Will China Buy More Gold?

By Patrick A. Heller March 16, 2010

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As China’s National People’s Congress draws to a conclusion this week, one of the subjects to resolve is adopting a plan for the ascendancy of China’s renminbi yuan currency.

At the beginning of the Congress, it was announced that China’s government will be targeting an annual economic growth rate of 8 percent, the rate used for planning since 2004. The Chinese government has taken the position that this growth rate will create sufficient jobs to prevent social unrest in the country.

China already has $2.7 trillion of foreign exchange reserves, the world’s largest hoard. Should economic growth continue, so will the reserves.

A key question for Chinese leaders is whether to allow the yuan to appreciate against other currencies. Doing so would help restructure their domestic economy and rebalance the global economy with a shift towards greater importance for the yuan. It is not out of the question that the Chinese economy may one day displace the United States as the world’s largest, with the yuan bumping the dollar as the major currency held by other central banks.

However, if the yuan appreciates against the U.S. dollar, this will cause the value of the U.S. dollar denominated reserves held by China’s central bank to decline when expressed in terms of yuan. China already owns nearly $1 trillion of U.S. Treasury securities and maybe another trillion in other U.S. dollar-denominated debt. As you can see, it is important for China to establish a policy to try to protect its existing reserves while accommodating the emergence of the yuan as an international currency.

Several Chinese economists and minor officials have stated that China needs substantially greater gold reserves to smooth the transition of the yuan to global pre-eminence.

However, China’s government, as a rule, rarely reveals its policies directly. Typically, such announcements are gleaned from the statements made by minor officials, former officials, or researchers. In such statements, it is typical for the person to say an issue is under study. When you hear the Chinese referring to doing a study, it typically means that the decision has been made and, frequently, the government is already acting on its decision.

A perfect example of that process came to light last spring. The Chinese central bank disclosed that it had acquired a significant quantity of gold reserves from 2003 through 2009, but did not change their reported “actual” central bank gold reserve until then. I had alerted my readers in 2003 that China’s central bank was quietly adding gold reserves, but it took another six years for the information to be officially confirmed. A year ago, I said it was likely that China had already accumulated higher reserves than they then acknowledged.

In 2008, statements attributed to Ji Xiaonan, an official of the Chinese State Council’s state assets commission, said the nation was considering raising its gold reserves from 600 metric tons (19.3 million ounces as officially acknowledged at the time) to 4,600 metric tons (148 million ounces) as a way to mitigate foreign exchange risk. He further said, “China’s gold reserves should reach 6,000 tons (192 million ounces) in the next three to five years and perhaps 10,000 (metric) tons (321 million ounces) in eight to ten years.”

The revelation a year ago that China’s reserves were up to 1,054 tons (34 million ounces) proves that China is adding gold to its reserves. The question is how much and how fast.

An unidentified senior official of the People’s Bank of China stated, “China should formulate a long-term plan and constantly and secretly increase its gold holdings.”

Xia Bin, director of the Financial Research Institute of the Chinese State Council, urged China to continue long-term buying of gold reserves. Higher gold reserves will increase the attractiveness of the yuan as an international reserve currency and stabilize the country’s economic development.

Xia and other Chinese economists also recommended that the Chinese government allow private enterprises to purchase gold on the international market.

Theoretically, the US government’s gold reserves are just over 261 million ounces. If China’s central bank were to continue to acquire 20-40 million ounces of gold per year until it surpassed the U.S. government’s gold holdings, this would absorb 25-50 percent of annual worldwide gold production for the next several years. Add to that the gold being bought by other central banks and that leaves little gold available for private sector manufacturing and investment purposes. In such circumstances, the price of gold would rise several times from current levels.

Other News

On Thursday, March 25, the Commodity Futures Trading Commission will hold hearings on possibly setting trading limits on the U.S. gold and silver commodity markets. Bill Murphy, the chairman of the Gold Anti-Trust Action Committee, Inc., has accepted an invitation to testify at these hearings.

Two days later, on March 27, Bill will be speaking at the American Numismatic Association’s National Money Show in Fort Worth, Texas. His speech is titled, “Why Gold is Going to $3,000-$5,000 per Ounce.” His lecture will be held in Room 103A at the Fort Worth Convention Center, 1201 Houston Street at 1 p.m. For those coming only for this presentation, there will be no admission charge. Non-ANA members wishing to enter the bourse floor to visit hundreds of coin dealers and exhibits will be charged $6 for that purpose (ANA members get in free).

Patrick A. Heller owns Liberty Coin Service in Lansing, Mich., and writes “Liberty’s Outlook,” the company’s monthly newsletter on rare coins and precious metals subjects. Past newsletter issues can be viewed at http://www.libertycoinservice.com. Other commentaries are available at Coin Update (www.coinupdate.com) and Financial Sense University (www.financialsense.com). His periodic radio interviews can be heard on the Korelin Economic Report at http://www.kereport.com.