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Is China Secretly Accumulating Gold?

Commodities | Oct 23 2012

– China's gold production unknown
– China's gold imports unknown
– China's gold reserves unknown
– Should the price of gold be a lot higher?


By Greg Peel

China is believed to hold around US$3 trillion of US government “paper” – bonds and bills and so forth – as America's largest creditor by a degree. It is thus understandable that Beijing would voice its chagrin at the constant devaluation of the greenback, as the Fed “prints” dollars to give to the US Treasury as a loan by buying Treasury securities, known to date as QE1, QE2, Operation Twist and QE3. Since 2008 Beijing has made no secret of its intention to diversify away from holding an excess of the reserve currency.

But what currency could China hold its surplus foreign reserves in instead? The euro was the obvious first choice, until the wheels fell off in Europe. The yen is not much help (current hostilities notwithstanding) given Tokyo's constant intervention, which is also true for the Swiss franc. The pound is also subject to QE, and from that point the money supply of other possible contenders (such as the Aussie) drops off rather rapidly. The obvious solution, thus, is to buy gold. Gold's value rises in relation to any currency being devalued.

As far as globally accepted reported figures on central bank gold reserves tell us, the PBoC was holding 1054t of gold in 2009 and has not added to that figure since. The amount represents a mere 2% of all Chinese reserves, which compares to legacy gold players like the US and Germany which hold over 70% of reserves in gold. Even the 2009 figure came as a shock outside China, given Beijing suddenly announced a 450t increase in gold holdings which was derived from an unreported source.

That source is assumed to be domestic production, as China is now believed to be the largest producer of gold globally. China nevertheless remains a net importer of gold annually, but no one is quite sure where that gold ends up. It is well known the Chinese are, like the Indians, keen buyers of gold jewellery for ceremonial purposes, and Beijing not long ago established a gold exchange which allowed Chinese citizens to buy gold as an investment for the first time. But as to what amount of what China produces and imports each year ends up as jewellery or lands in PBoC reserves is anyone's guess, as Mineweb's Lawrence Williams explains.

Williams points to China's sudden 450t reserve increase in 2009 as sufficient reason to believe Beijing has continued to hoard gold ever since. We don't know what China's production numbers are to begin with, and while we can trace import figures through Hong Kong there is no guarantee Hong Kong is the only import gateway. The Chinese are known anecdotally to be thirsty “consumers” of gold jewellery, but no figures are kept (or at least disclosed). Gold production statistics are questionable given a number of small mines which fall outside official data collection, import numbers are a guess, and what amount of the above might have been shifted into the central bank vault is pure mystery. Beijing feels no obligation to share such information.

Why not? Everyone else does, supposedly. [I am fully versed in the conspiracy theories so please, no emails.]

The answer, Williams suggests, is probably straightforward. If the world knew China was on a gold buying mission, the price of gold would skyrocket. Under the cover of rubbery or non-existent reporting, Beijing can quietly accumulate gold reserves at the cheapest possible price.

There have in the past been the odd statements from Chinese officials that suggest Beijing has set a target of 5000t of reserves, at least initially. That would only lift the ratio of gold as reserves to 8% from 2%, and on an assumed annual production output of 350tpa, would take ten years plus to achieve, Williams notes, assuming all production was transferred to reserves. Beijing's reserves may well be growing at a faster rate if imports are added, but by how much?

Outside of domestic production and the import of metal, China has also been a keen investor in foreign gold mining operations over the past few years, via larger state-owned enterprises. This policy only adds to speculation China's gold reserves are growing a lot faster than anyone realises and are doing so with no impact on the global benchmark price of gold. It is no great stretch to suggest that Beijing's answer to a dodgy reserve currency and little in the way of substitutes is to eventually elevate the renminbi to reserve currency status. This would require the currency to be significantly gold-backed, and an increase in reserves to such a level would take decades, whatever rate China may be currently accumulating bullion.

But China's autocratic government thinks ahead, Williams highlights, unlike democratic developed world governments who only think as far as the next election.

So what's gold really worth? If traders were able to front-run Beijing, probably a lot more than it is today. China's reserves and accumulation rate are unknown at this point, in which case eventually finding out how much gold Beijing is holding won't really matter much from a price perspective. Which is no doubt the way Beijing would like to keep things.
 

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