It’s not unusual for national institutions, like foreign exchange managers, to maintain deposit balances with supranational financial agencies such as the IMF or BIS. In fact, outside of collecting data, this is pretty much what those are used for in their current incarnation. Any (ledger) cash put up with them can be then lent to someone else to settle outgoing trade or financial imbalances.
The Russian government, for example, reported in December 2021 that it had been credited with $184.7 billion classified (by the IMF) as “total currency and deposits.” Of that, $140.2 billion were held (book entry) on its behalf by either other foreign governments and central banks, or one of the pair IMF/BIS.
The remaining $44.5 billion held by global banks headquartered outside of Russia.
These are any nation’s most liquid balances, available to be drawn upon in most cases without restriction. And whatever is deposited at the IMF or BIS may be lent, under careful scrutiny (supposedly), to other countries by the IMF or BIS.
Part of the enquiry into possible lending is of good-standing collateral.
Whether forlorn countries or individual banks residing inside any of them, the BIS like the IMF will demand some form of security in arranging short-term liquidity aid. It’s the old Bagehot dictum: lend freely at high rates on good collateral.
Only, we don’t really ever know how freely, nor at what rates. Reporting useful details is, apparently, passé. Insofar as collateral may be concerned, what constitutes “good” collateral nowadays can be far, far from what the Father of Modern Central Banking had envisioned when in the hard money circumstance of the 19th Century.
What about gold? Though the metal had been demonetized by the “great” events in 20th Century history, the metal remains a modest fixture attached to the 21st Century’s complicated international infrastructure. It has a role, but to do what, exactly?
In treating bullion as an asset, it is a number on a reported balance sheet, an avatar of some quantity of Element 79 sitting in a room somewhere. It has a current value for that amount, yet store of value aside its use as an effective medium of exchange is no longer anywhere close to actual exchange.
For example, in December 2009 and January 2010, the BIS found itself at the center of weird controversy when it abruptly but quietly reported a $9 billion (give or take) gold swap. Uncovered by some enterprising reporting at the Wall Street Journal digging through its arcane financial statements, several hundred tons of bullion had been temporarily exchanged for US dollar credits.
I wrote about it many years ago, back in April 2013:
“Subsequent investigation by media outlets, including the Financial Times, reported that the BIS had indeed swapped in 346 tons of gold holdings from ten European commercial banks. That was highly unusual in that gold swaps are typically conducted between and among central banks. Included in that list of commercial banks were, according to the Financial Times, HSBC, BNP Paribas and Société Générale. The timing of the swaps was pinned down to sometime between December 2009 and January 2010 - just as the world was getting reacquainted with the Greek Republic.”
Greek bonds, largely European banks desperate for dollars, and the BIS covertly bailing them out (as is its mission) with gold the centerpiece security to the international agency’s rescue plans.
In other words, these banks had been hit by an “unexpected” collateral shortage due primarily to the haircut re-assessments made by collateralized markets (repo) on weaker sovereign credits previously stood up as pristine.
If you were BNP or any other drawn into the maelstrom from having borrowed $100 “cash” (book entry) from the global eurodollar market collateralized by, say, $110 in Portuguese or Italian governments (also book entry), then as Greek bonds lost value (for obvious reasons) that spilled over into these others which caused cash US$ lenders to revalue their collateral haircuts to something a lot less than $110.
In this situation, either the borrower is only able to borrow a lot less based on the lower collateral value (higher haircut), or it suffers a potentially catastrophic drop in liquid funding requiring a whole bunch of painful, possibly dangerous downstream propositions (such as fire-sales of assets likely producing accounting losses).
However, these European banks had been “gifted” a lifeline by unsuspecting regular Europeans who had only been interested in buying and holding physical gold in the years leading up to late 2009. Basically, these bank customers purchased the custodial services from particular banks at which to store actual metal bars, but to save on custodial costs those bars were held in unallocated accounts.
This had meant the banks’ legal obligation as custodian merely involved making sure that, on demand, it would release the same quantity of physical metal to its owner; and not exactly the same exact metal put on deposit originally.
Gold had become a liability of the custodian which further allowed, in times of trouble, the gold owned by its customers could be used for the banks’ individual purposes. As a historically-valued safeguard, even if demonetized, it was usable as fungible collateral of last resort (infuriating classical gold standard enthusiasts ever-more).
The problem was size. What I mean should be obvious; a massive dollar funding shortfall as a result of massive haircut adjustments (including on any collateral transformations in securities lending arrangements) would require so much gold to pledge that only a few counterparties could ever hope to efficiently process the whole swap.
Enter the BIS. It had the facilities (not necessarily physical, more so accounting and legal; again, book entries of ledger money) to facilitate that amount in swaps with those major banks. Not only could it handle the gold (book entry) coming in, it had access to US$ (book entry) cash already on its books.
All it required was motivation.
That didn’t last, however, because as the global eurodollar situation only worsened throughout the rest of 2010 (the Fed’s QE2 didn’t even make a dent) on into a subsequent full-blown global crisis in the middle of the following year, by late 2011 this gold-as-collateral-of-last-resort wasn’t finding any private takers.
Not for lack of trying, either. Several media outlets, in light of 2010’s BIS activities, had kept an eye on this otherwise little-noticed corner of the money (book entry) marketplace. As the 2011 funding and collateral crisis deepened (what I call Euro$ #2 because it was the second global dollar shortage in close succession, and also second to be primarily a collateral squeeze), what the newspapers reported wasn’t good.
On November 30, 2011, the Financial Times had described how, “...few, if any, banks were likely to receive the published rates since they have been skewed in recent months by a widespread reluctance among bullion banks to take gold for dollars." This despite the fact the Federal Reserve, in quiet, uncomfortable response to this second dollar funding crisis, had restarted its already-failed (2007-09) overseas dollar swap program barely two months prior to this report.
There were no eurodollar takers in the market for the gold collateral, and, apparently, no additional BIS support given the politics of the situation had changed remarkably since January 2010 (any perceived “bail outs” had become a toxic policy, even if nothing more than a harmless proposed repo with gold as collateral). Within days, by December 8, 2011, rumors persisted that one possibly two major European banks had been brought to the brink.
European banks suffered greatly, as did many counterparts around the rest of the world as this dollar funding chaos provoked widespread economic as well as financial pain in far-flung locales nowhere near Europe. In many crucial aspects, the global system has never been able to recover from this second devastating blow.
So, why didn’t any of them who had access to unencumbered, unallocated gold just off and liquidate what they had? After all, their obligation was only to ensure gold would be available to their customers upon demand; sell in the emergency and buy it back later when out from under it.
The answer is just as simple as it may be eye-opening. You can’t just sell 346 tons of gold all at once. Gold is, in its demonetized state, one of the most illiquid assets on the planet. It is nice (when the price is up) as a number to report on some kind of statement, such as an IMF template, a store of value kind of feature, but as a useful medium especially in times of currency privation, its useful “value” isn’t close to what it may seem.
Just ask those stranded Europeans, along with an unnamed and undiscovered more.
This brings us back to Russia in 2022. As of January 31, the Bank of Russia (the nation’s central bank) reported a whopping $630.2 billion in every kind of reserve assets. One of the largest stockpiles on Earth, surpassed only by three other nations (China, Japan, and Switzerland; the latter only as an international banking hub), two of those to an economic size dwarfing the comparatively tiny Russian economy.
Oil (energy) wealth, in other words.
Of that $630.2 billion, the Bank of Russia declares $498.0 billion of “foreign exchange” with another $24.1 billion IMF SDRs. On top, and what got the internet abuzz this week and last, apparently, $132.3 billion worth of good ol’ fashioned gold bullion.
Huge, mammoth stockpiles so that Russia, having now brought itself into de facto war in Ukraine, provoking financial sanctions by response from around the world, has stored up more than ample reserves to weather this storm of its own making; if not come out of it richer for their bellicose effort.
Such sentiment was common yesterday as missiles and helicopters flew around Ukraine. CNBC commentator Jim Cramer opined in a tweet, “Russia has huge reserves and can shrug off any financial connection to the US.” Well-known gold bug Jim Rickards added in a tweet of his own, “The value of Putin's gold reserves (2,300 metric tonnes) went up about $3.0 billion in the past 30 minutes. The so-called sanctions are making Russia rich.”
As I pointed out not long ago, the eurodollar system had already been cutting the Russians off long before their 2014 Crimean expedition; to put it simply and bluntly, their economy fell way off in 2008 but especially after 2011 which had made any Russian “investment” a particularly dubious one; dollar funding was already drying up years before the first Ukraine annexation.
But of that $498.0 billion in 2022 “foreign exchange”, it’s not all foreign exchange. As noted at the outset, according to Russia’s filings with the IMF, only about a third is liquid deposits (book entry) and of that third, nearly $50 billion tied up in foreign banks. The other two-thirds consist of securities, hardly any of which are US Treasuries (only about $4 billion).
And already in December 2021, the Russians, apparently, liquidated $15 billion of those seemingly out of nowhere. In fact, using the IMF data, they have been shifting tens of billions out from securities and into liquid deposits with other central banks and governments (maybe the BIS; we don’t have that level of detail), while drawing down nearly $10 billion from those private banks.
The balance with foreign officials had been bumped up by almost $50 billion since last February, with $40 billion of that in December alone. This doesn’t seem like an accident, given Vladimir Putin had first ordered a buildup of military assets and forces around Ukraine and the Crimea in…March and April 2021.
It seems reasonably clear that, understanding the situation about to be unfolded in 2022, the Russians intentionally greatly enhanced their national liquidity profile regardless of securities and gold holdings. On the contrary, because of so many securities and gold holdings.
This is, as the 2011 European example shows, the same proposed trouble as those first-rank Continental banks found for themselves despite access to massive gold holdings. Without the BIS for them, what use is Russian gold if made into a global financial pariah?
It’s not sellable (even to the Chinese, for China’s own ongoing dollar issues), it’s not repo-able. Their gold is an illiquid number on a reserve statement.
Small wonder the IMF data shows some concerted effort, ramped up in December 2021, to squeeze as much additional liquid reserves as could be managed: that proportion jumped from 23.7% February last year to 29.3% to close out 2021.
Russia’s ruble had been rising against the US dollar for much of last year. From a low of 77.4 in April 2021 to a high of 69.9 late October, the ruble had already come under serious pressure for reasons more to do with global economic concerns (exhibited by, among other indications, flattening yield curve and eurodollar futures inversion), its exchange rate falling back to around 75 by the start of 2022.
Ever since, despite the buzzing internet pictures of Russia’s bulging reserve balances and monster gold holdings, the ruble has collapsed reaching yesterday a financially devastating 85 to the dollar. Given the behavior of Russian reserve managers last year, both those managers as well as currency traders (who are mainly the other side of energy markets) seem more than a little uncomfortable given the country’s actual, usable financial position.
What I wrote at the end of January again suffices:
“What that means, though, is for Russia its economy remains gripped by stagnation at best, the repeated low-grade highs followed by regular setbacks leaving output to get nowhere and with no eurodollar cushion left to them. Even in 2021’s oil price surge, we can easily surmise how Russian banks, private as well as government, used any spare proceeds just to keep the economy afloat.”
And what wasn’t spare was apparently used to feather the reserve liquidity profile in anticipation of Putin’s lust.
Forget US sanctions, the eurodollar was already out of reach for Russian access anyway. With an economy entering perhaps another tailspin, what’s left for Russia’s people? It’s not as if Mr. Putin seems all that bothered by their prospects either way. That said, someone under him clearly got a message to do something just in case.
The basic issue, I continue to maintain, is more global. No one wants to recognize how the whole world spun off its previously harmonious globalized axis right around 2008. And what might have been left still possible to navigate back toward shared prosperity was ruthlessly expunged in and after 2011.
Since, everybody for themselves. Even Russia’s purposefully changed liquidity profile demands such acknowledgements.
In fact, weak tyrants when faced with grave, intractable difficulties typically react in the manner Putin is currently. Like “his” gold holdings, all little more than a mirage of strength.
