Why central banks are buying gold at the highest volume in 80 years – 05/15/2023 – Market

Central banks around the world are using their reserve dollars to buy gold in order to reduce their dependence on the United States.

According to the World Gold Council, an organization dedicated to market development for the sector, in 2022 the monetary authorities added the largest amount of gold to their reserves since 1950 (beginning of the historical series).

And this year’s data indicate that this trend will continue.

The dollar has dominated world trade and served as the global reserve currency since the end of World War II.

But Russia’s invasion of Ukraine has changed this paradigm.

Analysts do not believe there will be a radical transformation. In their view, the dollar still has years of hegemony.

But central banks of major economies like China, India or Brazil, among others, are buying gold to replenish dollars in their reserves at the fastest pace recorded since the post-war period.

For some analysts, this trend began even before the invasion of Ukraine, but most point to the speed with which the United States imposed sanctions on Russia when the conflict began.

“Western nations froze some of the remaining assets due to the invasion of Ukraine in 2022, which encouraged central banks around the world to further increase holdings in fungible gold,” explain global commodities analysts at Bank of America.

frozen reserves

According to them, the global economy seems to be moving towards a multipolar world.

Proof of this is that global dollar reserves have fallen from 70% to 58% in two decades.

“Russia, the country most targeted by sanctions today, is a good example because it is among the biggest dedollarizers and buyers of gold in recent years”, they add.

When the United States imposed sanctions on Moscow for its invasion of Ukraine, freezing Russia’s $300 billion in reserves, it was only possible because they were in dollars.

“After the US sanctions after the war in Ukraine, countries tried to reduce their exposure to possible sanctions in the future. This led to a currency appreciation in both gold and Chinese renminbi,” says Omar Rachedi, associate professor in the Department of Economics, Finance and Accounting at the Esade School of Business and Administration in Barcelona, ​​Spain.

Private companies that trade with Russia are also potentially vulnerable to US sanctions.

Since the beginning of the year, gold has shown a stellar performance. So far this year, the dollar value of the metal is up more than 10%.

political statement

“We expect central bank (gold) purchases to remain robust in an increasingly multipolar world, but we don’t expect the 2022 record to hold,” wrote Carsten Menke, head of research at investment firm Julius Baer, ​​in a recent investor report.

“We don’t share the view of de-dollarization, although we see the purchase of gold by central banks primarily as a political statement against the US dollar,” he added.

Central banks like gold because of the expectation that it will maintain its value in turbulent times and, unlike currencies and bonds, is not dependent on any one issuer or government.

Gold also allows monetary authorities to diversify their asset portfolio.

“The reasons why central banks are accumulating gold vary, but probably the main one is that they need to diversify their reserve assets”, says Professor Lawrence H. White, from the Department of Economics at George Mason University, in the United States, to BBC News Mundo, the BBC’s Spanish-language news service.

“China, for example, has been buying gold and, at the same time, selling part of its large portfolio of US Treasury bonds. Keeping assets in gold instead of dollars is also a way to reduce exposure to the risk of dollar devaluation “.

But “the dollar remains the dominant currency for international payments, and neither the euro nor the yuan should take its place,” White believes.

Diversification against interest rates

Rising interest rates around the world also influenced the decision of many countries to “de-dollarize”.

“Central banks’ diversification needs are further exacerbated by the fact that their US Treasuries have lost value due to interest rate hikes by the Federal Reserve,” says Rachedi.

This is because the bond price has an inverse relationship with the interest rate. When interest rates rise, the bond price falls. A reduction in interest rates has the opposite effect.

Therefore, the shift to assets other than the US currency – and especially US Treasury bonds – has been a factor that has also driven diversification, explains the professor.

For any Latin American economy with dollar-denominated debt, the rise in interest rates was also a setback.

Brazilian President Luiz Inacio Lula da Silva also recently spoke about the dominance of the dollar.

In a speech given during his recent trip to China, the PT exhorted the Brics countries – Brazil, Russia, India, China and South Africa – to develop a new currency and move away from the dollar.

“Why can’t we trade our own currencies?” he asked. “Who was it that decided that the dollar was the currency after the disappearance of the gold standard?” added Lula, alluding to the replacement of gold by the dollar as the monetary system until the First World War.

Speaking at the Shanghai New Development Bank, led by former president Dilma Rousseff, Lula asked the Brics countries to establish a common currency with which they can transact.

The proposal came a few months after the announcement by Brazil and Argentina of articulating a common currency called Sol.

“It is an old ambition. Nobody wants to depend on a currency that they cannot control, but the reality is that nobody can live without it. The broad hegemony of the dollar will be assured as long as there is no rival of equal magnitude”, explains Gonzalo Toca, an analyst at the Spanish think tank Esglobal.

overwhelming hegemony

“We are talking about the currency of the main world economy and the currency of the main promoter of globalization and the international monetary system as we know it. That is why the institutional architecture favors it”, he recalls.

“That said, the overwhelming hegemony enjoyed by the dollar obviously began to weaken with the appreciation of the euro and the yuan. And it will continue to weaken, in the coming years, as they gain weight as a reserve and payment currency”, says Toca .

In this context, it is worth remembering that relations between Washington and Beijing, on the other hand, although not good, are now less tense than during the “trade war” that former US President Donald Trump waged with China.

For Professor Rachedi, the main challenge to the global dominance of the US dollar may come from the Chinese renminbi (or yuan), as China has started to close oil contracts with Gulf countries at prices in renminbi and not in dollars.

In addition, the Belt and Road Initiative (or New Silk Road) major effort comes with the disbursement of contracts between China and countries in Asia, Africa and South America, which are quoted in renminbi and not in dollars.

“However, as long as China does not provide a well-protected environment for investors and allow the government to directly control financial markets and possibly take over any financial accounts, the Asian giant will not be able to challenge the supremacy of the dollar,” he says. .

“As long as the United States manages to maintain free financial markets with a stable rate of inflation, its dominance is here to stay for the next decade or more,” he adds.

This text was originally published here.