There's growing concern that a lot of official gold has been leased out into the market and that sooner or later, as happened back in the late 1990s, one or more parties, perhaps bullion banks or a metals exchange, would run into difficulty trying to meet a physical gold delivery commitment.
For a short video on the mechanics of gold leasing, click here.
If a lot of gold has been leased out, someday it will have to be rebought, and difficulties may emerge if the gold cannot be rebought in sufficient quantities without creating mayhem within the financial system by causing a very large hike in the price of gold.
Important: The amounts of gold leased by central banks is a very closely guarded secret, and we do not have direct information on them, which means we have to try and back-calculate these amounts by other means.
A recent and thought-provoking study regarding gold leasing was done by Sprott Asset Management in March. After accounting for all known flows of gold into and out of the US over the past 22 years, the Sprott team arrived at a figure of nearly 4,500 tonnes of gold that cannot be accounted for.
Here's the summary flow chart:
In short, because gold is not consumed and never misplaced, there has to be a balance between gold supply and demand. It cannot be printed out of thin air, and it is this inconvenient fact that really matters the most here.
One caveat: Because of the explosive nature of the above findings, Adam and I sought out an opposing view. We talked with a managing partner at an NYC commodity firm that tracks and reports on gold and silver as specialty areas, and their view was that the US has actually been a net importer over the same time period. I could not resolve the massive discrepancy between these views, so I have more research to do. When asked directly how the US government's own import-export data could be this far off the mark, the response was that gold is only counted if it is in wrought form, meaning that it has been fashioned into bars, coins, rods, etc. Uncomfortable with the implication that the US had somehow imported 4,500 tonnes of unwrought gold – that is, gold in the form of dust, pellets, or gold ore – I asked if it was realistic that unwrought gold alone could account for so many missing tonnes. The response left me with plenty of doubts. So more digging is required.
Presumably this gold came from leasing arrangements and from official sources, as there are no private suppliers that could possibly match these enormous amounts. Further, it should be noted that one very important missing value in this flow chart is private investment – such as gigantic hedge funds buying gold, or you or I buying coins – which means that the actual shortfall would be higher than 4,500 tonnes, because private investment subtracts tonnage from the amount available for export.
Depending on how much private demand you estimate (and it has been considerable over the past 13 years), you might double the shortfall or perhaps even go higher.
There's really no other possible source for that gold than from “official” sources, meaning the Fed and/or the Treasury. The only other explanation is that thousands and thousands of tonnes of gold somehow got into this country without being detected by US trade and customs officials, which implies that a rather large series of crimes had to be committed.
Because I almost completely discount the idea of illicit gold imports being of a material size, that just leaves us to try and figure out how much leasing the Fed and the Treasury have supported over the prior decades, as we will see below.
The facts are easy enough to grasp. The US has exported vastly more gold than it has imported, and that gold had to come from somewhere. It is very doubtful that accounting errors can explain away even 1% of this discrepancy.
This leaves gold-leasing from the Fed as the most likely source for all that gold, and it is such a large amount that I know of no possible source on the face of the planet where such an amount could be purchased. This is why Germany seeking to repatriate their gold is such a big deal. What if that gold has already been loaned out?
To put it mildly, any whiff that the world's central-bank gold is not where people think it is would really be an enormously unsettling admission to have to make.
Another caveat: There are other experts out there who dispute the figures of this Sprott study. I'm in contact with one of them, probably the best-credentialed of the bunch. If I receive data contradicting Sprott's analysis, I'll present it in a subsequent post here on the site.
In the meantime, let's play a game here. Suppose for the sake of argument that the US is missing 4,500 tonnes of gold that has been leased out, and it's time to either admit that it's been lost to the world or get it back somehow. That is, the bullion banks will have to pay back the gold they borrowed with cash, or come up with the gold.
How much are we talking about? In current terms of ~$1,380 per ounce, those 4,500 tonnes of missing gold pencil out to a liability of some $200 billion. While the Fed might decide that it is able and willing to forgo its gold and allow the bullion banks to deliver cash instead of physical to avoid their probable failure, the Fed does not own that much gold to deliver. Not even close.
If you look at the Fed's balance sheet, they claim to have ~$11 billion in gold (listed as an asset, by the way), but that number is a historical aberration. The Federal Reserve, just like the Treasury Department, carries gold on its books at the rate of $42.22, a price set way back in the 1930s and not touched since.
This means the Fed has, on its books as an asset, some 261 million ounces of gold, or more than 8,000 tonnes of gold.
The Federal Reserve Balance Sheet
If you do the math, that $11.041 billion in “gold stock” works out to 261 million ounces of gold, or more than 8,000 tonnes. That's a nice pile and more than enough to forgo the return of 4,500 tonnes, right?
Not so fast. Those 261 million ounces of gold actually belong to the US Treasury.
Quite confusingly, both the Fed and the Treasury claim this same reserve amount of gold on their balance sheets, an accounting mystery that I have not resolved to my complete satisfaction. (I have heard that the Fed's balance sheet has an offsetting liability, though I have yet to locate it). Here's the current report of US gold holdings put out by the Treasury:
See? There are those same 261 million ounces of gold listed for the identical $11.041 billion. So who really owns it? Well, that's another mystery to be resolved on another day. For now, let's just try to figure out where the 4,500 tonnes of gold came from before we worry about the claims and responsibilities of actual ownership.
The main point I want to make here is that if 4,500 tonnes has been leased out by the Federal Reserve, it could not have been done without the Federal Reserve leasing out either gold belonging to the US Treasury (i.e., US citizens) or belonging to other countries for whom the Fed is holding gold “in custody.”
How can I be sure? Because the Fed does not have any other gold listed anywhere else on its balance sheet. If it's holding some as an asset, it's hiding it, and I just don't think that's the case. The Fed is holding a lot of gold for other countries as a custodian, but that's a liability of the Fed, not an asset.
So the conclusion is simple enough: The Fed has leased out the gold of US citizens, other countries, or both. One other possibility is that the Treasury Department did it directly, but they, to my knowledge, have never been involved in gold leasing, nor have I heard even the first hint of rumor that they might have been involved. Any gold leased into the market belonging to the US Treasury was almost certainly conducted via the Federal Reserve.
I would presume that if the Fed has lent out a lot of Uncle Sam's gold, that had to have been done with the full knowledge of the Treasury Department, because that gold could only have come from the so-called “deep storage” category, which means either the Fort Knox, Denver, or West Point vaults.
Recently, there was a big splashy show of claiming that the United States' gold had been audited. Not only was it all there, we were told, but we learned it was more pure than previously thought! Carefully read the below article and see what impressions are created for you:
Feb 13, 2013
NEW YORK – The U.S. government's gold in New York is safe in a vault underneath Manhattan, and some of the precious metal there is purer than previously thought.
That's according to a first-ever audit conducted last year by the Treasury Department of U.S. gold on deposit at Federal Reserve banks in New York and elsewhere.
The New York Fed holds 99.98% of the U.S.-owned gold bars and coins in the custody of the Federal Reserve. The rest of the gold is on display at Fed banks in cities such as Richmond, Kansas City and San Francisco.
If you came away with the impression that 99.98% of all the United States' gold was audited and 1) found to be there and 2) found to be in even better shape than originally thought, then congratulations are in order to whomever wrote those careful, slippery words.
The truth is that the Fed only holds 13.4 million ounces of the Treasury's physical gold (see image above of Treasury gold) out of some 261.5 million ounces – just about 5%. So the more accurate sentence would have read: “The New York Fed holds 5% of the US-owned gold bars and coins, and these were fully accounted for in our recent audit. The other 95% has not been fully audited in decades.” Not quite as impressive-sounding, is it?
So the audit confirmed that at least 5% of the nation's gold is safe and sound. But that's all we know. Because every audit request by former Congressman Ron Paul to check in on the gold held in deep storage has been utterly rebuffed. No such audit has been conducted by an independent third party in many decades. So we really don't know. But we are still left with Sprott's unexplained data showing that the US has exported 4,500 tonnes more than it has imported, and perfectly sane logic leads us to conclude it had to have come from the Fed, the Treasury, or both.
Now, suppose again that the 4,500 tonnes are missing and that either an audit or a collapse in the bullion-leasing game would reveal as much. If you were in charge of that potentially nightmarish scenario, what would you do? If it were my job, I would do everything possible to scare that gold back into the markets where I could purchase it, preferably at a cheap rate and on the sly, with the hopes that I could get that done before anybody was any the wiser.
The alternative – a breakdown in the gold delivery market – would create massive price spikes, panic, immediate demands by other central banks for their gold, and quite possibly a lot of financial instability at a very, very vulnerable time in financial history. I should remark that there's never really a good time for such an event, but now would be especially poor timing, given the state of things.
If indeed the US is short 4,500 tonnes (or 145 million ounces), then for every dollar that the price of gold is dropped, $145 million of potential losses are avoided on the repurchase of the leased gold.
This could be the story of the decade, maybe century, if the Sprott data is remotely accurate. If it is, then when all of this has to finally be undone, my prediction is that agreements will be broken, allies will be stiffed, and the Fed will not willingly part with whatever gold actually remains, no matter who thinks they own it (Germany, et al.) or how many times Bernanke says that the Fed holds it merely out of tradition. The level of secrecy surrounding gold, gold leasing, and the complete lack of a full audit of deep-storage gold all suggest there's something to hide here – not the opposite.
There's an awful lot of smoke out there right now, and the concerted US public relations campaign to convince the world that gold is useless strikes me as both strident and desperate.
Again, if the Sprott analysis is accurate, there's a lot of missing gold in the US equation, and it had to come from official sources, either of US origin or belonging to other countries. Either way, the leased gold represents a tremendous liability of the Fed and the bullion banks to which it was loaned.
In this context, the gold slam begins to smell like an operation designed to shake as much gold as possible out of weak hands so that the bullion banks can begin to recover it to square up their accounts. GLD, the gold ETF that so many small investors participate in, is one large, obvious target, as it was sitting on 1,350 tonnes as of January 2013. The most recent figure I have shows that GLD has coughed up close to 175 tonnes and will certainly lose more in the coming days, as long as the price of gold is held down or even dropped further.
But even if GLD loses it all, that won't even cover a third of lowest possible estimate of the US shortfall. And we can be sure that other central banks in the UK and European arena have played similar games, so there will certainly be some competition for every tonne of gold that is released.
It is my distinct impression that something is very wrong behind the scenes, and I am about as worried now as I have ever been. But I'm also excited because it means that finally some interesting things are about to happen. The long, boring quiet period in the markets, where the price of everything was manipulated or distorted by official actions and volatility was managed down to unbelievably low levels, is probably over.
This is good news because it means that markets might again be able to function more normally and give us useful information and price signals that can help us determine which direction to go in.
Along with this feeling of unease, one line of thinking I have is that gold and silver are getting closer to the day when you or I will not be able to purchase physical bullion at any price. Were a major bullion bank to openly renege on its lease commitments, or the LBMA or COMEX were to declare force majeure and fail to deliver physical, all domestic stocks of gold and silver bullion would evaporate for all practical purposes.
When queried about what would happen if even 10% of the US population decided to access the physical bullion market, one large dealer told us it would just break the system. It's a very narrow pipeline that delivers relatively few rounds, bars, and coins to a very small population of bullion holders. Any big flood and the 5-6 week wait times we now see will certainly get longer. Not many dealers and/or wholesalers will want to honor such long lead times when/if prices are volatile or skyrocketing higher.
Where there's smoke there's fire, and there is a lot of smoke in the bullion world right now. I am more certain than ever that holding physical bullion is a must-do for everyone who wishes to preserve their purchasing power.
I am not yet issuing an Alert on this matter, but I am wrestling very hard with the urge to do so. I need some more hard information to justify such a drastic step, but for now my gut is telling me that something is about to break open.
More to come as this fast-breaking situation develops.
Chris Martenson, PhD (Duke), MBA (Cornell) is an economic researcher and futurist specializing in energy and resource depletion. As one of the early econobloggers who forecasted the housing market collapse and stock market correction years in advance, Chris rose to prominence with the launch of his seminal video seminar, The Crash Course, which has also been published in book form (Wiley, March 2011). It's a popular and extremely well-regarded distillation of the interconnected forces in the Economy, Energy, and the Environment (the “Three Es,” as Chris calls them) that are shaping the future, one that will be defined by increasing challenges to growth as we have known it. In addition to the analysis and commentary he writes for his site Peak Prosperity, Chris' insights are in high demand by the media as well as academic, civic, and private organizations around the world, including institutions such as the UN, the UK House of Commons, and US State Congresses.