As the fallout from the COVID-19 public health crisis continues to unfold around the world, the decisions by governments to lock down their economies have resulted in financial and economic carnage.
The carnage, which includes:
a systemic collapse of economic activity including economic production, business sales and profitability;
the quickest and sharpest collapse of share market prices (e.g. the S&P500) in some instances;
an explosive rise in unemployment; and
mass hysteria and social panic
has prompted central banks and governments to unleash an unprecedented quantum of monetary and fiscal stimulus.
This stimulus was designed to prevent a collapse of the global debt bubble which according to the Institute of International Finance reached an all-time high of $US 255 trillion (or 322% of global GDP) at the end of 2019.
In the largest economy in the world and at the epicentre of the global financial system, the United States of America, this unprecedented policy response manifested itself by:
a 316% growth in interventions in the repo (repurchasing agreement) market by the Federal Reserve Bank of New York from $US 518.56 billion to $US 2.158 trillion for the period of 30 December 2019 to 15 May 2020 (see Graph 1);
a 66.2% growth in the total assets held by the US Federal Reserve from $US 4.173 trillion to $6.934 trillion for the period of 1 January 2020 to 13 May 2020 (see Graph 2).
Graph 1: Federal Reserve Bank of New York – Repo Market Injections
Graph 2: US Federal Reserve Balance Sheet - Total Assets
The Impact on Gold and Silver Markets
As noted in my previous column entitled, COVID-19 Exposes Gold and Silver Price Manipulation, I noted that the decision to lock down economies and the unprecedented economic stimulus policy around the world led to a surge in the demand for physical gold and silver which has not been seen in the past 30 years.
This response led to a series of unusual price behaviours in gold and silver markets including:
the internationally recognised price of silver (as expressed in Australian dollars) declined by 26.2% from 24 February 2020 to 18 March 2020;
the price of physical gold and silver decoupled from the internationally recognised price with physical bullion selling in both wholesale and retail markets anywhere between 10% to 30% over the internationally recognised price; and
the gold-to-silver ratio (GSR) reached an all-time high in human history on 19 March 2020 at 122.07.
Moreover, the economic lockdown led to a breakdown in the physical gold and silver supply chain given that:
gold and silver mining operations in many countries (especially in North and South America) were defined as non-essential and thus operations and production either ceased or were reduced dramatically;
various mints and refiners around the world such as the Royal Canadian Mint, the US Mint, Valcambi, Argor-Heraeus and PAMP either temporarily ceased or shut down production due to either known identified cases of COVID‑19 or concerns of COVID-19 health risks to employees; and
transport companies scaled-back or ceased operations causing logistical problems in transporting either mining produce to gold and silver mints or physical bullion products to wholesale or retail customers.
The surge in demand for physical gold and silver throughout February and March 2020 coupled with a breakdown in the gold and silver supply chain resulted in significant shortages of physical bullion in both the wholesale and retail market.
As a result, market participants sought to take delivery of physical gold bullion in the London Over‑the-Counter (OTC) gold spot market via Exchanged for Physical (EFP) COMEX 100-ounce gold futures contracts.
These market dynamics and ‘stand for delivery’ actions were amplified on 23 March 2020, when the Federal Open Market Committee of the US Federal Reserve made its shock monetary policy announcement of:
lowering the federal funds rate to between 0% and 0.25%; and
dramatically increasing its holdings of US Treasuries and agency mortgage-backed securities
which escalated concerns about the soundness and stability of the global financial system as well as of the US dollar, thus leading to an even larger surge in demand for physical gold and silver bullion.
As a result, and as noted by Ronan Manly from BullionStar, this led to:
London Bullion Market Association (LBMA) market makers (i.e. bullion banks) experiencing liquidity issues (i.e. they were unable to access requisite physical gold to meet delivery gold obligations) and thus suffering significant financial losses resulting in their exit from the market as further participation in the market with insufficient quantities of physical gold would have carried significant inherent risk;
the gold bid-ask spread in spot gold, as a result of bullion banks exiting the market, blowing out to $US 100 or 7% (more than 100 times more than the typical spread of 0.06%) and thus leading to LBMA market makers breaching their membership obligations to actively provide two-way quotation services; and
the price of gold via the April 2020 COMEX futures contract trading noticeably above the LBMA Gold Price.
The losses experienced on this day were significant as banks were scrambling to obtain physical gold to settle EFP contract obligations and were required to either purchase or lease physical gold at elevated prices. This was confirmed by Ole Hansen, the Head of Commodity Strategy at Saxo Bank who stated of market conditions on this day:
“If you need to borrow gold in the OTC markets, you are going to pay a King’s ransom”.
One example of an LBMA market maker who did experience heavy losses in the gold market was HSBC who experienced losses of over $US 200 million in a single day which resulted from being required to meet EFP contractual obligations.
Thus, in essence, the London bullion banks (i.e. the LBMA market makers) were caught short on their obligation to deliver gold as per their EFP contractual obligations, a disastrous outcome for the gold market.
The LBMA and COMEX scramble to reassure the Gold Market
This disastrous outcome resulted in more mayhem in the gold market on the following day of 24 March 2020 as the price differential between the April 2020 COMEX futures contract and the London (OTC) market spot price blew out by over $US 100 per ounce or over 4% - the largest in 40 years.
The LBMA, in response, rushed out a statement of reassurance to the market indicating that:
"The London gold market continues to be open for business.”
The LBMA and several major bullion banks then asked the CME Group to allow 400-ounce
LBMA good delivery gold bars to be used to settle its EFP contracts, given the obvious lack of 100-ounce physical gold bars in London required to meet delivery.
By the end of the trading day of 24 March 2020, the CME Group obliged by releasing its Gold (Enhanced Delivery) futures (4GC) contract which allowed those investors who purchased futures contracts to take a fractional ownership in a 400‑ounce LBMA bar referred to as ‘Accumulated Certificates of Exchange (ACEs).
The ACEs divided 400 oz deliverable bars into 100 oz bars and included all gold and silver refiners who are accredited by the LBMA to produce and sell ‘good delivery bars’ in the London gold market.
The LBMA and COMEX scramble for a second time
Despite the initial round of reassurance, the price differential between the COMEX and the London OTC market did not normalise. Thus, this led to a second and unprecedented attempt to reassure the gold market via the release of a joint media statement by the LBMA and the CME Group on 1 April 2020 stating that:
the ‘LBMA reports record gold stocks’ with the “latest published numbers showing record stocks of 8,326 tonnes of gold, which is equivalent to 666,045 standard 400-ounce gold bars”;
COMEX approved warehouses and depositories are open and are composed of gold stocks near a record high with 9.2 million ounces which includes 5.6 million ounces of ‘eligible’ gold; and
the CME Group is introducing a New Gold (Enhanced Delivery) futures contract starting on 6 April 2020 – which allows delivery of 100-ounce, 400-ounce or 1-kilo bar sizes.
This reassurance was quickly shown by market analysts such as Ronan Manly to be grossly misleading as:
the majority of gold cited as being in London is in fact gold which is already owned by central banks (5373 tonnes), exchange traded-funds (1895 tonnes), sovereign wealth funds, investment institutions and high net worth individuals – leaving the amount of unallocated gold available to trade (or gold float) to be only between 200 to 500 tonnes;
communication from the COMEX to the Commodities Trading Futures Commission (CTFC) on 9 April 2020 stated that up to 50% of gold stocks recorded in COMEX warehouses and depositories as ‘eligible gold’ may in fact be held as a long-term investment and may not be available to be used for delivery obligations – meaning that there is significantly less gold available that can be used to settle gold futures contracts.
Market Liquidity still an ongoing problem
Hence, despite two attempts to reassure the market on 24 March 2020 and 1 April 2020 and the launch of new futures contracts that allows for the settlement of EFP futures contracts using 400‑ounce gold bars and not the COMEX standard 100-ounce bars, liquidity issues among LBMA bullion banks can still be observed as:
trading volume in the London gold market fell by 44% in April 2020 according to the LBMA;
trading volume on global futures markets fell by 40% in April 2020;
the price differential between the May COMEX futures contract and the LBMA Gold Price remained elevated during April 2020;
the Bank of Nova Scotia, an LBMA market maker (and historically the largest lender to the precious metals industry), announcing in late April 2020 that it would not be taking on new business effectively immediately and would be exiting the precious metals market in 2021, with a wind down of its precious metals business unit commencing in January 2021.
As a result, rumours, as noted in a recent interview between Craig Hemke and Andrew Maguire, abound within the precious metals market that the COMEX will be abandoned as a hedging instrument and that alternative gold and silver spot markets, which operate with sufficient liquidity and that can meet the delivery demands, are in the process of being established.
As claimed by Maguire, the price that physical gold would need to achieve in order to produce a liquid and functional market is far higher than the current approximate price of $US 1700 per ounce and is likely to be in the range between $US 2,200 and $US 2,500 per ounce.
The 1968 Collapse of the London Gold Pool
Given the dynamic described above, some observers and commentators of precious metals markets such as Chris Marcus of Arcadia Economics and Chris Powell from the Gold Anti-Trust Action Committee (or GATA) have made comparisons between developments in the current gold market to the collapse of the London Gold Pool (LGP) which occurred on 18 March 1968.
As noted by Bordo, Monnet and Naef (2017), the LGP was a secret agreement by a select number of central banks to manipulate the price of gold in the London gold market after the spike in gold in October 1960.
The LGP commenced operations on 6 November 1961 via the Bank of England who acted as the agent of the pool. Initially, the LGP acted as a selling syndicate, but became a buying syndicate in February 1962. Initially, the LGP was supposed to be a temporary arrangement, but became a permanent fixture up until its March 1968 collapse.
The mission of the LGP was to avoid:
raising the London gold price too far above the official price at the gold window; and
destabilisation of the Bretton-Woods system.
Members of the LGP would agree on a minimum and maximum gold price which would be a trigger for the Bank of England to intervene in the gold market.
Such manipulation was deemed necessary given that:
the price of gold was the lynch-pin of the Bretton-Woods monetary system; and
the London gold price had become a barometer of the credibility of the gold-dollar peg.
Although a range of reasons have been offered as to why the LGP collapsed, statistical analysis by Bordo, Monnet and Naef based on data retrieved from the archives of the Bank for International Settlements, the Bank of England and the US Federal Reserve suggests that the decision by the United Kingdom (UK) Government to devalue the British pound by 14.3% on 18 November 1967 was both the catalyst and the fatal blow.
This decision sent shock waves through the financial system driving fears of escalating inflation in both the UK as well as the US, given that the gold-dollar parity was influenced by the credibility of the British pound. Confidence in foreign exchange parities (or fixed prices) was, as a result, badly shaken.
These concerns led to a surge in the demand for gold (including private demand for physical gold reaching record levels) which resulted in central banks:
attempting to reassure the market that they were still committed to the gold-US dollar peg of $US 35 per ounce on 26 November 1967;
experiencing significant financial losses as they were required to sell gold below market prices in order to maintain the gold-US dollar peg;
attempting to reassure the market in early March 1968 that sufficient gold existed within the LGP to maintain the gold-US dollar peg of $US 35 per ounce; and
abandoning the LGP on 18 March 1968 once the financial losses to pool members became colossal.
Is 2020 a repeat of the 1968 collapse of the London Gold Pool?
In summary, as pointed out in Diagram 3, the collapse of the LGP followed a five-step process of:
step 1 – a central bank monetary policy response;
step 2 – a resulting surge in the demand for physical gold bullion over fears of inflation and monetary debasement;
step 3 – members of the LGP (i.e. gold price manipulators) experiencing significant financial losses;
step 4 – members of the LGP attempting to reassure the market; and
step 5 – an abandonment of the LGP (or manipulation scheme) once the financial losses became insurmountable.
To date, the events at the London OTC gold spot market and the COMEX in March – May 2020 in response to the COVID-19 crisis have followed a similar pattern in that:
the US Federal Reserve, in unison with other central banks, shocked the financial world with a significant loosening of monetary policy and the announcement of ‘QE to infinity’;
the announcement leading to amplified surge in demand for physical gold leading to parties standing for delivery via COMEX EFP futures contracts;
bullion banks in London were unable to meet delivery on these contracts given the inability to source physical gold resulting from market manipulation and thus experiencing significant financial losses;
the LBMA and COMEX sought on both 24 March and 1 April to reassure the market that sufficient gold exists to maintain a liquid and functioning London OTC gold spot market; and
bullion banks withdrawing from both the London OTC market and the futures market in April 2020 (as noted above in terms of trading volume) as well as the Bank of Nova Scotia announcing their exit from the precious metals industry.
Diagram 3: The 5 Stage Process of Collapsing Gold Price Manipulation
The COVID-19 public health crisis and the decision to lock down economies around the world has led to an extreme:
collapse in economic activity, business income and profitability, household income and financial wealth;
collapse in business and consumer confidence;
rise in unemployment; and
economic policy response by central banks and governments in terms of unprecedented quantum of monetary and fiscal stimulus.
In response, financial panic ensued worldwide between February to April 2020 which resulted in:
a global run on physical gold and silver bullion driven by fears of extreme monetary debasement and the risk of inflation;
unusual price movements – e.g. the highest gold-to-silver ratio recorded in human history;
bullion banks scrambling to meet physical gold delivery obligations as per COMEX futures EFP contractual obligations that resulted in these banks either buying or leasing physical gold at inflated prices to satisfy contractual obligations thus causing these banks to suffer significant financial losses;
attempts to reassure the market that sufficient gold exists to maintain a liquid and functioning OTC gold spot market in London;
a withdrawal of market activity by bullion banks and an announcement of a LBMA market maker, i.e. the Bank of Nova Scotia, leaving the precious metals industry.
If these dynamics continue, an abandonment of the current pricing structure may result similar to how the LGP collapsed in March 1968. This would in turn result in a significant upward readjustment of gold and silver prices that ensures sufficient market liquidity and functionality and which would inspire market confidence.
The coming months will be critical in determining how events in both the gold and silver markets play out.
John Adams is the Chief Economist for As Good As Gold Australia
 https://www.iif.com/Research/Capital-Flows-and-Debt/Global-Debt-Monitor  Or from a more historical perspective, the growth of US Federal Reserve total assets from 3 September 2008 to 7 May 2020 was $5.812 trillion or 642.49%.  https://www.adamseconomics.com/post/covid-19-exposes-gold-and-silver-price-manipulation  This calculation is derived from price data published by the Perth Mint.  https://www.coinworld.com/news/precious-metals/world-mints-adjust-during-pandemic  https://www.reuters.com/article/precious-refining-argor/update-1-three-swiss-gold-refineries-suspend-production-due-to-virus-threat-idUSL8N2BG3ZJ?rpc=401&&mod=article_inline&mod=article_inline  https://www.federalreserve.gov/monetarypolicy/files/monetary20200323a1.pdf  https://www.bullionstar.com/blogs/ronan-manly/bullion-bank-nightmare-as-lbma-comex-spread-blows-up-again/  https://www.linkedin.com/pulse/gold-bidoffer-spreads-blow-out-100-loco-london-market-ross-norman/  http://www.lbma.org.uk/lbma-gold-price  https://www.zerohedge.com/commodities/gold-market-breaking-down-gold-spreads-explode-lbma-warns-liquidity-problems  https://www.bloomberg.com/news/articles/2020-05-13/hsbc-lost-about-200-million-in-one-day-on-gold-market-turmoil?srnd=markets-vp  Across March 2020, HSBC experienced a record 12 VAR limit breaches resulting from financial losses in the gold market. A ‘VAR limit’ is a measure of risk which is used to calculate how much capital that a financial institution needs to hold against potential losses. See the following article: https://www.bloomberg.com/news/articles/2020-05-06/hsbc-bnp-repeatedly-breached-trading-limits-in-market-mayhem  https://www.marketwatch.com/story/gold-faces-unique-pricing-supply-and-delivery-challenges-amid-covid-19-shutdowns-2020-03-25  Note that the price differential between the next month’s COMEX futures contract and the LBMA Gold Price benchmark is usually only a few US dollars.  As noted by Ronan Manly in his piece on 25 March 2020 entitled “LBMA colludes with the COMEX – To lockdown the global gold market”, the statement was circulated by the LBMA to media outlets such as Kitco, but was not published on its own website. See Manly’s analysis: https://www.bullionstar.com/blogs/ronan-manly/lbma-colludes-with-the-comex-to-lockdown-the-global-gold-market/ Also see reporting of the LBMA statement by KITCO: https://www.kitco.com/news/2020-03-24/Huge-spreads-occurring-in-gold-backwardation-reflects-strong-demand.html  See link 1: https://www.cmegroup.com/media-room/press-releases/2020/3/24/cme_group_to_launchnewgoldfuturescontractwithexpandedflexibledel.html and link 2: https://www.cmegroup.com/trading/metals/precious/gold-enhanced-delivery.html  http://www.lbma.org.uk/_blog/lbma_media_centre/post/joint-message-from-cme-group-and-lbma/  https://twitter.com/BullionStar/status/1258614462447333378?s=20  https://twitter.com/BullionStar/status/1257843022777274370?s=20  http://www.lbma.org.uk/Default.aspx?CCID=19470&FID=124063&ExcludeBoolFalse=True&ID=/member-search-results  https://www.reuters.com/article/us-metals-bank-of-nova-scotia-exclusive/exclusive-scotiabank-to-close-its-metals-business-sources-idUSKCN22A2ZC  https://www.tfmetalsreport.com/podcast/10110/pricing-system-broken-thursday-conversation-andrew-maguire  Arcadia Economics can be found at the following link: https://arcadiaeconomics.com/. Arcadia Economics can also be found on YouTube at the ‘Arcadia Economics’ channel.  See November 2019 interview between Chris Marcus, Bill Murphy and Chris Powell: https://www.youtube.com/watch?v=ti9cF___XU8&t=317s  Bordo, Monnet and Naef (2017), “The Gold Pool (1961 – 1968) and the fall of the Bretton Woods System. Lessons for Central Bank Cooperation”, National Bureau of Economic Research, Cambridge, Massachusetts. See the following link: https://www.nber.org/papers/w24016  The price of gold spiked on 25 October 1960 at $US 38 per ounce (with an intraday high of $40 per ounce) as a result of (1) anticipation of the election of US presidential candidate John F Kennedy and (2) JFK wanted to run an expansionary fiscal policy if elected president.  Note that members of the LGP did not intervene in the market on their own account. When members wanted to buy, they bought from the holdings of the LGP according to their quota.  The ‘Bretton-Woods’ system was the international monetary system that was devised and agreed to on 22 July 1944 at the Mount Washington Hotel, New Hampshire. The system sought to promote monetary and financial stability and limit currency fluctuations in order to foster global economic growth and the growth of international trade. The system was underpinned by the US dollar as the global reserve currency which could be converted into physical gold at $US 35 per ounce given that the US during World War II was estimated to have owned two-thirds of the world’s gold stocks.  https://twitter.com/BullionStar/status/1245469670569844745?s=20  It should be noted that this announcement has caused JP Morgan Chase’s Chief Global Strategist David Kelly to warn about the risk of inflation and that investors needs to hold real assets such as property and precious metals to mitigate this risk. See the following link: https://www.institutionalinvestor.com/article/b1ld0bhs5gzs9s/Inflation-Never-Materialized-After-the-Last-Crisis-JPMorgan-Thinks-This-Time-Is-Different