China’s insatiable gold appetite

By: Vincent Tie

The latest data from the Hong Kong Census and Statistics Department showed that China’s gold imports through Hong Kong for August clocked in at 110 tons. Although it was a slight dip from July’s 113 tonnes, it was also the fifth month this year that China imported over a 100 tonnes of gold in a month. This brings China’s total gold imports through Hong Kong alone in the first eight months of 2013 to a staggering 723 tonnes.

If China continues to import gold at over 100 tonnes per month for the rest of the year, she would have imported at least 1,123 tonnes by the end of 2013. In order to grasp the impact of this number, consider that the world gold production in 2012 was about 2,700 tonnes. China’s estimated gold imports in 2013 would account for at least 41% of the world gold production assuming that the 2013 annual gold production level equals that of 2012.

This number is incredible if you consider China’s gold holdings as last announced in 2009 was 1,054 tonnes. There is a high chance that China’s net gold imports through Hong Kong alone this year would surpass its total gold holdings in 2009. And we have yet to factor in China’s gold imports for 2010 to 2012 through Hong Kong.

The figures also exclude China’s domestic gold production and the gold she takes in from Chinese companies’ acquisition of overseas gold mines. In recent years, Chinese companies have acquired gold mines in Australia, Fiji, Kyrgyzstan. Even though there were acquisition attempts that were unsuccessful, China is clearly still on a lookout for new gold mines to buy.

Gold’s price plunge in April 2013 did not stop Chinese producers from buying overseas mining assets. Instead these overseas targets became a bargain. Takeovers and asset purchases in 2013 by Chinese producers rose to a record of $2.24 billion. This figure surpassed the previous record of $1.96 billion set in 2012.

So why is China buying gold mines?

Yi Gang, a deputy Chinese central bank governor, was quoted in a Bloomberg article saying, “If the Chinese government were to buy too much gold, gold prices would surge, a scenario that will hurt Chinese consumers. We can only invest about 1-2 percent of foreign exchange reserves into gold because the market is too small.”

By buying gold mines, China is able to import gold without affecting the international prices of gold. These ounces of gold goes straight into China’s possession without hitting the international markets. While it is true that China is encouraging its citizens to buy gold, China wants to avoid causing gold prices to surge out of consideration for its large amount of reserves that are in US dollar denominated assets such as US government bonds.

In view that the issuers of the major world reserve currencies like the United States, the Eurozone and Japan are struggling with increasing debt, surging gold prices can cause investors to sell these currencies and divert money into gold and other safer assets. This would devalue currencies like the US dollar and therefore undermine the value of China’s reserves.

So why is China buying so much gold?

China is aware of the immense risks of holding US dollars today. The United States would be insolvent had it not had the ability to continue to print up more dollars to pay its debts. Paper currencies are a promise to pay by the governments issuing them. If you review the financial state of an issuer of a currency you are about to accept as payment for the physical goods you send them and it is terrible, you will plan to diversify out of that currency in the long run.

It is no secret today that China intends to internationalise her currency – the renminbi. This means that China wants its trading partners to accept renminbi as payment in their trade. Both parties of the trade would avoid currency exchange risks as compared to using the US dollar. But to convince the world to hold your currency, there has to be a basis.

When the United States emerged victorious from World War II, she held the majority of the world’s gold and was a creditor nation. This gave basis of nations to trust the acceptance of the US dollar as a reserve currency. Today, China is the largest creditor of the United States. What China needs now is to increase her gold holdings to instill confidence by her trading partners to hold the renminbi.

Based on official gold holdings numbers, there is currently a large gap between the United States’ 8,133 tonnes of gold to China’s last reported gold holdings of 1,054 tonnes. China’s insatiable appetite for gold is evidence of their desire to elevate their economic standing in the international community. It is also pointing to the gradual internationalisation of the renminbi and the eventual bypass of the US dollar.