The role of gold in an economy is unmatched and the biggest indicator is that central banks are constantly adding to their reserves. There are a number of factors that make this precious metal a shield for all economies.
Since it is a non-replenishing resource, more and more central banks are collecting gold, which causes depletion in circulation. This adds to the reason why gold is garnering the demand that it is.
With central banks hoarding such huge amounts of gold, amounting to more than 500 tonnes in 2022, the rate of gold is certainly affecting the common man’s pocket. With the current gold rate in Bangalore crossing ₹6,000 per gram, the scenario of buying gold changes as RBI acquires more gold.
Read on to understand the role of central bank gold reserves in governing the gold rates.
How Central Bank Gold Reserves Affect Gold Rates?
Reports reveal that the RBI added approximately 34 metric tonnes of gold during this financial year that ended on March 31, 2023. This additional stocking of gold further increased the gold reserves to around 795 metric tonnes. As a result, the gold reserve value rose from 695 metric tonnes on March 31, 2021.
This comes as no huge surprise why gold rates are increasing. For instance, the gold rate in Kerala was ₹6,033, approximately for one gram on 5th June 2023. However, the gold rate in Kerala on 10th June 2023 was ₹6,055.
This is precisely what happens in the market when the central bank’s gold reserves increase. With the RBI looking to build up its gold reserves, you can expect the gold rate in Bangalore and the rest of India to increase considerably.
Apart from the RBI, other central banks, such as The Money Authority of Singapore and the Central Bank of the Republic of Turkey, have also been purchasing gold as a smart strategy to diversify their foreign exchange reserves.
With the RBI’s gold reserves increasing by over 40%, this is a potential indicator to depict how this precious metal works as a hedge against inflation. However, unlike the other central banks, the RBI never sells its gold, and this is one of the underlying factors to consider.
Why do Gold Rates Increase?
There are various factors responsible for the fluctuating gold rates. These include the economic market conditions of the country and its political situation. Moreover, gold retains its purchasing power, even during inflation and other geopolitical situations.
Since the late 2000s financial crisis, the sway towards non-market linked assets has led to the appreciation of gold. With most countries handling a low government debt-to-GDP ratio during this period, the need for accumulating gold reserves becomes a prime requisite to compensate for bad financial health.
With central banks having a more positive outlook towards the yellow metal, as mentioned, this could further increase the price of gold in the future. In fact, a majority of central banks expect an increase in the total proportion of gold reserves, and you may see a new face value of gold in the global economy.
Here are some reasons why central banks are focused on gold investment and how they affect the rate of gold.
Turmoil in the Economy
A spike in the gold rate is followed when there is a decline in the value of the dollar. This is because they follow an inverse relationship. Similarly, when the US dollar strengthens, you may find the gold rate in Bangalore or the rest of India to decrease.
Fluctuations in interest rates may also inflate the gold price, as does the demand and supply of gold. When the demand increases and the supply is limited, the gold price increases subsequently.
Turbulent Market Conditions
The rate of gold depends on investor demand. With inflation and other geopolitical risks looming in the market, investors move towards gold away from other investment options. This is the reason why central banks hold 80% of the gold, which can help them manage the global crisis.
Source of Trust
When central banks add gold to their treasury, the amount in circulation drops, and the prices increase. This is because gold is considered a reliable and secure physical commodity. As gold carries no counterparty or credit risks, this precious metal has become one of the essential reserves globally alongside government bonds.
Diversification of the Reserve
The rate of gold may indicate the strength of the dollar. An increase in one triggers a decrease in the value of the other, having an impact on the prices of gold on a global scale. Thus, countries are focusing on gold to reduce the dependence of gold on the US dollar and diversify their foreign reserves.
Why Are Central Banks Purchasing Gold Right Now?
Central banks are relying on gold for many reasons, to counter inflation, print more currency, minimise the dependency on the dollar, and so on. Central banks claim the primary reason is to diversify their foreign exchange reserves, as mentioned earlier.
In just the first quarter of the fiscal year 2023, central banks are aiming for a 24% increase in gold holdings. This may be due to increasing geopolitical worries, fluctuating interest rates and other factors.
Furthermore, the increased accumulation of gold reserves by central banks may further heighten due to the threat of increasing inflation and geopolitical risks.
In conclusion, the rates of gold may fluctuate depending on the gold reserve of the central banks and economic fluctuations. While central banks hoarding gold may be an indicator of the geopolitical circumstance, it also may hint toward diversification from the US dollar. With the shift in power, gold is one way to turn the wheel in your favour.
