Tokenised Gold Ignites the Paper Gold Powder Keg

Ingo Fiedler

The global gold market rests on a leveraged structure: A large amount of claims is built upon a comparatively small base of physical metal. For decades, only a tiny minority of holders ever demanded physical delivery allowing this system to function smoothly. Amid geopolitical realignment, central banks across the world slowly accumulate and repatriate physical gold. So far, the outflow of physical gold is balanced by private investors preferring unallocated (“paper”) gold over more expensive and less practical physical or allocated gold exposure. But this changes with the advent of tokenised gold products like Tether’s XAUt that allow investors to hold fully allocated gold in tokenised form while still providing the benefits of fungibility. With more investors realising the benefits that tokenised gold holds over other forms of gold exposure, not only the demand for paper gold will crater but also more and more collateral will leave the paper gold system. This creates the conditions for a sudden, nonlinear collapse: the Minsky moment for the global gold market.

1. Structural Long-Term Forces: The Gradual Erosion of Stability

The backbone of the global gold market is the unallocated system of the London Bullion Market Association (LBMA) and COMEX, the primary U.S. marketplace for trading metal futures. In this framework, customers hold unsecured credit claims against bullion banks rather than ownership of specific gold bars. Because only a small subset of claimants demand physical delivery, banks effectively operate a fractional reserve system with leverage ratios that are estimated to reach 20x-50x. While efficient and smooth under calm conditions, this structure becomes fragile when long-term pressures steadily reduce the pool of available physical gold.

Growing Central Bank Demand for Physical Gold

Central banks, especially in emerging markets, have become aggressive buyers of physical gold. China, Russia, Turkey, and various Middle Eastern states have increased their gold holdings with official reserves having increased by about 3,000 tons over the last decade. But much of this accumulation happens outside transparent channels, implying true additions may be even higher than reported, especially in the case of China. While a part of these additions is coming directly from mines, other parts leave the fractional reserve system and reduce the metal available to support paper claims.

Repatriation and Declining Trust in Foreign Custodians

Since 2013, Germany, the Netherlands, Austria, Hungary, Poland, and others have repatriated large portions of their gold reserves from foreign vaults amounting to an estimated 1,180 tons. Publicly justified as risk diversification, the practical effect is a reduction of the bullion banks’ lending and leasing base, since repatriated gold is typically held in allocated form and is not lent out, rehypothecated or used otherwise to support unallocated liabilities.

Geopolitical Realignment and Multipolar Currency Architecture

China, India, and other BRICS nations are trying to build alternative settlement networks and gold-referenced trade frameworks. Any trade conducted within these frameworks reduces dependence on USD-centric systems and elevate the strategic importance of physical gold.

Taken together, these slow-moving structural shifts reduce the effective collateral backing the fractional unallocated system.

2. The Minsky Moment: How a Slow Shift Turns into a Sudden Crisis

A Minsky moment is the sudden, nonlinear collapse of a highly leveraged system after a long period of stability has encouraged risk-taking and concealed underlying fragilities. In the bullion banking system, the vulnerability lies in the mismatch between the notional size of paper claims and the limited pool of deliverable physical metal. The bullion banks rely heavily on delta-neutral hedges: short unallocated spot liabilities offset by long futures. This hedge assumes that futures can substitute for physical delivery. But if scarcity drives spot prices significantly above futures, a Minsky moment is bound to occur: Hedges collapse, losses rise sharply, margin calls mount, and forced liquidation amplifies market stress.

While an actual crisis is expected to be sudden, it still plays out in phases. The following gives a rough overview, over how such a crisis might unfold.

Phase 1: Futures Market Dislocation

Physical scarcity causes spot prices to rise while futures lag behind. The Exchange for Physical (EFP) spread widens dramatically. Hedged bullion banks begin incurring basis losses and face surging margin calls.

Phase 2: Stress on Unallocated Accounts

Institutional clients attempt to convert unallocated positions into allocated metal. Bullion banks delay or restrict conversions, citing operational constraints. Confidence erodes rapidly, feeding a run-like dynamic.

Phase 3: Liquidity Freeze and Delivery Failures

Over the counter (OTC) markets freeze as banks refuse to guarantee delivery. Vaults hit logistical limits. COMEX may move to cash settlement, implicitly acknowledging that paper claims exceed deliverable metal. Paper gold begins to decouple from physical prices.

Phase 4: Bullion Bank Solvency Crisis

Losses from basis risk, delivery failures, and collateral demands accumulate. A large bullion bank may face insolvency. Regulators intervene, but traditional liquidity tools cannot manufacture physical gold.

Phase 5: Central Bank and Government Intervention

Authorities deploy emergency measures: liquidity lines, settlement freezes, coordinated leasing programs, or forced cash settlement for certain gold contracts. These actions may contain financial contagion but cannot restore trust in paper gold.

Phase 6: Global Financial Contagion

A full breakdown in gold markets spills into foreign exchange and credit markets. Bullion bank stress transmits to the broader banking system. Confidence in fiat-denominated claims weakens. Physical gold prices surge to multiples of paper benchmarks as real metal becomes the only trusted asset.

Internal Trigger: A Large Bullion Bank Unwinds Its Exposure

The actual trigger for a Minsky moment can be an individually rational decision by one of the players in the gold market. For example, a major bullion bank might decide that long-term structural forces threaten the viability of its unallocated liabilities. It may then begin reducing exposure by tightening lending, unwinding futures hedges, or purchasing physical metal. Even a single institution acting defensively can widen spreads, pull liquidity from the market, and force others to follow—creating a rapid, self-reinforcing deterioration.

External Trigger: A Spike in Physical Delivery Requests

Another potential Minsky Trigger can be a geopolitical shock like a war or financial crisis that prompts sovereigns or institutions to demand allocated metal. Even a small uptick in physical delivery requests could overwhelm available stocks, exposing the depth of the mismatch.

With the leveraged nature of the gold market land the logic of a Minsky moment laid out, the question arises why the gold market still functions uninterrupted and smoothly. The main reason is the demand by investors for paper gold which has been superior to allocated and physical gold—until the advent of tokenised gold.

3. Why Tokenised Gold Triggers the Minsky Moment

For individual investors, the safest protection against a meltdown of the paper gold system is to hold fully allocated metal that not only retains full physical value, but likely even increases in purchasing power in case of a crisis. But allocated gold and especially physical gold is costly to hold and hard to transact. And that is exactly why until now most investors prefer paper gold in form of derivatives, ETFs or exposure via future markets. Such paper gold has little custody fees, is ready to trade, and easy to use as collateral. This demand for paper gold by investors is what kept the paper gold system stable—so far.

Tokenised Gold is Allocated Gold on Steroids

A new force on the gold market is the accelerating adoption of tokenised gold: digital tokens representing specific, serial-numbered bars held in secure vaults. Contrary to unallocated or paper gold offered by gold futures or gold ETFs that only offer a financial claim, tokenised gold like XAUt offers direct ownership in form of deliverable physical bars. Each XAUt token corresponds to a distinct physical bar stored in Switzerland outside the fractional LBMA and COMEX system. The issuer is not allowed to rehypothecate or lend the gold. Instead, physical redemption is available for XAUt holders at any time. Thus, tokenised gold is allocated gold.

But tokenised gold is not only allocated gold. It also cures its main disadvantages. While traditional allocated gold is slow and expensive to move, tokenised gold can be transferred within seconds, in any size and at any time for a few dollars per transaction. When it comes to trading, traditional allocated gold is non-fungible and thus difficult to buy or sell. Tokenisation, on the other hand, makes allocated gold fungible. This fungibility provides access to markets that operate around the clock, including when traditional markets are closed. It also allows “onchain” usage of blockchain-based smart contracts that provide, for example, collateralised loans.

How Tokenised Gold Shifts Demand towards Allocated Gold

Against the backdrop of the advantages of tokenised gold, it can be expected that tokenised gold is poised to grow in size over time and, in turn, will put additional pressure on the paper gold system. Any investor migrating from fractional unallocated exposure towards fully allocated tokenised bars gradually depletes the liquidity pool that supports the paper gold market. Over time, the shrinking margin of safety in the paper gold market causes a dynamic where allocated gold becomes exponentially more advantageous over paper gold: the Minsky moment.

Paradoxically, it is the rational market behaviour of individuals protecting themselves through XAUt that accelerates the weakening of the fractional system and increases the probability of the very crisis they seek to avoid. This dual effect is a textbook example of Minskyian reflexivity: micro-level prudence generates macro-level fragility.

Conclusion

The global gold market contains all the ingredients of a Minsky dynamic: a stable but leveraged system, slow structural erosion, and the potential for a sudden nonlinear collapse. Over the past years, central bank accumulation and repatriation have steadily undermined the foundation of the unallocated model of bullion banking. The advent of tokenised gold products like Tether’s XAUt will accelerate this trend. As a superior gold product that protects its holders against a meltdown in the gold market it is poised to ignite the paper gold powder keg that triggers a Minsky moment.

The timing of the Minsky moment is unpredictable, but the direction is unmistakable: physical gold is gaining strategic importance as the fractional paper architecture becomes increasingly fragile. History teaches that leveraged fragile systems rarely unwind gently. As Hemingway describes bankruptcies and Bitcoiners understand intuitively: gradually, then suddenly.

If you’re interested in learning more about the topic or would be interested in a joint research project with us, please feel free to reach out to Dr. Ingo Fiedler.