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Gold: A Safe Haven In A World With Sub-Zero Interest Rates

Gold: A Safe Haven In A World With Sub-Zero Interest Rates
Friday February 20, 2015 09:48

You may have heard the saying: actions speak louder than words.

Central banks around the globe are voting for gold with their pocketbooks. In 2014, central banks purchased 477 tons of gold, a 17% rise from 2013 and the second largest amount purchases in the last 50 years.

But, why gold?

Since the start of 2015, about 15 global central banks have slashed rates from India to Switzerland to Denmark to Turkey to Russia to Sweden and Australia. The European Central Bank, the Danish central bank, the Swiss National Bank and the Swedish Riksbank have all cut interest rates into negative territory.

Negative interest rates.

Global central banks continue to push the limits on monetary policy in their attempts to battle back against threats of deflation and sluggish growth in key parts of the industrialized world.

“In a negative or low yield environment, gold performs well,” says Ashish Bhatia, director of central banks and public policy at the World Gold Council. In this type of environment the “opportunity cost [for holding gold] is less and it increases risk for fiat currencies,” he adds.

Looking back at action in 2014, Bhatia notes that “gold was the second best performing currency after the U.S. dollar. It has no credit risk. It is a deep and liquid market and performs very well in tail-risk events.”

As emerging markets central banks look to diversify their reserve assets, which are primarily in either the U.S. dollar and the euro, central banks are “looking for safe and liquid currencies to diversify into and gold strikes them as one of the more attractive,” says Bhatia.

In addition to the U.S. dollar and the euro, what are the other alternatives for central banks looking to diversify reserve assets? There’s the Japanese yen, UK sterling, Swiss franc, Australian and Canadian dollar and even the Danish Krone. Gold is an official reserve asset without credit risk, unlike these fiat currencies. Also, gold boasts “availability of three trillion investable in the gold market, which is larger than the sovereign debt market in Europe,” says Bhatia.

“When you are managing 300 billion in reserves, you need to have a large and liquid market for your reserves. When central banks consider options, gold really stands out as an attractive alternative,” says Bhatia.

As central banks around the globe continue to reach farther into uncharted territory with the push to negative interest rates, “the unconventional actions have more tail risk potential. When you are on new ground, there is room for things to go wrong,” says Bhatia.

With the current deflationary threats in Europe and Japan, central banks are responding by introducing more monetary stimulus, which effectively lowers yield and pushes them to negative territory in some cases.

This current new spate of monetary policy actions leaves open the room for “central bank errors that could introduce less trust in owning that currency,” explains Bhatia.

Negative interest rates are a controversial tactic, with some economists wondering if it could impact saver’s behavior. Might some people respond by withdrawing money from the bank and stuffing it back under their mattresses? That in turn could decrease the amount of cash in the system and actually push interest rates higher. The current experiment of negative interest rates is not without risks. Desperate times lead to desperate actions.

By Kira Brecht, Kitco.com
Follow her on Twitter @KiraBrecht

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