Filling the Vaults: Why China Keeps Buying Gold

MIKE BARNES 0:20

Welcome to America’s Gold Authority Podcast. My name is Mike Barnes. The Central Bank of China acquired 20 tons of gold in the month of August. 20 tons, and they’re not alone. India, Poland, Korea, the Czech Republic, the list goes on. What does this all mean? Let’s go to some experts and find out. Philip Diehl and Brad Chastain join me now. And Philip, with all of your experience as the 35th Director of the United States Met, President of U.S. Money Reserve, what does this mean? Is gold going up? Is gold going down? How does this affect the economy? There are so many questions. I know you have the answers.

BRAD CHASTAIN 0:55

Well, Mike, what it means is that uh central banks are really beginning to uh uh deepen their commitment to gold, just like many of us are. They’re looking around and seeing the world in turmoil. They recognize that with uh interest rates rising and uh deepening questions about the stability of bond markets around the world, that uh gold is uh the safest investment. Uh really, this has been going on for a long time. Um the central banks are, of course, some of the deepest experts in monetary policy and the value of different currencies and gold. And beginning in about 2014, they went on a buyer strike on U.S. Treasuries in particular and began rotating uh out of U.S. treasuries and into gold uh during that period of time after beginning that buyer strike. And so they’ve really deepened that and and every now and then we see sort of a let up in their purchasing. But even with the increases in prices over the last few years, they’ve uh increased their purchases. And we saw that in August again, where um it’s not just China, but as you indicated, there are European countries, uh, there are other Asian countries, uh, India has been a big buyer over the years, uh, but also Eastern European countries like Poland and uh uh Turkey in Asia and uh the Middle East have been big buyers, uh, and some of the Latin American countries have been too.

MIKE BARNES 2:42

Brad Chastain, you’re so good at explaining financial situations with your role at U.S. money reserve. I’m still trying to figure out the fact that China spent $1.6 billion in August on gold. But they only spent about $150 million back in February when the price was so high. To me, it seems like they would have spent about the same amount. It’s just they would have got less gold in February. Does it make sense why they’re stockpiling now?

PHILIP N. DIEHL 3:08

Well, you never really actually know how much China’s actually buying. So there’s reported and there’s unreported buying. And China goes extended periods of time, they have multiple times without reporting any buying, and then all of a sudden they’ll report a whole lot of buying, hundreds of tons of buying that you know did not happen in that particular year that was reported. It was actually accumulated number of years, and then they caught up in the reporting, and we don’t even officially know if they’re fully catching up. So central bank buying has been, you know, from trade flows and customs and things like that, how much uh happens in aggregate, but you don’t always know which countries. And uh, since 2022, especially, most central bank gold buying has actually gone unreported. So just because the reported amount was lower at that time doesn’t mean it was actually lower. They’ve been consistent buyers for um years and years at this point.

MIKE BARNES 4:04

That seems so strange to me. It seems like central banks would be more regulated. We would know exactly what they’re spending their money on.

PHILIP N. DIEHL 4:11

They’re not very regulated, right? They’re they’re it’s kind of like regulating another government. So there are, you know, agreements between them. For example, you know, the European central banks or the uh the central banks in Europe had um agreements long ago, before even the ECB, about uh their gold um allocations and selling gold and things like that. And um, so there can be agreements there, but generally they work very independently. And a lot of the central bank data yet is is self-reported or it is um obfuscated in some way through custodians and a variety of things out there. And and China is one of the least opaque countries in the world in that regard.

MIKE BARNES 4:54

That makes sense. You know, Philip, as someone who has gold in my portfolio in my IRA, I hear about central banks buying a lot of gold. I’m thinking, ooh, the price is gonna go up and up and up. And I think you have a graph that kind of shows is there a correlation there?

BRAD CHASTAIN 5:09

Yes. Uh let’s take a look at that graph. And the the graph goes back into the 1990s, and I think there’s a lot that we can learn from this. Um, first of all, some of it is just sort of interesting. Some of it tells us uh and answers some questions like the one you just asked. First of all, you see the red bars on the left-hand side of the graph, and those red bars indicate the period of time during which the central banks were selling more gold than that they were buying. And then uh the green bars above the line indicate periods of time when the banks were buying more gold than they were selling. And you can see this abrupt change that occurred around uh 2010, and that switch began to change right at 2008, which was of course the financial crisis. And in response to the 2008 financial crisis, there was a switch that occurred where they became net buyers, and that switch became a very dramatic switch then in 2011. And with that switch became a regime change in the price of gold in the years that followed after that. There was a temporary three-year period during which there was a a bear market for gold prices after the run-up, but after that there was a big takeoff in gold prices. And despite those that run-up in gold prices during that period of time, during the 2000s, the central banks continued to buy gold. So they were really insensitive to higher gold prices. They bought despite the fact that gold prices were rising. And the question is, why was that? Well, the reason is that they buy and hold for the long term. They’re not buying to trade, they’re looking for the long-term uh value of gold. And so because they’re looking for the long term, they’re not that sensitive to what is going to happen to gold prices right now or just in the next year or two. And we can really see this in the last few years. We see these high bars in the last five years where we’re averaging a thousand tons of year of gold that are being bought by the central banks, despite this extraordinary skyrocketing in prices. And this is one of the reasons why we are so confident in where gold prices are going. Central banks, the smartest people in the room, about where uh currency prices are going, where inflation rates are going, where stock prices and bond prices are going, are betting on gold in the long term, and they’re really stockpiling gold in a way that they have never done in the past. And do it they’re doing it on a consistent basis five years in a row. And we expect this to continue despite this extraordinary run in gold prices. So there’s really a very important lesson here. And I make the case over and over again that buyers of physical gold should be buying for the same reason that central banks do, that it is a buy-and-hold uh asset. Uh central banks are not buying to trade tomorrow or the next year. They’re buying it for two reasons: to protect the nation’s wealth and for building wealth. Um and it is shown to be a brilliant strategy here, uh, not just over the last few years during this extraordinary run-up in prices, but really over the last 27 years uh as gold has outperformed uh equities and the bond market.

MIKE BARNES 9:31

Philip, you mentioned lots of different topics there. And Brad, we’ve learned over the last several months that there are different things that factor in when we’re looking at gold prices, inflation, interest rates, et cetera. But does this tell me that central banks are the key thing to watch?

PHILIP N. DIEHL 9:47

Well, they’ve been a huge, as Philip pointed out, a huge driver of gold prices um recently. So watching them um definitely tells a lot about and answers a lot of uh things about the way that gold has has moved. But I think it’s important to um look at how that trend, because if that has been a driver in the past, we’ve got to also think about how that trend may or may not continue in the future. And all evidence shows that it’s only really accelerating and becoming broader in that direction in the future. If you think about what central banks do with reserves and their and their core purpose for functioning is to be able to help the their individual countries’ financial system operate and be able to navigate trade and financial flows with the world. And so one of the big things is converting currencies. So countries like China, for example, import a lot of uh or they import a lot of other currencies, like mainly dollars as the as the reserve currency, because they export a lot of goods, while the central bank is there to ultimately help them manage that. So a lot of times that’s converting the the um currency to their local currency to use for payrolls and things through the banking system, and then they’ve got to make sure that there’s enough, in their case, Remimbi, it’s hard the word to say, one is easier if you use the denomination of their currency, but um it in order to make sure that they have what they need and to keep um financial markets working. So they they allocate their reserves in a way that they are able to manage that. So historically, as other countries, especially oil-producing countries in China, have acquired dollars through through their exports, they then reinvest those dollars back into US assets like um like treasury bonds. And as Philip pointed out, the central bank buying of treasuries has declined over the years. They’re not buying nearly as many as they they once did. Um, some of those reserves are now being put into gold because they’re ultimately diversifying their options. Um, one of the things that’s been very, very evident over the last now five years is while the US treasury market is still currently the deepest and most liquid uh sovereign debt market in the world, there really still isn’t actually a replacement for it in the way that it works in the monetary system. It is consistently shown that it is quite fragile. And the liquidity, especially with older bonds that central banks hold, isn’t very um isn’t very deep. In 2020, during COVID, we saw that. The treasury market completely seized up uh as there was this dash for cash during COVID. And in order to provide liquidity, this the the Federal Reserve back in 2020, between about April and June, ended up buying about $1.7 trillion of treasuries to be able to provide that liquidity. So if you’re thinking about a cent being a central bank and you’re trying to find a place to save money that you can then turn into cash or liquidity that you need to help your financial system, treasuries increasingly have not, forget about all the debt and deficit and all those other things, just from a liquidity standpoint, what they really care about hasn’t even been there. Because in those times of crisis, if everybody’s going to sell, you end up with 2020 where they’re not going to be able to raise the cash, even if they’re not one of the sanctioned countries on their reserves or anything else that they that they really need to. And they know that that is thin. So there have been so many programs put in place over the last five years to try to fix the structural problem. Um they’re changing the way that repo markets work with them to make them centrally cleared so that banks can absorb more. They’re the the holding requirements, this what’s called the supplementary level ratios. They’re just legal requirements about how much capital banks have to hold in order to hold treasury. They’re loosening those to make it where banks can do more. Janet Yellen ish um implemented the buyback program that has gotten so much attention lately with Besson upping it. But that was done in response to that time when the liquidity wasn’t there, that Treasury could go in and buy these illiquid bonds from these banks so that they could then absorb more. Even the Federal Reserve implemented a the FEMA repo where foreign central banks could post treasuries without selling them and then borrow cash from the Federal Reserve to get it so that they didn’t have to create that sort of issue. It’s kind of like a lot of, you know, fingers in a leaky dam in terms of this system. And so if you’re a central bank looking to allocate those reserves where you can get them in the future and use them and put them to use, you realize holding too much in that area where during a time of crisis, it’s not going to provide the liquidity needs you need to be able to navigate your country’s financial system there.

MIKE BARNES 14:30

You used the term fragile earlier, and I want to talk about that because I think for all of us who have something in their portfolio, whether it’s gold or anything else, we want that invested investment to survive, to be very good. And if it’s fragile, we’re going to worry about things. And a lot of people kind of compare the hotness, I’ll call it, of gold over the last couple of years to where Bitcoin was several years ago. But it’s hard to compare those two because I think, Philip, you can show us that Bitcoin is a different animal compared to gold. Yeah.

BRAD CHASTAIN 14:59

I’ve always gotten a kick out of the comparisons of Bitcoin and gold. Uh and you know, the used to be talk, you don’t hear this so much anymore about how Bitcoin is the new gold, and and um, and first of all, Bitcoin is what? Less than 20 years old, and uh and gold is as a store of value and as a uh means of conducting commerce is like 4,000 years old. So, you know, there’s a matter of of uh of the length of the track record. This chart uh was really surprising to me, this graph. When I ran it, I really did not know what to expect. In fact, I would have expected I expected something very different. This is a track record of uh gold versus Bitcoin over the last five years. Gold has outperformed Bitcoin by a substantial margin. Bitcoin was up about 67%, whereas gold was up about 146%. And also during that period of time, you can see that Bitcoin was extraordinarily volatile. We measure that with what’s called a sharp ratio. The higher the sharp ratio, the better. And a sharp ratio for gold was uh about 0.56 versus a.39 for sharp, which is a very big difference, which indicates just how volatile, as you can see on this graph. Bitcoin ended up performing just about uh the same level as the S P 500 during that same period of time. If you had the stomach for that kind of volatility over that period five period of five-year period of time, then um you know that might have been one thing. But the sharp score might not have been as good. I just didn’t look at it. But if you look at it at one year, two-year period, uh I saw that uh gold still outperforms, especially on the sharp ratio, when you look at the risk-adjusted performance.

MIKE BARNES 17:14

You definitely have to have a strong stomach to survive something like that. And Brad Chastain, with all of your expertise, you may see it differently than I do, but that just reassures me as I look at my precious metals IRA that, okay, I made a good choice.

PHILIP N. DIEHL 17:27

Well, you made the the choice that central banks are making, right? I mean, that’s and and the the fact that cryptocurrencies, things like Bitcoin have gained so much attention, it still um, you know, just points to what we were just talking about is the structural issues with the existing monetary system. Um I mean it it file uh fundamentally broke in 2008 and completely restructured and and works completely different post-2008 than the entire monetary system than it did pre-2008. And um, and part of it was to fix the problems, the trust problems in 2008, where you need collateral in order to borrow in the in the monetary system and things like that. But what we’re seeing is that that is starting to break down, just a little bit what I was alluding to earlier, and um people looking for alternatives. So the fact that those have gotten that kind of attention, um, it’s really rooted in the same fundamental problem um that the existing monetary system is just it’s not working very well anymore, and it is beneath the surface, as many as many fingers as the Fed and Treasury can put in the in the leaky dam, um, it is unsound and it is breaking down, especially with the the what we’ve talked about past, with the um uh sort of deglobalization trend that we’re going through is even accelerating that. So it’s kind of a symptom of the same problem, but I definitely agree with you. I like having my money where the the central banks have put their money because outside of some you know some Hail Marys from emerging markets, El Salvador, I think, um, you know, they’re they’re firmly planting their flag in gold and figuring out new ways to use gold um for that liquidity.

MIKE BARNES 19:14

Brad, I have to ask you, as you mentioned the monetary system problems, is this fixable? Is this something that we should worry about?

PHILIP N. DIEHL 19:22

Um, I definitely think it’s something to worry about. I mean, I I we think we’ve talked about it before. I hope in 10 years from now, you know, you talk to somebody on the street and they’ve never heard of repo markets and they’ve never heard of hedge fund basis trades, because that means nothing blew up. But I am increasingly concerned that people are gonna have about as much knowledge of that as they do subprime in 2008. Most people didn’t know about subprime prior to 2008, and because it blew up, everybody learned about it. And so um, if you could fast forward 10 years and ask somebody on the street if they’ve heard those terms and and they haven’t, um that would be that would help me breathe a sigh of relief. But I’m afraid they’re gonna be common terms at some point because it is structurally very um precarious. And you see with the Fed and Treasury actions and all the programs they keep putting in trying to trying to fix it. But um, and the the rest of the world doesn’t have a good answer at this point, so it hasn’t broken. Everybody gets kind of tied into it right now, but they’re clearly looking for answers and ways to protect, and and gold has been the answer for central banks quite clearly.

MIKE BARNES 20:25

Let’s finish up with something that has to do with moving gold, relocating gold, because uh a lot of us think, oh, well, you go into a bank and there’s our roll of quarters. It’s kind of different when you’re talking about a central bank moving 20 tons of gold around the world. And Philip, I know you have a graph that shows us how this kind of works.

BRAD CHASTAIN 20:44

Uh I was not director of the mint at the time, but there was a lot of gold back uh in the 80s that was stored at the West Point Mint. And it was secretly transferred to uh the Federal Reserve Bank of New York. This map shows transfers that have occurred over the last 10 years, and this these are repatriations that have occurred, and they’ve occurred for a number of reasons. In some cases, as Brad was describing earlier, they were uh they were tra they were repatriations made for financial convenience reasons to uh increase the liquidity and the use of uh uh of the gold for liquidity purposes. In other cases, there were political statements that were being made, um, or there were responses to domestic political pressures to bring the gold home. Before this 10-year period, every now and then you would hear sort of eruptions of dissent, but repatriations were unusual.

MIKE BARNES 22:04

Brad, do you follow this at all? And is this something that you’re you agree with that you think that the central banks are doing this in the right way?

PHILIP N. DIEHL 22:13

Yeah, I think it makes a lot of sense. It’s uh basically what we’ve been talking about with the the shifts that have been taking place in terms of um who our trade partners are, where your gold, if you’re going to be able to need it in a time of crisis, uh is equally important. I mean, I think it’s it’s Venezuela now that has gold stuck in um in London, right? That there’s they’ve been trying to get it back, um, and it’s still sanctioned and and can’t uh can’t reclaim it. Specifically, and central banks have reported that they are diversifying their locations, not just moving it back, moving some back for for um sovereignty reasons, but they also have consistently reported in in uh central bank surveys that they’re also diversifying to be able to have access to it and put it to use in different places. So um that’s just part of this geopolitical realignment that we’ve been talking about for the last couple of years, and it makes sense. And I’m definitely not surprised to see gold taking kind of a central um role within that alignment.

MIKE BARNES 23:19

Great discussion, guys. Philip Diehl and Brad Chastain, thanks so much for joining me today. Thank you, Mike. Thanks, Mike. Central banks. That’s what we need to keep our eyes on. As central banks are accumulating more and more gold, the price, it looks like, will continue to go up. That’s all the time we have for today’s episode. On behalf of all of us here in the U.S. Money Reserve Studios, I want to thank you so much for tuning in. If you have any questions or you want to learn more about today’s episode, you can call the number in our episode description and speak with one of our friendly account executives. They’re going to be more than happy to answer any questions you may have about precious metals and the strategic role they can play in achieving a secure and comfortable financial future. I’m Mike Barnes. We will see you next time on America’s Gold Authority Podcast.