CHINA’S MONETARY POLICY IS MAKING SURE GOLD WILL BE A DESIRABLE ASSET IN 2017

As yuan got accepted into the SDR basket by the IMF in September 2016, the government of PRC was obliged to meet the IMF’s transparency standards. In February the central bank of the People’s Republic of China revealed that their forex reserves had dropped substantially over the last years. At the same time their gold reserves continued to grow.

Despite the claims to the contrary the demand for gold in China is strong and not likely to abate anytime soon. It has been established that all the gold coming to Shangai Gold Exchange (SGE), which includes domestic mining and scrap, goes to private hands, which means their central bank prefers other, less obvious channels for gold acquisition, likely through commercial banks. Indeed, the refiners in Switzerland are facing huge demand from Asia. Unlike China, the Swiss are one of the most transparent gold handlers, mostly operating as a hub for gold refining. Their records show that demand from China is growing. With all that we also have to bear in mind that China is the world’s largest gold producer.

 

CAPITAL CONTROLS LEAD TO FOREX RESERVES DRAIN

The imposition of capital controls induced money to leave China, which also gave rise to appreciation of Bitcoin as we have already noted. Gold is part of the same story. China finds itself being drained of forex as capital controls act both ways. People are less likely to put money into China if they cannot get it out. One may wonder how much of the remaining forex reserves are liquid enough to prop the economy, should the need for this suddenly appear. Could they manage a bank bail-out with the reserves leaving the country at the rate of tens of billions per month?

The government-dictated policies of lending and investing are trying to keep afloat an economy supportive of high employment, while the share of cheap exports in GDP has declined and the threat of tariff-imposition of US brought additional pressure.

 

FOREX OUTFLOW MAY BE A PRELUDE TO A FURTHER LOOSENING OF THE PEG

Chinese economy is suffering from what economists call Trilemma – the impossibility of having free capital flows, a dollar peg and an independent monetary policy. The free capital flows have already given way, and the authorities are hoarding gold while people are trying to get their money out before the likely devaluation of yuan. The recent rearrangement of their dollar peg might indeed have been an intentional devaluation, but it did not go as planned and it cost the Chinese government a massive amount of forex to prop up the yuan. Could gold be the next thing used for such an emergency when forex is unavailable in sufficient quantities?

The huge demand from China and also India, where war on cash is being waged, coupled with a mass of paper claims on gold of dubious convertibility, makes physical gold an attractive asset for investors this year. With global gold production plateauing we can expect the demand from Asia to act as counterweight to any downward pressures on the price of gold in the long run.

David Prezelj
ioDavid

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