While the gold price is slowly crawling upward in the shadow of the current cryptocurrency boom, China continues to import huge tonnages of yellow metal. As usual, Chinese investors bought on the price dips in the past quarters, steadfastly accumulating for a rainy day. The Chinese appear to be price sensitive regarding gold, as was mentioned in the most recent World Gold Council Demand Trends report, and can also be observed by Shanghai Gold Exchange (SGE) premiums – going up when the gold price goes down – and by withdrawals from the vaults of the SGE which are often increasing when the price declines. Net inflow into China accounted for an estimated 777 tonnes in the first three quarters of 2017, annualized that’s 1,036 tonnes.
Demonstrated in the chart above Chinese gold imports and known gold demand by the Rest Of the World (ROW) add up to thousands of tonnes more than what the ROW produces from its mines. One might wonder where Chinese gold imports come from, which is why I thought it would be interesting to analyse as detailed as possible who’s supplying China. Is one country, or only the West, supplying China? Although absolute facts are difficult to cement, my conclusion is that China is supplied by a wide variety of countries on several continents this year.
China doesn’t publish its gold import figures so we have to measure exports from other countries to the Middle Kingdom for this exercise. This year the primary hubs that exported to China have been Switzerland and Hong Kong.
The Swiss net exported 18 tonnes to China in September, which brings the year to date total to 221 tonnes, down 4 percent year on year. Because Switzerland is the global refining centre, a storage centre and trading hub I’ve plotted a chart showing its gross imports and exports per region.
In the above chart we can see that Switzerland was a net exporter to China in all months, but in most months Switzerland in total was a net importer, displayed by the red line; for each of those months Switzerland itself was not the supplier to China.
Combined with data from Eurostat (on the UK’s total net flow) and USGS (on the US’ total net flow) the Swiss data tells me that gold moving from Switzerland to China had several sources this year. In January, for example, it was the UK that was supplying – being a net exporter in total and a large exporter to Switzerland. I must add that in theory little gold from the UK arrived in China via Switzerland, as the numbers don’t say which bar from whom was sent to who. But we can say “the UK made it possible China bought an X amount of gold in the open market at the prevailing price that month”. The same approach suggests that in June it was the US and Switzerland (Switzerland being a net exporter that month), and in September it was Asia (including the Middle-East) supplying gold to customers of Swiss refineries at the prevailing prices. There was not one source of above ground stock that exported to China (via Switzerland) as far as I can see.
The Hong Kong Census And Statistics Department (HKCSD) has recently published data indicating China absorbed 30 tonnes from the Special Administrative Region in September, down 8 percent relative to August and down 44 percent compared to September last year. A decline was expected because China has stimulated direct gold imports circumventing Hong Kong since 2014. Nevertheless, Hong Kong net exported 515 tonnes to the mainland through the first three quarters of 2017 (down 15 percent year on year).
Hong Kong is a gold trading hub too, though. If Hong Kong is a net exporter to China, the actual source can be any country. Have a look at the next chart that shows the net flows through Hong Kong per region: the West, East and ROW (1). I’ve also added the net flow with China.
First observe the red line, “Hong Kong total net flow”. We can see that in 2013 Hong Kong became a massive net importer until about half way through 2015. The major suppliers to Hong Kong during this period were Switzerland and the UK, next to the ROW. I’m not aware of what type of entities were accumulating in Hong Kong at the time. The largest net importer from Hong Kong was China (included in the East).
After 2015 supply from the West (through Hong Kong) has slowly dried up while demand by China continued, shown by the blue line coming to zero and the yellow bars remaining to trend sub-zero. And thus Hong Kong commenced net exporting gold itself as we can see the red line in the chart falling far below zero. Apparently, since 2015 Hong Kong is a net exporter.
How much gold is left in Hong Kong? Unfortunately, online data from the HKCSD goes back only to 2002. The HKCSD does keep physical records from its international merchandise trade statistics from before 2002 but strangely “gold export” from 1972 until 1998 is omitted in these books (2).
As you can see in this last chart Hong Kong has suffered net exports from 2002 until 2008 and after 2015. It’s possible there is still bullion in Hong Kong if it had been accumulated before 1998, but since 1998 Hong Kong already “net lost” 727 tonnes. Another possibility is that refineries in Hong Kong import a lot of scrap gold, which is nearly impossible to track in customs reports and is not included in any of my data, that is being refined into bullion and exported. In this case Hong Kong is not a net exporter, or less of a net exporter. We’ll see in coming months or years if Hong Kong can continue net exporting bullion.
In exhibit 4 we can see a vague correlation between “Hong Kong net export to the China” and “Hong Kong’s total net export” for 2016 and 2017. It looks like Hong Kong is feeding its big brother. Or is it?
There is a gold kilobar futures contract listed on the COMEX that is physically deliverable in Hong Kong. The trading volume of this contract is neglectable, and so is physical delivery, but remarkably the designated vault (Brinks) throughput is sky-high. When looking at a chart of kilobars received and withdrawn at the Brinks vault in Hong Kong, supplemented by cross-border gold trade, there is a pattern revealed: the amount of kilobars received and withdrawn, and Hong Kong’s gold total import and re-export to China are correlated.
The chart suggests that Hong Kong is mainly supplying China from its imports (and any gold supplying other countries than China was stored in Hong Kong in previous years or was sourced from scrap). As the imports are correlated to kilobars received in the Brinks vault and kilobars withdrawn are correlated to re-exports to China, both flows seem to be one and the same trade. I don’t know for sure, but I think this is largely true.
The next question is from what countries does Hong Kong import bullion to dispatch to China? From countries all over the world. Have a look.
The composition is quite diverse. From the first until the the third quarter of this year gold came in from Switzerland, South-Africa, the US, Australia and the Philippines, inter alia.
Next to gold flowing through Switzerland and Hong Kong to China, countries that supplied gold directly to China this year have been Australia at 20 tonnes (3), the US at 14 tonnes, Japan at 3 tonnes and Canada at 4 tonnes. The UK has practically exported zero gold directly to China this year.
In total Hong Kong (515 tonnes), Switzerland (221 tonnes), Australia (20 tonnes), the US (14 tonnes), Japan (3 tonnes) and Canada (4 tonnes) net exported 777 tonnes to China mainland in the first three quarters of 2017 (4).
It must be mentioned that in theory gold import by China arrives in the Shanghai Free Trade Zone (which is not the domestic market) where the Shanghai International Gold Exchange (SGEI) operates. As most of you know the SGEI can serve foreign customers that can import gold traded on the SGEI, for example into India. Hence, it’s possible not all gold imported into China mainland arrives in the domestic market but ends up in the Shanghai Free Trade Zone or abroad. Global cross-border trade statistics by COMTRADE, however, show that barely any country is importing from China.
Until new evidence shows up my best guess is that China net imported 777 tonnes in the first nine months of 2017, sourced from all corners of the world: the UK, South-Africa, Australia, Switzerland, the US, Middle-East and Philippines. It seems Chinese banks are active all over the world looking to buy gold on the dips. Snapping up physical metal when the time is right.
Chinese imports add to China’s domestic mining output. The China Gold Association disclosed on November 1 that mine production accounted for 313 tonnes, down 10 % compared to last year. Nearly all this gold (313 + 777) is sold through the SGE. Withdrawals from the vaults of the SGE accounted for 1,505 tonnes over this period, implying 415 tonnes (1,505 – 313 – 777) was supplied by scrap and disinvestment (or partially recycled through the SGE system).
Since all non-monetary gold imported and mine production ends up in the private sector, my estimate for total gold owned by the Chinese people now stands at 16,575 tonnes. Added by a more speculative estimate of 4,000 tonnes held by the PBOC makes 20,575 tonnes.
1) Hat tip to Nick Laird from Goldchartsrus.com for providing the HKCSD data from January 2002 until September 2017.
2) Huge hat tip to Winson Chik that went to the HKCSD office in Hong Kong for us to obtain the data from before 2002!
3) The Australian Bureau of Statistics (ABS) amended its gold export data to China and Hong Kong until August 2016. Before that I had my own way of computing direct gold export from Australia to China – which is now obsolete. A few days ago I got confirmed by ABS they stopped amending the data as China has allowed gold import bypassing Hong Kong. ABS data on gold export to China can now be taken at face value. On November 10, 2017, ABS wrote me:
Previously ABS amended exports of gold bullion going to Hong Kong to China as at the time the ABS had been provided with information to suggest that the majority of gold exports to Hong Kong ultimately ending up in China.
In 2016 a review of this methodology was undertaken, and it was determined that in recent years direct imports to the Chinese mainland have become increasingly common. by 2013-14, China eased restrictions on the direct importation of gold to ports outside of Hong Kong, and as a result users have abandoned using Hong Kong gold imports as an appropriate proxy measure for Chinese imports.
The ABS implemented improvements to more accurately reflect the country of final destination of gold bullion, non-monetary (excl. unwrought forms and coins of HS 7118 and HS 9705) (AHECC 71081324) exported to Hong Kong and China in August 2016. The series were revised back to January 2012, inclusive. This impacted the country series only, as published in tables 14a and 36a-36j of International Trade in Goods and Services, Australia (cat. no. 5368.0) and detailed country statistics available on request. Total levels were not impacted, nor will there be any implications for other ABS collections. The ABS defines the country of final destination for exports as ‘the last country, as far as it is known at the time of exportation, to which goods are to be delivered’. The ABS conducted a review of the country of final destination of gold bullion into China and Hong Kong. There was evidence that Hong Kong had ceased serving primarily as an intermediate shipping country of gold into China and was importing and transforming gold bullion in its own right.
4) Data from Australia and the US for September hasn’t been released yet, so the numbers disclosed are provisional.
All the rumours and analyses on gold, oil and yuan that are making rounds now in the blogosphere are based on the Nikkei article. But the Nikkei article itself contains zero official sources. Basically, the whole story has been invented by Damon Evans. So, let’s start addressing the claims made in the Nikkei piece.
The only vague connection I could find is that the INE “will accept foreign exchange as … trading margin”. If this includes gold – which technically is not foreign exchange – we will see. In any case, even if gold will be used as trading margin that doesn’t mean the contract is “backed by gold”.
The Nikkei headline clearly reads “China sees new world order withoil benchmark backed by gold”. In this context, the word “backed” for most readers will refer to a fixed parity. In the past, for example, there was a fixed parity between gold and the US dollar; this meant the dollar was backed by gold through the US Treasury; dollars could be redeemed for gold at a fixed price and vice versa. In case of the Nikkei story it would imply a fixed parity between yuan, or oil (this is not clear), and gold. But how would China back anything with gold? Would China’s central bank (the PBOC) defend a fixed price of gold in yuan? And it would do so through an oil futures contract? Impossible.
Quickly ‘the story’ by Nikkei transformed through the blogosphere where analysts suggested the gold in SGE vaults would back the yuan. The problem with this theory is that gold in SGE vaults, (i) isn’t owned by the Chinese government, and (ii) isn’t allowed to be exported from the Chinese domestic market (not very convenient for foreign oil producers). Then analysts suggested the gold in vaults of the Shanghai International Gold Exchange (SGEI) would do the job. But SGEI gold, (i) isn’t owned by the Chinese government either, and (ii) can only have been sourced in the international gold market, payed for with US dollars. So much for the oil-gold trade circumventing US dollars as presented by Nikkei.
Now, let’s zoom in on the logic behind the phrase “crude oil futures contract priced in yuan and convertible into gold”. Futures contracts are an agreement between two traders about the future price of i.e. a commodity (usually denominated in a currency, in the case of the INE contract yuan). There can be no third asset, commodity or currency involved in a futures contract. It cannot be that upon physical delivery of SC – when oil is exchanged for yuan – one of the two traders will say, “you know what, I don’t want yuan (or oil), I want gold”. And, needless to say, the Chinese government will not mingle in the futures trade. The PBOC will not jump in when a SC short or long demands gold. Again, the new INE oil futures contract denominated in yuan will have nothing to do with gold.
Though, be reminded, currently no oil producer is prohibited from buying gold (or something else for that matter) when paid in US dollars. That’s actually the very function of money. Money is used, since ancient times, for what is called indirect exchange. Stuff is sold for money, and with that money all other stuff can be bought. Gold can be bought with the proceeds from oil sales since … forever. An oil futures contract will not suddenly change all that. In the Nikkei piece one analysts was quoted saying:
It’s a transfer of holding their assets in black liquid to yellow metal. It’s a strategic move swapping oil for gold, rather than for U.S. Treasuries, which can be printed out of thin air.
But oil producers are free to buy gold with their moneys (yuan or dollars) with or without the new futures contract. The INE contract will not remove an obligation i.e. for Kuwait to invest in U.S. Treasuries. So, what will change when this new oil-yuan futures contract is launched?
Also bear in mind that futures are hardly ever physically delivered. Futures are used for hedging and speculation. In general, commodities are physically traded in the spot market. Oil for dollars, chocolate for Swiss francs, Dutch cheese for euros, etcetera. Futures contracts are not necessarily needed to sell oil for yuan. Nikkei wrote:
China’s move will allow exporters such as Russia and Iran to circumvent U.S. sanctions by trading in yuan.
But effectively, Venezuela, Russia and Iran can sell their oil to China in exchange for yuan as of this very moment, before the oil-yuan futures contract is live. They also could have done so three years ago. So, in my very humble opinion the new INE contract will not be the instant game changer everybody is talking about.
Perhaps also noteworthy, one commentator on the Nikkei story wrote:
China just announced that any oil-exporter that accepts yuan for oil can convert the oil to gold on the Shanghai Gold Exchange and hedge the hard currency value of the gold on the Shanghai Futures Exchange.
My comments on this paragraph:
As shown above China hasn’t announced anything but an oil-yuan futures contract. Gold has nothing to do with it.
Yuan can technically be spend on gold at the SGE, but gold in the Chinese domestic market (SGE system) is not allowed to be exported. Gold from the SGEI is allowed to be exported but is bought in the international market via yuan with US dollars.
Foreign enterprises, like oil producers, cannot hedge gold on the Shanghai Futures Exchange. The SHFE is not open for international customers. There’s only a spot deferred product listed on the SGE, which is comparable to a futures contract, through which foreign enterprises can hedge gold in yuan. But why would oil producers buy gold and subsequently hedge the metal in yuan. Their end position would be merely exposure to the price of yuan. Why then, not buy a yuan denominated bond with an interest rate? Or hold gold without the hedge?
Prior to publication of the Nikkei article in question I got an email from Evans. He asked me if “China will tie a gold guarantee to the new oil contract?”. I replied, “No. I would be surprised if they did that”. But my quote wasn’t selected for the final publication. The piece only quoted analysts singing the same song. In my view, that’s not what sound journalism is about. First of all Evans didn’t use any official sources, and second he picked analysts that confirmed his bias.
Aside from all the inaccuracies in the Nikkei article, what stands out for me is that indeed a large number of countries is willing to trade oil in yuan and the new INE futures contract is important for this development as it allows oil producers and users to hedge directly in renminbi. And so the INE contract will support oil for yuan trading. That’s what the article should have focussed on.
Although not much has happened yet*, it’s clear Asia wants to get rid of the petrodollar, and it will be interesting to see how this initiative develops.
*Still the majority of global trade is conducted in US dollars, and most foreign exchange reserves are in dollars too. The share of yuan payments, compared to all other currencies, tracked by payment service provider SWIFT were under 2 % in June, down slightly from two years ago. (I have no data on CIPS payments.)
My best estimate as of June 2017 with respect to total above ground gold reserves within the Chinese domestic market is 20,193 tonnes. The majority of these reserves are held by the citizenry, an estimated 16,193 tonnes; the residual 4,000 tonnes, which is a speculative yet conservative estimate, is held by the Chinese central bank the People’s Bank of China.
To substantiate my estimates on above ground gold reserves in China mainland, we’ll first discuss private gold accumulation in China through the Shanghai Gold Exchange (SGE), after which we’ll address official purchases by the People’s Bank of China (PBOC) and its proxies that operate in the international over-the-counter market.
The amount of SGE withdrawals provides a fairly good proxy for Chinese wholesale gold demand, although not all gold passing through the SGE adds to above ground reserves. In China, most scrap supply and disinvestment flows through the Shanghai bourse as well, next to mine output and imports. Needless to say, recycling gold within China doesn’t change the volume of above ground reserves. So, simply using SGE withdrawals won’t fly for calculating above ground reserves. What we’re interested in are net imports and mine production in the Chinese domestic gold market.
There is one region that is importing significant amounts of gold from China, which is Hong Kong, though, this likely isn’t exported from the SFTZ but from the Shenzhen Free Trade Zone. The vast majority of China’s jewellery manufacturers are in Shenzhen, and for quite some years gold jewellery, ornaments, industrial and semi-manufactured parts are being exported from this Chinese fabrication base to Hong Kong. These events haven’t got anything to do with the SGEI in my opinion. Thereby, Hong Kong exports far more gold to China than vice versa.
For computing net gold export from Hong Kong to China we’ll subtract “imports into Hong Kong from China” from “exports and re-exports from Hong Kong to China” (as you know China doesn’t disclose gold trade statistics itself). Imports into Hong Kong accounted for 23 tonnes, while exports and re-exports to China accounted for 333 tonnes. Accordingly, China net imported 311 tonnes from Hong Kong in the first five months of 2017.
If we apply the same math to Switzerland’s customs data, it shows China net imported 172 tonnes from the Swiss in the first six months of this year.
Most definitely Australia has exported gold bullion directly to China in 2017 as well, but the Australian Bureau of Statistics (ABS) has changed its methodology regarding this data somewhere in 2016 and is reluctant to share the details with me. Using my old way to compute Australia’s export directly to China results in 23 tonnes (this number is provisional and will be amended).
The UK, a large gold exporter directly to China in 2014 and 2015, hasn’t shipped any gold directly to China year to date, according to Eurostat.
What’s remarkable is that Chinese true gold demand is far greater than what the World Gold Council (WGC) and GFMS are reporting as “Chinese consumer gold demand”. This is due to incomplete metrics applied by the WGC and GFMS. The immense tonnages imported by China have been waived in previous years, by the aforementioned Western consultancy firms, with dishonest arguments. (If you like to study the details regarding gold demand metrics read this.) In reality, thousands of tonnes are being imported into China and this metal is not coming back in the foreseeable future; causing a bull run on steroids if institutional interest for gold rebounds in the West. Ascending above ground reserves within China imply declining above ground reserves in the rest of the world. And the more scarce the metal in the West, the higher price when demand revives. I’ve described this phenomenon in my previous post How The West Has Been Selling Gold Into A Black Hole. In a forthcoming posts I will add more texture to my analysis.
Domestic mine production in China is not allowed to be exported, effectively all output can be added to above ground reserves. The China Gold Association (CGA) wrote on April 28, 2017, that Chinese domestic mine output in the first quarter accounted for 101 tonnes. Lacking the data for the second quarter, makes me estimate mine production from January until June by doubling 101, which is 202 tonnes. By the way, the CGA added:
Gold is a special product with the dual attribute of general commodity and currency. It is the cornerstone of important global strategic assets and the national financial reserve system. It plays an irreplaceable role in safeguarding national financial stability and economic security.
Based on data publicly available, in the first six months of 2017 China net imported at least 506 tonnes into the domestic market and mined 202 tonnes. An addition of 707 tonnes to Chinese private gold reserves.
Chinese Official Gold Purchases
I can be short on PBOC gold purchases: the Chinese central bank does not buy any gold through the SGE – its increments must be treated in addition to all visible flows – and it buys in secret not to disturb the global market. I’ve shared my analysis regarding the PBOC buying gold through proxies in the international over-the-counter (OTC) market for several years on these pages. Although, my reasoning has been confirmed countless times, it’s worth noting it was affirmed once more not long ago.
Early 2017 world renowned gold analyst Jim Rickards was in a meeting with the three heads of the precious metals trading desks of largest Chinese bullion banks. These gold dealers told Rickards that indeed the PBOC does not buy any gold through the SGE. Rickards stated in the Gold Chronicles podcast published January 17, 2017 (at 25:00) [brackets added by Koos Jansen]:
What I [J. Rickards] don’t know is about the Shanghai Gold Exchange sales, they’re pretty transparent, how much of that is private and how much of that is the government [PBOC]. And I was sort of guessing 50/50, 70/30, whatever. What they told me, and these guys are the dealers [the three heads of the precious metals trading desks], it’s 100 % private. Meaning, the government operates through completely separate channels. The government does not operate through the Shanghai Gold Exchange. … None of what’s going on on the Shanghai Gold Exchange is going to the People’s Bank Of China.
In fact, the PBOC uses Chinese banks as proxies to buy gold in countries like the UK, Switzerland and South-Africa after which the metal is transhipped to Beijing. Note, monetary gold shipments do not show up in customs reports of any country.
I haven’t come across any clues in the past months that have changed my estimate on the PBOC’s true official gold reserves. My best substantiated guess still is 4,000 tonnes (in contrast, the PBOC publicly discloses it holds about 1,840 tonnes). For more information on how and when the PBOC stacked up to 4,000 tonnes, continue reading at the BullionStar Gold University by clicking here.
Estimated Total Gold Reserves China 20,000 Tonnes
Let us put the pieces of the puzzle together. We know the PBOC doesn’t buy gold though the SGE, but prior to 2007 the Chinese gold market wasn’t fully liberalized and back then the PBOC was primary dealer in the domestic market. Any PBOC purchases prior to 2007 could have been from Chinese gold mines. What else do we know? China is said to be a gold importer since the 1990s, suggesting domestically mined gold was not exported after, say, 1994. In the next screen shot from the China Gold Market Report 2010 we can read “China has been a gold importer since the 1990s”.
For the sake of simplicity, we’ll calculate from 1994 onwards. Precious Metals Insights (PMI) has estimated that 2,500 tonnes of gold jewellery were held by the Chinese population in 1994. Furthermore, I have data on Chinese non-monetary gold import starting in 2001 – which started slowly but ramped up in 2010 (exhibit 2).
In 1994 PBOC official reserves accounted for 394 tonnes and Chinese domestic mine output accounted for 90 tonnes. So, our starting point in 1994 is:
From here, we can aggregate domestic mine output and net imports for every succeeding year. As stated above, my assumption is that the PBOC sourced its official gold from domestic mines prior to 2007, but shifted these acquisitions to the international market after 2007. The official gold increments in 2001 (105 tonnes) and 2003 (100 tonnes) I’ve subtracted from “aggregate domestic mine output”, the increments in 2009 (454 tonnes) and onwards I did not subtract from “aggregate domestic mine output”.
The previous calculation has resulted in the following chart:
In the chart the green, blue and grey bars represent private gold reserves, and summed up account for an estimated 16,193 tonnes at the time of writing. The red bars reflect the PBOC’s official gold reserves – I would like to stress this number is speculative – and currently account for 4,000 tonnes. My best estimate as of June 2017 for total above ground gold reserves within the Chinese domestic market is 20,193 tonnes.
Head of the Financial Markets Division of the Dutch central bank, Aerdt Houben, stated in an interview for newspaper Het Financieele Dagblad published in October 2016 that releasing a bar list of the Dutch official gold reserves “would cost hundreds of thousands of euros”. In this post we’ll expose this is virtually impossible – the costs to publish the bar list should be close to zero – and speculate about the far reaching implications of this falsehood.
This story started a couple of years ago. As I am Dutch and concerned not only about my own financial wellbeing but of my country as well, I commenced inquiring my national central bank about the whereabouts and safety of our gold reserves in late 2013. One of my first actions was submitting the local equivalent of a Freedom Of Information Act – in Dutch WOB – to De Nederlandsche Bank (DNB) in order to obtain all written communication of the past decades between DNB and the Federal Reserve Bank Of New York (FRBNY). In 2013 I knew a large share of the Dutch gold was stored at the FRBNY, which I deemed to be an unnecessary risk. In a crisis situation, for example, the US government would be able to confiscate Dutch gold stored on American soil. Unfortunately, DNB responded it’s exempt from certain WOB requests under the banking law from 1998, article 3. (I thought the WOB hit a dead end, though recent developments have changed my mind regarding the legitimacy of the rejection. In a forthcoming post more on my WOB from 2013.)
Subsequently, on 21 November 2014 DNB shocked the financial world by announcing it had covertly repatriated 123 tonnes of gold from the FRBNY vaults. Did DNB question the trustworthiness of the FRBNY like myself? Most likely, as I see few other reasons for repatriating, next to losing trust in the international monetary system itself. The gold wasn’t sold in the Netherlands, as our gold reserves have remained unchanged at 612 tonnes since 2008. Apparently DNB felt safer having less gold stored at the FRBNY. Note, the FRBNY offers institutional clients to store gold free of charge, yet DNB favored to ship it home. From the FRBNY website:
The New York Fed charges account holders a handling fee for gold transactions, including when gold enters or leaves the vault or ownership transfers (moves between compartments), but otherwise does not charge fees for gold storage.
In the press release DNB stated repatriating gold “may have a positive effect on public confidence”. Suggesting the Dutch public – or central bank or government – does not have full faith in the FRBNY as a custodian.
My focus on the Dutch gold, in a way partially mine as our official gold reserves are not owned but merely managed by DNB, was sharpened in 2015. On 26 September of that year I visited the Reinvent Money conference in Rotterdam, the Netherlands. One of the speakers was Jacob De Haan from DNB’s Economics and Research Division. In his presentation, De Haan repeatedly emphasized the importance of transparency in central banking.
Through my WOB experience, however, DNB appeared to be not transparent at all. Thereby, if DNB wants to be transparent and boost public confidence, why doesn’t it publish a gold bar list? The publication of this list would provide one of the most important checks on the existence of the Dutch official gold reserves, as the list can then be cross checked with the inventory lists of gold ETFs and alike, possibly exposing multiple titles of ownership on single gold bars. And this act of transparency could be accomplished within minutes by uploading an excel sheet to the DNB website. When I approached De Haan after the conference and asked why DNB doesn’t put out a gold bar list, he offered me he would look into it. He gave me his email address and we agreed to stay in touch.
Many months pasted, but after countless emails and phone calls DNB finally notified me it would not publish any gold bar list. So much for transparency! The following is what DNB wrote me on 11 August 2016 as the reason not to publish:
…we do not intend to publish a gold bar list. This serves no additional monetary purpose to our aforementioned transparency policy, however it would incur administrative costs.
Administrative costs? There hardly could be administrative costs as this list should be readily available in one or more spreadsheets, I reckoned. When confronting DNB with my logic they replied on 15 August 2016:
DNB has internal gold bar lists, however the conversion of internal lists to documents for publication would create too many administrative burdens.
DNB claims to have “internal lists”, but creating “documents for publication” would create too many administrative burdens. I couldn’t believe it. The only way this excuse would hold was if DNB’s internal lists are non-digital, which then need to be either physically copied or manually inserted in spreadsheet software. However, it’s highly unlikely DNB doesn’t have a digital gold bar list in this day and age. Computers have been widely used since the eighties; that’s more than thirty years ago. One the first applications that computers supported were spreadsheet programs designed for accounting.
Roughly 65 % of the international reserves of the Netherlands are held in gold. Would DNB still keep their precious gold records on pieces of paper?
In my professional opinion the Dutch gold must be meticulously recorded in digital documents and thus publishing a bar list should cost nothing. But showing proof will strengthen my perspective. Up till now this post has been more or less a summary of my previous writings. Down below we’ll zoom in on this material, and reveal why it’s virtually impossible for DNB to gain any administrative burdens for publishing a gold bar list.
Allocated Accounts: These are accounts held by dealers [/custodians] in clients’ names on which are maintained balances of uniquely identifiable bars of metal ‘allocated’ to a specific customer and segregated from other metal held in the vault. The client has full title to this metal with the dealer holding it on the client’s behalf as custodian.
Clients’ holdings will be identified in a weight list of bars showing the unique bar number, gross weight, the assay or fineness of each bar and its fine weight.
Clearly, allocated accounts contain uniquely identifiable gold bars owned by one specific client.
DNB discloses the Dutch official gold reserves position according to the International Monetary Fund’s Balance of Payments and International Investment Position Manual version 6 (BPM6). From DNB [brackets added by Koos Jansen]:
De Nederlandsche Bank [DNB] publishes the balance of payments statistics according to the sixth edition of the Balance of Payments and International Investment Position Manual (BPM6) since October 2014.
The figures for the Netherlands have been adjusted for the period since 2008.
BPM6 forces national authorities to distinguish between gold bullion and unallocated accounts, of which gold bullion can be held in allocated accounts. The German central bank wrote in June 2014 on adopting BPM6 [brackets added by Koos Jansen]:
The new rules are binding for the EU member states [which includes the Netherlands] by virtue of a Council regulation amended by the European Commission.
With regard to reserve assets, gold transactions and positions will in future be subdivided into  gold bullion, which includes gold bars and allocated gold accounts, and  gold receivables, to which no specific gold holdings are assigned [unallocated accounts].
In the next chart we can see the ratio between gold bullion and unallocated accounts of all the Eurosystem’s national central banks. The data has been sourced from the German central bank, as the BundesBank’s website has the most user friendly interface. The Netherlands is said to hold 100 % in gold bullion.
When asked directly, DNB replied all the Dutch official gold is indeed fully allocated. Accordingly, there should be lists from all custodians that show the uniquely identifiable gold bars owned by the Dutch state, as stipulated by LBMA guidelines.
Displayed above in exhibit 1, the Dutch gold is mainly stored abroad. Since November 2014 the breakdown by location is as follows: 31 % in Amsterdam at DNB headquarters, 31 % in New York at the FRBNY, 20 % in Ottawa at the Bank Of Canada (BOC) and 18 % in London at the Bank Of England (BOE).
The BOE And FRBNY Provide Clients A Gold Bar List In Digital Format
We can read the BOE claims to provide clients a digital gold bar list that complies with Annex H of the LBMA’s Specifications for Good Delivery Bars and Application Procedures for Listing, and clients are permitted to inspect their gold at the BOE.
When approached with the same questions, the custodian bank in New York replied it couldn’t comment on this subject. However, there is a bar list of gold stored at the FRBNY in the public domain. For the Gold Reserve Transparency Act (2011, not enacted) the US Treasury published two gold bar lists. The first list in excel sheet format covers the US official gold stored at Fort Knox, Denver and West-Point, which aggregates to 7,715 tonnes (click to download the list). The second list in PDF format covers the US gold stored at the FRBNY, which accounts for 418 tonnes (click to download the list starting on page 128). Below is a screenshot of the FRBNY list:
As shown the FRBNY list fully complies with LBMA standards: included is refinery brand, unique serial/melt number, gross weight, fineness, fine weight and year of manufacturing.
At the bottom of exhibit 8 we read the original document name is “FRBNY Schedule of Inventory of Gold Held.xlsx“. The extension of the document name “.xlsx” means the file was created by Microsoft Excel software, which is the most commonly used spreadsheet application. So, either, the FRBNY keeps its bar lists in excel sheets, or is capable of converting their data to excel format.
Kindly remember the US official gold reserves are owned by the US Treasury, not by the FRBNY. We may conclude the FRBNY is able to provides its clients, such as the US Treasury, gold bar lists in electronic format. There should be no problem whatsoever if DNB would ask the FRBNY for the Dutch gold bar list in excel format.
The Bank of Canada didn’t reply to my inquiries, but it doesn’t matter at this point. It should be clear gold custodians keep their books electronically and fully comply with LBMA standards.
I did find a hint of how the BOC operates. In 1997 Professor Duncan McDowall and his team investigated all gold dealings by the BOC from 1935 until 1956 to evaluate if some of the gold stored in Ottawa had ever been intertwined with Nazi gold. McDowall’s investigation is titled “Due Diligence: A report on the Bank of Canada’s handling of foreign gold during World War II“. One of the professor’s observations with respect to the BOC’s historical documents reads [brackets added by Koos Jansen]:
Fiduciary obligation is similarly represented in the Bank’s [BOC] written dealings with its clients: the entitlement of any client to have a written confirmation of the disposition of the assets they have placed in the care of a bank. A good example of such an obligation in the context of this report would be the regular production of account statements that provided foreign central banks [i.e. DNB] with precise month-end and year-end reckonings of their earmarked gold holdings [allocated accounts] in Ottawa. … Currency Division’s reports on the arrival and departure of gold to and from these accounts therefore provided a meticulous record of foreign clients’ dealings with the Bank.
Even the BOC’s gold books from before the war appeared to be impeccable. I assume the BOC’s current custodial gold bookkeeping is as precise and meticulous now as it was then
DNB Is Likely To Maintain A Gold Bar List in Digital Format
Which leaves us to speculate if DNB itself, as the fourth custodian, holds a digital bar list of the 190 tonnes stored in Amsterdam. Allow me to share why I think they do.
The fact DNB repatriated 123 tonnes in November 2014 from New York, shows they’ve revived their affinity with gold. Few central banks have brought their gold home in recent years, which clearly makes DNB a physical gold advocate. No matter how you look at it, this can’t be denied.
While repatriating DNB took the opportunity to upgrade its vault room at the Frederiksplein in Amsterdam, the Netherlands. Have a look at the DNB gold vault shelving system prior to November 2014 in the picture below:
Now have a look at the new shelving system at the Frederiksplein. This next picture was taken after November 2014:
Obviously, DNB made the structures more robust by switching from wooden shelves to what looks to be iron. DNB consulted the BOE for a new shelving system as the BOE has an identical system since many years prior to 2014. Have a look at a photo from the BOE’s gold vault below:
DNB repatriated 123 tonnes, worth roughly 22 billion euros, from the FRBNY somewhere in the months prior to November 2014, exposing a deep and renewed affinity with gold.
DNB must have received a digital list from New York with the bars transported, as we know the FRBNY keeps its records in an electronic configuration.
While repatriating DNB consulted with the BOE for a robust shelving system in order to upgrade the vault room in Amsterdam, which reaffirms DNB’s careful attention for the gold they store.
Judging from the actions above I dare to say DNB had meticulously, and thus electronically, inventoried the 67 tonnes already stored in Amsterdam before November 2014, or registered this metal when the batch from New York arrived. So very likely all gold stored in Amsterdam is properly recorded in digital format.
A summary of the previous three chapters before we continue:
All the Dutch official gold reserves are held in allocated accounts and thus there are bar lists available, which comply with LBMA standards, from all custodians.
We may conclude all custodians save and distribute their bar lists electronically.
Het Financieele Dagblad
Meanwhile, I was interviewed by Het Fiancieele Dagblad, the Dutch version of the Financial Times, on 27 September 2016 for a weekend special on gold. In the interview I told two FD journalists about my views on gold and my curious encounters with DNB. The next day one of the journalists wrote me he would interview Aerdt Houben, Head of DNB’s Financial Markets Division, for the same gold special and invited me to share what I would ask Houben in his seat. I wrote back I would inquire about the gold bar list and if DNB had ever physically audited all the Dutch gold, among other topics.
FD: Some people are worried the Dutch gold might be gone.
Houben: To a certain degree the people should have trust in us. We are transparent about how much gold we hold and the locations.
FD: Are there any reports and bar lists on this, if so: why aren’t those public?
Houben: The content of the reports is also being checked by our accountants for our annual report. But the gold bar lists that would costs hundreds of thousands of euros. Because many people would have to check the contents and the many updates that are required.
In part Houben said the same as DNB mailed me months before, while specifying the administrative burdens would be several hundreds of thousands of euros. By now we know this is a fallacy.
Regarding the “reports” as mentioned in the FD: according to Houben these “reports” (whatever they are) are checked by DNB’s accountants for the annual report and presumably should proof the existence of the Dutch gold. However, in DNB’s annual report 2016 there is no mentioning of such gold related “reports”, or any gold auditing for that matter. What are these “reports”? And in case these are audit reports, why aren’t those public?
Let’s address the arguments for DNB’s excuse in the FD: “because many people would have to check the contents and the many updates that are required” . This is nonsense. For a proper audit, indeed, the bar lists would have to be checked against the physical inventory at the BOE, FRBNY, BOC and DNB. But, if the Dutch gold is audited by now, what additional checks would have to be done for publishing the bar list? Neither are any “updates” required as everything has been allocated since 2008. All DNB’s justifications have fallen apart.
I asked DNB in November 2016 by email, what exactly are the “reports” mentioned in the FD special, and why can’t DNB publish the gold bar list as provided by the BOE (the one custodian openly stating to provide clients a bar list)? DNB replied [brackets added by Koos Jansen]:
In the red frame it reads:
In response to your messages I can inform you DNB has internal overviews of her gold possessions. These are being checked by external accountants [presumably this means the Dutch gold is audited]. As stated previously, DNB considers publishing a gold bar list to serve no monetary purpose. Thereby, creating a bar list for publication would be costly regarding the different formats delivered by our custodians. This means we will not respect your request for obtaining the gold bar list.
I presume DNB tries to communicate the gold has been audited, but how does one audit gold without a gold bar list that complies with LBMA standards? Only when cross checking bars with an inventory list that discloses all physical characteristics of the bars can audits be performed competently. Bar lists that comply with LBMA standards are indispensable for a physical audit.
Relying on audit documents (“reports“?) drafted by custodians is forgery. A physical audit has to be executed by a third party (not the owner and not the custodian). Common practise in the gold industry is to count 100 % and weigh 2 % of all bars at least once a year for an audit (source Bureau Veritas).
I don’t believe it would take DNB any effort to convert the different list formats by its custodians. It’s all digital and can be converted into one file within seconds. (Though publishing the bar list in different formats is fine too.)
By and by, publishing a gold bar list does serve a monetary purpose as it confirms how much monetary gold as nation truly holds. Without public bar lists countries can more easily create false data.
Sadly, in the email dated 5 January 2017 (exhibit 14) DNB told me it won’t reply to me anymore with respect to their bar list.
Secrets. In the past a central bank was proud of it. Nobody was allowed to know how much gold we had and where it was stored. But the age of central banks cherishing their image of a closed fortress is long gone. Openness is our new policy.
The question is, who’s not telling the truth here? That would be DNB, for sure, and possibly also the BOE and FRBNY.
Just to be clear, the amount of gold leased out by DNB is nil. In 2012 the Dutch Minister Of Finance, De Jager, declared in congress DNB had ceased all gold leasing activities by 2008.
Again, all the Dutch gold is allocated, and yet DNB declared in a newspaper the bar list can’t be published because it would cost “hundreds of thousands of euros“ – this has appeared to be an embarrassing statement andtruly blows DNB’s credibility. If DNB doesn’t wish to disclose its bar list, for whatever reason, it would have done wise not to comment at all on this issue.
But why all the nonsense? Time to speculate. We’ll run through a few scenarios:
Scenario 1) Publishing a bar list might limit DNB’s future flexibility to intervene in financial markets. Currently, DNB hasn’t got any gold leased out. But if the bar list would be published, my central bank would be obstructed in future covert leasing activities.
Suppose, the gold price spikes in five months from now. DNB, or multiple central banks in concert, decide to lease out monetary gold in order to calm the physical market. When the leases would be undone several years later, surely the bars returned will not be the ones lend out. Following this scenario, when a bar list is published now it would be inaccurate in a few years time; showing bars that are long gone, and can show up on private gold ETF inventory lists.
If readers question wether central bankers are capable of ‘not telling the truth’, consider what DNB’s Governor said in an interview early 2012 when asked if he would repatriate any gold from the FRBNY. His answer was firm: “No”. However, shortly after, DNB started to prepare repatriating by reinforcing its headquarters. A new security barrier was constructed around the compound. DNB confirmed to me this was done to prevent any trucks from crashing the building. Likely, the Governor ‘did not tell the truth’ in the interview for strategic reasons.
Scenario 2) It’s possible the BOE claims to provide its clients gold bar lists and auditing rights, but in reality it doesn’t. Meaning, DNB doesn’t have a bar list from the BOE that complies with LBMA standards, which forces them to come up with excuses whenever confronted. This scenario could mean custodial gold at the BOE (and FRBNY) has been embezzled.
In 2016 economist Guillermo Barba pressured the Banco de México to publish a gold bar list of the Mexican gold stored at the BOE. In February 2017 Banco de México delivered Barba a list, but it didn’t satisfy LBMA standards by far. Surely this was done on purpose, because how the list was distributed can never have been how the BOE keeps it. So prior to distribution parts of the list were edited. Barba pressured Banxico once more and received a new list in March 2017 (click here to download the list). But neither did the new list satisfy LBMA standards! The column in the list that reads “serial number“, doesn’t disclose the serial numbers physically inscribed on the bars, which makes them uniquely identifiable, but shows the BOE’s internal numbering. In my opinion Barba was fooled twice by Banxico. Or Banxico was fooled twice by the BOE.
My colleague Ronan Manly tried to obtain a gold bar list from the Irish central bank (CBI); gold stored at the BOE. The CBI’s first response was:
The record concerned does not exist or cannot be found after all reasonable steps to ascertain its whereabouts have been taken, …
Your request was referred to two divisions within the Central Bank of Ireland, … Both divisions have confirmed that they do not hold any such records which fall within the scope of this part of your request. Accordingly, this part of your request is refused.
As far as I know, there has never been a serial number of a gold bar stored at the BOE released in the public domain. It can be the BOE is routinely deceiving its clients by distributing incomplete bar lists.
In the past, the central bank of Austria (OeNB) has failed to audit its gold at the BOE. The Austrian Court of Audit (Der Rechnungshof) wrote in a report in 2015 [brackets added by Koos Jansen]:
… the gold depository contract with the depository in England [BOE] contained deficiencies. With respect to the gold reserves stored abroad, internal auditing measures were lacking.
The OeNB had no appropriate concept to perform audits of its gold reserves. …
Was the OeNB blocked entrance from BOE vaults in 2015?
There is proof FRBNY clients have not been able to audit their gold in New York, at least not in 2007. The German Bundes Rechnungshof released a report in 2012 on the safety of the German gold abroad. Although the report is heavily redacted, on page 10 we read German auditors were not allowed entrance in the FRBNY gold vault to inspect their precious metals, nor were any other clients:
A possibility for the owners to physically record the holdings of their gold is not provided in the terms and conditions. According to the FRBNY, it’s a long-term practice not to allow the owners to inspect their assets in the interest of a safe working and control process. It has confirmed to the Bundesbank that these conditions for gold custody also apply to all other clients that store gold at the FRBNY.
In response to repeated requests from the internal auditors of the Bundesbank, their representatives were given the opportunity to enter the vault system in June 2007 to get an impression of the safety precautions. However, the employees were not given access to the vault compartments, but only to an entrance hall. An examination of gold was therefore not possible.
[Four redacted paragraphs follow]
Clearly the Germans were blocked from auditing their metal, and for decades all FRBNY clients had suffered the same fate.
Not surprisingly, after the developments between the OeNB, BOE, Bundesbank and FRBNY both European central banks decided to repatriate significant shares of their gold stored overseas. And both repatriate over the course of multiple years, which accentuates the friction between the custodians and their clients.
Maybe DNB has experienced the same obstructions in New York as the Germans and hence decided to repatriate.
Scenario 3) DNB just doesn’t feel like publishing a gold bar list.
Who’s to say what the truth is? If readers can think of an additional scenario please comment below.
My final conclusion is that DNB is lying about its gold bar list, which is worrisome as it shouldn’t be necessary, or things behind the scenes are more convoluted and DNB is being lied to by its custodians, which is even more worrisome.
In short, producing a bar list that complies with LBMA standards should be child’s play. And only proper lists can grant us the safety of all the official gold reserves stored at the BOE and FRBNY. As of March 2017 the BOE and FRBNY stored an aggregated 10,821 tonnes of gold, of which the majority is monetary gold.
The Bundesbank, OeNB and DNB all claim their gold is audited by now, but none of them has ever released an audit report. The German central bank wrote me it doesn’t publish its audit reports “since Deutsche Bundesbank and its partners have agreed to maintain confidentiality with regard to the audits”. More secrecy and central bank collusion, no surprises there.
Until central bankers are fully transparent about their gold dealings we can have but mere distrust in them.
This post is part of the Chinese Gold Market essentials series. Click here to go to an overview of all Chinese Gold Market Essentials for a comprehensive understanding of the largest physical gold market globally. This post was updated late 2017.
In this post we will analyze everything there is to learn about PBOC gold purchases. Grasping the exact size of their official gold reserves is unfortunately impossible, assuming they have more than what is publicly disclosed (roughly 1,840 tonnes as of 2017), but there are many clues signalling they’ve covertly bought hundreds if not thousands of tonnes of gold since 2009.
The purpose of this post is to get an overview of all clues and data in order to separate the facts from speculation regarding PBOC purchases. Subsequently, we’ll estimate how much above ground gold is held in China mainland – official (PBOC) and private reserves.
I have been writing for a long time the PBOC does not buy any gold trough the SGE, and therefor PBOC purchases must be seen in addition to the flows of gold going through the famous bourse in Shanghai. Though, it’s necessary to expand on this subject in great detail.
We have a fairly good view on how much gold is going through the SGE and thus how much non-monetary gold is net imported into China from countries like the UK, Switzerland, Hong Kong and Australia (after which it’s not allowed to be exported and thus is accumulated in the mainland). If we add domestic mine supply to imported gold, we can estimate how much gold is held in reserves by the Chinese. But, are any of these visible gold flows bought by the PBOC? Not according to my investigation.
Why The PBOC Does Not Buy Gold Through The SGE
Below are the reasons why I think the PBOC does not buy gold through the SGE.
1) The PBOC prefers to buy gold with US dollars, while all physical gold on the SGE is quoted in yuan.
To get a better grip on this subject it helps if we understand why the PBOC would buy gold in the first place, so let’s sum up all possible incentives. The main objectives for the PBOC to accumulate physical gold are:
Supporting the renminbi for its internationalization (adding trust and credibility to the renminbi).
Owning hard currency (gold) as the cornerstone of capitalism.
Owning reserves (gold) that protect the Chinese economy from external/internal shocks and inflation.
Owning neutral reserves (gold) that are not controlled by a foreign nation (the US).
Diversifying its excessively large US dollar (USD) reserves.
Hedge their USD reserves.
Overthrow the USD hegemony.
After reading this list it should be clear the PBOC rather buys gold with their foreign exchange reserves than with renminbi – China’s FX reserves are worth about $3.0 trillion (2017) and mostly held in USD. The amount of gold currently on the PBOC’s balance sheet (roughly 1,800 tonnes) is disproportionate to the amount of USD held. Hence, the PBOC would prefer to exchange USD for gold. All gold on the SGE is quoted in yuan, meaning the PBOC can’t exchange USD for gold through the SGE. Therefor, the PBOC is more likely to buy gold abroad and these purchases should be added to the visible gold flows we see entering the mainland through the SGE.
2) The PBOC would prefer to buy gold in large 12.5 Kg bars, which are relativly more cheaper. 12.5 Kg bars have almost never traded over the SGE.
It should be said the SGE is a subsidiary of the PBOC. In 2002 China’s central bank erected the SGE to develop the domestic Chinese gold market; for the people to trade gold in yuan. The gold bar sizes available on the SGE are 50 gram, 100 gram, 1 Kg, 3 Kg and 12.5 Kg. Though, the volume of 12.5 Kg contracts (Au99.5 and iAu99.5) ever traded on the SGE is close to nil.
Only the 50g, 100g, 1 Kg and 3 Kg bars are traded, which are consumer sizes. This is a sign the PBOC is not buying gold through the SGE. Gold in large 12.5 Kg bars is relatively cheaper and more attractive for central banks. All central banks, that I know of, hold large bars.
3) The PBOC would prefer to hide its gold purchases.The reason we don’t know how much Chinese official gold reserves are is because this is the best kept secret in China. The PBOC buys gold in utmost secret or it would influence the market and geo-politics. If we think from the PBOC’s point of view, why would they leave a single trace when buying gold? Why would the PBOC buy any gold through the SGE for the world to see? I think they wouldn’t.
The PBOC, having an incentive to exchange its superfluous USD in the international OTC market for gold, is actually obliged to monetize the gold it buys abroad. And when these purchases are transferred to China they will not be disclosed in foreign customs statistics. Subsequently, monetary gold imported into China does not go through the SGE, as only the non-monetary small gold bars go through the SGE.
All visible gold exports to China, traded over the SGE, are not PBOC purchases.
5) The PBOC would prefer to buy gold in an OTC market, not over an exchange like the SGE.The majority of global gold trade is done through the London Bullion Market; the most liquid market there is. This is not a central exchange like the COMEX, but an Over The Counter (OTC) market where buyers and sellers connect (electronically) one on one to trade gold without nosy analysts taking notes. The gold traded can be Loco London – located in London – or elsewhere. The London Bullion Market is ideal for the PBOC, as opposed to the SGE.
6) Another reason for the PBOC to buy abroad would be because it’s cheaper. Gold on the SGE often attracts a significant premium over London spot. Why would the PBOC pay that premium? Especially if it’s buying large quantities.
7) There is anecdotal evidence the PBOC covertly imports gold.Gold industry expert Jim Rickards has written in The Death Of Money (2014):
A senior manager of G4S, one of the world’s leading secure logistics firms, recently revealed to a gold industry executive that he had personally transported gold into China by land through central Asian mountain passes at the head of a column of People’s Liberation Army tanks and armored transport vehicles. This gold was in the form of the 400- ounce “good delivery” bars favored by central banks rather than the smaller one- kilo bars imported through regular channels and favored by retail investors.
This is very interesting. Not only because it demonstrates the PBOC prefers 400 ounce (12.5 Kg) bars over 1 Kg bars, but more so because it confirms the PBOC does not import gold through visible channels. This strengthens my analysis the PBOC does not buy any gold through the SGE. Again, all visible import (in general trade) is required to be sold through the SGE in China.
For information on how monetary gold might be imported into China by the military please read my post China’s Gold Army.
What I [Jim Rickards] don’t know is about the Shanghai Gold Exchange sales, they’re pretty transparent, how much of that is private and how much of that is the government [PBOC]. And I was sort of guessing 50/50, 70/30, whatever. What they told me, and these guys are the dealers [the three heads of the largest bullion banks in China], it’s 100 % private. Meaning, the government operates through completely separate channels. The government does not operate through the Shanghai Gold Exchange. … None of what’s going on on the Shanghai Gold Exchange is going to the People’s Bank Of China.
9) The SGE chairman has stated only consumers buy gold over his exchange. On the LBMA Forum in Singapore on June 25, 2014, a speech was delivered by Xu Luode, then Chairman of the Shanghai Gold Exchange. Below is a snippet from Xu:
Last year, China imported 1,540 tonnes of gold. Such imports, together with the 430 tonnes of gold we produced ourselves, means that we have, in effect, supplied approximately 2,000 tonnes of gold last year.
The 2,000 tonnes of gold were consumed by consumers in China. Of course, we all know that the Chinese ‘dama’ [middle-aged women] accounts for a significant proportion in purchasing gold. So last year, our gold exchange’s inventory reduced by nearly 2,200 tonnes, of which 200 tonnes was recycled gold.
Xu mentions the amount of gold imported into China mainland in 2013 (1,540 tonnes). Would Xu be allowed to break China’s best kept secret on an LBMA forum? Would any of these imports end up at the PBOC? I don’t think so. Moreover, Xu explicitly says all imports and mine output (and scrap supply) has been sold through the SGE system to consumers, not the PBOC.
10) SGE withdrawals are elevated when consumer buying is strong.When examining SGE gold purchases by withdrawals from SGE designated vaults, we can depict a seasonal trend of strong demand around New Year (and in April 2013 and mid 2015). The Chinese people typically buy gold in this period as gifts for each other. Does this trend look like PBOC activity? No.
China’s authorities have a range of options when purchasing gold. They may acquire some of the gold which flows into China; there has been no shortage of that. But there are reasons why they may prefer to buy gold on international markets: gold sold on the SGE is priced in yuan and prospective buyers – for example, the PBoC with large multi-currency reserves – may rather use US dollars than purchasing domestically-priced gold. The international market would have a lot more liquidity too.
12) All reliable sources I have regarding the Chinese gold market tell me the PBOC does not buy gold through the SGE. One of these gentlemen, with ties to bullion banks worldwide, confirmed to me proxies of the PBOC purchase gold directly in the London OTC gold market that is shipped to Beijing with “own airplanes” (possibly by the Chinese gold army). In addition, a Chinese banker told me the PBOC buys gold “in the OTC market”, and, “PBOC proxies can deal directly with refineries in Switzerland and Africa, such as Rand and MKS“.
…none of the 2,200 tonnes of gold was bought by the Chinese central bank. The President said: “The PBOC does not buy gold through the SGE.”
14) The head of a global operations company in security transport leaked in 2013 that 12.5 Kg bars were covertly imported into China for the PBOC. When I interviewed Alex Stanczyk, currently Managing Director of Physical Gold Fund SP, on 9 September 2013 he told me [brackets added by Koos Jansen]:
…We talked to the head of the largest refinery in Switzerland and he told us directly that all that metal that’s coming out of London (904 tons YTD) is being refined into kilo bars and send to China, as well as metal that’s coming in from other areas in the world, that’s all going to China. It’s way more than is being reported or moved through the exchanges. All the kilo bars go to the Chinese people but the PBOC is likely only buying good delivery.
With ‘good delivery’ Alex means the 12.5 Kg large bars that are not being sold through the SGE, but are imported as monetary gold into China without showing up in any country’s customs reports. The quote very clearly indicates that 12.5 Kg bars are imported into China for the PBOC without moving through the SGE.
I shall rest here. The purpose of the listed arguments is to provide you with as much information about the Chinese gold market and PBOC purchases as possible.
In short: according to my analysis the PBOC does not buy gold through the SGE!
How Much Gold Does The PBOC Hold?
What do we know about how much the PBOC has bought? Allow me to present a few clues:
1) From a study by Zhang Bingnan, Vice President of the China Gold Association, we can read the PBOC buys approximately 500 tonnes a year (August 2012):
Forecast the optimal gold reserve capacity in the next 20 years. The conclusion is: 2020, China’s gold optimal reserves should be 5,787 tonnes – 6,750 tonnes. 2030 should be 8,995 tonnes – 10,532 tonnes.
2) Yi Gang, deputy Chinese central bank governor, stated the PBOC is able to buy approximately 500 tonnes a year (March 2013):
We will always keep gold in mind as an option in reserve assets and investments. We are able to import 500-600 tons a year, or more, but we will also take into consideration a stable gold market. If the Chinese government were to buy too much gold, gold prices would surge, a scenario that will hurt Chinese consumers. We can only invest about 1-2 percent of the foreign exchange reserves into gold because the market is too small.
3) Song Xin, President of the China Gold Association, wrote on July 2014 the PBOC should first aim to reach the 4,000 tonnes mark [brackets added by Koos Jansen]:
That is why, in order for gold to fulfill its destined mission, we must raise our [official] gold holdings a great deal, and do so with a solid plan. Step one should take us to the 4,000 tonnes mark, more than Germany and become number two in the world, next, we should increase step by step towards 8,500 tonnes, more than the US.
4) According to Deutsche Bank Markets Research the PBOC buys 500 tonnes a year (November 2014):
In another example, the Chinese government’s open market purchases of roughly 500 tonnes per year have not prevented the gold price from plummeting in recent years.
5) Numerous Chinese analyst suggest the PBOC aims to hold 5,000 tonnes in official gold reserves. Roland Wang, World Gold Council China Managing Director, said (March 26, 2015):
China currently holds about 1.6 percent of its foreign exchange reserves in gold, which is relatively low compared with developed countries and some developing countries, WGC China managing director Roland Wang said.
“The ideal amount should be at least 5 percent of its total forex reserves,” Wang told Reuters in an interview in Hong Kong.
Remarkably, the exact same day Reuters published Wang’s statement Chinese newswire Caixin published a story on gold written by Hedge Fund manager Li Sheng (March 26, 2015):
Gold accounts for only 1.6 percent of China’s forex reserves. This is only a fraction of the figure in the United States and many other developed countries. If China ever increased the level to 5 percent, it would have an enormous impact on global demand for gold.
Li mentions the exact same numbers as Wang from the World Gold Council on the same day: 1.6 % and 5 % of total FX reserves. If China would announce they hold 5 % of total reserves in gold, this would translate into roughly 5,000 tonnes.
If the PBOC would have more than 5,000 tonnes of official gold reserves their ‘gold to GDP ratio‘ would be roughly on par with to the US, Europe and Russia. One of the theories about our current international monetary system – that was detached from gold in 1971 – is that it can shift to a new gold anchored system when all power blocks have equalized the chips (Jim Rickards). In other words, if the US, Europe, Russia and China all have an equal ratio of official gold reserves to their GDP, the international monetary system could make a transition towards gold.
6) Jeremy East, Managing Director Global Head, Metals Trading, Standard Chartered Bank, stated the PBOC is planning to support the renminbi with gold for internationalization (June 25, 2014):
I was at the Shanghai Derivatives Forum at the end of May and one of the speakers was a representative of the [China] Gold Association. He gave us quite an interesting insight into the flavor of what is going on in China from a strategic perspective. Some of the things he talked about included that China planned to change the landscape of world gold markets. He talked about having a strong currency and about having that currency backed by gold, like the US dollar. He also talked about people holding more gold and encouraging more people to hold gold. That is not just individuals, but also the central bank. …
(By the way, China is not planning to “back” their currency with gold in my opinion, they’re more likely to “support” their currency with gold at no fixed parity.)
7) The PBOC could have bought as much as 1,750 tonnes of gold in London in between 2011 and 2015. Although, it’s virtually impossible to track monetary gold flows around the world, as these are exempt from international merchandise trade statistics, the least we can do is try. In September 2015 Ronan Manly and Nick Laird conducted an investigation with respect to how much monetary and non-monetary gold was present in the UK. Luckily, the London Bullion Market Association (LBMA) had published a few estimates in recent years about the total amount of physical gold in London (monetary and non-monetary). In 2011, there were 9,000 tonnes in London. In 2015, there were 6,256 tonnes in London – likely all in 12.5 Kg Good Delivery (GD) bars. These estimates from the LBMA combined with Manly and Laird their investigation have resulted in the next charts (conceived by Nick Laird, Sharelynx):
For a better understanding of physical gold located in London you can read this post by Ronan, this post by Nick or have a look at the next illustration conceived by Jesse from Cafe Americain:
Remarkably, according to estimates by the LBMA the total amount of gold in London decreased by roughly 2,750 tonnes in the period from 2011 until early 2015, while UK’s customs department discloses only 1,000 tonnes were net exported as non-monetary gold during this period. Implying, 1,750 tonnes have been (covertly) exported as monetary gold.
8) Dutch newspaper NRC Handelsblad published an article in 1993 about a 400 tonnes gold sale from the Dutch central bank that was partially bought by the PBOC (you can read a translation of the article here). From NRC:
“With 99 percent certainty we know that the People’s Bank of China has been one of the buyers of the Dutch gold”, said Philip Klapwijk from Goldfields Mining Services, an institute in London affiliated with the South African gold mines that specializes in research into the gold market. Also other London bullion dealers have a strong suspicion that China was involved in the gold sales of DNB. “We have noted that the Chinese central bank has bought gold in recent months”, said John Coley of the London bullion dealer Sharp Pixley and spokesman of the London Bullion Market Association.
I should add, in the nineties the PBOC was the primary (monopoly) dealer in the Chinese domestic gold market and in theory could have sold the gold to Chinese jewelry fabricators.
Facts And Speculation
Let’s chew on some numbers. In the first chart below I’ve plotted a conservative estimate of the total above ground gold reserves in China mainland in June 2017. This conservative estimate is based on the assumption the PBOC owned 1,842 tonnes in June 2015 (this is what the PBOC officially discloses), and the rest of imports and mining were added to private holdings.
What about the amount of private reserves displayed in the chart? Let me explain my calculations from the starting point in 1994. Precious Metals Insights (PMI) has estimated that 2,500 tonnes of gold where held by population in the mainland in 1994, that’s the dark grey jewelry base you can see in the chart. The PBOC official reserves in 1994 accounted for 394 tonnes. In addition, Chinese domestic mining was 90 tonnes in 1994. Below is a chart showing historic Chinese domestic mining output.
China is said to be a gold “importer since the 1990s”, suggesting domestically mined gold was not exported after 1994. In the next screen shot from the China Gold Market Report 2010 we can read “China has been a gold importer since the 1990s”.
Furthermore, China began importing (non-monetary) gold a few years ago, have a look the next chart that shows historic gold trade between Hong Kong and China. Net imports ramp up in 2010. Other countries than Hong Kong, such as Switzerland, also started to visibly export to China after 2010.
So, the starting point in the first chart on Estimated Total Gold Reserves in 1994 in China mainland is computed as:
Subsequently, I’ve added annually domestic mining output – as the Chinese didn’t net export any gold since 1994 – and net imports every succeeding year in the chart. I’ve subtracted all PBOC official reserves gains before 2007 from cumulative domestic mining, the gains after 2007 have I have not subtracted from cumulative domestic mining. Why? Two reasons:
The Chinese domestic gold market (SGE) was fully liberalized in 2007 after which I think the PBOC stopped taking in any gold from domestic mines. (Prior to the liberalisation of the Chinese domestic gold market the PBOC was the primary dealer.)
According to my calculations, from 2003 until 2009 total Chinese gold supply (scrap + mine + import from Hong Kong) wasn’t sufficient to meet total consumer demand and 454 tonnes in PBOC purchases over that period. Although the PBOC claims all purchases before 2009 were done from domestic mines and scrap, I don’t think that’s possible. Hence, I think the PBOC started invisible import somewhere in between 2003 and 2009. And therefor, anything the PBOC added to its official gold reserves after 2007 I did not subtract from cumulative domestic mining.
Lead by the aforementioned calculations, the PBOC had accumulated 1,843 tonnes and the Chinese private sector 16,193 tonnes in June 2017 2016 (in total 18,036 tonnes).This does not capture gold in the black market, that thrived before 2002, neither any assets from wealthy Chinese families. It’s the most conservative estimate I can make using all data I could find.
However, in my opinion the PBOC has bought a lot more gold in recent years. What all the clues mentioned above have in common, is that the PBOC has bought roughly 500 tonnes of gold per year since 2009. Let’s make a new more speculative chart:
The above chart is a copy of the previous conservative estimate, supplemented by 500 tonnes per year since 2009 in PBOC purchases, which I have not subtracted from cumulative domestic mining or cumulative import, as my assumption is this gold has invisibly been imported and not bought through the SGE. (I stopped adding 500 tonnes per year after 2015 because evidence is lacking.)
Speculating: the PBOC has accumulated at least 4,000 tonnes and the Chinese private sector 16,193 tonnes as of late June 2017 (in total 20,193 tonnes).
Above you could read clues from Song Xin (China Gold Association, July, 2014) and Jeremy East (June 25, 2014) about China working on a ‘new monetary system’ that will include gold. Something similar was said by Zhou Ming, General Manager of the Precious Metals Department at ICBC, when Jeremy East asked him at the LBMA forum in Singapore (June, 2014) if the statement “Western gold moves East” was true:
With the status of the US dollar as the international reserve currency is shaky, a new global currency setup is being conceived. Uncertain changes will happen to gold’s traditional dollar-pricing so the US dollar’s influence on gold pricing needs to be re-evaluated.
But, of course, this could also relate to Ming bragging about renminbi internationalisation.
In response to a FOIA request the US Mint has finally released reports drafted from 1993 through 2008 related to the physical audits of the US official gold reserves. However, the documents released are incomplete and reveal the audit procedures have not been executed proficiently. Moreover, because the Mint could not honor its promises in full the costs ($3,144.96 US dollars) of the FOIA request have been refunded.
Thanks to my readers that donated to the crowdfunding campaign I’ve been able to force the US Mint through a Freedom Of Information Act (FOIA) request to hand over documents related to the physical audits of the US official gold reserves stored at the Mint; also referred to as Deep Storage gold. Although the PDF-package digitally sent to me is redacted, incomplete, includes pages copied twice and materials I didn’t ask for, it’s the closest thing that I’ve ever seen to physical audit documentation of gold at Fort Knox and the other Mint depositories drafted in between 1993 and 2008.
What is worrying is that the reports now in my possession reveal the audit procedures have not competently been executed. Combine that with the fact the documents are incomplete and redacted, and the result is suspicion of fraud. In this blog post we’ll have a first critical look at the reports and the problems to be found within.
For starters, allow me to expand on what I think happened at the Mint’s headquarter on the 8th floor at 801 9th Street NW Washington DC, before these documents were sent to me.
It should be clear that the US Treasury (owner of the gold), US Mint (main custodian), Federal Reserve Bank Of New York (second custodian), and the Office Inspector General of the US Treasury (head auditor), are reluctant to disclose information about the audits of the gold at the four largest depositories that store over 8,000 fine metric tonnes. Consider that the most seasoned gold analysts aren’t even aware this gold is audited.
What nobody knows is that according the US government 100 per cent of the Deep Storage gold has been audited in between 1974 and 2008 (page 4). This period can be divided in two chapters: the first runs from 1974 until 1986 when the Committee for Continuing Audit of the U.S. Government-owned Goldverified the majority of the Deep Storage metal. The second chapter covers 1993 until 2008 when the residual was examined under the supervision of the Office Inspector General of the US Treasury. In my previous posts on this subject we focused on the first chapter, what is written below skims the surface of the second. As promised, eventually I will publish a full in-depth analysis of all chapters (there are additional chapters in the fifties, from 1986-1993, in 2009, 2010 and 2011).
Over the years my inquiries at the US government though regular channels have produced little intelligence about the physical audits of the Deep Storage gold. Some departments cooperated at first, but eventually they stopped replying emails or just hang up the phone while I was talking. The second layer of defense was raised when I started submitting FOIAs. Instead of honoring my requests they tried to delay and dodge most appeals. Clearly, the US government prefers not to answer my questions than to flaunt with the audit results.
However, in 2016 I embraced the motivation to push through and find out how many gold bars were counted, weighed and assayed in between 1993 and 2008, when allegedly the last series of physical audits was conducted. Not surprisingly, zero US government departments could provide me the information I was looking for, but through certain FOIAs I obtained leads to submit new FOIAs, and so on 12 Augustus 2016 I demanded, inter alia, the “memoranda submitted by the US Mint Director’s representative regarding audits of the Mint Schedule of Custodial Gold and Silver Reserves to the Chief Financial Officer drafted from 1993 through 2008”. The Mint replied this request would costs me $3,144.96 dollars because it would take 40 hours to search the respective documents, 8 hours for review, and additional costs would be incurred to duplicate 1,200 pages. I thought this was hogwash – 1,200 pages seemed out of proportion for such memoranda, how hard can it be to find a few pages and how did they know it were going to be 1,200 pages if they had to search 40 hours for it – but decided to start a crowdfunding campaign to collect the money.
Within 24 hours the campaign was completed and late August 2016 I sent the Mint a check, in the hopes to receive the documents a.s.a.p.. After the Mint pretended the check was missing for a few weeks, they communicated on 28 September 2016 the funds had arrived and they were working to get the requested documents out to me (exhibit 1).
Months past but nothing happened. I sent several emails and called the Mint three times, but time and time again I was maintained with false excuses. Then, finally, on 23 December 2016 the Mint delivered the documents I paid for. Sort of. Instead of 1,200 pages I received 223 redacted pages that contained 68 pages of reports I didn’t ask for and 21 pages that were copied twice. Effectively, I got 134 pages related to my FOIA request.
When I confronted the Mint I paid $3,144.96 dollars for a meager 134 pages they agreed the costs had been estimated to high and a refund was reasonable. Actually, they told me they never cashed the check. So, quickly I told my bank to cancel the check and ordered my crowdfunding platform to refund all my donors.
As of now all donors to my crowdfunding campaign should have received their money back (if not, please write me an email, see below for my address). From the bottom of my heart I would like to thank everyone for the loan that made this operation possible1!
For me a slight doubt remained if the Mint had tried to fend me off by asking a disproportionate amount of money for a few pages that I assume are alphabetically archived, or that they handled my case in all honesty. A skeptical mind would think the former. To find out I read the internal emails of the Mint employees that handled my FOIA. Those are not directly publicly available, but I was told a trick by more experienced FOIA scholars that reached out to me after I published my previous blog posts on this subject, to ask the Mint for internal emails through, what else, a Freedom Of Information Act request (exhibit 2).
And it worked! On 10 January 2017 I received all (I hope) emails from the Mint I was looking for. Including one wherein Audit Liaison at the United States Mint Tom Noziglia makes an estimate for the costs of my FOIA request of 12 August 2016. Read below (exhibit 3).
At first sight it seems Noziglia and his office stick to prudent protocols. But possibly this email is a veil, meant to deceive me if I would ever read it. Actually, yes, I think it’s a cloak and I’ll share my theory.
We can read from Noziglia, “as Audit Liaison at the US Mint, I [Noziglia] am responsible for the coordination of all external audit initiatives … I have extensive experience in precious metal inventory, … I … coordinate the execution of the annual OIG [Office Inspector General] Joint Seal Inspection of the Custodial Gold at the US Mint”. This page tells us Noziglia is one of the auditors of the US official gold reserves. So, the email above (exhibit 3) was written by the auditor who was involved in the procedures of which I requested the documentation. Noziglia must have known my inquiry could be simply honored by sending just a few pages of documentation, as he was a co-author of the documents in question.
Firstly, with the benefit of hindsight we know Noziglia was lying in his email because by now I have the documents that count only 134 pages, and he was the coordinator of the annual inspections of custodial gold at the Mint. He must have known there were no “1,200 pages in 80 boxes” and so his $2640.00 dollar estimate is a hoax. I think Noziglia wrote the email expecting I would NOT pay the ludicrous amount of dollars, but possibly DID submit a new FOIA to view the Mint’s internal emails. Chances are slim someone could pay $3,144.96 dollars right? But I’m not the first who submits an additional FOIA to obtain internal emails. Hundreds of people went before me, this is a well-known trick for FOIA pundits, and many public servants in the US must be aware of this hazard. Hence I reckon public servants consciously write emails to colleagues, as if these will be publicly released some day. I’ve come to understand submitting and answering FOIAs is nothing but a cat and mouse game.
Second, the Mint never cashed the check. If they really thought they would have to search 40 hours, why not cash the check immediately and get busy? I guess they knew very well there was no searching required.
Third, in case Noziglia had never seen a “memoranda submitted by the US Mint Director’s representative regarding audits of the Mint Schedule of Custodial Gold and Silver Reserves to the Chief Financial Officer”, which is not likely but let’s give him the benefit of the doubt, he could have viewed the most recent version at his office that wasn’t sent to the National Archives (NARA) yet. By doing so he would have learned very effectively these annual memoranda count only a few pages.
Fourth, Noziglia states in his email (exhibit 3) he’s not sure if he will find the documents at all. But this is impossible because he’s a dedicated Mint auditor so he must know what documents the Mint sends to NARA every year. In addition, there was no need for Noziglia to “order off site” boxes, because he simply could have commanded NARA staff to deliver specific documents – this is common practice.
Fifth, in the CC of Noziglia’s email is Kenyatta Fletcher, who is the Chief of the Accounting Division of the Mint. If, which is a big if, Noziglia didn’t know what I was looking for, Fletcher would’ve known these documents wouldn’t count 1,200 pages. But still I was charged a laughable $3,144.96 dollars.
Sixth, Noziglia’s estimate is $2.640.00 dollars, but I have no emails that clarify why $504.96 dollars were added for a total of $3,144.96 dollars I was charged. This indicates, Mint staff communicated in person or through phone calls to finalize my request, and so could have done likewise to handle it in general. Concluding, Noziglia’s email doesn’t paint the full picture of the internel communication.
Seventh, please read what Noziglia’s colleague Grimsby replied to him after 4 minutes.
“Great email”? Why would Grimsby praise Noziglia for his email? If Grimsby would have written,“I agree”, I can understand. But,“great email”? Perhaps Grimsby meant to write, “great calculation that makes no sense, but is likely deceive an ignorant FOIA requester if he would ever read it!”? It sure looks like it.
My guess is that Noziglia, Grimsby and Saunders-Mitchell met in the hallway in the afternoon of 15 August 2016 and agreed for Noziglia to write a phony email that arrives at an amount of dollars aimed to scare me off. In the email below you can read Noziglia suggested to Grimsby to discuss in person in the afternoon of 15 August 2016 the estimate for the costs.
So far we’re confirmed, again, that the US gold is held in secrecy. No surprises there. Moving on to the content of the documents.
Audit Documents Released Are Incomplete
When one walks into a US Mint repository the main barrier will be the door to the vault room. In the case of Fort Knox this a 20-tonne door of which no one person is entrusted with the combination. Once inside the vault room the gold is stored in segregated compartments that are sealed since at least the fifties.
The official narrative is that by 2008 the load of all 42 compartments had been physically audited. Every compartment had been opened, the gold inside counted, weighed and assayed, after which the gold was stacked in an adjacent compartment in the vault room (in several documents it’s described this is the way the gold is physically audited). Subsequently the target compartment door was closed and placed under Official Joint Seal, if during the verification no discrepancies had been found with the Mint’s bullion ledger. In most years until 2008 one or two compartments were opened for a physical bar examination, while the other compartments were merely inspected for any tampering of the Official Joint Seal (OJS). The purpose of joint seals is to avoid the necessity of verifying all assets in each annual audit.
Thus the audits of the Deep Storage gold consist of two conventions: gold verifications, which are the physical audits of gold bars inside the compartments. And OJS inspections, which are checks of the seals placed on the compartment doors. The superintendent in the audit procedures is the Office Inspector General of the US Treasury, in short, the OIG.
When reading the audit documents delivered to me (the Memoranda hereafter) the distinction between gold verifications and OJS inspections is clear. Let me show you an example of Fort Knox. The first screen shots below are from a gold verification at Fort Knox in March 1998.
The following screen shots are from the OJS inspection at Fort Knox in June 1998. We conclude gold verifications and OJS inspections are performed separately and thus are reported as such.
Click here and here to download all Memoranda sent to me by the US Mint.
After I had organized the documents and imported all data in spreadsheets I noted the 134 pages exclude 27 OJS inspection reports and at least 3 gold verification reports. I’ve asked the Mint to deliver the missing Memoranda, although I’m not expecting them to ever comply.
The fact 30 Memoranda are missing is of course highly problematic. Bear in mind, I offered the Mint $3,144.96 dollars to produce these documents.
In case you’re wondering how I know what gold verifications reports I’m missing, this is because references are made to these physical audits in succeeding gold verification reports. Fort OJS inspection reports, those should be done every year.
Below is an example of an Official Joint Seal. I obtained nearly all OJS copies from a separated FOIA request at the OIG.
Submitted a whole bunch of FOIA requests at US government departments regarding Fort Knox today. #gold
Fort Knox Compartment 31 Was Opened In 1996 For Dubious Reasons
There are a couple of disturbing lines written in the Fort Knox OJS inspection report of 1996. Although for an OJS inspection seals should only be examined for tampering, on 12 August 1996 at the Fort Knox OJS inspection two representatives of the General Accounting Office (GAO) showed up in the vault room and decided to select “a single joint sealed compartment for opening and inspection”.
Unfortunately the report doesn’t say what was in the vault compartment; how many bars and fine troy ounces (FTO) it contained. Based purely on this document it would impossible to decipher what the GAO exactly did. However, by combining the info in the 1996 OJS inspection report with documentation obtained through a FOIA requests at the OIG, we do know what happened.
Have another look at exhibit 10. We can read Fort Knox compartment 29 was sealed in 1998. But the content, 19,800 gold bars weighing 6,470,624.049 FTOs before assays samples were taken, was sourced from compartment 31 that was sealed on 12 August 1996. Was compartment 31 the one opened by the GAO in 1996? Yes, without a doubt.
By examining all OJS copies – such as demonstrated in exhibit 10 – it shows there was no other vault segment freshly sealed on 12 August 1996 other than compartment 31. Moreover, the 1996 OJS inspection report mentions only one joint sealed compartment was breached. Therefore we know the GAO representatives opened Fort Knox compartment 31 comprising 19,800 gold bars weighing 6,470,624.049 FTOs on 12 August 1996.
Furthermore, in the 1995 OJS inspection report we read there was one compartment – the number is redacted – that contained 19,800 gold bars weighing 6,470,624.049 FTOs. And in 1995, 1996 and 1997 there were no gold verifications at Fort Knox as far as I know, other than the GAO incident. Have a look below at a screenshot from the 1995 Fort Knox OJS inspection report.
What happened is that on 12 August 1996 compartment 31 was opened by the GAO to “check a few bars”, but then two years later in 1998 the same gold was verified by the OIG; all the gold inside taken out of compartment 31, counted, weighed and assayed, to be stored across the hall in compartment 29. This is suspicious. I quote, “the purpose of joint seals is to avoid the necessity of verifying all assets in each annual audit”.
I do not possess the official rules for US Mint OJS inspection and gold verification for the year 1996 (“MD 8H-1”), but based on the rules that prevailed in 1975, what the GAO did on 12 August 1996 was not done. Read with me.
How come the GAO could open a compartment? The OIG stated under oath in 2011, “since 1993, when we assumed responsibility for the audit, my office has continued to directly observe the inventory and test the gold” (page 4). If the OIG is responsible how come the GAO could break a seal?
Let’s contemplate this: if the “random checks” the GAO performed in 1996 in compartment 31 formed an adequate gold verification, why did the OIG re-audit the exact same gold in 1998? And what was the intention of the GAO in 1996? The GAO couldn’t fully audit compartment 31, because they were present at Fort Knox only for one day (12 August), and no single person or flock of auditors can verify 19,800 large gold bars in one day. The fact these 19,800 gold bars were re-audited in 1998 underlines what the GAO did in 1996 was inappropriate at best.
One theory is that the gold in compartment 31 was prepared in 1996 to be physically audited down the road. Remember what the Fort Knox gold verification report of 1998 stated (exhibit 7.2)? In 1998 the OIG, “selected predetermined individual bars to be drilled for assay”. Possibly, the OIG selected the exact bars in 1998 that were put in in 1996. If this is true the names and autographs of the perpetrators of this crime are on the seal of compartment 29 (exhibit 10).
My succeeding post on this subject will expose that many other Deep Storage compartments at the Mint have been opened for dubious reasons as well. Which could be the reason the Mint didn’t provide us ALL the OJS inspection reports from Denver and West Point from 1993 through 2003 (exhibit 9).
Weighing Sample Size Remarkably Low
We need to discuss the sample size of the gold verifications. In 1998 at Fort Knox 19,800 gold bars were inspected but only 105 of them were weighed and assayed (exhibit 7.2). That’s not much in my humble opinion. In any case, I expected a higher sample size.
In the 1953 audit at Fort Knox (download report here) in total 88,000 bars weighing 48,506,985 FTOs were counted for verification. About 10 % of those were weighed.
During the Continuing Audits from 1974 through 1986 it seems 2 % of the gold counted was weighed. A huge decline from 1953.
Although gold bars tested to be out of tolerance during a Fort Knox audit in 1977 at a sample size of 2 %, by 1998 the sample size had been further debased to 0.53 %. I’m not a professional auditor (if you are one please contact me), but common sense suggests that when irregularities are found the sample size should be increased, not decreased.
To make matters worse, in 1999 at West Point the sample size was 0.52 %, and again, a melt appeared to be out of tolerance.
Was the sample size increased after 1999? Not really. At Fort Knox in July 2000 the samples size was 0.65 % (93 bars weighed of 14,262 bars counted). But wait until I show you what numbnuts were entrusted handling the scale for the audits of the world’s greatest gold hoard.
Scale Didn’t Work, Repeatedly
Let’s study the 2004 physical audit at West Point. Please read:
When all parties tried to reconcile the weight of samples on 22 and 23 July 2004, they found out, “the scale was reading at ounces rather than fine troy ounces”, because, “a setting on the scale had not been properly changed”. Allegedly this is what caused alternative readings in the books of the Director of the Mint’s Representative and the OIG’s Representative. And presumably because nobody could figure out how to use the scale correctly they decided to postpone re-weighing the samples until 24 August 2004. This failure of how to use a scale is a colossal disaster for the credibility of the Deep Storage audit procedures.
In 2004 a mere 71 bars were weighed and assayed, but it appeared that none of the auditors present knew how to rightly use the scale. The Memoranda mentions they found out the scale wasn’t properly functioning when weighing the assay samples, but what about the weighing of the actual bars? What about the weighing of every Deep Storage gold bar under the supervision of the OIG from 1993 until 2008? We have no guarantee this has ever been executed competently.
To repeat, the official explanation for this blunder reads, “the scale was reading at ounces rather than fine troy ounces”, because, “a setting on the scale had not been properly changed”.
First, in my mind there can be no imaginable circumstances in which setting of the scale should have been changed. The scale should read troy ounces to as many decimals all day long. That’s it. Why change the settings?
Second, they say, “the scale was reading at ounces rather than fine troy ounces”, but scales don’t read fine troy ounces so this statement is fake. A scale reads troy ounces, or digital ones can be set to reading grams; it cannot smell what is the purity of the gold and thus display fine troy ounces. That’s what the assay test is for.
In 2008 at West Point a similar disaster happened. Read with me:
The auditors couldn’t clearly read the decimal point. After assay samples were drilled to be taken out, the auditors weighed the same amount of gold granules to replace the samples, in order for the Deep Storage FTOs to remain flat in 2008. But the assay lab, White Sands Missile Range, which is a division of the US Army, found out from the paper work that the weight of the assay samples didn’t match the weight of the granules. And so West Point compartment 10-H had to be re-opened on 22 September 2008 to put an exact 10.346 ounces of gold in, instead of 1.0346 ounces.
What a catastrophe! Be aware that before weighing the granules the auditors weighed 86 gold bars and the assay samples. How do we know they properly weighed the assay samples and the totals of the 86 bars? The short answer is, we don’t.
Thereby, anybody with a sense for gold can see the difference between 10 ounces and 1 ounce of yellow metal.
From the examples above it should be clear that the Deep Storage gold has not been audited by professionals, but the precious metals have been verified by imbeciles. Clearly the scale was repeatedly handled by amateurs, which throws a wrench at the integrity of the entire US official gold reserves auditing project. I’m not at all surprised the US Mint has tried everything to keep the records of the auditors out from the pubic domain. Fortunately most of it will be out in the open eventually. The citizenry of the world deserves to know everything there is about the Deep Storage gold.
Let’s finish with one more comment from the West Point 2006 audit report.
The auditors couldn’t figure how to use the drill to take assay samples (how about pointing the tip to a bar and press the button). They also were oblivious how to calculate fine troy ounces. We must wonder if these people would be capable of tying their own shoelaces. In any case, the fact the US government chose to assign very inexperienced people widely opens the possibility that the audits are a complete hoax.
More will follow…
1. The next list consists of all heros that supported the crowdfunding campaign (mostly Turdites!):
The last bits of data are coming in from the countries that export gold to China, with which we can compute the total the Chinese have imported in 2016. There are four main gold exporters to China, which are Hong Kong, Switzerland, the UK and Australia (it’s not publicly disclosed how much South Africa exports directly to China ). Let’s start discussing the largest gold exporter to China.
Since 2011 when the gold price slowly started to decline and China embarked importing gold at large, Hong Kong has been the main conduit to the mainland. According to data by the Hong Kong Census And Statistics Department (HKCSD) the special administrative region net exported 771 tonnes of gold to China in 2016, ranking first once again. Net exports were down 10 % compared to 2015.
As I mentioned in November 2016 there were rumors that part of the bullion exports from Hong Kong to China were fake – over-invoiced to move capital out of the mainland – which overstated the flow of gold into China. Let’s investigate if the data by the HKCSD can substantiate this rumor. The net amount of bullion going from Hong Kong to China is the residual of exports (materials lastly fabricated in Hong Kong) plus re-exports (materials not altered in any way, shape or form but merely re-distributed by Hong Kong) minus imports (materials imported into Hong Kong from China through processing trade). If one is to engage in over-invoicing exports from Hong Kong are more suitable than re-exports, because the origin of exports are harder to track. For re-exports the origin of the material must be recognized by the HKCSD, which makes any illegal scheme more difficult to conceal.
Notable is that from February through August 2016 there was an increase of gold exports relative to re-exports from Hong Kong to China (see dark green bars in the chart above). Usually the shipments from Hong Kong to China are re-exports, so the increase in exports was remarkable. But the HKCSD data is no hard evidence any transfers were overstated.
In another example: if we look at the composition of Hong Kong’s export and re-export to the UK in 2016, we can see something similar, the majority were exports.
I doubt Hong Kong’s flow of gold to the UK has been overstated; UK residents have no motive to surreptitiously move capital abroad. And if the data on Hong Kong’s shipments to the UK are accurate, why can’t the data on Hong Kong’s shipments to China be accurate? Thereby, the Chinese customs department is not retarded. I’m quite sure the Chinese customs department is aware of over-invoicing schemes and as a consequence it can strictly monitor cross-border gold flows. My conclusion is that net shipments from Hong Kong to China in 2016 have likely been close to 771 tonnes. If I do ever find hard evidence it was less I will report accordingly.
Most likely Hong Kong’s position as the largest gold exporter to China will slowly fade in the coming years, as the State Council is stimulating gold freight to go directly to Chinese cities (hoping the Shanghai International Gold Exchange will eventually overtake Hong Kong’s role as the primary gold hub in the region). Consequently, gold exports to China are increasingly bypassing Hong Kong.
In December 2016 we got a preview of what is about to come: Switzerland net exported an astonishing 158 tonnes directly to China, up 418 % from November 2016, up 168 % from December 2015, and 106 tonnes more than what Hong Kong did.
It will take more time before Hong Kong’s role as supplier to China is fully over though. In the past years a significant part of gold exports to China has been used to quench Chinese jewelry demand. The core of the Chinese jewelry manufacturing industry is located in Shenzhen, which is right across the border from Hong Kong. But as far as I know there aren’t many flights going directly from Switzerland, Australia or the UK to Shenzhen yet. Hong Kong on the other is well connected; so in the near future Hong Kong’s airport is more convenient to supply gold from abroad to Chinese jewelry manufacturers.
In total the Swiss net exported 442 tonnes directly to China mainland in 2016, up 53 % from 288 tonnes in 2015.
The United Kingdom
Direct gold shipments from the UK to China have been tepid in 2016. Only 15 tonnes have been net exported to the mainland over this time horizon. Noteworthy though, in December 2016 the UK exported 172 tonnes to Switzerland, which in turn moved 158 tonnes to China – as I mentioned in the previous chapter. So although the UK didn’t directly export metal to China in December, it sure was the main supplier.
Not all data from the Australian Bureau of Statistics (ABS) has been released for 2016, but from what we have Australia seems to have exported less to China than in 2015. From January through September direct shipments amalgamated to 53 tonnes, while Australia directly net exported 78 tonnes to China over the same months in 2015. (ABS has notified me they changed the way how they disclose gold export data, but they failed to clarify the details. Until I get more information I will stick to my own formula to compute Australia’s direct export to China, which was confirmed to be accurate by ABS early 2016.)
It can be Australia’s direct exports where strong in last three months of 2016 as the price of gold went down over this period and the Chinese increase gold purchases on a declining gold price.
Combining gold trade data by Hong Kong, Switzerland, the UK and Australia, reveals China has imported at least 1,281 tonnes in 2016. Though this figure excludes Australia’s exports for October, November and December, so I’m estimating total Chinese gold import will reach roughly 1,300 tonnes.
According to the data at my disposal there have been practically zero tonnes of gold imported from China by other nations across the globe than the ones discussed above. Signalling there is very little gold being exported from the Shanghai International Gold Exchange (SGEI) located in the Shanghai Free Trade Zone. Possibly foreign central banks buy gold on the SGEI and ship it home as monetary gold which doesn’t show up in any customs reports. However, in the history of the SGE/SGEI a mere 3 tonnes has been traded in 12.5 Kg bars, all the rest was in smaller bars, mainly 1 Kg. And I assume central banks would prefer large bars. All in all I think that up till now the SGEI has mainly been used by Chinese banks to import gold from the Shanghai Free Trade Zone into the domestic market.
A few weeks ago I estimated Chinese gold import 2016 would aggregate to 1,300 tonnes, to which I calculated 5,000 tonnes of gold have been moved into the Chinese domestic market from 2007 through 2016 on top op the imports to satisfy Chinese consumer demand. In my post The West Has Been Selling Gold Into A Black Hole I explain how I think this will strengthen a forthcoming gold bull market.
Last but not least: SGE withdrawals for January 2017 came in at 184 tonnes, down 18 % from January 2016.
This post is part of the Chinese Gold Market Essentials series. Click here to go to an overview of all Chinese Gold Market Essentials for a comprehensive understanding of the largest physical gold market globally. This post was updated in 2017.
The difference between SGE withdrawals and Chinese consumer gold demand as disclosed by GFMS has aggregated to a staggering 6,032 tonnes from 2007 until 2016 (the period this article will focus on). To explain the difference, GFMS and other Western consultancy firms have presented several arguments in publications and lectures at conferences throughout the years, though none of them can really explain the difference in full. This post is an overview of all such arguments – supplemented by my own arguments.
The reason I tend to compare SGE withdrawals to Chinese gold demand as disclosed by GFMS, and not Metals Focus or CPM Group, is because the GFMS is globally the easiest (free) accessible data source for investors (next to the World Gold Council). Usually investors and news agencies worldwide consult GFMS (or WGC) for supply and demand statistics, which make this the most important firm to test for accurate numbers. Below we’ll examine to what degree the arguments can or cannot have caused the difference.
This is the argument list (by GFMS, WGC and CPM Group) in chronological order:
Industrial demand (August 2013)
Stock movement change (August 2013)
Round tripping (April 2014)
Leasing (April 2014)
Official purchases (April 2014)
Recycled distortion (November 2014, February 2015, March 2016)
Export (May 2015)
Chinese commercial banks’ balance sheets
Financial statement window dressing (March 2016)
Retailers selling unsold inventories directly to refiners (March 2016)
Surprisingly, after the reports were published and I had debunked the arguments in it, the WGC and GFMS swiftly came up with brand new arguments. Note this shift in arguments; when the old ones failed, the firms impudently moved on and came up with new ones. The fact the argument list is constantly changing confirms the weakness of all arguments it holds, and the apparent ‘ignorance’ of Western consultancy firms regarding the Chinese gold market. (By the way, eventually in late 2016 I found out why Western consultancy firms lie about Chinese gold demand, which is explained in my post The Great Physical Gold Supply & Demand Illusion.)
First, let’s go through all the arguments to investigate which ones make any sense. At the end of the post we’ll do some number crunching.
1) INDUSTRIAL DEMAND. The first argument ever presented to me came from the WGC. In August 2013 I’ve asked the Council what their explanation was for the difference between their Chinese gold demand numbers and demand as disclosed in the CGA Gold Yearbooks co-written by the PBOC – the latter exactly equals SGE withdrawals. They replied to me by email:
The data that we publish in Gold Demand Trends are collected for us by Thomson Reuters GFMS. Our data represent jewelry and bar & coin demand and do not incorporate any industrial demand or fabrication, which is included in the PBoC figures. As I am sure you will appreciate, data collection of this sort relies on a number of proprietary sources and these will not necessarily be the same for both GFMS and PBOC. It is, therefore, perhaps not surprising that the estimates of demand differ somewhat.
The WGC identified a gap of, at that point, 2,000 tonnes of gold with industrial demand. Not very credible. Additionally, in Q1 2015 the WGC started including industrial demand (technology) in its data, and as far as I know GFMS has always included industrial demand in its data. So, for our comparison of SGE withdrawals versus GFMS demand this argument is irrelevant.
2) STOCK MOVEMENT CHANGE. When I asked GFMS in August 2013 about net investment – which is how the difference was titled in the CGA Gold Yearbooks – they wrote me by email:
We have checked with our Data Specialist and confirmed that we use a different methodology. Total Chinese demand used by Thomson Reuters GFMS only includes jewelry, physical bullion bars/coins and all industrial demand. Any stock movement change (which is essentially the item 6 net investment) will not be included as underlying demand.
So according to you category six is “stock movement change”? This would be gold added to the stocks from jewelers, the mint, industrial companies, etc? (this is a few hundred tons each year!)
That’s correct based on the resolution provided by our data specialist.
Because SGE withdrawals capture wholesale demand the difference is partially what jewelry companies, refineries, industrial companies and the mint have purchased at the SGE, but not yet sold in retail. And so, stock movement change is a legitimate argument, though the amount of gold in stock can never explain the full difference of 6,032 tonnes.
According to an estimate by the WGC as much as 125 tonnes of gold can have been absorbed as inventory in the Chinese domestic gold market from 2009 until 2013:
… It is, however, indicative that as jewelers expanded, so too did their inventory levels and it is our judgment that across the industry between 75t to 125t may have been absorbed in the supply chain since 2009.
Stock movement change is a legitimate argument and its volume, 125 tonnes, will be taken into account for our calculation of true Chinese gold demand at the end of this post. I will stick to the number 125 because in my opinion the jewelry and coin industry in China hasn’t grown since 2013 (meaning inventory stayed flat).
3) ROUND TRIPPING. In April 2014 the WGC published a report titled China’s Gold Market: Progress and Prospects. It certainly was not the first WGC report on China – in 2010 China Gold Report was released – but it was the first time the Council elaborated on the structure of the Chinese gold market, the Shanghai Gold Exchange and the “supply surplus” in the Chinese gold market. Logically, the Council had some explaining to do, as it was clear China imported substantially more gold than what they disclosed as demand.
For the first time Chinese Commodity Financing Deals (CCFD) were introduced to the Council’s wide reader base. This type of financing is pursued to acquire cheap funds. It can be done trough round tripping or gold leasing. The Council wrote:
These operations fall into two broad categories, although there is some overlap between the two. Firstly, there is the use of gold via loans and through letters of credit (LCs) as a form of financing. Secondly, there is the use of gold for financial arbitrage operations that will also be based upon gold loans or LCs. In most cases the gold is quickly re-exported to Hong Kong, often as very crude jewellery or ornaments to get round tight controls on bullion exports. (This is the practise commonly referred to as ‘round-tripping’. Moreover, because nearly all gold flowing into China goes through the SGE, round-tripping can inflate the SGE delivery figures.) In other cases the metal is stockpiled in vaults in China or Hong Kong.
So round tripping is not a legitimate argument. To my understanding the WGC has abandoned this argument all together, though GFMS still thinks round tripping inflates SGE withdrawals. In their Gold Survey 2015 it’s written (page 78):
…the round tripping flows between Hong Kong and the Chinese mainland, which also inflates the SGE turnover and withdrawal figures…
4) GOLD LEASING. The other CCFD is leasing. In the WGC report from April 2014 it’s stated:
No statistics are available on the outstanding amount of gold tied up in financial operations linked to shadow banking but Precious Metals Insights [PMI] believes it is feasible that by the end of 2013 this could have reached a cumulative 1,000t…
5) OFFICIAL PURCHASES. Often it’s being thought in the gold space SGE withdrawals end up in the vaults from the People’s Bank Of China (PBOC). Early 2014 the WGC (in China’s Gold Market: Progress And Prospects) speculated the difference could be explained by official purchases, though, later that year the Council changed its mind. From the July 2014 WGC report on China, Understanding China’s Gold Market, we can read:
China’s authorities have a range of options when purchasing gold. They may acquire some of the gold which flows into China; there has been no shortage of that. But there are reasons why they may prefer to buy gold on international markets: gold sold on the SGE is priced in yuan and prospective buyers – for example, the PBoC with large multi-currency reserves – may rather use US dollars than purchasing domestically-priced gold. The international market would have a lot more liquidity too.
6) RECYCLED DISTORTION. The most obvious argument to explain elevated SGE withdrawals, one would think, is recycled gold through the bourse counted over and over as withdrawn. However, SGE rules state bars withdrawn are not permitted to re-enter the vaults before being remelted and assayed by an SGE approved refinery. Which is not say it doesn’t happen.
Arguments presented by the firms regarding recycled gold must be divided in subcategories. There is process scrap, arbitrage refining, and there are VAT schemes.
6.1) Process scrap. This argument was first presented by CPM Group. In short, CPM states industrial companies produce 50 – 70 % scrap supply of the gold used in manufacturing. The scrap spillover flows directly back to the SGE. Process scrap thus inflates SGE demand and supply, because the gold was bought at the SGE (demand), but a significant part flows back to the SGE (supply). The part that is recycled through the SGE has no impact on the price.
Although, it’s unknown how much of process scrap actually flows back to the SGE or is brought to a refinery for toll refining (a refinery producing bars or wire from the process scrap for the industrial company in return for a fee).
Process scrap, described first in detail by Jeffrey Christian in November 2014 in the chapter “CPM Group” at the very end of this post, is a form of recycled distortion, and is a legitimate argument.
6.2) Arbitrage refining. This argument was brought forward by GFMS on 17 February 2015 at the Reuters Global Gold Forum when Jan Harvey interviewed Samson Li (GFMS).
Some people see withdrawals on the Shanghai Gold Exchange as a proxy for Chinese demand. Do you think this is valid?
It depends on the methodology used. For example there are refiners that would, at times, withdraw 9995 gold bars from the SGE, refine it into 9999 bars whenever there is profitable opportunity, and then deposit it back into SGE vault……
Presumably, there can be an arbitrage opportunity at the SGE if Au99.95 gold is an X percentage cheaper than Au99.99 gold. Such a spread would be a classic example of one of the contracts being under or overvalued relative to the other.
I’m not a trader, but I can imagine a way to close the arbitrage through gold leasing. This is my theory: if a spread occurs Au99.95 is bought, concurrently Au99.99 (LAu99.99) is borrowed and immediately sold. Then the Au99.95 is withdrawn, refined into Au99.99 and returned to the lender.
If the arbitrage described above exists, inter alia depends on the speed to which a lease contract can be settled. If a spread occurs and the refiner has to wait 2 days before it can take delivery of Au9999, the arbitrage won’t fly. I’ve asked the ICBC gold lease desk what would be the fastest possibility to sign a lease contract. They told me usually it takes several days or weeks as the lessee’s credit rating must be determined. Though, for regular customers the lease ca be executed in one hour.
It’s hard for me to say if arbitrage refining is really possible according to the aforementioned theory, because it depends on many variables and the established relationship between lessor and lessee. In addition, why would anybody sell Au99.95 if it was undervalued? In my opinion the argument that arbitrage refining inflates SGE withdrawals can be doubted.
6.3) VAT schemes. This argument brought forward by GFMS in The Gold Survey 2016 is legitimate. Though, it’s unknown to what extent it has been used. Read more about thevalue-added tax system in China’s domestic gold market by clicking here, and read why I think the VAT scheme can only have had a limited impact on SGE withdrawals in the chapter “Tax Avoidance” inthis post.
7) EXPORT. This argument was brought forward by PMI. On a conference in London (2 May 2015) Phillip Klapwijk, Managing Director of Precious Metals Insights Limited (PMI), stated China exports about 1,000 tonnes a year from the domestic gold market. However, at this stage the rules prohibit gold export from the Chinese domestic gold market. I’ve written an extensive analysis on Klapwijk’s presentation (click to read), no need to go over this again here. The export argument is not legitimate.
8) CHINESE COMMERCIAL BANK BALANCE SHEETS. Over the years, on countless gold blogs the “precious metals” (more than 2,500 tonnes by now) on Chinese commercial banks’ balance sheets have been identified as the “surplus” in the Chinese gold market. But not according to my research. After a thorough study I think the gold on the banks’ balance sheets reflect a mixture of GAP gold, retail inventory, gold held for hedging, gold outside China, but most importantly back-to-back leasing and synthetic leasing. The leasing business by banks can make it appear the banks “own” gold assets, while in fact it’s just accounting that makes it seem that way.
9) FINANCIAL STATEMENT WINDOW DRESSING. Another argument that was presented by GFMS in their Gold Survey 2016. In short, the argument is false. If you want to know why please read the chapter “Financial Statement Window Dressing” in this post.
10) RETAILER SELLING UNSOLD INVENTORIES DIRECTLY TO REFINERS. Another argument that was presented by GFMS in their Gold Survey 2016. The argument can be true. If you want to learn more please read the chapter “Retailers Selling Unsold Inventories Directly to Refiners” in this post.
11) THE SHANGHAI INTERNATIONAL GOLD EXCHANGE. This argument was conceived by myself. As we could have read in The Workings Of The Shanghai International Gold Exchange(andSGE Withdrawals In Perspective), the gold withdrawn from the SGEI vaults in the Shanghai Free Trade Zone (SFTZ) – note, this tonnage is included in “SGE withdrawals” – can, (i) either be imported into the Chinese domestic gold market, or, (ii) exported abroad and thereby distorting Chinese wholesale gold demand when measured by SGE withdrawals. However, up until December 2015 we know SGEI withdrawals have rarely been exported abroad, according to several sources.
Another way of checking possible SGEI withdrawals that have been exported abroad is simply examining the gold imports of all countries on earth from China since 2014. As far as I can see the exports from China have been tepid. For example, 7 tonnes were exported to Thailand in 2015 and 8 tonnes to the UK in 2016, but that’s about it. Except for Chinese exports to Hong Kong: in 2016 these accounted for roughly 90 tonnes. But, most likely this gold didn’t come from the SFTZ (SGEI), but from the Shenzhen Free Trade Zone just across the border from Hong Kong where China’s jewelry manufacturing base is located. Gold export from the Shenzhen Free Trade Zone to Hong Kong has existed long before the SGEI was erected (and these flows are offset when I compute net gold flows into China from Hong Kong). How it works is that Shenzhen gold manufacturers import gold through processing trade, fabricate the materials into jewelry and ornaments after which the finished products are exported through processing trade back to Hong Kong where they are sold locally or distributed across Asia.
All in all, I’m still not seeing a lot of gold being withdrawn from SGEI vaults and exported abroad.
One last possibility that would inflate “SGE withdrawals” is when (Asian) central banks buy gold on the SGEI, after which it’s withdrawn and exported. Because central banks can monetise gold, which is exempt from being disclosed in customs data, we would never see these exports out of the SFTZ. Effectively we would only see export to China and high SGE withdrawals, while gold is withdrawn in the SFTZ and covertly exported abroad. At this point not a very plausible scenario because SGEI gold trades at a premium from gold in London, Singapore, Hong Kong, etc, but certainly possible.
12) SMUGGLING. Naturally, smuggling can cause SGE withdrawals to be inflated. Indians could buy gold in Shenzhen, withdraw from the SGE vault and smuggle it home. Although, we have no numbers on smuggling so I can’t take it into account for our calculation of true Chinese gold demand.
Unfortunately we don’t know how much disinvestment is in China, and as a consequence neither do we know recycled distortion. But we’ll set the lower bound by apparent supply and upper bound by SGE withdrawals, and work from there.
From 2007 until 2016 apparent supply in the Chinese domestic gold market – assuming all net exports from the UK, Switzerland, Australia and Hong Kong went to the domestic market and SGEI vault inventory is insignificant – was 12,183 tonnes, and total SGE withdrawals over this period accounted for 13,388 tonnes.
So the lower bound of true Chinese gold demand over 2007-2016 was 12,183 tonnes, and the upper bound was 13,388 tonnes. Adjusting the upper bound by wholesale inventory increase (125 tonnes) makes 13,263 tonnes. Effectively, true Chinese gold demand must have been somewhere in between 12,183tonnes and 13,263 tonnes (instead of the 7,356 tonnes GFMS has presented the world). Let’s, for the sake of simplicity, take the middle of the 12,183 and 13,263 as a number for true Chinese gold demand to work with – which is 12,723 tonnes.
The gap between GFMS demand (7,356 tonnes) and our estimate of true demand (12,723 tonnes) is a staggering 5,367 tonnes. It’s impossible to deny this immense tonnage has not been demand from high net worth individuals and institutions, purchased directly at the SGE. Although, the remaining difference between 12,723 tonnes and 13,263 tonnes could have been caused by process scrap, VAT schemes, retailers selling unsold inventory to refiners etc.
Ironically, the WGC wrote in its recent GDT Q2 2017:
Purchases made directly from the SGE continued to gain traction accounting for a significant proportion of Q2 bar demand. Investors benefit from better pricing bars from the SGE are usually 5-10 yuan per gram lower than those bought from commercial banks – and a sense of security from knowing they are buying gold from a trusted provider. With a minimum lot size of 100 gram direct withdrawals from the SGE largely serve China’s high net worth individuals.
Finally, after four years of debating (between me and the WGC/GFMS) the WGC admits that the majority of the difference simply reflects direct purchases of high net worth individuals and institutions at the SGE. Case closed.
To this date, October 2017, I still think SGE withdrawals provide a useful indicator of Chinese wholesale gold demand.
In December 2016 Chinese wholesale gold demand, measured by withdrawals from the vaults of the Shanghai Gold Exchange (SGE), accounted for 196 tonnes, down 9 % from November. December was still a strong month for SGE withdrawals due to the fact the gold price trended lower before briefly spiking at the end of the month, and the Chinese prefer to buy gold when the price declines (see exhibit 1).
In total Chinese wholesale gold demand reached an astonishing 1,970 tonnes in 2016. But will these huge tonnages bought by China ever have an impact on the gold price? I think it will.
As in previous years, SGE withdrawals were mostly supplied through imports, in 2016 at approximately 1,300 tonnes. And as in previous years, SGE withdrawals were roughly twice the size of Chinese consumer gold demand. The latter is published by all “leading” consultancy firms, such as the World Gold Council and Thomson Reuters GFMS. Because these firms have systematically underreported and eclipsed Chinese gold demand since 2007, a significant share of the financial industry is unaware China has imported 5,000 tonnes in the past years, which is not allowed to be exported. My hypothesis is that this 5,000 tonnes decline in above ground gold reserves outside of the Chinese domestic market will make gold rally stronger in a future bull market than it did in previous bull markets. To the extent many investors are uninformed about the shrinking volume of troy ounces available outside of China, their ignorance will boost any price rally coming.
In this post I would like to share my thoughts on how the gold price is correlated to trade in above ground reserves, and how China has slashed these reserves to the tune of 5,000 tonnes, which will significantly impact the next leg up in gold.
Correlated: The Gold Price And UK Gold Trade
Since many decades large investors in the West set the price of gold. Ever since, the heart of the Western gold wholesale market has been London in the United Kingdom. There is thus a correlation between the gold price and the volume of gold net imported or exported by the UK.
In Asia, on the other hand, gold market participants are more price sensitive, implying they buy low and sell high (the opposite of Western investors). I’ve described this trend frequently on these pages, but the same can be read in books by gold author Timothy Green. In The Prospect For Gold from 1987 Green states:
Before we discuss the connection between Western supply and demand trends to developments in the Chinese gold market of the past decade, let me first recapitulate that global physical gold supply and demand is far in excess of the statistics the World Gold Council and GFMS publish. Below is a chart that shows the quarterly averages of all physical supply and demand categories as disclosed by the World Gold Council from Q1 2002 until Q4 2015. These numbers are more or less the same as figures by GFMS.
We can see that over the course of 13 years, the majority of supply consisted of mine output (73%) and the majority of demand consisted of jewelry consumption (64%).
(Note, the categories official sector, net producer hedging and ETFs can be either supply or demand and volumes can greatly vary per quarter. Though, only in 1 of 52 quarters examined has ETF demand been greater than jewelry consumption (Q1 2009). In all other quarters official sector, net producer hedging and ETFs supply or demand has not been greater than mine output or jewelry consumption.)
If the data by the World Gold Council regarding physical gold supply and demand would be exhaustive, mine output and jewelry consumption should have a positive correlation to each other and the price of gold. But they don’t. Have a look at the next chart.
During the bull market from 2002 until 2011 jewelry consumption decreased and it hardly ever transcended mine output. In turn, mine output gradually ascended over this time horizon while the gold price increased six fold! Are the forces between jewelry demand and mine supply driving the medium/long term price of gold? No, clearly not. This shows the data by the World Gold Council is incomplete.
(I should add that mine output does have a correlation to the gold price in the very long term as it can take more than ten years to setup a gold mining project. See the next chart.)
In contrast to the data by the World Gold Council, we can observe a strong correlation between the medium/long term gold price and institutional supply and demand flowing through London. View the chart below.
Strangely, institutional supply and demand are categories not included in the World Gold Council’s data – or in any other precious metals consultancy firm’s data that I’m aware of.
Because in the UK there are no refineries, no gold mines and local consumption demand and scrap supply is immaterial, all gold that is visibly (non-monetary) imported and exported must either relate to ETF holdings stored in London, or Western institutional supply and demand. When we compute the ratio between both, ETF flows compound to roughly 35 % of the UK’s net flow (import minus export) and as a consequence approximately 65 % is Western institutional supply and demand. Effectively the majority of the UK’s net flow is Western institutional supply and demand.
Hereby, consider that all supply and demand categories disclosed by the World Gold Council more or less equal each other (exhibit 4), so for the sake of simplicity we‘ll state that total mine output + scrap supply versus jewelry consumption + bar and coin + industrial demand meets outside the UK and doesn’t set the medium/long term price of gold.
The UK’s net flow, on the other hand, is highly correlated to the medium/long term price of gold. Note how nearly every month the change in net flow corresponds with the direction of the gold price (exhibit 6). Less granular, from the moment my data starts in 2005 the UK has been a net importer until 2012 on a rising price of gold. From 2013 until 2015 the UK was a net exporter on a declining price of gold. And in the first quarter of 2016, when the gold price saw its strongest move up since 1986, the UK was a net importer. Coincidence? I think not.
We can conclude that Western institutional supply and demand in above ground gold reserves is driving the medium/long term price of gold. As it’s likely the price of gold could not have gone up from 2002 until 2011 if there had been no UK net imports, and it’s likely the price of gold could not have gone down from 2013 until 2015 if there had been no UK net exports. (Short term the gold price is pushed around in the paper markets.)
We can think of Western institutional supply and demand (the UK net flow) like this: the majority of the gold gross imported into the UK is demand from above ground reserves outside the UK, and the majority of the gold gross exported from the UK is supply to above ground reserves outside the UK. When the UK is a net importer that means there is a net pull on above ground reserves outside the UK, which corresponds to a rising gold price. When the UK is a net exporter the inverse is true.
Here it becomes apparent that the amount of above ground bullion is essential for future price developments.
The Chinese Black Hole
Let’s turn to China. In the introduction I stated China is importing a lot more gold than is known in the financial industry because most investors base their knowledge on data by the World Gold Council. More precise, China has imported 5,000 tonnes from 2007 until 2016 in addition to what the World Gold Council has portrayed through their demand statistics.
Let’s get our minds around this through some charts. As an example, I’ve drawn a chart showing Chinese gold supply and demand for 2015 (last year I have complete data of).
We don’t know every exact data point for China, but we do know GFMSdemand (purple) and apparent supply, consisting of domestic mine output (green), scrap supply (yellow) and net import (blue). From here on we’ll use GFMS data, as GFMS publishes scrap supply numbers for China and the World Gold Council doesn’t.
According to GFMS Chinese consumer gold demand in 2015 was 867 tonnes. To meet demand GFMS presents 450 tonnes was domestically mined and scrap supply accounted for 225 tonnes. Indirectly GFMS states China net imported 192 tonnes to complete the supply and demand balance in the Chinese domestic market (exhibit 7). For the additional 1,383 tonnes imported GFMS has floated all sorts of excuses, which I‘ve debunked here and here.
The bottom line is, in addition to the 192 tonnes GFMS reports as imported in 2015 to meet consumer demand, China imported 1,383 tonnes to meet institutional demand and all this metal is not allowed to be exported.
If we repeat the same exercise for every years since 2007, the aggregated net imports by China that have not been included in the statistics by GFMS account for 5,000 tonnes. See the next chart.
You can see now, China has enormously diminished above ground reserves outside of the Chinese domestic market without all investors around the world being fully aware. In my humble opinion this will make the price of gold go up turbo charged next time the West shows interest in the metal.
In The Prospect For Gold Green states:
“Selling gold is not a one way street”, wrote Green in 1987. But guess what. Since a few years – from the moment China became an elephant player in the physical market – selling gold is a one way street! Western sell-offs are transhipped to China but do not return. The global gold game has changed.
The consequence is that there are less above ground reserves outside of China for Western investors to buy in a forthcoming bull market, which will elevate the dollar bid per unit gold – in other words the gold price measured in US dollars per troy ounce.
Keep in mind, this phenomenon (China importing vast quantities in addition to Chinese consumer gold demand as disclosed by GFMS) has greatly materialized in 2013, when gold entered a bear market after an 11-year run up. In the previous bull market (2002-2012) above ground reserves outside of China had not been slashed yet. So the ramifications of this phenomenon will only be felt during the next leg up.
Is there any proof to substantiate my hypothesis? I think so. Early 2016 there was some renewed interest in yellow metal from large Western investors. When the price of gold started to climb it went practically vertical ending the first quarter of 2016 up 16.7 %, the strongest quarter since 1986. Coincidence? I think not. It went up strong as it did because there were fewer ounces in above ground reserves available.
A study on how much above ground reserves there are outside China will be saved for a future blog post.
Last week the Shanghai Gold Exchange (SGE) launched a new English website to offer international customers more information and tools on trading gold in renminbi through its subsidiary in the Shanghai Free Trade Zone the Shanghai International Gold Exchange (SGEI). BullionStar took the opportunity to translate a speech by a Teng Wei, Deputy General Manager of the SGEI, named “How China’s Gold Market Can Help The RMB Achieve International Status” that was held at the Renminbi World summit in Beijing on the 29th and 30th of November 2016. In the speech Teng Wei outlined his vision for the SGEI going forward regarding renmibi (RMB) internationalization, connecting the onshore and offshore renminbi market and increasing gold market share.
My comment before you read the translation:
1) In the financial blogosphere the general perception is that the SGEI has been a failure since it was launched in September 2014. This analysis is based on the assumption that the trading volume of the most popular SGEI contract (1 Kg 9999 – iAu99.99) has been tepid for two years now. But this analysis neglects two important elements.
First, iA99.99 can be traded competitively “on Exchange”, but also in the OTC market. The OTC possibility is hardly known by commentators in the English world, though the related volumes are significant. Have a look at the next chart in which I’ve plotted iAu99.99’s weekly trading volume “on Exchange” and in the OTC market. Clearly iAu99.999 is traded mainly in the OTC market.
Second, international customers of the SGEI can not only trade the SGEI gold contracts, but they can also trade SGE (domestic) gold contracts. Logically, as at present liquidity on the SGE is much higher than on the SGEI, many international customer that seek to trade gold in renminbi, and don’t need to export the metal, will choose to trade SGE gold contracts.
When observing total trading of all SGE(I) gold contracts, there is a clear rise in volume since the SGEI was launched.
Up till now international customers are mainly trading SGE contracts. The significant rise in trading volume of all SGE(I) contracts since September 2014 is due to the inception of the International Board (SGEI). In the second week of November 806 tonnes was traded on the SGE(I), the highest amount ever.
So the launch of the SGEI has not been a failure in my opinion – it has elevated gold trading in (offshore) renminbi.
2) Teng Wei mentions that in 2015 gold demand in China and India was 985 and 849 tonnes respectively. In the case of China this refers only to consumer demand, not institutional demand. Chinese consumer and institutional demand in 2015 combined was well north of 2,000 tonnes.
3) A gold exchange doesn’t flourish overnight. The SGE was launched in 2002; in that year its total trading volume was 22 tonnes and withdrawals accounted for 16 tonnes. Ten years later total trading volume was 3,175 tonnes and withdrawals accounted for 1,138 tonnes. In 2015 total trading volume was 17,033 tonnes and withdrawals accounted for 2,582 tonnes. The development of the SGE, becoming the largest physical gold exchange globally, took time and it can be no different for the SGEI.
Document Translation [brackets added]:
Teng Wei: China’s Gold Market Opens Up To Boost RMB Internationalization
The 2016 RMB summit was held in Beijing on the 29th and 30th of November. Deputy General Manager of the Shanghai International Gold Exchange Center Teng Wei participated in the forum and discussion on “How China’s Gold Market Can Help the RMB Achieve International Status”. He expressed that using Shanghai’s free trade zone status, investors can open trading accounts denominated in RMB and participate in trading directly through the Exchange’s international board [SGEI] that allows access to most of the precious metal products that are traded in China. The international board has developed relatively well since establishment with active participation from international members and steadily increasing trading volume.
Gold on the international board is quoted and settled in RMB, which effectively connects the RMB onshore market and offshore market. This will extend the scope of RMB usage across borders and provide a new channel for inward capital flows. It is a move that is beneficial to expand the RMB usage to steadily promote internationalization of the RMB.
The actual speech:
Ladies and gentlemen, good afternoon, I am Teng Wei from the Shanghai International Gold Exchange. I am delighted to participate in this forum organized by the Asian Bankers Association to have a chance to speak and interact with everyone about opening China’s gold market to the world and how that can help the internationalization of the RMB.
This afternoon, I would like to touch upon on three topics. The first topic is the new pattern of the internationalization of the RMB and the global gold market. China’s gold market was established in 2002 with the launch of the Shanghai Gold Exchange. If anyone is familiar with the history of China’s gold market, you will know that before the year 2002 the Chinese gold market was entirely ran by the People’s Bank of China, including the process of purchasing, allocating and storing of gold. There wasn’t a single unified market where all participants could trade at the same time. Since the year 2002, with approval of the State Council, the People’s Bank Of China developed gold spot trading on the Shanghai Gold Exchange, as well as gold futures trading and over-the-counter trading via commercial banks, etc, which formed the basis for a multi-level diversified gold market system. While the Chinese gold market was developing rapidly, the pattern of the global gold market was also having a dramatic change. As time passed, the international gold spot market was heavily concentrated in London and the international gold futures market has been concentrated in New York. However, in recent years, with the rise of gold demand in China, India and other Eastern nations, and with the exit of European and American banks from the precious metals market, it’s clear that Western gold is moving to the East. In 2015 gold demand in China and India was at 985 tons and 849 tons respectively. These figures alone account for 45% of global [consumer] gold demand. With gold demand from other markets dipping to various levels, China is not only the world’s largest gold producer and importer of gold, but has also become the world’s largest gold consumer.
Just now, I mentioned that the two main centers for gold trading are London and New York, and the current situation is Western gold flowing to the East. Everyone, have a look at some statistics that I have here, showing that just China and India alone make up over 45% of global gold demand. This was last year’s data.
Since the year 2005, when the RMB exchange rate was reformed, international investors’ willingness to trade in RMB denominated assets has also increased. This has objectively enhanced the Chinese gold market’s international status and garnered attention. In recent years, the RMB exchange rate is expected to have some changes.
The Shanghai Gold Exchange provides the important infrastructure for China’s gold market. ECB officials have mentioned that an important part of promoting the internationalization of the RMB is having a good financial market infrastructure. The exchange is also an important “all-in-one” foundation for gold transactions, clearing, delivery and storage. It serves with the commitment to provide gold investors with efficient and convenient market services. It has been 14 years since establishment of the exchange in the year 2002 and development has been rapid with annual trading volumes increasing 40% on average.
At the end of 2015 there were over 8.6 million individual accounts, over 10,000 institutional accounts and the total gold trading volume for the year reached 17,000 tonnes. The exchange was ranked as one of the largest and we firmly grasped an important opportunity for the internationalization of the RMB with the profound changes happening in the gold market. At the same time, we want to build a harmonious ecological gold market that sets a new path for the global gold market and achieve the status of being a global gold power from a large gold holding nation.
For the second point, I would like to explain how opening up China’s gold market externally to the world can help the internationalization of the RMB. To further promote and innovate China’s gold market, on 18th September 2014, the Shanghai Gold Exchange set up an international board [SGEI], open directly to foreign investors. This move has effectively connected China’s domestic gold market and the international gold market. Using Shanghai’s free trade zone, investors can open trading accounts denominated in RMB and participate in trading directly through the exchange’s international board that allows access to most of the precious metal products that are traded in China. The international board has developed relatively well since establishment with active participation from international members and steadily increasing trading volume.
As of now, the exchange has 67 international members, including most of the world-renowned gold suppliers and traders like Mr Thomas McMahon, who is also our Exchange’s member. At the end of the third quarter of 2016, the international board had recorded a total of 7,837 tonnes of gold traded, with a turnover valued at nearly 200 billion RMB. The Shanghai International Gold Exchange is the test pilot and pioneer for opening up China’s gold market to the world. It is significantly important for further increasing the capacity, expansion and international influence of China’s gold market. In addition, the international board uses RMB for settlements, producing an effective convergence of the RMB offshore and onshore markets, expanding the cross-border use of the RMB and providing a new channel for return of funds. All these points steadily promote the internationalization of the RMB and serve as a useful exploration.
For RMB denominated gold products to gain popularity outside of China, we think the prerequisite is to provide a fair offering for global gold market transactions, with reliable gold benchmark pricing in RMB, using the Shanghai Gold Exchange benchmark pricing mechanism [Shanghai Fix] for our trading platforms. The weight of the gold traded is 1 kilogram, with a fineness of no less than 99.99%. Using a price inquiry method and market volume, a balance is reached to form the benchmark price of gold measured in RMB. The price announcements will be released externally each trading day at 10:15 and 14:15.
At present, the Shanghai gold benchmark price is being used by domestic gold producers and suppliers for hedging and settlements. More and more commercial banks are also using the Shanghai gold benchmark price for gold leasing and financing as the standard. More and more products linked to the Shanghai gold benchmark will be made available.
Other than domestic usage, the Shanghai gold benchmark price is also being actively studied more and more by external markets regarding its application. In October, the exchange signed an agreement with Dubai for the right to use the Shanghai gold benchmark price and authorization was given for the Dubai gold exchange to use the Shanghai gold benchmark price as the standard for offshore RMB denominated futures. The signing of this agreement marks the use of the Shanghai gold benchmark price in international financial markets for the first time. This greatly helps to elevate the international influence of the exchange in global markets and improves the image and reputation of the RMB abroad.
For the third point, I would like to share with everyone how the Shanghai Gold Exchange acts as an important infrastructure for internationalization in three steps. As the forerunner for opening domestic markets and innovation, the Shanghai Gold Exchange cannot forget its historical mission. We are determined to take the international and market-oriented strategy.
Overall, for the internationalization process, we have three steps to take. The first step is to be open and inclusive, actively inviting foreign investors to come in. Just now, we have introduced our international board after the establishment of the Exchange and we will continue to increase publicity efforts. In accordance to high standards and multifaceted principles, we will continue to increase and expand international membership of the Exchange. Accordingly, we have carried out a variety of promotional activities in major financial hubs and countries and regions along the new Silk Road to allow more international market participants to hear the sound coming from the Chinese gold market. The exchange also takes the opportunity to actively learn from the experience of advanced international markets in the optimization of various trading systems and innovation of all kinds of trading products.
For the second step, since we have invited guests inwards, we also have to step outwards. Through cooperation and win-win situations, the gold Exchange can be promoted and step out of China. The Shanghai gold benchmark price has now taken a first step with the Dubai Gold Exchange agreement. This can be considered an ice-breaking move and serve as a cooperation model for other overseas markets and improve the recognition, branding and acceptance of the Shanghai gold benchmark price. Taking this as an opportunity, the Shanghai Exchange, together with the Chicago Mercantile Exchange (CME, COMEX), the Hong Kong Stock Exchange, the Malaysian Stock Exchange and a number of foreign exchange markets explored on long-term cooperation mechanisms that will allow foreign investors to directly participate in our gold market, in RMB denominated gold trading, standard gold settlement, and many other aspects and modes of cooperation that will increase the Shanghai Gold Exchange’s international market influence.
The third step is to realize RMB internationalization and increase global transaction on the exchange through integration and upgrades. As the international financial markets continue to merge and develop, market boundaries are increasingly blurred and we believe that market fragmentation will be removed gradually. In recent years, we can all notice that there are more and more mergers and acquisitions among major exchanges in the world. We hope to learn from the experiences of such joint stock mergers and acquisitions between global exchanges and explore the different modes of industry integration with overseas exchanges. By offering a wide range of local and overseas products through an open platform [SGEI], we hope to create a world class exchange group. The journey of the internationalization of the Shanghai Gold Exchange will epitomize the opening of China’s financial markets to the outside world and play an important part in the internationalization of the RMB. With Shanghai becoming the third most important market in the world after London and New York, the Chinese gold market will make a great contribution to the internationalization of the RMB. Thank you everyone.
From the moment Donald J. Trump got elected as the next President of the United States, on November 8, 2016, the price of gold tumbled 8 % in the remainder of the month – from $1,282 USD/oz to $1,178 USD/oz. Usually these cascades in the gold price go hand in hand with physical sell-offs in the West and strong demand Asia. It appears November has been no exception. The volume of physical gold withdrawn from vaults of the Shanghai Gold Exchange (SGE) in November accounted for 215 tonnes, the highest amount in ten months. Year to date SGE withdrawals have reached 1,774 tonnes.
There have been rumours in the gold space about the People’s Bank Of China (the PBOC) curbing gold import into the Chinese domestic market in response to capital flight. Although my sources have confirmed these rumours, Chinese gold import in November was still very strong at an estimated 140 tonnes. I don’t expect the PBOC will halt gold import all together.
The first mention of the rumour was by Reuters on November 25. By then the premium on physical gold trading at the SGE, which more or less reflects the strength of local demand versus international supply, had reached 2 % (from ~ 0.2 % on November 1). Reuters wrote:
“While we don’t have the exact numbers, we hear that they (Chinese government) have limited the number of importers,” said Dick Poon, general manager at Heraeus Precious Metals in Hong Kong.
In a previous blog post I stated the quote from Poon was not likely to be accurate, because there are 15 banks that have PBOC approval to import gold, but for every shipment a new License must be requested at the central bank. This protocol is referred to as “one batch one License”. Bullion cannot cross the Chinese border without a License. From the PBOC:
There shall be one Import … License of the People’s Bank of China for Gold … for each batch … and the License shall be used within 40 work days since the issuing date.
If the PBOC desires to curb gold import it can simply hand out less Licenses to approved banks, instead of deleting banks from the approved list. The former has happened as far as I can see. The next mention was by the Financial Times on November 30 [brackets added]:
Some banks with licences [approval] have recently had difficulty obtaining approval [Licenses] to import gold, they said — a move tied to China’s attempts to stop a weakening renminbi by tightening outflows of dollars, the banks added.
Although the Financial Times exchanged the terms “approval” and “License”, this is what I thought that was happening: banks are obtaining less import Licenses from the PBOC, which is obstructing supply, pushing up the SGE premium.
Either way the PBOC effort has not severely impacted the volume of Chinese gold demand as SGE withdrawals set a ten-month record at 215 tonnes in November, up 40 % from October. Premium or no premium the Chinese still ‘accumulate on the dips’. Additionally, mainlanders buy gold in Hong Kong where jewelry is cheaper as it doesn’t enjoy VAT. From Live Trading News we read:
“Gold sellers in Hong Kong, where mainland Chinese often buy gold, report an increase in purchases, …” according to published reports. “Some of the buying is also because of the Lunar New Year period next month, a time when buying normally picks up.”
How much of SGE withdrawals were supplied by import? Let’s make an educated guess. In the first nine months of 2016 SGE withdrawals accounted for 1,407 tonnes and China net imported 908 tonnes over this period, implying 65 % of SGE withdrawals was imported. If we use the past months as a reference China imported 140 tonnes of gold in November (=0.65*215). Year to date (-November) China has imported and estimated 1,147 tonnes.
An other possibility would be that elevated SGE withdrawals in November were supplied by scrap and disinvestment from within China (domestic mine output is fairly constant at 38 tonnes per month). Though this is not very plausible because the renminbi gold price went down in November (red line in exhibit 1). Normally scrap supply increases on a rising gold price. And hence, I assume the majority of SGE withdrawals in November were supplied by imports.
There have been concerns in the gold community with respect to a full stop on Chinese gold import. In my humble opinion the PBOC will not completely block imports for a number of reasons:
Despite the rumours of obstructed imports SGE withdrawals were strong in November.
The PBOC hasn’t released an official statement to curb imports.
The PBOC has just spent decades to develop the Chinese gold market in order to strengthen the Chinese economy and internationalize the renminbi. Why cancel the project for problems that can be solved differently?
Curbing gold imports would improve China’s current account. But China has a current account surplus; the capital account is in deficit. Why doesn’t the Chinese government tighten the capital account? In Q3 2016 China’s capital flow was minus 71 billion US dollars. In the same quarter gold import was valued at an estimated 13 billion US dollars. The problem is in the capital account.
SGE premiums started to rise on November 8 exactly when the gold price went down (which SGE premiums often do when the price goes down, exhibit 5). So are these elevated premiums of late fully caused by curbed imports, or simply strong demand? It’s probably a mix of both; in any case there is no full stop on imports. What probably happened is that imports exploded when the price tanked after November 8. As a result the PBOC decided to block shipments.
Most gold analysts surmise COMEX 100-ounce gold futures contracts (GC) can only be physically settled through taking and making delivery. This is technically true when excluding the possibility of EFP trading in GC through the over-the-counter (OTC) market. While on Exchange trading in GC is “executed openly and competitively”, trading GC in the OTC realm (and thus the price of the gold, its form and location) is a “privately negotiated transaction” between buyer and seller. The COMEX is a subsidiary of CME Group, which offers its clients OTC trading on a platform called ClearPort.
Because the COMEX in New York is the most liquid gold futures exchange globally – offering precious metals futures denominated in the world most used currency the US dollar, gold industry participants use GC for a variety of reasons, including hedging metal held outside the contract’s deliverable geography. Subsequently, the contracts can be physically “settled” anywhere at any price through EFP.
In EFP two parties sign a futures contract (short and long) and simultaneously execute a reverse spot transaction (buy and sell). One side sells short the futures contract and buys spot gold (the spot leg is referred to as the related position by CME), while the other buys long the futures contract and sells the related position. EFP trading can increase the open interest, decrease the open interest, or not change it, depending on the existing positions held by both parties before they enter into an EFP transaction. When EFP decreases the open interest the phrase “settle positions” is applicable. Another way of saying it would be “offsetting positions” or “netting out positions”.
This example matches my previous one regarding EFP (hedging metal held outside the contract’s deliverable geography). Any bullion bank, miner or refinery can sell short on COMEX and when the gold needs to be physically “settled”, for example in Switzerland, the short position can be unwound through EFP. The only requirement is that “the quantity of the related position component … must be approximately equivalent to the quantity of the Exchange component” – meaning the spot leg must be more or less 100-ounces of gold, which is the underlying asset of GC. In this example the GC short holder connects through CME ClearPort to Exchange For Physical. In the EFP transaction he will buy long a futures contract and simultaneously sell spot. His long and short will then be netted out while he sells spot the physical in Switzerland. Effectively, a COMEX short has been physically settled outside the contract’s deliverable geography. Naturally, a long position can also be unwound in Switzerland, which is then the other side of the trade.
EFP Moves Kilobars Through CME’s Hong Kong Vaults
In March 2015 CME launched a Gold Kilo Futures contract (GCK) physically deliverable in Hong Kong, but ever since implementation there has been poor participation in this instrument. From the start GCK trading volume has been close to nothing and deliveries rarely occur. Notwithstanding, there are massive volumes of kilobar gold flowing through the CME approved warehouse in Hong Kong owned by Brink’s, Inc.. On average 3.9 tonnes per day are withdrawn from this vault, but sometimes daily withdrawals are as high as 20 tonnes.
Because volume and delivery for GCK on Exchange is so low, the withdraws must be explained by OTC trades. A CME representative actaully confirmed this to me; the physical movement through the Hong Kong vaults is caused by EFP transactions.
But if we look at the GCK volume page we can never observe any EFP trades being disclosed. In contrast, EFP volume of GC is substantial. Can it be gold kilobars in CME’s approved warehouses in Hong Kong are used to settle the 100-ounce futures contracts? Yes.
My theory is that kilobars bought by bullion banks in the West, for example at Swiss refineries, to be consigned to China are hedged on the COMEX and once the gold arrives is Hong Kong the shorts are unwound through EFP. From there the gold is transported by armored truck to Shanghai Gold Exchange designated warehouses in Shenzhen by Brink’s that has a cross-border logistics license from the Chinese government. Supportive to my theory, see exhibit 3 below. Notice the strong correlation between “gold import into Hong Kong versus kilobars received in CME’s vaults” and “re-export from Hong Kong versus kilobars withdrawn from CME’s vaults”.
The correlation points out most gold moving through Hong Kong, which is headed for China, is in kilobar form and moves through CME’s vaults. And because most of this throughput is EFP related, I assume the kilobars are used to settle COMEX futures.
It’s hard to test if my theory is accurate because EFP transactions are executed in the OTC realm and little information is available. Possibly, al throughput in Hong Kong is EFP related but doesn’t impact the GS open interest. If anyone has a different theory please comment below.
London Gold Offsets COMEX Futures
We’ve established gold in Switzerland and Hong Kong is used to “settle” gold futures. But there is also proof gold in London is used to phase out positions on the COMEX. When researching this topic I reached out to William Purpura who is, inter alia, Chairman at Northport Commodities, member of the COMEX Governors Committee, and previously traded on the COMEX floor from 1982 to 2007. I asked Purpura for an example of how EFPs are used. He replied [brackets added by me]:
Most of it [EFP] is done by bullion banks. … It’s mainly for netting out. Lot’s of times London versus New York. You see lots of EFPs posted around 8am in New York on COMEX.
There it is, “London versus New York”, and, “netting out”. From this quote we learn loco London gold is used to execute EFPs to wash out New York futures positions. One can argue the related position in London is “unallocated” – I’m not sure. In the latest formulation by CME on EFP (Market Regulation Advisory Notice RA1311-5R) it’s stated:
Where the related position component … is a physical transaction … the transaction should be submitted for clearing as an EFP transaction type.
Often in wholesale gold market parlance physical is also used for “unallocated gold”, which is not exactly physical in my opinion.
I’m sure there are many more methods than I’ve mentioned to use EFP, or any other privately negotiated transaction (PNT) available on ClearPort, that influences the open interest at the COMEX. One thing is for sure, conventional delivery is not the only way to terminate futures positions. In the gold futures rulebook this is explicitly noted by CME Group. The excerpt below is about terminating a gold futures contracts [brackets added by me].
113102.E. Termination of Trading
No trades in Gold futures deliverable in the current month shall be made after the third last business day of that month. Any contracts remaining open after the last trade date must be either:
(A) Settled by delivery which shall take place on any business day beginning on the first business day of the delivery month or any subsequent business day of the delivery month, but no later than the last business day of the delivery month.
(B) Liquidated by means of a bona fide Exchange for Related Position [/EFP] … .
This is important for our comprhension of the global paper and physical gold market. COMEX gold futures delivery statistics are not all there is to it.
Core Supply & Demand Data Chinese Gold Market Q1-Q3 2016
Chinese gold demand is still going strong this year, albeit less than in 2015. The most likely reason for somewhat lower demand has been the strength in the price of gold in the first three quarters of this year, to which the Chinese reacted by subduing purchases. From 1 January until 30 September 2016, the gold price went up 24 % in US dollars per troy ounce, from $1,061.5 to $1,318.1; measured in renminbi the price went up 28 % over the same period.
Now I have proven the gold on Chinese commercial bank balance sheets has little to do with physical gold ownership of these banks, but mainly reflects back-to back leases and swaps, we can be positive that data on withdrawals from the vaults of the Shanghai Gold Exchange (SGE) roughly equals Chinese wholesale demand. For now that is, as future developments can always alter our metrics.
Below is a chart showing withdrawals from the vaults of the SGE and the price of gold in yuan per gram. The most significant trends of recent years are still in effect; in the short term, when the gold price is falling Chinese demand increases (2013 and 2015), when the gold price is rising Chinese demand declines (2016). This trend is supported by SGE premiums that have an inverse correlation with the price of gold, when the price of gold declines, SGE premiums escalate and vice versa – I will show charts below. Furthermore, in the long term we can observe consistent growth in Chinese gold demand due to the opening up and development of the domestic market.
SGE withdrawals in the first three quarters of 2016 accounted for 1,406 tonnes – still impressive – down 29 % from 1,986 tonnes in 2015, which was a record year. Annualized SGE withdrawals are set to hit 1,877 tonnes in 2016.
Notable, “known net import” by China is relatively strong compared to SGE withdrawals in 2016. Total net import in the first three quarters of this year has aggregated to 905 tonnes – annualized 1,206 tonnes – or 64 % of SGE withdrawals, versus an import/withdrawals ratio of 53 % in 2015. As mine supply to the SGE is fairly constant, recycled gold through the SGE must be lower this year than last year. As a rule of thumb, we use the equation:
The largest net exporter to China is still Hong Kong, having transhipped 608 tonnes to the mainland from January until September 2016, up 5 % compared to 2015. The volume Hong Kong exports to the mainland has been quite constant since 2014, while in 2013 China’s special administrative region was a substantial larger supplier.
(There have been rumors that Hong Kong ’s export to China is overstated in the official data by the Hong Kong Census & Statistics Department, caused by fake exports. In the chart below you can see that the share of exports relative to re-exports from Hong Kong to China this year has increased from previous years. Potentially this signals fake exports, as it’s easier to over invoice an export than re-export, though I haven’t found hard evidence for this scheme. When I do I will report accordingly.)
The second largest exporter to China is Switzerland, having supplied a net 229 tonnes so far this year, which is 22 % more than last year. Clearly, direct shipments from Switzerland to China have replaced shipments via Hong Kong.
Direct net exports by the UK to China mainland have collapsed by 92 % this year compared to 2015, from 210 tonnes to a mere 18 tonnes. The reason being, the UK has been the largest net importer globally this year, which is related to the strength in the gold price early this year. UK net gold trade is a proxy for Western institutional supply and demand.
Australia’s direct export to China is down this year as well (in the first eight months, data for September has not yet been released). I’ve computed the data as described in my post Australia Customs Department Confirms BullionStar’s Analysis On Gold Export To China. Following this method, the land of down under has sent 50 tonnes of gold directly to China during the first eight months of this year, down 23 % from 65 tonnes in 2015.
Despite press releases suggesting Russian gold enterprises are strengthening ties with the SGE, I have identified only one shipment of 30 Kg by the Russian Federation directly to China in 2016. In 2013 the Russians directly net exported 50 Kg to China.
Data on gold export from South Africa to China is not publicly available.
Since 2014, when the Shanghai International Gold Exchange (SGEI) was erected, there is a possibility “SGE withdrawals” are inflated by withdrawals from vaults in the Shanghai Free Trade Zone; gold that is allowed to be exported abroad – the free trade zone is not part of the domestic market. But as far as I know any activity on the SGEI lacks foreign enterprises that buy gold to withdraw and export. A couple of months ago a source at a large Chinese bank told me the SGEI is mainly used by Chinese banks to import gold into Chinese domestic market. In addition, I haven’t bumped into any large importers from China. Occasionally India imports a few hundred Kg, but that’s it.
The emblematic difference between “Chinese gold demand as disclosed by GFMS” and SGE withdrawals – displayed in exhibit 7 – is due to GFMS’ incomplete metrics. For decades this consultancy firm has been denying the existence of institutional supply and demand in above ground gold, which is far more important to price formation than retail sales and mine supply, the predominant flows published by GFMS. The essence of this swindle can be read in my blog post The Great Physical Gold Supply & Demand Illusion. I also have a few more blog posts in the pipeline that discuss GFMS’ most recent gold supply and demand data.
I expect November to be a very strong month for SGE withdrawals. Mentioned in the introduction segment of this post, there is a trend in Chinese wholesale gold demand in relation to the gold price. Whenever, the gold price is climbing, Chinese demand is subdued, accompanied by low SGE premiums; when the gold price is decreasing, SGE withdrawals and premiums in China shoot up. The relationship between the gold price and SGE withdrawals can be viewed in exhibit 1. Below in exhibit 8 & 9, readers can see the relationship between “SGE end of day prices and premiums”.
Note, the gold price on the SGE and the premium have an inverse correlation.
I already mentioned that SGE withdrawals in the first nine months of 2016 have been subdued due to a rally in the gold price. However, high premiums at the SGE in November forecast elevated withdrawals for the month. Since Trump got elected on November 9, and price of gold started tumbling, SGE premiums have broken a three-year record. This signals strong demand.
In the next chart from Goldchartsrus.com we can see the premium on the SGE’s most traded physical contract Au99.99 has risen since November 9 and reached 3 % by 24 November. Levels not seen since 2013 (exhibit 8).
Although the relationship between the gold price and SGE premiums has been in place for years, Reuters reports the high premiums in November are caused by worries on import restrictions. From Reuters:
Gold premiums in top consumer China jumped to the highest in nearly three years this week on worries over a supply shortage that traders said were due to Beijing’s efforts to restrict import licenses.
“While we don’t have the exact numbers, we hear that they (Chinese government) have limited the number of importers,” said Dick Poon, general manager at Heraeus Precious Metals in Hong Kong.
To me this statement doesn’t make sense. At this moment that are 15 banks approved by the PBOC to import gold. Limiting the number of importers would cause less importers to import more gold in order to balance the domestic market (supply gold from abroad when necessary). In the Measures for the Import and Export of Gold and Gold Productsdrafted by the PBOC in March 2015 it states:
… An applicant for the import … of gold … shall have corporate status, … it is a financial institution member or a market maker on a gold exchange [SGE] approved by the State Council.
… The main market players with the qualifications for the import … of gold shall assume the liability of balancing the supply and demand of material objects on the domestic gold market. Gold to be imported … shall be registered at a spot gold exchange [SGE] approved by the State Council where the first trade shall be completed.
The Chinese government could lower imports by distributing less “import licences” to approved banks. As, every approved bank still needs to submit for a license for every gold import batch. Logically, lowering imports would be done by the PBOC through handing out less licences.
As readers might have seen on these pages, since 2014 I’ve been investigating the inventory audits of the US official gold reserves, which should proof the existence of the metal that embodies the credibility of the world reserve currency. My first article showed the official narrative: all the bars of in total 8,134 tonnes of gold spread over depositories at Fort Knox, West Point, Denver and New York, have been carefully counted, weighed, assayed and inventoried in between 1974 and 2008.
In subsequent posts I’ve exposed there is a vast array of problems to be found with the physical audits. Through several Freedom Of Information Act (FOIA) request, I had obtained information that severely damaged the integrity of the official narrative. Example given, one of my FOIAs that requested the audit reports drafted in between 1974 and 1986, when 7,504 tonnes was audited, revealed the US government had “lost” nearly all documents.
To get to the bottom of this I filed countless new FOIAs in the past months at the legal owner of the gold, the US Treasury, the custodian, the US Mint, and the head auditor, the Office Inspector General of the Treasury, in order to obtain every single piece of documentation I could think of that is related to these audits. Pretty soon, by putting all pieces of new information together I realized I was entangled in a conundrum of giant proportions as many documents contradicted each other. Eventually I submitted a request for a publicly unknown report, which I read about in a document I had obtained by another FOIA. I asked the Mint for “the [US Mint] Director’s Representative … written report to the [US Mint] Chief Financial Officer (CFO) notifying the CFO of the completion of the verification” for the years in between 1993 and 2008. Surprisingly, the US Mint wrote me my request would cost $3,144.96 dollars!
This amount of money is ridiculous. First of all, the documents should be readily available. Perhaps any digitalization costs would incur a few hundred dollars at most. Second, the Mint wrote the estimate of $3,144.96 dollars “includes 40 hours of … search time”. But how can it take 40 hours to find a few pieces of paper? It also wrote, my request would include an estimated 1,200 pages of documentation. But how do they know there are 1,200 pages if they first have to search 40 hours for it?
In any case, I decided to start a crowdfunding campaign last August to collect the money. After I tweeted about the campaign it quickly went viral. The news was spread on websites such as TFMetals, GoldMoney, GATA and GoldChartsRus – among others – and within a few hours the funding was completed, which shows to the power of our gold community.
After I received the money from the crowdfunding website I asked the US Mint for a bank account number to wire the funds. But the Mint replied I could only pay by check! Check? I was born in 1981, I have never seen a check in my life. Was this another way to obstruct my investigation? Most likely. It’s impossible the US Mint does not have a bank account, and every account has a number. I still can’t see why they don’t accept wired money.
But I had no option to go to a branch of my bank located in my area. When I walked in explained and the situation, the gentleman that helped me told me he never handled a check neither. This gentleman was replaced by an older one. There was a slight possibility he could create a check for me, but he had to look into it somewhat. Two hours later I walked out of his office carrying a promise the dollars would be transferred within a week.
A few days later the funds had been subtracted from my bank account, and I asked the US Mint for the first time (that was 11 September) if the check had arrived, but they replied it hadn’t. For weeks, mysteriously the check was “missing”. Only when I emailed the Mint with the email address of my local bank employee included, to have my bank and the Mint work it out together, the Mint confirmed on 28 September 2016 the funds had been received:
We have received your check and are now working to get the requested documents out to you.
That was 28 September, it’s now 15 November! I still haven’t received the documents from the US Mint. Naturally, I have sent more emails to ask what’s the status of my request, but no reply until now.
Or the Mint will have to confirm at some point they can’t deliver to me the paper work – maybe they got “second thoughts”. In that case they have to wire back the funds and I will have all funds send back to everybody that donated. Or they will honor my request in the coming weeks and I will include the findings in a very very long read I’ve been working on.
So, that’s all I know at this stage. Please have a little more patience. Thanks again everybody that donated. Either way, I will publish an article to reveal the results of all my FOIA and the many “problems” I found in the official narrative.
In the Netherlands we have a financial newspaper that prints on pink paper and is named “Het Financieel Dagblad”. Basically it’s the Dutch equivalent of the Financial Times. A few weeks ago I was interviewed by two of their reporters, Joost van Kuppeveld and Lenneke Arts. Today the interview was published as part of a series of interviews with gold experts, among others, with myself and Aerdt Houben, Director Financial Markets at the Dutch central bank (DNB). Perhaps not surprisingly I disagree with several statements of Houben in his interview, to which I would like to respond in a forthcoming post. For now, you can read my interview below. In case readers didn’t know my real name is Jan Nieuwenhuijs, and Koos Jansen is my Internet alias. Het Financieel Dagblad preferred to disclose my real name.
“The whole world is now in the same boat. Everywhere there are low interest rates and on all continents money is printed. Only the United States has paused printing for the moment.
There are many flaws in fiat money. You can print it without limitations, which is politically too tempting. Fiat money printing was used to save the financial system in 2008, but since then nothing has changed. Banks are not split. In a next crisis it’s going to end badly with paper money. There will be significant inflation.
Gold is a hard currency. It can’t be printed – like fiat money. It is divisible and it does not perish. It retains its purchasing power in the long term. If it’s in the center of the monetary system, it will also be more stable in terms of purchasing power in the short and medium term. That has to do with economic principles; it is a commodity. In that respect I feel safe by keeping a portion of my savings in physical gold. I am protected from economic shocks. If the euro falls gold rises, and so my purchasing power is maintained.
Something has to happen in the international monetary system. It cannot stay centred around the dollar. Since 1971 – when the dollar was detached from gold – the United States has an exorbitant privilege. Most trade in the world is settled in dollars. Therefore, there is a huge demand for dollars in the world, and the US can simply print these dollars.
In the new system gold is going play a role. Look at the developments in Europe. The Netherlands and Germany get their gold back from America. Austria and Belgium are also repatriating. Russia and China buy a lot of gold. The Chinese have too many dollars in foreign exchange reserves and are therefore at the mercy of the whims of US policy. The transition to a new system will be gradual. No one wants a new shock.
With my blog I try to fill the gap between mainstream media, who do not understand gold, and conspiracy theorists. I always try to seek the truth. Because if we get a new financial crisis, we must know the truth. The Dutch central bank shouldn’t state it holds 600 tonnes if it can’t show us the audit reports and gold bar list. That’s why I’m pushing for the audit reports and gold bars list to be publicly released, but those requests find a lot of resistance at my national bank. While you would think they can be fully transparent. What’s there to hide?”
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