|
Having just returned from another
visit to China, where I had the opportunity to talk with a number of
“insiders” in the Chinese gold community, I am more convinced
than ever that the country will continue to have a profound influence on the
world market and future price for years to come.
Growth in aggregate demand from
jewelry buyers, private investors, and the People’s Bank of China will
continue to outpace growth in total supply from mine production and secondary
sources. With both domestic supply and demand relatively price inelastic, the
market will require a growing stream of imports, imports that will be
available only at higher prices.
Slower economic growth - even a
“hard landing” with GDP growth well below the official target of
7.5 percent this year - would not likely dent private-sector gold demand.
Instead, an economic slowdown much below the official target would raise
unemployment, prompt unrest among job-seekers, depress equity prices, and
cause anxious investors to buy more gold. In the unlikely event that China
goes down this economic path, we should expect the central bank to respond
quickly with more stimulative - and gold friendly - policies.
Visiting China, one has the feeling
that they are doing a better job managing the macro economy - smoothing the
business cycle and containing inflation - than are policymakers in the United
States or any of the other older industrial nations.
Measures to lower food inflation,
increase wages, curtail real estate investment, promote public works, manage
gradual currency appreciation, and even encourage gold investment as an
alternative to real estate or equities seem likely to produce a softer,
shorter landing.
Moreover, China (unlike the United
States, Western Europe, or Japan) is still in the early stages of a secular
economic expansion that will soften the blow from the short-term cyclical
downturn now unfolding.
Looking beyond the slow-growth
scenario now unfolding, jewelry and investment demand will likely enjoy
continued robust growth over the years ahead, reflecting the rising incomes,
a growing middle class, and a wealthy elite with deep pockets and
ostentatious spending habits.
Longer term, as it prospers and its
share of global income and wealth continues to increase, China will demand a
growing share of the world’s above-ground stock of gold for jewelry,
for investment, and for additions to central bank reserves.
Catching Up
Private gold investment was banned in
China and the local market was tightly controlled for more than five decades
following the Communist Party victory and ascension to power in 1949. Ever
since the legalization of private gold investment and the gradual
liberalization of the market beginning in 2002, China’s appetite for
gold has been growing steadily year after year - reflecting both pent-up
demand and rising prosperity.
The government’s continuing
liberalization of the domestic market, its support for new channels of
distribution, its orderly regulation of spot and futures markets, and its
encouragement of private gold investment have contributed to the
country’s rise to prominence in the world of gold.
In recent years, China’s
central bank, the People’s Bank of China, has also been a significant
buyer. Three years ago - in April 2009 - the PBOC revealed it had bought some
454 tons of gold over the preceding six years, an average of about 75 tons
per year.
Since then there has been no hard
evidence of additional buying . . . but my guess is that the PBOC continues
to buy regularly from domestic mine production and scrap refinery output -
perhaps as much as 50 to 100 tons or more per year. For its part, the PBOC
not long ago said it will “seek diversification in the management of
reserve assets,” possibly signaling their intention to accumulate gold
without actually saying so.
As a result of China’s sizable
appetite for gold, it has become a powerful driving force in the world gold
market - and its influence on the future price of gold is likely to grow in
the next few years reflecting demographics, economic growth and rising
personal incomes, episodes of worrisome inflation, the continuing development
of the domestic gold-market infrastructure, and, importantly, continuing
central bank reserve diversification.
China’s Gold
Statistics
For several years now I have
expressed the view that China’s actual annual gold-mine production,
jewelry consumption and investment, imports, and central bank accumulation
have each been running considerably higher than generally believed or publicly
acknowledged - see my December
2009 speech to the annual China Gold and Silver Summit.
To begin with, China’s total
gold supply from domestic mine production and other sources is probably much
higher than reported or discussed by analysts and observers of the Chinese
gold scene. Actual gold-mine production - and supplies from other sources -
could easily be close to 400 tons and possibly much more. Here’s why:
My understanding is that the
mine-production numbers from the China Gold Association (CGA) include mine
output by their members only - but not non-members such as many small,
rudimentary, unofficial mines operating in the “underground
economy.”
The CGA data also excludes production
from mines owned and operated by the military as well as by-product output
from the country’s copper, silver, and other metal-mining activities.
Also missing from the CGA reports are
the very significant quantities of gold contained in copper and
precious-metals bearing concentrates imported from abroad but processed by
Chinese smelters and refiners.
In addition to these unreported
sources of mine supply, many analysts and commentators seem to forget about
secondary supply - that is metal returning to the market from the recycling
of old jewelry, investment bars, and industrial scrap. This alone could
easily contribute 30 to 40 tons - and quite possibly much more - to total
annual supply in the Chinese gold market.
Next, what else can we say about
China’s gold imports? Western analysts estimate China’s total
gold imports last year were around 490 tons - but there is little mention of
“illegal” imports - that is gold smuggled into China. We know
smuggling is quite significant in some countries - Vietnam and India, for
example. We can only imagine how many tons of gold in the form of tael bars,
wafers, coins, investment-grade jewelry, etc. is carried into China each year
by travelers and professional smugglers.
What about net central bank purchases
and total official reserves held by the People’s Bank of China?
Don’t expect an announcement of their buying program anytime soon.
After all, an announcement could boost the yellow metal’s price and
raise the PBOC’s acquisition costs.
Nevertheless, it is reasonable to
conclude that the Chinese government may be squirreling away perhaps 50 to
100 tons a year into accounts that will eventually be included in the
country’s reported official reserve figures - and one day in the future
we should not be surprised to see an announcement that actual official gold
reserves are considerably higher.
What Goes In,
Won’t Come Out
Continuing Chinese gold accumulation
has important long-term significance that is not generally acknowledged by
many gold analysts and market pundits. Simply put, China’s private- and
official-sector gold purchases are unlikely to be sold back to the world
market any time soon, certainly not for many years to come and not even at
much higher prices.
Not only are gold exports from China
illegal - but many, if not most, Chinese savers and investors buy gold with
no intention of selling sometime in the future just because prices rise,
inflation subsides, equity prices tumble, or any of the other drivers that
might typically trigger sales by Western investors.
For the Chinese, these are long-term,
quasi-permanent holdings - removed from available supply or what I call
“free float” available to satisfy future physical demand in the
world gold market.
Jeffrey Nichols
NicholsonGold.com
|
