Academic Study Says Central Banks Rig Markets With Gold Lending

Dirk Baur, formerly a finance professor at the University of Technology in Sydney, now professor of accounting and finance at the University of Western Australia in Perth, this month updated his 2013 study about gold market manipulation --

http://www.gata.org/node/13045

-- and has incorporated much of GATA's documentation. With that documentation in hand, Baur cites GATA and vindicates GATA's work, concluding that secret gold lending by central banks has become their primary mechanism of controlling the gold market. 

Baur's study is titled "Central Banks and Gold" and he concludes it this way:

"The theoretical arguments for central bank gold price management are based on the connection of gold with fiat currency. Gold reserves are designed to build confidence in fiat currency. This confidence would be jeopardized if the price of gold increased by too much, which is the theoretical basis for control and management of the price. 

"There is also an incentive for central banks to control the downside of gold prices and thus preserve the value of their gold reserves."

"The Central Bank Gold Agreement is clear acknowledgement of central banks' potential price impact and evidence of coordinated and mostly hidden price and reserves management. In addition, the European Central Bank's gold reserves and recent increases of emerging market central banks' gold reserves are further evidence of the role of gold in central bank monetary policy beyond the 'legacy' gold holdings of the United States and many, mostly European central banks.

"Furthermore, the gold lending activities of central banks implicit in the gold leasing rate establish a link between central banks, bullion banks, and gold mining companies and imply an indirect and transferred gold price management. Gold lending is the basis for the gold carry trade, which is profitable in stable gold price regimes and provides market-based incentives to stabilize or control the gold price. 

"In other words, the gold carry trade represents a market-driven suppression of the gold price based on the gold lending of central banks. 

"Whilst there are strong economic arguments for central bank gold price management following the high inflation episode and the rising price of gold in the late 1970s, it is less clear why central banks would have ended such strategies rather abruptly in the 2000s. 

"In contrast, the unwinding of the gold carry trade in the early 2000s offers an explanation for the significant price change between 2003 and 2011. Remarkably, whilst central bank gold lending can stabilize gold prices and the gold carry trade is creating a self-sustaining environment, gold lending is not effective in rising gold price regimes as in such regimes there is no market-based borrowing demand and the creation of such a demand would be too costly. 

"This asymmetry in the ability to influence the price of gold does not only apply to gold lending but also to actual gold reserve sales and purchases. The empirical analysis of global central bank gold reserves changes illustrates that central banks can enforce a price floor but not enforce a price ceiling. 

"There is also an explanation for the apparent lack of transparency regarding central bank gold reserve management including gold lending. If central banks disclosed planned gold reserve changes or gold lending activities, they would provide signals to the market that would make the changes more costly or increase the volatility and uncertainty in the gold market. The disclosure of the Bank for International Settlements about a gold swap in 2010 and a subsequent fall in the price of gold is a good example for the effects of such announcements.

"This study demonstrated that central banks have an economic interest in gold prices and directly and indirectly influence the price of gold. It also illustrated that central banks can only stabilize a falling gold price but not a rising gold price and that the stabilization can work only if it is hidden from the public and coordinated among central banks." 

Baur's study is posted at the Social Science Research Network's Internet site here --

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2326606