The Global Supply and Demand of Gold

The value of any product, including financial instruments and investments, is determined by its demand and supply. Some would argue that outside factors, such as war, for example, have an effect on the price of commodities, but this is because of the effect that such news may have on the flow of supply and demand.

Demand

Demand for gold as measured by the World Gold Council falls into three main categories. First there is jewellery, still the largest sector and using over half of the world’s gold supply. Over the last few years, however, gold demand for investment purposes has been growing, to the point at which it now constitutes about a third of global demand. At a figure of around 12% comes the demand for gold as a product in technology and industry.

The demand for gold from consumers has risen in Asia. As the economies of China and India have grown, so too has the spending power of their people. Together with the Middle East, the region accounted for 65% of consumer gold demand through 2011.

The demand for gold for jewellery

The demand for gold for jewellery is consistently above half of all gold demand. Whilst such demand is hit by economic downturn – fewer jobs or lower wage settlements mean less money to spend on luxury items – the world’s largest buyer of gold for jewellery is less affected by such concerns. Consumer demand in India is determined by its cultural and religious background, rather than by cost considerations.

Though affordability and desirability drive demand for jewellery, particularly in the West, the markets of China and India are likely see growth for some time.

The demand for gold for investment purposes

Investment into gold has been growing since 2003. The world has been hit by several financial crises during this time, and each has served to highlight the reasons to invest in gold as a store of value and a diversifying factor that helps to insure investment portfolios against risk.

There are also many ways to invest in gold, and the growth in instruments such as ETFs and retail sized gold bullion products has helped to make such investments more accessible to the private individual investor.

This combination of factors has seen gold increase in acceptability as an investment asset, with the price consequently increasing six fold from 2000 to a peak in 2011.

The demand for gold as a technological material

Gold has properties that make it an essential component in the production of many of today’s electronic, medical, dental, and industrial applications.

Being highly resistant to corrosion and an exceptional electrical conductor, it is used widely where small conducting or connecting components are required. Gold is widely used in medicine because it is an antibacterial material. It is also used in some cancer treatments, and as a filling material in dentistry.

Often overlooked is its importance in the aerospace industry, including space exploration where it is also used as a reflective coating material.

Supply

If asked about gold supply, and where gold comes from, most people would immediately say mining. In truth, though, this is only half the story. Well, just over half, actually, because the supply of recycled gold has been increasing to meet increasing demand.

Gold from Mining

Mined gold averaged about 2,600 tonnes per year throughout the period from 2005 to 2012. New mines are opened to replace old mines, so real new production has been minimal.

Around the world there are hundreds of gold mines, with African and Australian mining, in particular, being large contributors to those countries’ economies.

The final process in the production of gold is refining, and so gold refineries are often located near large gold mining areas. However, before getting to the refining stage, a gold producer has to go through a time consuming cycle from exploration and discovery, to mine excavation and removal of the gold. This cycle has an average span of ten years, meaning that gold production cannot just be ‘turned on’ like a tap.

This means that the mining of gold is an inelastic industry, and unable to meet surges in demand. When such surges occur, supply is found elsewhere, and is prompted by price.

Gold Recycling

As gold increases in value, the worth of scrap gold – old jewellery etc. – increases. Individuals react strongly to a strong gold price, particularly when the economy is faltering and extra cash required to service debts or even everyday life. The supply of gold from recycling has become a big business with many shops willing to buy gold appearing in almost every town and city in the Western world. This ease of recycling has further increased the supply.

Recycling of gold is very elastic, able to increase at a pace not possible from mining of gold, and on a global scale now accounts for over a third of all gold supply.

Gold sales by governments/ central banks

For decades the world relied on currencies being pegged to the dollar by use of the Gold Standard. Governments built up reserves of gold, and used sales to help control individual economies. However, after the gold standard was abandoned, many governments began to sell their gold. In fact, for two decades from the late 1980’s through to 2009, sales by governments increased global gold supply.

Since 2009, European central banks have become averse to selling gold, preferring to keep it as the Euro debt crisis comes to a head, and buying of gold by emerging economies has increased. This has combined to mean that central banks are now net buyers of gold rather than net sellers.

In conclusion

While the demand for gold is encouraged by economic conditions, any slackness in demand from the West is being taken up by extra demand from countries such as China and India. With central banks having moved from net sellers to large net buyers (440 tonnes through 2011), demand for gold is increasing despite, or perhaps because of, the weakening global economy.

With the economic and political conditions that have caused this buying surge from central banks set to be in place for some time to come, the fundamental outlook for the supply and demand of gold is strong.

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