Why Pakistan should increase holdings in gold

Since January 2007, forex reserves have moved from $12.87 billion to $16.77 billion in September this year.

Over the past ten years or so, the State Bank of Pakistan (SBP) under successive governments has paid special attention towards building and maintaining strong foreign exchange reserves.  Since January 2007, these reserves have moved from $12.87 billion to $16.77 billion in September this year.

In October 2008 when the liquidity crisis hit the economy, reserves had dropped to $5.78 billion. This was the time properties in the UAE became the ‘Qabristan of Pakistani investors’ and rumours surfaced of not just of Pakistan defaulting, but also a few banks going under.

However, strong remittance flows and arrangements with the International Monetary Fund have steadily allowed the reserves to go up.

Holdings in gold make up a decent portion of the central bank’s reserves. At present, the country possesses about 58.6 tons of the precious metal valued at around $2.7 billion. These reserves have remained constant since November 2007.

The story of gold as a safe haven is well-known and agreed upon. Even though it does not yield any income and has high storage costs, it is what investors rely on in times of turmoil. With the way the greenback has been showing volatility against the euro, yen and sterling, we have seen prices of the metal skyrocket from $415 per ounce in 2003 to $1,358 per ounce at the end of October 2010.

At current market prices, our gold reserves constitute 16 per cent of the total reserves of the country.

The recent quantitative easing, also called QE2, by the US Federal Reserve is likely to see $900 billion being invested as stimulus for the American economy by the third quarter of the current fiscal. Whether the economy will be able to jump back or not, the dollar is quite likely to depreciate.

With a lot more money in the market chasing few good assets, we will see commodity prices getting dearer. Since the announcement, prices of precious metals and commodities have been on the rise. If the dollar continues to lose value against other major currencies and commodities become more costly, our State Bank’s good work of building up reserves will go to waste.

When oil was hovering at around $140 a barrel in 2008, we saw our reserves come down very fast. A suggestion is that Pakistan, in a phased-out manner, should opt to build up its existing gold reserves to take them to at least 100 tons.

Exactly a year ago, the Reserve Bank of India concluded the purchase of 200 tons of gold from the IMF. By virtue of this purchase, India’s gold reserves reached 557.5 tons.  Just for the records: when the purchase was announced, the price of gold was a little over $1,040 an ounce.

At current rates, the purchase has appreciated 30 per cent in value.  As of this October, the country’s total foreign exchange reserves stand at $297.95 billion, of which 7.27 per cent are in the form of gold.

Despite the fact that Pakistan has a healthy ratio of gold as part of its reserves, it is important for us to look at various doomsday scenarios that can affect us. It is not suggested that we buy the gold at the current all-time highs, but to do so as per of a concerted buying strategy – the last thing we need is more shocks to the economy.

Published in The Express Tribune, November 10^th, 2010.