January 25th, 2013
Written by Jillian Friesen, GEI Associate
After an announcement from the Deutsche Bundesbank issued on Wednesday stating its plans for repatriating roughly $36 billion worth of its gold reserves (around 674 metric tonnes total), investors are showing mixed reactions. Germany wishes to eventually hold half of its gold in its own vaults. The gold reserves are currently stored in France and the United States.
A Little Bit of History
Germany first sent its reserves to foreign banks after the end of World War II for fears of it being in reach of a potential invading soviet army. Germany sent its gold to France, the U.K. and the United States for safekeeping. That threat has subsided long ago. The most troubling aspect of today's nations is the global economy, not the threat of an occupying Soviet army.
The Enormity of German Gold
Germany's cache of gold is second only to the U.S. By the year 2020, Germany plans to bring back 374 tonnes from its storage in France and 300 tonnes from the reserves in New York. Frankfurt will be the powerhouse of German gold holding 3,400 tonnes in its vaults.
Deutsche Bundesbank still plans to secure some of its gold abroad. New York will still store a percentage of Germany's gold. This number is thought to be in the ball park of 37%. The UK will retain 13%. All of the bullion in France will be completely repatriated. The reserves held in New York will be drastically reduced, whereas the gold stock presently held in the U.K. will remain untouched.
Photo Credit: GoldCore.com
The global financial industry is reacting with excitement and concern. The question to be asked is, "Why is Germany deciding to bring back its gold at this point in time and why such a small amount?" $36 billion is by no means a small sum, but compared the the total German reserves, it is only a fraction. There may be something brewing. Forget short term global financial insecurities, Germany might have implemented a long term strategy. It wouldn't be surprising if 100% of its gold bullion is within its borders in our lifetimes.
German lawmakers see the Euro Crisis as a dire situation. The Euro was originally intended to act as a "gold standard". This issue has faced many dilemmas. Germany's reputation is one of a successful exporting country in the region. The German Central Bank has a duty to protect its citizens wealth. The demands of the eurozone credit crisis are stifling efforts to stay afloat. Germany has also been showing signs its heading into a recession. The ability to quickly liquidate assets is a safe path to take. Having the gold within its borders will not only avoid confrontation but will help avoid confusion within the markets if it decides to sell gold to pay off any future deficits.
The German financial and banking sectors have been known to always err on the side of caution. This conservative mind set is still dominant. By having its gold in within its own borders, Germany will rest assured they alone are in control of the gold which backs its currency.
An Issue of Trust
Germany's trust in the Federal Reserve has been shaken. Top German policymakers are suspicious of the Fed and its guarantee. Before the repatriation of some of its gold, the Bundesbank held 122,597 bars of gold boullion in NY vaults. Carl-Ludwig Thiele, a board member with the Bundesbank stated,
“The gold held with the New York Fed can, in a crisis, be pledged with the Federal Reserve Bank as collateral against U.S. dollar-denominated liquidity.”
This is obviously a very dangerous position for Germany along with any other country to be in.
Its enormous reserve of gold has aided the Fed and dollar by backing the reserve currency of the U.S. In order for the Fed or the central bank of most other nations to take out a loan against gold-based "money for assurance" otherwise known as collateral, the foreign stash of gold must already be within its borders. Perhaps the stress and worry about its gold led to Germany taking out a portion, but not the entire lot of its gold out of the U.S. Maybe there is a signal being sent that the U.S. must get its house in order or perhaps, in the eyes of the German public and Bundesbank, is not the nation it once was.
The Gold Market
Another aspect to consider is the gold market. The price of gold has historically spiked during times of economic uneasiness and when governments begin printing way too much money for their own good. This lack of faith only supports the need to own physical gold.
Since before our time, gold prices have risen unparalleled to any other commodity in terms of price and stability. Click here to see a chart of historic gold prices. It has shown to be a stable and reliable commodity to invest in, especially in times of turmoil. People have been known to garner enormous amounts of the precious metal. So much so it was once made illegal in the United States to own too much gold. Executive Order 6102 signed by President Roosevelt in 1933 forbade the hoarding of gold.
How could we fail to mention China. The Chinese government has been mining gold like there's no tomorrow. Currently, China owns a large amount of American debt, roughly 7%. Buying U.S. treasuries has helped depress its currency making Chinese exports more attractive.
China would suffer an even greater fate if it were to stop buying treasuries or if something drastic happened to the American economy. In exchange for enormous export power, China has stored much of its investment in American treasuries. In the past year however, the Chinese government has slowly been reducing its treasury holdings. What exactly is going on?
In a recent issue of Second-Grade Arithmetic in Barron's, Thomas Donlan wrote,
"Between September 2011 and September 2012, China reduced its holdings of U.S. Treasury debt 9%, from $1,270 billion to $1,155 billion. The Fed helps investors and governments in Japan, other Asian nations, and Europe pick up the slack. If the Chinese are starving the beast, we had better hope the rest of the world does not join in."
It appears that Germany is joining in. However, the Deutsche Bundesbank has officially dismissed any suggestions the fiscal policies of the U.S. or another default had any effect on their decision.
How Investors are Reacting
The majority see this act by the Deutsche Bundesbank as an event with enormous implications. Many investors are linking the Bundesbank's decision with the current economic recession in the United States, the Euro Crisis and according to Tom Luongo from Seeking Alpha, the events of last year when the Swiss pegged the Franc to the Euro sparking a universal currency war and China discarding around $100 billion worth of U.S. treasuries back onto the market.
Analysts, bloggers and those deeply involved in the inner most working of the financial industry see even further ramifications for the global economy. Some see the move by the Germans as a sign the Bundesbank sees a future breakdown of trust between international central banks. Tyler Durden, a blogger from Zerohedge came out with a bold statement and cited the decision as,
"...a momentous development, one which may signify that … the central banks don’t have faith in one another.”
There is however, a minority which see this as a non-event. Horst Loechel, professor of economics at the Frankfurt School of Finance and Management made a statement,
"I don't think the Bundesbank's decision to repatriate parts of German gold will affect the Federal Reserve."
In a question directed to Carl-Ludwig Thiele, an Executive Board Member of Deutsche Bundesbank last year questioning whether it was an error to have German gold in foreign vaults, Thiele replied,
"The New York Fed and the Banque de France also offer to store gold holdings for other central banks free of charge. The Bank of England charges warehousing fees amounting to roughly €500,000 per year. Storage in the Bundesbank’s own vaults, too, involves costs. Matters of cost, however, are not the sole consideration in determining the choice of storage facility. The usability of gold as a reserve asset and storage security are much more important. During repeated visits to New York, London and Paris, our internal auditors have satisfied themselves that the security precautions in place there meet the same high standards as those in Frankfurt."
Perhaps the decision by the Bundesbank has nothing to do with trust or lack thereof. Maybe it is all about storing and security costs. The vast majority issuing theories relating to a breakdown of international banking relations and currency markets may have it wrong. According to Professor Loechel:
"With this new storage plan, the Bundesbank is focusing on the two primary functions of the gold reserves: to build trust and confidence domestically, and the ability to exchange gold for foreign currencies at gold trading centers abroad within a short period of time."
Loechel also mentioned:
"In times of currency crisis, for example, German companies or banks might run out of U.S. dollar reserves. Then, they can immediately exchange gold into U.S. dollars." adding, "It's obvious that Germany's gold reserve in Paris can also be stored in Germany because the two countries are using the same currency now."
Perhaps this is just a sign that Germany no longer dependent upon France to be a financial center. Germany now has the capacity to store its own gold in its own vaults. The German public has been at odds with having a large amount of Bundesbank gold stored abroad, especially when there is no specific need. The issue may just boil down to simplicity, German confidence in its banking system and safety. It is easy to over estimate the impact of decisions such as these. The Bundesbank continues to stress the "excellent" relationship between the Federal Reserve and the Deutsche Bundesbank.
Total global reserves
Link to PDF of official global gold holdings
Seeking Alpha: Gold Breakout in Process, Thanks to Germany
Seeking Alpha: German Gold Repatriationg Will Bring Back Volitility
LA Times: Germany to Bring Home its Gold by 2020
The Globe and Mail: Germany Plans to Hold its Repatriated Gold, Not Sell it
Barron's: Second-Grade Arithmetic
China Daily: Interview