Drivers of gold fraction in global exchange reserves

Abstract

Over the last 20 years, central banks have exhibited both declining demand for gold and tendency to substantially expand gold holdings. At the same time, the aggregate share of gold in global exchange reserves remains considerably volatile. Growing political and military instability in the world is a strong argument in favour of central banks’ renewed interest in gold holdings. This is confirmed by the actions that some states take. However, on the aggregate level, the positive relationship between geopolitical risks and rising share of gold in exchange reserves is not evident. The same is true for the diversification towards gold from the viewpoint of large exchange reserves hoarding. The uncertainty factor and the benefit of holding / opportunity costs factor play a key role in determining the aggregate share of gold in global exchange reserves. Moreover, gold prices, provided their trend is predictable, better explain the growing share of gold in the exchange reserves than interest rates on the US market. This is due to the growing complexity of the global monetary conditions, which are sensitive to historical context and expectations when it comes to the choice of reserve assets.