Guest Post: What Gold Supply Crunch?

Tyler Durden's picture

 

Submitted by Louis James of Casey Research

What Gold Supply Crunch?

We have reported on changes in global gold demand, from booming investment demand in Asia to European and US debt concerns that have re-solidified gold's long tenure as the ultimate safe-haven asset for turbulent times. In fact, with investment demand from private and institutional buyers continuing to grow and central banks increasing their gold reserves, total demand reached a record US$57.7 billion in the third quarter of 2011. Quite astounding.

But what's happening on the supply side of the equation?

The most important source of gold supply is mine production – which is responsible for about two-thirds of the total – followed by recycled gold. While recycled gold is the reason supply is inelastic, new production has more predictive power since it can reflect shifts in industry conditions and investor sentiment.

Starting with a bird's-eye view, take a look at global gold production since 1900.

(Click on image to enlarge)

The 1980 gold mania occurred when gold supply had the same structure as it does today: two-thirds from production and one-third from recycled product. As the chart shows, in the 1980s, production increased after the short-lived mania came to an end, while this time around, production has already gone up (more on that below). Also, as the 1980s wore on, production grew in spite of the price falling dramatically.

History doesn't repeat exactly, but it often does rhyme, so comparing the 1970-1980 decade to the present can give us a useful context for thinking about gold today. Reviewing the data available, here are some key comparisons:

  1. The previous major interim peak in mine production was recorded in 1970, followed by a 10-year decline and ultimately, the 1980 peak in gold's price. It's interesting to note that the mania occurred when gold supply was flat.

    This cycle, we have an interim peak in 2001, followed by a decline for seven years, and then a reversal of the trend in the last three years. On average, production decreased at 0.2% per year (2000-2010). But looking at the decade average ignores the trend reversal in the last three years: Gold production rose by 7.4% in 2009, 3.7% in 2010, and is up 5% in the three quarters of 2011 compared to the same period in 2010.

    This recent increase in production without a market mania beforehand could be seen as an argument against there being a mania this time around: There's no supply crunch. Supply could keep up with demand and prevent the crunch from happening. We don't see this being likely for several reasons, foremost among which is that we don't see the increases in production being sustainable. Mines are by definition depleting assets, and it gets harder every year to permit and place new mines into production.

  1. Global gold reserves in 1980 tallied 1.1 billion ounces (34,000 metric tonnes), and production at that time was sufficient to meet demand at the time for about 20 years. In 2010, reserves were 1.6 billion ounces (51,000 metric tonnes) and were also sufficient to meet demand for an identical 20 years, but production was twice as high. Much of this can be attributed to improvements in mining technology that, coupled with higher prices, allow larger, lower-grade deposits to be mined profitably. Again: no supply crunch.

    Not yet, anyway. In addition to the increasing regulatory burdens, the discovery process has grown more arduous. There are new technologies that have made some things much easier, but overall, most explorers have to go farther and search harder every year.

  1. Gold production has outpaced the increase in the population. In fact, gold production per capita now is even higher than in the 1970s. No crunch evident from this perspective either.

1970-1980 Gold Production
Per Capita

2000-2010 Gold Production
Per Capita

At interim peak (1970): 0.40 grams

At interim peak (2001): 0.42 grams

During mania phase (1980-1981):
0.28 grams

Current value (2010-2011): 0.37 grams

Source: USGS, World Bank

However, gold is not a consumer good – it's not something people need to eat a certain amount of every day, so the physical quantity of gold per person in the world means less than it would for other commodities. Gold, we have long argued, is a "fear barometer" in today's world. It's valued, which means it has demand in inverse proportion to people's confidence in other forms of money. So the fact that supply has kept up with population growth does not imply that supply has – or "should have" – kept up with demand… and we can see that it hasn't in the price of gold. A major part of that is the return of investment demand, almost to levels we saw in 1980, as you can see in the chart below.

(Click on image to enlarge)

  1. Today, as in 1980, mine production and scrap are the major components – almost the only components – of supply. The disappearance of net disinvestment from the supply side of things is one of the more bullish similarities we see between now and 30 years ago.

(Click on image to enlarge)

  1. One major difference between the gold market today and in decades past is the geography of mine production. South Africa accounted for two-thirds of global gold production in 1970 and 55% in 1980. In 2010, not one country was responsible for more than 14% of world mining supply (with the leader being China, at 13%).

    A similar shift has occurred with demand. In the 1980, it was mostly Western countries soaking up the gold trade, probably because that's where most of the wealth that wanted to avoid inflation was. By 2000, when gold was held in the same esteem as certain other four-letter words, North America and Europe had almost left the field. Today, it's become a truly global trade again, as you can see in the chart below.

(Click on image to enlarge)

Such decentralization has benefits: It creates flexibility and stability in the gold market. The market psychology is more diverse, making it more liquid and robust.

No Crunch Today – Crunch Tomorrow?

Your Casey Research metals team believes the supply of gold is going to tighten. Most companies have been forced to look in riskier jurisdictions and remote locations with poor infrastructure. Environmental and other regulations are multiplying and becoming more costly every year, and even in places where they are not, labor strikes and increases in taxes are taking their toll. Worldwide, mining becomes more complicated and expensive every year… and in some cases, not even worth trying. At the same time, big discoveries remain few and far between – and even when a discovery is made, it often takes up to ten years to reach production.

As they say, the low-hanging fruit has been picked: We do expect a supply crunch in the years ahead.

It's tempting to try to make an argument based on future constraints in gold supply and some of the interesting similarities between past and present conditions in that supply – they seem to point to a gold mania ahead. But it's the demand side that dominates the price of gold. Whether a shortage of gold supply from production occurs or not, demand for gold is more flexible than supply overall.

Gold is a monetary metal. If confidence in paper money evaporates the way we think it will, the flight to the safe haven of gold could swamp any conceivable glut in supply. We've no crystal ball to tell us when it will start, but we definitely see a mania coming.

And another question arises: Now that gold demand and supply are dispersed across the globe, where will the mania start? US? Europe? How about China, India, or Malaysia? Things could really start cooking with no immediately evident cause in the West at all.

Regardless of when or where the mania starts, our advice is to make sure your personal gold reserves are in place.

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thegr8whorebabylon's picture

I have some reservations about that.

Harlequin001's picture

of course the one good thing about the quantum of gold in an economy is that it should neither increase nor decrease.

When production stops it will not matter...

The world will be better off when production stops altogether.

Heyoka Bianco's picture

You don't have the slightest grasp of economics, do you? Here's a clue: Asset inflation due to restricted supply creates price and demand deflation and therefore recession and/or depression.

 

Maybe you should trade some gold bars for a working brain.

Cugel's picture

I find it's getting very hard to distinguish the ironic trolls from the true morons on this board, and it's not because the ironic trolls are getting more clever.

Which are you?

Michael's picture

I think there's going to be a margin call pretty soon.

A margin call of epic proportions.

I'm not just talking about mettles.

I'm talking across all asset classes.

No more margin.

Think re-hypothecation fallout.

Michael's picture

It amuses me how the NASDAQ Dot-Com bubble bust has been so thoroughly swept under the rug that hardly anyone mentions it anymore.

Michael's picture

I remember going home after work at the machine shop and turning on Bloomberg, and the new kid on the block CNBC, in the late 90's to follow the Dot-Com bubble and it's subsequent bust that I foresaw. I didn't own a computer till 2003 when the housing bubble started to get up a good head of steam. I said to myself at the time, I just got to be in on this epic housing bubble bust, in the blogosphere that is. To 2008 did not disappoint. Now I'm looking in on to the epic worldwide credit bubble bust. The mother of all busts.

I don't think there will be any more episodes after this one. 

 

Oh regional Indian's picture

One thing everyone needs to understand and really understand well.

The three olympic pools is all the gold ever mined is a LIE. And if that is a major lynch-pin for pro-goldness then the whole thesis is just plain wrong. Stockpiles and stockpiles AND stockpiles exist. Old, ancient stockpiles. In temples and churches. I've seen some and know of many more.

It was not for nothing that the tale of our friend Midas has been told and re-told for millenia.

ori

/the-plan/

prodigious_idea's picture

You mention 3 Olympic pools of gold.  Not to be snarky, but any facts/sources to back up your claim about tonnage mined exceeding 3?

grey7beard's picture

>> The three olympic pools is all the gold ever mined is a LIE.

And only the oracle of ori knows the truth.  I'll have to say, this place has more than it's share of people who know stuff nobody else knows.

oldschool's picture

You may be right about the 3 pools, and also the hidden hordes, to some extent.  Such things are very hard to get a fix on.  But as you note, they are ancient (ie, likely already in the equation) and often religiously segregated (ie, not likely to come to market).  So it seems to me one should ask how likely is it that that status will change?  And if it doesn't, how heavily should they weigh in the calculation of "supply"?  

Gold has historically been treasured for a reason, and I suspect the existence of those stashes is more a manifestation of that reason than an argument against it.

Dr. Gonzo's picture

Do you have any stats on how much paper has been mined for all the failed paper currency in the history of man? Or do you have any stats on how much money it costs to mine the cotton fibers to make a current valid $100 bill?  Are the Cotton mines being depleted to supply our M-2 money supply? Should people sell their gold to by stock in the cotton mining industry? Will the world be depleated of tree bark and cotton? Please elaborate.

midtowng's picture

It's all symptoms of the end of a global fiat currency.

Fiat is never a long-term solution, and we're coming to the end. Credit quality is a joke because of sky-high debt that saturates every part of the global economy.

That doesn't preclude a rush to dollars. 2012 will probably witness an EPIC dollar spike, like nothing we've ever seen before. Probably larger than the 2008 spike several times over.

But when that spike ends, so will the global fiat currency regime.

Bicycle Repairman's picture

For the MSM it was largely swept under the rug immediately.  No one was interviewed about how their savings were decimated.  It never happened.

GoldBricker's picture

Dot-Com? That got a new bubble to cushion the fall. Not likely next time 'round.

How often do you see discussions of Iceland's default, and how they're doing OK 2 or 3 years later?

Cugel's picture

Michael, I'm thinking the same thing. The question is, if you want to make some coin, what is the last position people will defend?

I lost this week because I didn't think that people would sacrifice their position in gold to defend their worthless position in paper, but it seems they did just that. I'm holding pretty to the end game, but if I could puzzle out where the flock would run next...ahhhhh.

But the thought of buying treasurys makes me ill, so I think I'll miss out.

Freegolder's picture

Just get physical gold and hold it it tight. And maybe go read FOFOA.

Vampyroteuthis infernalis's picture

Cugel, while posters on this site make these arguments why gold is good in hyperinflationary environments (true), they fail to look at the short term. At the moment, gold is tied to fraudulent paper investing and speculators have driven it up as an asset class just like everything else. It is soon going to crash as an asset class like everything else in the short term. When the speculators lose out, then will be the time to buy physical.

Doubleguns's picture

Cugal keep in the back of your mind that in the 70's folks had about 5% of their assets in gold. Today its less than 1% so there is a lot of upside still to come. If we went back to 5% would there be enough metal avail, nope so the price would have to surge substantially to equal 5% of assets or present assets would have to plunge precipitously compared to gold...unfortunately that is not out of the equation.

BigDuke6's picture

'Which are you?'

Who cares, man.  He dont matter.

Start backing up the truck.

Random_Robert's picture

Read, and TRY to comprehend,  all you mindless trolls and bitchez...

Money is nothing but a proxy for the stored value of future work. Therefore ALL forms of money are CREDIT.

ALL forms of credit only have asset value if you can find people willing to trade the work they did TODAY for the purchases they may plan to make TOMORROW (or the next day, or next year... whatever)

The only thing that distinguishes Gold credit from printed paper or electronic data credit is the fact that no one can conjure gold magically from nowhere. it is therefore REAL and maintains substance.

In other words, Gold is a form of money/credit that relies on NATURE as its Central Bank, and EARTH as it's Treasury.

If you truly understand this fact, then it means that you have transcended into the real world- a world that has no valid use for the entire political, elitist, fractional reserve leveraged derivative credit generating politburo and their stupid, worthless, pointless credit destroying schenanigans.  

If you would rather have a fat roll of Ben Franklins, and you have faith that they will always be more tradeable for edible iPads and toxic Monsanto corn, then hey- more power to you...

But I must point out that in so doing, you are placing your unbiased faith in man (fractional reserve bankers and idiot pseudo-economists like Roubini most notably) above Nature (or God, Earth, Gaia, whatever)...

Personally, that's not a trade I am willing to enter into.

The Nature of the Universe will NEVER be subverted by men- no matter how "powerful" these men may think they are, Nature will ALWAYS win.

 

OliverTwist's picture

Could you elaborate on that a little bit more? I read it 4 times but I can't understand it.

vast-dom's picture

About as pertinant as a bedouin whore's opinion on gold trinkets and such. Ah but she never wanted money or gold, "background checks" notwithstanding. Here's some solid gold earrings for the kind beautiful gal and a whole lotta ersatz for the soulless gold digger hoe. 

Gold goes up. Silver goes up. And let's hope one day bond yields and interest rates go up too, finally (when Bernank et. al finally get off the planet).

Treason Season's picture

What is it with you and your obession with denigrating Bedouins? Maybe we can meet up in Dahab somewhere and go mano y mano you racist twat! Name the time!

grey7beard's picture

If it makes you feel any better, when he mentioned Bedouin whore, I popped a wood.  Of coures, you are right to take offense as his intent wasn't good, but I'd not kick a Bedouin out of bed.  Me likes them all.

vast-dom's picture

Hey I like Bedouin Whores! Hell I like Jew whores, Russian whores, Chinese whores, Black whores, fuck me, whores of all kinds and types. It's just the gold digging EVIL ones that I don't like. And since i had an EVIL Bedouin Whore and happen like the sound of the words put together, I'm simply using it as a kind of shorthand. So please don't take offence as I meant it with laser-like specificity and had zero band intentions on the whole lot of Bedouins and whores in general, since I'm an equal oppurtunity gold collecting silver hoarding misanthrope anyhow. 

DavidPierre's picture

Gold and Silver markets were hit along with commodities in general.

There is A LOT going on behind the scenes and under the surface both politically and financially. Yes there is obviously a Dollar squeeze going on, otherwise the Fed would not have implemented the swap lines they did last week. Nothing has changed, except possibly gotten more severe, with the sovereign debt and banking problems, nothing.

In Costa Rica EVERYTHING is for sale and NO ONE is buying anything. Their economy has ground to a standstill and even their healthcare system has bankrupted leaving several million citizens with no healthcare. This also affects pension payments. THIS is exactly what will be happening all over the world in the coming year, overly optimistic "promises" of all sorts will be broken! Here in the U.S., tax witholding receipts has dropped significantly recently and is a good forecast that "official" recession is just around the corner.

Some say that commodities are being sold because they are "winners" and must be liquidated to support the "losers".  This has some merit. We also know that lease rates have been negative for several weeks where central banks were PAYING to lease out metal.

It makes zero sense for central banks to pay to lease out finite and real reserves, they do however know for a fact that this metal will be sold once it is leased out so record negative lease rates are definitely suspiscious. We also know that there are also many MF Global clients that are "stuck" in their long positions (and short). By and large, commercials are generally short and specs long, so while this sector of specs are locked up could this be a way for the commercials to force further liquidation on the specs? In other words, they "magically" find the money AFTER the specs have been margin called out of their positions?

Please keep in mind that Dennis Gartman has again called an end to the bull market in Gold. This type of pronouncement in the past has represented excellent levels to step up and buy.  This time will not only be no different but will end up being THE BIG ONE.

 Central banks actually now need Gold to be marked up by multiples to reliquify their balance sheets. Central banks when all is said and done have only two options left, only one of which will work. We all know that they can print as they have already and will need to at an ever higher pace, the other option is to make their Gold reserves valuable enough to close up the gaping balance sheet holes that have been created by over borrowing.

The global financial system is plain and simply insolvent on all levels.

 Go back to last Friday's closing sentiment, the entire world was BEGGING for more QE, (printing)...fast forward 3 more days and it sure looks like the table has been set to allow this doesn't it?

Commodities collapsing, the Dollar rising (deflation) and the inflation boogeyman not even being mentioned? Is there ANYONE out there that would argue with another round of QE being announced? If (when) it were announced, would commodities trade immediately to new highs? From these levels? No...but they will given a little time. 

The decks have been cleared and the opposition to further QE has been eliminated...so away we go.

It is ALSO true in the case of cleaning up "weak hands" in the Gold and Silver markets.

Expect action just like this before they really do mark up Gold.  Shake out as many peons as possible before the markup so there are less riders to "safety" when the system revalues. We no longer have free markets and really have not had since after the 1987 crash. Nothing happens by coincidence and nothing happens by "free market" anymore, everything and every market on the planet has the fingerprints of central planning on them. This has all become about the "end game" because even the bank accounts (sovereign treasuries) of TPTB are tapped out and broke. How convenient that more "QE" is considered just the tonic needed. Who'd a thunk it?

Please do not panic no matter how far Gold, Silver, and in particular the mining shares, are pushed down because mathematically "they" MUST print. We know that printing is Gold bullish on it's own. We also know because history has shown us that revaluing central bank Gold reserves is the final act of acknowledgement by fiat central banks.

NOTHING has changed fundamentally, demand still outstrips supply of precious metals. The system is still broke with no conventional fixes left to policymakers. Hang on to your precious metals holding as if your life depended on it...because it does!

And finally, from Jim Sinclair, who knows the precious metals markets as well as anyone in the world…

"The most important thing is volatility. One thing this shows you, and it increases continually, is this is the wildest chop we've ever been in, in the history of trading Gold, in terms of ups and downs. It means to me that Gold is going to rise to prices even higher than I expected...."

He is SO right on!

www.lemetropolecafe.com

OliverTwist's picture

We also know that lease rates have been negative for several weeks where central banks were PAYING to lease out metal.

It makes zero sense for central banks to pay to lease out finite and real reserves, they do however know for a fact that this metal will be sold once it is leased out so record negative lease rates are definitely suspiscious.

A ridaje!!!

I will try it once again: lease rates = LIBOR - GOFO

LIBOR is the average interest rate that leading banks in London charge when lending to other banks. It is an acronym for London Interbank Offered Rate . (Wikipedia)

GOFO: GOFO stands for Gold Forward Offered Rate. These are rates at which contributors are prepared to lend gold on a swap against US dollars. Quotes are made for 1-, 2-, 3-, 6- and 12-month periods. (LBMA home page)

So negative lease rates exists always when LIBOR < GOFO.  (not very complicated aritmetics!)

In the last period GOFO were going up with LIBOR staying relative steady (low). (http://www.lbma.org.uk/pages/index.cfm?page_id=55&title=gold_forwards&show=2011)

This is the reason for negative lease rates!

Ecoman11's picture

Fabrication capacity and hoarding is the problem. Not supply.

Sidenote: Check out this daily gold price chart with rate of change from 1979 to 1981. We haven't seen nothing yet.. http://www.freeimagehosting.net/f6645

Mike2756's picture

Buy now or be priced out forever!

Milton Waddams's picture

The recent volatility in gold has scared-off the blue hairs who were sold on the safe haven line.  

SilverRhino's picture

If there were solutions to the debt driven economy, fiat printing, the welfare state, crony capitalism, endemic fraud, outright theft and other issues, I might be disinclined to preserve my wealth in gold/silver. Until all of those are solved one way or another, I will keep stacking.

It is the ultimate long term safe haven with ZERO counterparty risk.

user2011's picture

I just watched a Taiwan TV news clip. Taiwan stock market has been tanking for the past week or two. It has lost 24$ YTD. Now Taiwanese investors are getting out of stock market and buying gold. Someone had bought 100 million USD worth of gold in one single day. May be someone really get the insider info in Asia.

philipat's picture

Mixed message? IMHO Gold has declined because CB's don't want the surplus countries to buy Gold instead of Dollars (China in particular) and because of the "Strength" of the US Dollar. If you believe the Dollar is strong because the US economy is in great shape, then sell Gold. If, however, you believe that this is temporary, soon the SHTF and all fiat currency will be worth only the paper it is printed on, then don't. I'm in the latter camp and continue to accumulate physical at these now more attractive prices.

wandstrasse's picture

I am in a third camp: I believe a command economy is ahead. The value and even the usability of PMs will be commanded by the hidden or obvious world government. This can be good or bad for (us) stackers.

Pullmyfinger's picture

None of this takes into account the supply and demand dynamics that have resulted since 1980 from the fractional reserve leveraging by the etf's.

In short, actual physical demand is much, much higher than statistics regarding physical possession indicate.

Hanuman Capital's picture

I have to agree. Aside from high physical demand, the cash rich majors need to increase their gold supply to keep up with demand.

I'm convinced that M&A activity will increase 2012 so the new year will present a good buying opportunity for gold stocks too.

This WSJ article suggests demand will drive M&A. 

 

Shineola's picture

Can't mine and refine as quickly as Bennie Shalom can print.

delacroix's picture

what happens, when a dollar costs more to print, than it's worth?

Mr Lennon Hendrix's picture

confetti.  it's a tradition

Mr Lennon Hendrix's picture

transitory like the weather.  from a bill to confetti, and then receycled back into a bill!

it's magic

Doubleguns's picture

ahhh but they add a few zeros during the recycling process. That removes the barbaric effect.

knukles's picture

Negatvie Seniorage

Now that's negative carry!

qussl3's picture

Kinda hard to beat 0.00000000000000000000001kwh for 1trillion million quadrillion umpteenium digital bucks tho.

Dr. Engali's picture

Doesn't cost anything to push a button and add a digit in an all digital world. That's when we go paperless.