Gold Fades as Monetary Reserve for Nations
Its price has been rising, but experts say that floating exchange rates make central bank holdings irrelevant
NEW YORK — GOLD - the financial outcast of the 1980s - is suddenly glittering again on world markets.
Its new luster reflects a rising demand for gold jewelry, stepped up industrial use, and a surge in gold purchases as a hedge against the possibility of more rapid inflation.
But can gold regain its former preeminence as a commodity of international exchange? Do not count on it, experts say.
"I haven't heard of any bars of gold being moved around in international monetary transactions for 15 or 20 years now," says an official of the Federal Reserve Bank of New York.
Billions of dollars of gold bullion are stored in a massive vault the size of half a football field five stories under the bank in lower Manhattan [See box].
Before industrial nations went off the gold standard in the early 1930s, gold was used by central banks to provide monetary backing for paper currencies and to settle financial transactions between nations. Under the gold standard, each unit of currency, such as the United States dollar, would be linked to a fixed weight of gold.
The US and most other major industrial countries went off the gold standard in 1933. But in the period after World War II, a modified form of the gold exchange system was reintroduced. When a foreign government, as a result of an international payments surplus, piled up more dollar reserves than it wanted, it could ask the US to provide gold instead. Faced with repeated demands for gold, the US began refusing such requests in the late 1960s.
The final break between gold and paper currency occurred in the early 1970s, when President Nixon let the US dollar "float" in value on foreign exchange markets. In 1975, President Ford removed the 1930s ban on American citizens owning gold. Banking with gold
The US and other nations still hold billions of dollars of bullion - somewhere around 35,000 tons worldwide - in their international monetary reserves. But gold is not expected to play a major role in central bank transactions anytime in the near future, experts say.
"Gold reserves by central banks serve no functional monetary purpose today," says Peter Kenen, a professor of economics and international finance at Princeton University. "Most governments now hold gold more for prestige than for anything else."
"Goverments like to have the gold as a sort of war chest," says John Williamson, a senior fellow with the Institute for International Economics in Washington. "They think that selling the gold would be a loss of faith." In today's world of floating exchange rates, central bank gold holdings are "totally irrelevant," he adds.
In recent years a number of governments, including the former Soviet Union, as well as the Netherlands and Belgium, have sold off gold - which pays no interest - to raise cash for investment. Last year central banks, including the latter two, sold an estimated 17 million ounces of gold. Those sales have helped to offset declining gold production by mines - while also holding down prices. Gold's devotees
Despite the increasing official indifference to gold by central bankers, the commodity has many devotees. "Gold bugs" have helped boost the price of the commodity. So far this year, gold has moved from slightly under $330 an ounce to its current range of around $380 an ounce.
Gold prices especially rose in late April, when the investment community heard that global investor George Soros, who controls Soros Fund Management, had bought 6.8 million shares of Newmont Mining Corporation. Suddenly, some investors were saying: "If George Soros is buying, something must be up with gold."
Prices for platinum and silver have also been edging upward. Gold mining stocks have in some cases climbed 50 percent in 1993. Part of the reason is speculative, says George Milling-Stanley, a bullion expert with Lehman Brothers. But the basic demand for gold is outpacing supply, he notes. Mr. Milling-Stanley believes that gold could hit a high of around $500 this year. But it will not remain at that level, ending up trading at a far lower price, he says.
Gold's all time high occurred on Jan. 21, 1980, when it sold at $875 an ounce. Speculators were buying the metal to hedge against double-inflation and soaring energy costs. During the 1980s, with relatively low interest rates and intense stock market speculation, gold plummeted in value, reaching a low of $282 an ounce in 1985.
There have been two "bear market" rallies for gold since then. The commodity rose 71 percent to $510 an ounce in January 1983 from a low of $298 in June 1982; and it climbed 69.5 percent to $502 in December 1987 from $282 in 1985.
Vahid Fathi, a metals expert with Kemper Securities Inc., predicts gold in the current rally will reach at least $425 an ounce by February 1994. But based on the pattern of the 1980s, it is not inconceivable that gold could climb as much as 70 percent, to the $550 range by late 1994 or 1995, Mr. Fathi says.
Despite the current upward momentum in bullion prices, Fathi holds that gold mining stocks could experience a modest correction of at least 15 percent.
Ironically, according to gold experts, bullion's recent surge is not linked to any specific set of political uncertainties or crises, such as the conflict in Bosnia. In the past, gold has often risen in price during times of political turmoil. What is now driving the market is rising nonspeculative demand.
Last year, gold supply was estimated at around 2,200 metric tons. But consumption was 2,900 metric tons. The difference was made up in part by sales of gold by central banks. This year, demand is again expected to outstrip the supply of new gold, with some additional sales by central banks helping to meet demand.
Further, gold mine output is declining in some major producing nations, such as South Africa and the US.
"Asians, particularly the Chinese, have become eager purchasers," says Michael Brown, an official of the Gold and Silver Institute in Washington. In China, alternative investments are limited. Though there are stock markets, they are tiny compared with the major stock markets of Western nations. Inflation is a serious problem in China. Thus, many Chinese consider gold a good investment.
The dollar's recent weakness has also driven some overseas investors into gold, since its price usually moves in inverse relation to the US currency.
Fathi of Kemper Securities figures that the upward movement of gold hints at higher inflation in 1994. "We may have seen the best news on inflation behind us," he says. "Gold tends to react months - and sometimes a year or so - ahead of actual inflationary advances."