The nearly century-old global gold bullion price benchmark needs to modernize its antiquated ways or be replaced by a modern market-based mechanism.
The London gold fix is a twice-a-day auction process determined by its five member banks. It was started in 1919 as a practical market-based solution when there was no exchange in London, then the center of world finance and gold trading.
The importance of the fix should not be underestimated: it is used by everyone from retailers, such as jewelers and bullion sellers, to government entities, such as central banks. The U.S. Mint uses the fix to determine the pricing of its gold bullion products.
But it has not kept up with the times. There are now multiple gold exchanges in the world where significant volume of gold is traded daily. London, and even Europe, is no longer the center of gold trading in the world, as India and China have risen to become the two dominant buyers of gold.
And most importantly, the lack of transparency that worked for many years does not stand up to modern scrutiny. Other similar financial benchmarks have been under investigation by regulators for collusion, price rigging and other abuses and the conclusions are not pretty. Multiple banks have been fined more than $5 billion for colluding to manipulate Libor, a key interest rate that impacts loans. Regulators have been looking at the WM/Reuters foreign exchange market fix, which impacts trillions of dollars of foreign exchange trading each day.
The London gold fix only announces the fix price twice daily. It does not release the notes of the meeting nor does it allow public scrutiny. The banks allow themselves to trade during the fixing process and there are suspicious spikes in trading activity during the calls. Finally, the banks do not have adequate internal controls to prevent manipulation.
It was the lack of internal controls that allowed a Barclays’ gold trader to manipulate the gold fix so that Barclays would not have to make a $4 million payment it owed to a customer, but instead make a cool $1 million for the bank. The trader got banned from working in any regulated financial position and the bank got fined nearly $44 million.
The regulatory investigations have dramatically increased the liability of those involved in the fix. Barclays, HSBC Holdings, Societe Generale, Bank of Nova Scotia remain member banks, but Deutsche Bank left the fix in May. Deutsche Bank tried to sell its seat, but had no takers. Even Chinese banks anxious to have a seat at the fix declined to buy Deutsche Bank’s seat because of the potential liability. They would rather wait and see if a new seat replaced the old one.
Particularly egregious is that the Barclays’ trader manipulated a trade at the expense of a customer and the benefit of the bank. Clearly some moral line has been crossed when there is a conflict of interest and the bank’s trader’s solution is protecting the bank and trader and not the customer.
Is this the end of the fix? It still could be salvaged if member banks made the process transparent enough for public scrutiny and tightened up their internal controls to prevent the internal manipulation and appearance of price rigging. Further, it should open its membership to Canadian and non-European members, such as Chinese and Indian banks.
But if the London gold fix does not come into the modern age, it will likely go the way of the dodo bird. In its place, the market will find another solution. The new one will likely be dependent on the multiple global gold exchanges and its price set much like other commodities. The London gold fix needs to fix itself soon. Its twin, the London silver fix, will be terminated this September.
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