Doug Pollitt in Toronto
Gold mining is a miserable place to do business these days. Sure, a soft local currency cushions things a little, but it nonetheless remains that production is declining, reserves are depleting and future prospects are dimming.
Imagine looking up as you, a gold miner, take the cage down for the start of a day’s shift. See how quickly that speck of light at the top of the shaft contracts? See it disappear altogether? That’s the future of gold mining at $260.
Much of the blame for this depressed state of affairs is often laid at the feet of “things beyond our control” the diminishment of gold’s role in monetary affairs is typically cited. Perhaps, but we hasten to point out that for every tonne that has been sold outright by central banks over the past 10 years, another tonne has been lent and sold. A tonne borrowed is a tonne sold; it’s all the same to the market.
Ironically, it is the gold mining companies, by means of hedging, that have been doing much of the borrowing 3?000 tonnes of borrowing to put a finer point on it. Placing this in perspective, 3?000 tonnes in the form of accelerated sales is more than eight times the amount of gold hitting the market via the much-heralded United Kingdom gold sales.
Over and above the direct negative impact of hedging, there is also the example it sets: if gold mining companies are dumping production forward, shouldn’t Joe Speculator be tagging along on the trade?
A “marketing campaign” is often thought to offer salvation for these dreadful times. Few would have qualms about more demand, but the very mention suggests there’s a problem. There’s not. Demand is at or near record levels and growing. Demand outstrips mine supply by about 40%. And demand is expensive to increase.
By contrast, a large hedge book might amount to 500 tonnes, equivalent to perhaps 300-million wedding bands. That’s a lot of demand, that’s a lot of ad copy. Wouldn’t it just be easier to buy the 500 tonne hedge book back? Just as accelerated gold sales have depressed the price and all with an interest in it, the same phenomenon now provides a cheap, simple way to help get the market out of its dreadful rut. Half-a-dozen phone calls could see gold at $400.
That hedging hurts the gold market is academic; that hedging hurts gold-producing countries is a simple corollary. Leaving aside the benefits of increased employment, increased wages, increased investment, increased economic activity that a higher gold price would bring, governments have a direct interest in the ore deposits of their respective realms in the form of future corporate taxation streams.
Given that reserves are finite, it is a legitimate question for a country to ask how to best maximise its return on its endowment. Selling metal that has yet to be mined at prices well beneath replacement cost is not what you’d call a good start an ounce sold forward today is an ounce of gold that cannot be sold spot tomorrow. Perhaps an example would fix thoughts: suppose the PGM producers had hedged half their productions at market lows a few years ago; who’d feel ripped-off then?
Surely governments have an interest in ensuring their slice of the pie and by “a fair slice of the pie” we mean a tax stream premised upon a long-term equilibrium price. What number is this? Everybody has their own ideas but $400 might not be too far off a consensus mark; accelerated sales at prices well beneath this level thus not only cheat the shareholder but cheat the government as well.
One compensatory step would be to simply tax the difference. In other words, from the point of view of Mr Tax Collector, an ounce hedged at $290 will be deemed to be sold at (say) $400. The logic of this scheme is clear: an ounce taxed today at $260 thin gruel at best is an ounce that can’t be taxed when prices inevitably correct. Catch while catch can.
When the oil industry first opened up more than 100 years ago, producers would tend to pump their fields as fast as they could. Why? Because if they pumped fast enough, they would capture a portion of their neighbours’ reserves; of course, all the producers’ neighbours were trying to do precisely the same thing.
This mad dash to get what you could resulted in poor recoveries, impaired fields, dirt cheap oil prices and an industry in disarray. Kind of like the gold industry today. Governments finally stepped in and removed the incentive to bring accelerated sales of crude to market and the nascent oil industry recovered. Indeed, this legislation provided for the sound exploitation arrangements we see in practice today.
It’s high time governments of gold producing countries did likewise. A mining permit should allow a company to extract gold in a responsible fashion; it should not serve as a licence to arbitrage reserves and squander the national patrimony. This basic tenet should be reflected in legislation clearly and it should be reflected in legislation quickly.