In his essays On The Principles Of Population, the English scholar Thomas Malthus argued that the earth’s resources are limited and cannot support unlimited population growth. ‘The power of population is indefinitely greater than the power in the earth to produce subsistence for man’, he said.
In many ways “peak oil” theory is an extension of this notion. There is a finite amount of oil in the world, runs the theory (one estimate puts that number at 75 trillion barrels).
At a certain stage, the point of maximum production will be reached. Thereafter production levels will decline.
The US reached its peak in 1970; the rest of world, it seems, in May 2005 at 74 million barrels per day – though this is subject to a lot of debate.
But what about ‘peak gold‘? Does the Malthusian argument extend to gold?
Until last year, it seemed that world gold production had peaked in 2001 at just 2,600 tonnes a year. Despite the rising gold price, by 2008 that number had slid to 2,400 tonnes.
However, we have seen a rally, and 2011 saw a record at 2,818 tonnes. Forecasters seem to concur that will we see something like 2,900 tonnes produced in 2012.
However, annual global demand is considerably more than that. It was about 3,500 tonnes in 2000 and rose to 4,486 tonnes by 2011.
In other words there is a deficit. There has been a deficit since the mid-1970s. This has risen from below 1,000 tonnes in 2000 to 1,668 tonnes last year.
The cumulative effect of that deficit is pretty striking. Chartist and all-round data gobbler, Nick Laird of sharelynx.com, who has produced the chart below, says: ‘Note that since 1950, 133,000 tonnes (over 80% of the gold ever found) has gone into demand with 115,000 tonnes of this having come from production.
This leaves a shortfall of 18,000 tonnes, which has come from central bank sales, stockpiles and scrap’.
That 18,000-tonne shortfall represents about seven years’ worth of total production. Where, I can’t help wondering, given that central banks are now net buyers, will the gold to address future shortfalls come from?
It all points to higher prices – prices at which more people are happy to sell.
However, the 2011 production record has come at a cost. Exploration expenditure has gone from $1bn in 2000, to $6bn in 2010, according to data from the Metals Economics Group.
I’ve read other arguments that suggest the figure is closer to $8bn.
And despite this increased expenditure, the number of major discoveries – for major, read a deposit of more than a million ounces – being made is actually falling, as the table below from Minex Consulting shows.
In 1996 there were about 30. In 2002, around five (with gold as the primary metal). By 2006 that number bounced back to 20. 2010 saw about ten. It seems that number will have fallen in 2011, but the data is still incomplete.
The exploration sector needs to make discoveries to justify its existence. Part of the reason funding dried up in late 2011 and 2012 must be that so few discoveries were made. There was nothing to get investors excited.
In fact, failure makes them angry. Shareholders are rather more tolerant of their chief executives lording it up at the Savoy if they’ve just made a million ounce discovery.
As well as the number of discoveries declining, it appears the average size of major deposit discoveries is declining too.
In 1970 to 1979, the average was 5.9 million ounces. That declined to 5.6 million ounces in the next decade and to 5.1 million ounces in the decade after that.
Between 2000 and 2009, the average size of a major gold discovery fell to 4.4 million ounces.
The average grade of discovered gold is also declining – in other words, there is less gold in the rock, which means it is more difficult and more expensive to extract.
In short, we are seeing declines in both size and quality. That’s similar to the problem many oil producers face of having to go into more challenging areas, be it geologically, geographically or politically, to get their oil. It’s a reflection of ‘peak oil’ in other words.
The average time from drilling the discovery hole to declaring the maiden resource is 3.7 years. From discovery to an actual mine start-up, takes an average of ten years.
The lack of major recent discoveries points to a further shortfall in production five or ten years down the road. It also suggests that the gap between demand and production will further increase.
So leaving aside the analysis of the subtext of central bank pronouncements, the sheer numbers alone point to higher gold prices ahead.
Dominic Frisby
Contributing Writer, Money Morning
Publisher’s Note: This article originally appeared in MoneyWeek
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