How much ammunition is left in the vaults

How much ammunition is left in the vaults?

Daan Joubert

I have often stated that the decline in the gold price that began early in 1996 - despite an excess of demand over natural supply from gold mines and from scrap - can be ascribed to a sustained flow from the vaults of central banks. The majority of this supply was not being sold by the central banks, as they would then have to report the sale, but through leases and swaps.

According to a ruling by the IMF, CB's do not have to report vault gold and gold that has been leased or swapped separately; both classes of gold are reported under one heading as if all the gold was still safely behind thick steel doors. This means that there is a guessing game going on as to how much gold has already left the vaults, perhaps never to return.

GFMS, the 'official' industry body that monitors the gold market, believes that the total is about 5 000 tons, of which say 3000 tons originate from forward sales by producers. In certain circles the GFMS figures do not carry much weight; it is pointed out that a GFMS report viewed the open interest in gold derivatives reported to the BIS by associated US and other banks as the annual turnover in derivatives, not as open interest, which is such a basic mistake it does not say much for the depth of the market knowledge that lies behind the GFMS analyses.

It has previously been stated here that the gold bull market of the past two years, clearly due to a change in the supply-demand relationship, can be a result of either an increase in demand or a decrease in supply, or a combination of the two. As it is critically important to the market players who are short of gold that the price does not rise, one can deduce that there has to be a decrease in supply, most probably because the gold available for the purpose is running low. The interesting question is, "How low?"

The answer is not so easy to find. Under a recent ruling of the IMF, CB's do not have to distinguish between gold in the vault and gold that has been lent or swapped, and which strictly should be reported as receivables. Portugal is one of very few countries who do not follow this ruling and they seem to have leased, swapped and otherwise alienated as much as 70% of their about 600 tons of reserves. However, there is some information available that, supplemented by reasonable assumptions. support an educated guess.

What put me on the trail of this analysis was the mention that most of the 8100 ton US gold reserve could be of inferior purity (www.goldensextant.com/commentary23.html of R. Howe) that can not be used for delivery in the gold trade. That means that of the reported approximately 33 000 tons of CB, IMF and BIS gold more than a quarter is not available for use to keep the price down. Suddenly, the alternative estimates of how much excess gold has flowed to the market since about 1996 became very interesting.

These estimates have been made by different people using different methods and it would seem that by 2001 the range had a low end of 10 000 tons and a high end of say 15 000 tons. The wide range of these estimates show how little real information is available.

Assuming that only 25 000 tons were available to begin with, excluding the US reserves, one can look for other gold hoards that are still intact with reasonable certainty. France, for example, report no receivables as part of the gold holdings, which imply all 3000 tons are still in the vault. The IMF - like Switzerland - recently intended to sell some gold for humanitarian reasons, but the idea was vetoed by the US Congress, so that their 3000 tons should also be safe and sound behind thick steel doors.

Switzerland had 2600 tons until their decision to sell half, for reasons that did not receive a vote of confidence from their parliament, and should still have almost 2000 tons left, of which about 600 tons is still due to come to the market at a slow pace. That leaves only 17 000 tons of gold that could have been used to feed the market.

Japan has about 750 tons of gold and, like mainland China's 600 tons, and the almost 400 tons the Russians say they have in their vaults, it is likely to be intact in the vaults. That brings the amount of gold that is presumed to remain in full possession of the CB's to the critical level of 15 250 - very close to the upper level of the outflow from CB vaults, as it was estimated in 2001.

No wonder we have seen a bull market in gold for the past two years. The ammunition to keep the Gold Bulls on the defensive has been running low. The obverse to this conclusion is also there to consider: if the say 14 000 - 15 000 ton estimates are way off the mark, so that there is still ample gold left in the vaults, why then was the gold price allowed to break free? Which implies the existence and nature of the 2-year bull market also support these higher estimates.

The conclusion has to be that the Gold War is nearing its end, with a looming victory for the Gold Bulls. When your enemy is running low on ammunition while you are drawing in new and well-armed recruits all the time - investors who are becoming increasingly nervous about the US economy and the dollar and who flee to the safe haven of last resort with some of their wealth - then you might still lose a battle or two, but the war itself is as good as over.

And when the opposing forces are finally routed and the victorious Bulls set off in hot pursuit, it truly will be a sight to behold!

8 May 2003