The changing role of gold

Throughout history, gold has played an important role for both its actual and symbolic value. For many ancient civilisations, such as the Incas and Egyptians, gold ownership was limited to members of the royal families, as only they had access to the gods. 

Over time, the role of gold changed so that, by the end of the 19th century, many countries fixed the value of their currencies in terms of a specified amount of gold – this later became known as the gold standard. After World War II, countries adopted the Bretton Woods system of monetary management – a regime of fixed exchange rates linked to the price of gold that finally broke down in 1973. 

But, while the role of gold has changed within the monetary system, it remains important for investors. 

This year, the Covid-19 pandemic and the reaction from central banks had a significant impact on the price of gold. Over the past few decades, central banks have viewed gold as a ‘safe-haven asset’ – an investment that can be used to dodge the impact of negative sovereign bond yields and act as a safeguard against inflation.

Against the backdrop of the pandemic, gold has rarely appeared more attractive. However, in August, central banks became net gold sellers for the first time in approximately 18 months, highlighting the competing demands on investment strategies. 

This year’s survey revealed central banks expect gold holdings to increase over the next 12 months. Around 75% of respondents reported that the Covid-19 outbreak would not change how their institutions viewed gold, with many noting the commodity was an elemental part of their portfolios. 

Diversification appears to be the biggest driver of central banks’ interest in gold. In real and nominal terms, it has outperformed many other assets in all macroeconomic regimes that have prevailed since the end of Bretton Woods. 

More recently, asset managers have begun offering gold investments in the form of exchange-traded funds (ETFs). The survey revealed that, while central banks are positively disposed towards gold ETFs, active interest is the preserve of the minority. Respondents noted that a combination of gold’s quality as a hedge against the US dollar and ETFs’ cost-effectiveness were the main benefits of investing in gold in this way. However, many were concerned with the liquidity risk associated with ETFs. 

As this report affirms, 2020 has been a challenging year for gold investors – only time will tell what role it will take as the world recovers from the pandemic.

This feature forms part of the Central Banking focus report, Gold for central banking 2020