The Lima Accord and Gold Valuations
By JC Collins
When the Bretton Woods Agreement was arranged in 1944 the member countries placed their gold reserves on deposit with the Federal Reserve to back the new dollar based system. This arrangement fell apart only a few decades later as the imbalances inherent in using a domestic currency as the international reserve asset put increasing pressure on the USD.
Over the last few years gold has been once again moving around the world in vast quantities, leaving many questioning the reasons for large Chinese accumulation and gold repatriation demands by former signatories of the Bretton Woods arrangement.
There are no clearer signs that the world is once again in the middle of an economic transition than those two events. The clear end of a USD based system is gaining momentum on the swell of gold movement and increasing systemic imbalances. What was once considered the mainstay of economic stability, being the dollar, is quickly, and for the most part, quietly, being repositioned as one of many domestic reserve currencies which will depend on the availability and stability of the more macro SDR supra-sovereign reserve asset.
When we consider the architecture of previous monetary frameworks, gold almost always plays a very important part in the initial stages. At least overtly. And in time as the systemic imbalances increase, the support of gold is removed to allow for the unrestrained expansion of the money supply.
The use of the SDR as a method of returning stability back to the monetary system will also depend on the utilization of gold. Whether countries partially support their domestic currencies with gold (as the USD did at $35.00/oz under Bretton Woods), or gold is added directly into the SDR composition, its importance cannot be denied. This conclusion is supported by the large movement of gold which has taken place over the last few years, including countries other than China, such as Russia and India.
The world has never used a supra-sovereign (non-domestic) currency as the global reserve asset, and as such, there are some unknown factors which could swing valuations and volumes. The agreement between all countries and global institutions on a multilateral framework has been in negotiations since at least 2009, if not earlier. Many of the geopolitical and macroeconomic adjustments (such as the tension with Russia and the Swiss franc depeg) are symptomatic of the challenges presented by attempting to draw all countries into a multilateral framework.
It would be a mistake to conclude that any of these challenges will prevent the implementation of the multilateral framework. The negotiations are tightly woven around the need for all countries and institutions to integrate within a multilateral structure for the purpose of reducing and eliminating systemic imbalances.
The repatriation of gold is a necessary step in the transition plan as the deposit and storage of gold will change as the monetary architecture itself changes. The gold accumulation by China, which has left many speculating on the actual amounts and what China’s intent is with gold, is extremely foretelling of the multilateral negotiations which have taken place.
To consider that China has accumulated gold in a vacuum, without the support of the United States and the International Monetary Fund, would be in ignorance of the facts and plans which are now infolding.
China and the IMF are in discussions on including the RMB in the SDR basket composition. This was first widely discussed here on PoM, as was the probability of China announcing their actual gold reserves, while ending its managed peg to the USD, in the lead up to the SDR decision. The factual nature and analytical fortitude in these conclusions has given other analysts and economists the comfort to expand on the original explanations.
What we can consider from this point is the probability of China placing its full reserves, or percentage of its reserves, on deposit with the IMF, much like countries did with the Federal Reserve under Bretton Woods.
This would of course mean that the United States and other countries, such as Germany, who demanded gold repatriation, would also have to deposit gold on reserve with the IMF. This would explain some of the delays in the repatriation process, as the US is positioning itself to retain as much economic influence in the new system as possible. Handing back gold which will partially support the new multilateral framework would not achieve those ends.
China has made it very clear that they do not wish to replace the USD as the global reserve currency, nor do they desire to operate outside of the existing multilateral institutions, such as the IMF and the SDR. They also do not want to see their large investment in USD denominated assets be depreciated by any substantial amount.
Those indicators taken in conjunction with the accumulation of gold, and the pattern of transition from monetary system to monetary system, would support the conclusion that China, among other countries, will be placing large amounts of gold on deposit with the International Monetary Fund. As with Bretton Woods, the multilateral agreement, let’s call it the Lima Accord, will function around predetermined valuations, such as $35.00/oz gold USD peg with Bretton Woods.
Whatever valuation is established for gold, lower or higher than today’s real value, the multilateral framework will be further revealed throughout the summer months and into October, as the inclusion of the RMB into the SDR is secured and the actual gold reserves of China are announced.
There are so many moving pieces to this transition, but some semblance of pattern is beginning to take shape. Based on the demand of China to have their own domestic currency added to the SDR composition, and the agreed upon accumulation of gold by China, along with the “multilateralization” of gold exchanges, such as in London, and the rise of the yuan denominated SGE, can be interpreted as early indicators of the intent of Chinese authorities to place a large amount of gold on deposit with the IMF, in anticipation of the implementation of the SDR as the global reserve asset.
From a Chinese perspective, they have negotiated a means, through the SGE, BRICS institutions, and AIIB, of protecting their interests within the multilateral framework by preventing other interests from gaming the system and manipulating the valuation of currencies and gold after the initial valuations have been determined under the Lima Accord. - JC