.

And to what extent if any does this central bank gold buying affect the overall gold demand, gold demand at the margin, and by extension does central bank gold buying have any impact on the international gold price? Much of the gold accumulation that the World Gold Council refers to is executed by countries, such as Russia and Kazakhstan, that buy their own gold mining output in a closed-loop. Much of the other central bank gold transacting, such as by India, Hungary and Poland, has been done via central bank trading desks / the London Gold Market where the entire market is opaque with no trade reporting and no information on trade counterparties. Since in general the central bank gold market is ultra secretive and exempt from all manner of reporting, there is often not even any proof of anything much in the central bank gold market nor even any evidence in a lot of cases that the claimed trades have even taken place.

There is also no evidence that this central bank gold buying has any effect on the international gold price despite what, for example an article such as “Buying by central banks & ETFs set to propel gold prices higher” claims. So its instructive to look at some of this central bank gold buying and ask to what extent it could impact overall gold demand and could it have any impact on the gold price.

Russia – From the Mines to the Vaults

In all of the recent financial media commentary about central bank gold buying, the Bank of Russia (the Russian Federation’s central bank) has taken center-stage as the main official sector gold buyer that has both boosted the global central bank net gold buying numbers, and that has been the poster child to back up claims that central bank gold buying will boost the gold price.

For the 9 months to the end of September, the Bank of Russia added 199.4 tonnes of gold to its reserves, and now claims to hold 2037 tonnes of gold in its strategic reserves. And for the full year to the end of 2018, the Bank of Russia is now on target to add over 230 tonnes of gold. This would exceed the 224 tonnes of gold it purchased in 2017, the 199 tonnes it bought in 2016, and the 208 tonnes of gold is purchased in 2015.

However, the often overlooked but important points about Russian State gold buying, are that a) it’s a long-standing strategic policy in the public domain that the Russians have been pursuing for a number of years now which means that the ‘market’ knows about it , and b) the Bank of Russia sources its gold from Russian gold mines using Russian banks to intermediate.

This second point gets almost no attention from anyone in the financial media, but is important since Russian gold buying more or less exists in a closed-loop from Russian gold mines to Bank of Russia gold vaults. Briefly put, a small number of Russia’s large commercial banks (such as VTB Bank, Bank Otkritie, Sberbank, MDM, and Gazprombank) are licensed by and have been appointed by the Russian government to intermediate between the Russian gold producers (mines) and the Bank of Russia by buying gold from the miners under long-term sales agreements with the producers, and then selling this gold on the Russian central bank (after its been refined).

If this system did not exist, a lot of this gold would probably still be in the ground within the gold mining regions of the Russian Federation instead of in the Bank of Russia’s vaults in Moscow and St Petersburg. True, the Russian State wants this gold in its strategic gold reserves and has developed this system by which to procure its own national in-ground gold reserves, but as a closed-loop operation from Russian mines to the Russian central bank and as a long-standing publicly signaled policy, is this the same as central banks suddenly entering the gold market and buying after years of inactivity? And is the Russia State gold buying even affecting the international gold price?

I would argue no on both counts. Firstly, the international gold price is not determined in the physical gold markets but is determined in the synthetic cash-settled unallocated paper gold market of London and in the equally synthetic and derivative based COMEX gold futures trading run out of New York. See Bullionstar article here for a full discussion.

Secondly, the Russian State is accumulating gold as a strategic reserve primarily because it is lucky to have this gold in relatively large quantities as a natural resource within its national borders. The Russian State gold accumulation system is most importantly a closed loop which has no impact on gold demand on any international gold market. The argument could be made that the Russians might buy gold on the international market if they did not have their own domestically mined gold, but equally they might not. The same goes for Kazakhstan whose central bank, the National Bank of Kazakhstan, now holds 335 tonnes of gold, and which has been routinely accumulating significant quantities of gold over the last number of years by buying its own domestically mined gold.

Mongolia – A Closed-Loop

The Mongolian central bank is has also been referenced recently by the World Gold Council as a gold buyer of its nation’s gold reserves, but like the Russian Federation, Mongolian gold buying exists in a closed loop within the domestic economy where the central bank draws in locally mined gold under an initiative called the “National Gold to the Fund of Treasures” which encourages gold miners and individuals to sell domestically mined gold.

For the first 10 months of 2018, the Bank of Mongolia, Mongolia’s central bank, announced that it had bought 17.7 tonnes of gold for the national ‘Treasury Fund’, with 7.1 tonnes accumulated in the six months to the end of June, and another 10.6 tonnes purchased from July to October, a time frame which coincides with the peak gold mining season in Mongolia.

All of this gold was purchased within Mongolia from ‘legal entities and individuals’. This follows 2017 when the Bank of Mongolia bought 20 tonnes of gold, again from local gold producers. The central bank has a full year target to buy 22 tonnes of gold, which would mean it needs to procure another 4.3 tonnes in the fourth quarter. Like the case of the Bank of Russia and the case of Kazakhstan, the Bank of Mongolia has been incentivising its domestic gold mining sector to mine and sell this gold to the central bank. This buying has no effect on gold demand in the international markets and no effect on the international gold price.

India – Gold Transactions at the BoE and BIS

The Reserve Bank of India also emerged as a central bank gold buyer in 2018, buying 8.1 tonnes of gold in the first half of the year, mostly in March and June, and then more significantly announcing that it had bought another 13.7 tonnes of gold in July and August, bringing its claimed gold purchases for the year to date (end of August) to 21.8 tonnes.
Prior to 2018, the last time the RBI claims to have bought gold (apart from 0.3 tonnes in December 2017) was in November 2009 when the RBI says it purchased 200 tonnes of gold from the International Monetary Fund (IMF).

Analysing where these recent gold purchases might have been made, the RBI’s 2018 annual report is helpful in that it states that during the financial year to end of June 2018, the RBI bought 8.46 tonnes of gold bringing its total gold reserves holdings to 566.23 tonnes. Prior to that the RBI’s gold holdings totalled 557.77 tonnes. The 8.46 tonnes purchased in the financial year to the end of June 2018 is held abroad since of the 557.77 tonnes of gold held since 2009, 265.49 tonnes had been stored at the Bank of England and with Bank for International Settlements, and 292.30 tonnes stored domestically in the RBI gold vaults in Nagpur.

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