Central banks’ return to gold standard

On December 26 last year, when the central board of the Reserve Bank of India (RBI) appointed an expert committee on the economic capital framework under the chairmanship of former RBI governor Bimal Jalan, the mandate was to devise a way to transfer part of the surplus forex (foreign exchange) reserves of the central bank for ‘more productive purposes’.

RBI insiders discreetly conveyed that the government and the Reserve Bank, under its previous governor Urjit Patel, were in disagreement on the central bank diverting its buffer to fund tax-shortfalls and deficit financing. The committee’s report, which was supposed to be tabled within 90 days of appointment, is likely to come out soon.

While official deliberations began in November last year and the reserves’ alternate utilisation was being discussed in closed quarters, the RBI has been adding gold to its official forex reserves since February 2018. And within 14 months, until March 2019, the central bank accumulated 54.46 tonnes of gold. The first quarter of this year saw the RBI adding 12.12 tonnes of gold to its forex reserves.

This gold buying spree was resumed by the RBI after a hiatus of more than eight years. The last time it bought gold in a two-week period during October 19-30, 2009—a huge 200 tonnes from the International Monetary Fund (IMF) at market prices. “This was done as part of the Reserve Bank’s foreign exchange reserves management operations,” the RBI had said in a November 3, 2009, press note.

The RBI had also mentioned that the executive board of the IMF, on September 18, 2009, had announced its decision to sell 403.3 tonnes of gold as a central element of its new income model in order to increase its resources for lending to low-income countries. But experts were of the view that the RBI was broad-basing its forex reserves by diversifying the components. That was the aftermath of the global financial crisis, which emanated from the U.S. and the value of the dollar had taken a beating.

This time around things are not too different. According to the World Gold Council (WGC), net buying of gold by central banks reached 145.5 tonnes in the first quarter of 2019 (January-March), 68% higher on an annual basis, compared to 86.7 tonnes a year ago. “This is the highest volume of Q1 net purchases since 2013 (179.1 tonnes), comfortably exceeding the five-year quarterly average of 129.2 tonnes,” the WGC said in its early May 2019 Gold Trends Demand report.

The report also said the factors that drove the central bank’s net purchases to a 50-year high in 2018 remained relevant at the start of 2019. “Economic uncertainty caused by trade tensions, sluggish growth and a low/negative interest rate environment continued to weigh on reserve managers’ minds,” the WGC said. “And geopolitics still cause consternation. In the face of these challenges, central banks continued to accumulate gold,” the WGC added.

The gold buying was notable, not just for the quantum of gold purchased but also for its global spread. Russia added 55.3 tonnes in the first quarter of 2019, taking its gold reserve to 2,168.3 tonnes or 19% of its total reserves. China reported a net purchase of 33 tonnes, a notch lower than Turkey, which bought 40.1 tonnes, followed by Kazakhstan (11.2 tonnes), Qatar (9.4 tonnes), and Colombia (6.1 tonnes), among others.

"Escalating trade tensions between many countries could disturb the sentiment in the medium term and central banks could find cover under the ‘Gold Shade’,” says a Motilal Oswal report.

While India bought over 12.12 tonnes in the first three months of 2019, its total accumulation of over 54.46 tonnes began in February last year; July 2018 to November 2018 were the busiest when 32.35 tonnes were added with an average 6.47 tonnes bought in these five months.

With 612.5 tonnes of gold, which accounts for 6.1% of the forex reserves, India now ranks 10 in the world official gold holdings put out by the WGC.

Amid rising global uncertainties, RBI’s gold buying since February 2018 gives enough reason to wonder whether it has a correlation to the government’s demand to divert part of RBI’s official forex reserves for ‘nation building’.