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European central banks have been buying government bonds on a large scale over the past decade. More than a third of the total public debt of euro area countries is now on the balance sheets of central banks. Should a new debt crisis break out, central banks would be able to offset these debts against their gold reserves. By placing the gold stock at a higher value on the balance sheet, a revaluation reserve is created, with which it can absorb a decline in the value of government bonds. This method has been used in the past and could offer a solution again in the future. The German Bundesbank therefore does not rule out a revaluation in advance, writes Jan Nieuwenhuijs in his Latest Analysis.
Globally, public debt has risen to record levels as a result of the coronavirus pandemic. Moreover, interest rates are historically low, making it easy for governments to borrow money. But now that interest rates are rising again, uncertainty is also increasing. Will countries still be able to continue to pay their high public debt? Or is there a threat of a new debt crisis, just like ten years ago during the European debt crisis? According to gold market analyst Nieuwenhuijs, central banks are still holding the option of a revaluation of gold, should there be no other option left to reduce the debt burden of governments.
There are several ways in which governments can keep their debt under control. The easiest way is through economic growth, because that reduces the debt burden as a percentage of GDP. It then becomes cheaper to pay off the debts. Other ways to reduce the national debt include tax increases or spending cuts. However, these two measures are less popular, because they directly affect the disposable income of households and thus the economy. An alternative way is for governments to temporarily allow higher inflation, although this also has negative consequences in the long term. Think, for example, of increasing social and societal unrest.
If a country no longer sees the possibility of bringing its national debt under control through the above-mentioned means, there is still the possibility of cancelling debts. Normally a very undesirable option, because one person's debt is another person's property. The cancellation of government debt means that, for example, pension funds that hold bonds have to take losses. And that's where the revaluation of gold reserves comes in, a tool that central banks can use to reduce the debt burden without burdening anyone else with the losses.
Actually, the revaluation of gold stocks is very simple. Central banks increase the value of the gold on the asset side of their balance sheet and offset this by adding the increase in value to the revaluation reserve on the liabilities side of the balance sheet. This revaluation reserve then acts as a kind of buffer, with which the central bank can absorb the decline in the value of its bond portfolio. European central banks already work with such a revaluation reserve, which they adjust every quarter to the current market value. This revaluation reserve was created with the establishment of the European monetary union, when central banks of all participating countries decided to value their gold stocks according to market prices. And it was much higher than the price at which they valued the gold before.
Nieuwenhuijs cites the gold stock of the German central bank, the Bundesbank, as an example. It currently has a gold reserve of 3,359 tonnes, which had a historical cost of around €8 billion. This gold stock is at the current Gold price However, it is worth much more, namely €173 billion. This means that Germany alone has a surplus value of €165 billion on its gold reserves. Other European countries with large gold reserves, such as France, Italy and the Netherlands, also have a lot of surplus value on their gold, because they bought the precious metal at a much lower price.
Now that central banks have so many government bonds on their balance sheets, it is possible to offset part of the increase in the value of the gold stock. From an accounting point of view, this is not a complicated task, but politically it is very sensitive. If a large economic bloc such as the eurozone decides to put its gold reserves on the balance sheet at a much higher rate than the market price, it would have to buy gold from the market to defend this high price. Are other countries not following suit? This would mean that European central banks would have to buy a lot of gold at this high rate. That means they have to put a lot more euros into circulation. An alternative scenario is that other central banks follow suit, with the result that gold becomes the new standard of value at the expense of the US dollar.
The scenario of a revaluation of gold is therefore very sensitive, but it is certainly an option. This was also evident from an e-mail exchange between Nieuwenhuijs and the Bundesbank. In response to his questions about a revaluation of gold, the German central bank replied that it 'don't want to speculate about it at the moment'. She also said that adjustments to the accounting 'Generally' European treaties. With this choice of words, the Bundesbank shows that it does not rule out such a scenario in advance, according to Nieuwenhuijs. And that is in line with previous statements by Jens Weidmann, former president of the Bundesbank. He called gold 'the anchor under the central bank's balance sheet'. He also said that gold 'is the foundation of stability for the international monetary system'.
In order to be able to effectively offset the European sovereign debts against the gold reserves, a much higher gold price is needed. According to Nieuwenhuijs, the gold price would have to be five times higher for the Italian central bank to be able to cancel out all government bonds against an increase in the value of the Italian gold stock. The Banca d'Italia owns €550 billion of Italy's total public debt. That is much more than the surplus value of just over €100 billion on its gold reserves. The current gold price is therefore too low to cancel all debts. This requires a much higher gold price, for example through a revaluation. However, this will only be possible if a sufficient number of countries follow suit, and that is a political decision par excellence. Do you want toBuy gold by means of Gold bars or Gold Coins? We are happy to help you with your order.
