China's Master Gold Plan
China Must Buy 6,000 Tonnes of Gold
Last year China became the world's largest gold-producing nation.
China is also the world's largest gold importing nation.
For the first 11 months of 2012, the Middle Kingdom bought more than 512 tonnes of gold. To put this in perspective, India's stands at 11th in world in terms of gold reserves (not imports) with 558 tonnes of gold.
And Chinese lust for gold is increasing. From the Financial Express:
Gold premiums in Hong Kong rose to their highest in about five months on Tuesday as Chinese banks stocked up on bullion to avoid a supply crunch when refineries close shop for the year-end holidays.
Gold bar premiums in Hong Kong rose to as high as $1.50 an ounce above London prices, compared to 50 cents to $1 over the past few weeks, dealers said.
The premium in Shanghai gold prices over London also widened, indicating rising demand in the Chinese market. Spot gold traded on the Shanghai Gold Exchange traded at 343.85 yuan a gram, or $1,716 an ounce, at a premium of about $8 over spot gold.
RMB Takes on the Petrodollar
Since the end of WWII, the United States has had a unique advantage in world trade: The dollar has held a virtual monopoly on trade.
Most notably, oil was priced in dollars. As such, other countries that wanted to buy oil needed dollars with which to buy it.
This greatly increased the float. The U.S. could print money and it would be sucked up by other countries, funneled through Saudi Arabia, and cycled around to the U.S. through purchases of 747s, GE turbines, and F-16s.
This worked well for America, but wasn't so great for emerging markets, which got hit with a currency crisis about once a generation.
A currency crisis is a brutal economic force that destroys wealth, impoverishes the people, and topples governments. In order to stop this possible calamity, many countries like China linked their currency to the dollar...
The dollar went up, the RMB went up. The currencies traded in lockstep. This is called a dollar peg.
As long as the dollar was solid, the RMB was solid.
End of the Petrodollar
Now the world finds itself in a different situation...
There is a race to the bottom, as central banks attempt to destroy debt by debasing the currency. This is called stimulus, and it is sold as “priming the pump.”
Central banks and their lackeys believe printing money will increase its velocity and “get the country growing again.”
Here at Wealth Daily, we believe you can't spend your way out of a debt crisis. This strategy will stick it to the poor and middle class. Wages will shrivel along with savings, but food and rent will go up.
But judging by voting patterns, that's the way the poor like it. They will get the government they deserve.
China Likes the Value of Money
China is a dictatorship. The country's oligarchs have spent the last thirty years amassing $3.2 trillion in foreign currency reserves by selling cheap crap to the rest of the world. Now that those foreign currencies are being devalued, China is in a conundrum.
Their currency, the RMB, is pegged to the greenback (though it has been drifting higher over the last five years). If the value of the dollar goes down, so does China's currency — which is good, as China can export more cheap crap.
However, if the value of the dollar goes down, that $3.2 trillion in foreign currency reserves they have buried under Mao's tomb would also fall in value.
Moreover, wages and other costs of production (oil, minerals, gold, foodstuff, cotton) will go up, thus ensuring their cheap exports become more expensive.
Global central bank printing is causing inflation in China. This is quite a bind.
What's China to do?
On the one hand, those people with money in China are doing everything they can to get it out. This has created a bubble in real estate values in places like Australia and Canada.
Secondly, China has bypassed the dollar by signing direct currency deals with other countries. There are lots of them, including Brazil, UAE, Australia, Russia, and Turkey.
Chinese companies are also going on a worldwide buying spree for commodities, most recently talking about buying Barrick Gold Corps.' (ABX) African unit.
Zijin Mining Group Co., China's biggest gold miner by market value, said in July it’s looking to buy copper projects in Africa. China’s Minmetals Resources Ltd. (1208) bought Australia’s Anvil Mining Ltd. in March for C$1.3 billion ($1.3 billion) to gain a copper mine in the Democratic Republic of Congo.
The list is long...
China Must Buy Gold
At some point, China has to get rid of the dollar peg. To do this, the RMB must be seen as a valuable, stable asset.
That means China must convert its foreign currency reserves into gold.
China holds a tiny proportion of its official foreign exchange reserves in gold (just 1.6%). They are secretive about their gold holdings, last reporting 1,054 tonnes four years ago.
In 2009, State Council Advisor Ji said a team of experts from Shanghai and Beijing had set up a task force to consider expanding China’s gold reserves. Ji was quoted as saying, "We suggested that China's gold reserves should reach 6,000 tonnes in the next 3-5 years and perhaps 10,000 tonnes in 8-10 years.”
If China wants to increase its reserves to meet its emerging market peers and make the RMB a true global currency, it must buy somewhere between 3,000 and 6,000 tonnes of gold. This assumes that they've added 1,000 or 2,000 tonnes over the past three years. Gold prices have more than doubled over this time period.
But even 3,000 tonnes is more than the current global output — which in 2011 was 2,700 tonnes. And 2012 gold production will likely be lower, due to mining strikes in South Africa...
Since 1995, Christian DeHaemer has specialized in frontier market opportunities. He has traveled extensively and invested in places as varied as Cuba, Mongolia, and Kenya. Chris believes the best way to make money is to get there first with the most. Christian is the founder of Crisis & Opportunity and Managing Director of Wealth Daily. He is also a contributor for Energy & Capital. For more on Christian, see his editor's page.