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Central Bank dollar holdings - good for gold, bad for dollar?

The latest figures from the US Department of the Treasury show not only how the US liabilities to other central banks have rocketed by 31% over the eleven months to May, but also that the balance of the maturities of these liabilities is shifting towards the short end as major counterparties increase their flexibility and de facto demonstrate their increasing levels of concern about over-exposure to the dollar.  The primary reason for the shift has been a massive absolute increase in short-dated instruments and a much smaller change in the longer-dated instruments, suggesting that a good part of the shift has been as a result of the QE exercises. 

This is, in principle, good for gold, not because it implies an outright reweighting towards gold in major nations' foreign exchange holdings, as that would be wholly unfeasible and market-disruptive, but because a potential erosion in global dollar confidence and a reluctance to retain dollar exposure almost always leads to increased willingness to invest in gold as a hedge not just against the dollar, but more partially as a hedge against risk and uncertainty.

In June 2008, the US' total foreign liabilities to the official sector amounted to $1.7 trillion, with Japan the largest holder at 36% of total and China holding 36%.  Among individual nations (i.e. stripping out both oil-exporting bloc and Caribbean banking centres with 13% between them) the next largest three were Brazil (6%), Luxembourg (4%) and Russia (4%).  Since then the picture has changed.  China overtook Japan as the world's largest holder in September 2008 with a huge leap from $574 Bn to $618 Bn and by May 2009 Chinese holdings in these instruments were $802 Bn, with Japan holding $677 Bn and the UK, which shot into third position with $164 Bn.  In fact the UK's holdings tripled over the period.

The current pecking order, then, is China with 35% of total, followed by Japan (30%), the UK (7%), Brazil (5%) and Russia (5%) with the five between them accounting for 83% of total.

In June 2008 China's short-dated US holdings amounted to $15.2 billion, or just t3% of total.  By end-May they had shot up to $210 Bn, or 26% of total, which is also the proportion held by the world as a whole.  Russia is maintaining the most flexibility with 49% of its exposure in short-dated instruments ($61 Bn) and Brazil's short-dated balance is now 8% against 1% in June 2008.  Japan and the UK have maintained broadly unchanged structures over the period and have continued to increase their longer-dated holdings.  China, Russia and Brazil have been more reluctant to add to their longer-dated instruments.

So what does this signify?  It is well-documented that Chinese politicians and bankers have been regularly expressing concern over dollar-heavy exposure and have recently been espousing an increased role for the SDR in the international system; it would seem that they are putting their gearing up for - or are already implementing - shifts in the balance of their international assets, although as always with central bankers the moves are likely to be gradual.

The trigger may be in 2011 when the voting powers of the IMF members are up for adjustment and there is a widespread push for the new voting tariffs more accurately to reflect international economic power.  This may well also be the time when, if it comes about, the structure of the SDR is changed. 

Although as noted above none of this necessarily signifies a major tonnage shift towards gold, it may herald a fresh shift in sentiment with respect to the implications for the dollar's role in the system. This is almost bound to lead to gold sustaining a yet higher profile, if only in the debate about reserve currencies and their relative merits.

Meanwhile the IMF is discussing the likely mechanics of the sale of those much-discussed 403.3 tonnes of gold that it is proposing to sell to aid the international funding process.  The vote is likely to be taken in September, but with the new Central Bank Gold Agreement also under negotiation and due for implementation on 27th September this year, the logistics are likely to be decided before then.  It is not yet known whether the IMF will become a signatory to the next CBGA or whether it will take up an existing allocation from other signatories with no large-scale sales intentions, but it has been made abundantly clear that any such sale fron the Fund is expected to be under the auspices of a CBGA.

And it is perfectly possible that it may all yet go out in an off-market transaction to another central bank or banks.

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