Turk: Central Banks Losing War On Gold

January 15, 2013

Founder of bullion-dealer GoldMoney says reserve banks know rising gold prices are a reflection of their failed policies.

James Turk is founder and chairman of GoldMoney.com, which is a European-based precious metals firm that presently safeguards $2.1 billion of precious metals assets owned by customers. Turk is a popular speaker at conferences as well as on radio and television. His latest book is “The Collapse of the Dollar.” HAI Managing Editor Drew Voros caught up with Turk to discuss central bank gold buying, the debasing of the dollar and why he favors silver over gold.

HardAssetsInvestor: What is the issue in the gold market that most concerns you?

James Turk: The biggest issue is government policy. It’s been quite clear that governments have been trying to keep the gold price from rising. But it’s inevitable the gold price will rise when national currencies are being debased, as they all are being now. And rather than let the free-market forces take over, governments are trying to deny reality. They're trying to force the market into thinking that gold really isn't worth what the market says it’s worth. Governments are engaging in anti-gold propaganda and various interventions. It’s exactly like the 1960s, which I lived through and remember well.

HAI: Why would a central bank, which presumably is also buying gold for its reserves, want the price to be lower? Isn't that an investment that the bank has as well?

Turk: First of all, gold is not an investment.

It’s money. It’s not an investment because it’s a sterile asset. It doesn’t generate cash flow. It doesn’t have a balance sheet, management team, PE/ratio or anything like that. And in fact, gold doesn’t create wealth. Money doesn’t create wealth until you put it at risk. Money only creates wealth if you invest it or you lend it or you deposit it. But gold itself doesn’t create wealth. Dollars don’t create wealth unless you deposit them in a bank, lend it to somebody, or invest it in securities. It’s the same thing with gold.

Central banks own some gold, but they own it because of the legacy issues when the dollar and all national currencies used to be backed by gold. That formal link to backing gold was broken back in 1971 by President Nixon. And ever since then, national currencies have been dependent upon government promises rather than physical metal in the vault.

The physical metal that’s actually sitting in central bank vaults is a reserve. That’s why the central banks around the world are called the Federal Reserve, or the Reserve Bank of Australia, or the Reserve Bank of India. They are each bank’s reserves, so that if there are problems with the paper currency, or the deposit currency that’s circulating, the bank can always rely on the physical gold reserves to rebuild or reconstruct the monetary system.

You have to look at gold from that point of view. The reason central banks want to keep the gold price down is that in this fiat currency world in which we live, a rising gold price is an indication that a currency is losing purchasing power and that central bankers are doing a poor job managing the currency’s purchasing power. Central bankers don’t like to have that red flag waved when the gold price rises, because governments today rely on the power of creating money out of thin air to fund their deficits and meet their spending aspirations.

HAI: But they're caught in a Catch-22, right? They don’t want a high gold price, but they are constantly introducing monetary-easing policies that fuel higher gold prices.

Turk: You're absolutely right. And the way I describe it is that there's a war going on between the gold market and central bank policy. While the central banks win an occasional battle or two, they are losing the war. I describe this war as a managed retreat. Gold is up 12 years in a row at an average annual appreciation of 16.8 percent. What that shows is how badly the purchasing power of national currencies is being eroded.

HAI: Why have we seen such a muted reaction in the last three months with gold prices, when coming off the heels of QE3 and QE4, certainly around the globe, Japan and other places are in the same theme? Why has it stopped reacting? Or has it?

Turk: Gold hasn’t lost any of the attributes or characteristics that make it useful. What you're seeing is just the latest battle in this ongoing war. The central planners are out in full force. The last thing they want to have happen when announcing QE3 or QE4, is to see the gold price rocket, because that’s going to send a message around the world that currencies are being destroyed. So they intervene as much as possible, to keep that from happening, to try to control the gold price. But even though they're trying to control the gold price, that hasn’t kept the gold price from rising 16.8 percent per annum on average over the last 12 years. Because central banks are not addressing the underlying causes of the problem here—that government spending is out of control—you're going to see a rise in gold price in 2013 as well.

HAI: You wrote an extensive report questioning the accuracy of the above-ground gold stock, which of course is in direct correlation to what central banks own. Are you saying that central banks don’t have as much gold as they say they do?

Turk: There are two elements to your question. The first is looking at the overall, above-ground gold stocks. That’s important to know, just like it’s important to know the total quantity of euros in circulation, or the total number of dollars in circulation. Because once you know the total above-ground stock of gold, you can relate it to the total above-ground stock of the national currencies, and make some determination as to whether gold is cheap or expensive, compared to those currencies.

This relative value can be determined by my Fear Index. I look at it, usually, just against the U.S. dollar, but you can do it globally as well. The Fear Index is still very low, suggesting that gold is still undervalued relative to fiat currency. That explains the importance of knowing the total above-ground stock of gold.

The second part of that question is, How much do central banks actually own? My view is that central banks own a lot less gold than they say they do. They don’t accurately report on their balance sheet how much gold they have in the vault, and how much gold they’ve taken out of the vault and loaned to various participants in the bullion market. There's a big difference between having physical gold in the vault and having somebody owe you physical gold. The fact that central banks don’t really report how much physical gold they really have creates a huge uncertainty in the gold market.

HAI: When you say central banks lend it, to whom would they lend it?

Turk: Well, they lend it to bullion banks, which in turn lend it to various fabricators. The fabricators turn it into bars, coins, high-karat jewelry and disburse it to millions of people around the globe. That’s why you have to assume this gold is never going to come back to the central banks. Let’s put some numbers behind it in order to put it into perspective.

Central banks say they own about 30,000 tonnes of gold. The above-ground stock of gold is approximately 156,000 tonnes of gold. Now, the reality is that central banks probably own no more than 15,000 tonnes of gold and it could very well be less than that. The rest of that gold, or 141,000 tonnes, is held by countless individuals and institutions around the globe.

HAI: What would you say to an investor, rubbing his chin, saying to himself, “Should I buy bullion or a gold-backed ETF or both?”

Turk: The investor first has to ask himself why he is buying bullion in the first place. Why does he want bullion in his portfolio? Does he want to trade bullion in order to gain some exposure to the gold price, and try to profit from ups or downs in the fluctuations of the gold price? Or, is he looking for a bedrock asset that doesn’t have counterparty risk, and puts wealth outside the monetary and banking system today?

Now, if you're a trader, products like an ETF, futures contracts, options—all of those things, they're the right tool for that particular job. But if your objective is to get a safe haven with no counterparty risk, again, you have to get the right tool for the job, which is to own physical metal, because only physical metal avoids counterparty risk. So it’s really just using the right tool for the right job. And every individual has to ask what they want to accomplish by having exposure to gold.

HAI: What would it cost to store $10,000 of gold in your vault?

Turk: The annual storage fee is 15 to 18 basis points, which is less cost than the typical gold ETF.

HAI: How have physically backed gold ETFs impacted the gold market’s supply and demand equation?

Turk: It provides people with more exposure to the gold price. But if you actually do a correlation between the weight of gold in the ETF and gold prices, over long periods of time, there is little correlation. Sometimes you’ll see the gold price going up, with no changes in the weight of metal going into the ETF. And you’ll see other periods of time when there's weight of metal going into the ETF, and there is no change in the gold price.

HAI: When we talked earlier last year, you favored silver over gold. Do you still feel that there's a better upside to silver?

Turk: I do. Gold was up 7 percent last year, and silver was up 8.2 percent. So it has outperformed. I expect silver to continue to outperform. However, silver has greater risk because of the extra volatility. The way I describe it is that if owning gold is like flying in a 747, silver is like flying in an F-16. That volatility is not for everybody. But higher risk typically means a higher return. So I expect silver to outperform going forward.


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