As market opened early Wednesday this week, a quiet surprise sprung off the markets when China, the world’s top gold consumer, launched a yuan-denominated gold benchmark.
What does this mean?
To put it simply, this means China’s previous talks since the last year, with the Chicago Mercantile Exchange Group (CME) to set a deal to see Shanghai Gold Exchange (SGE) listed on the respective exchanges, will finally come to fruition.
China’s Ultimate Goal
The ultimate goal for China is to increase its influence in both the global commodities and currency markets while competing via the Yuan against the U.S. dollar. Reuters dubbed China’s endeavor as “an ambitious step to exert more control over the pricing of the metal and boost its influence in the global bullion market.” It didn’t come out as a surprise as China has been known to have hoarded Gold for years. In 2013, China overtook India as the world’s largest gold consumer thanks to soaring purchases of jewelry, minted Panda coins, and small gold bars.
All of what China has been trying to do till date, until it finally resorted to its local-currency-based gold fixing boils down to only one thing; a long-awaited plan to move away from a US-centric monetary system as quickly as possible whilst turning the current threats in its economy into opportunities to ‘bounce-back’ in a form of a global take over.
Significant changes to expect
There are two important consequences one should pay attention to while the Chinese are gaining the control over Gold through its’ Yuan:
- Firstly, we may know very little about this, but the current unregulated London market will change into a partially regulated market which will limit the play of price manipulations.
- Secondly, major Chinese state-owned banks could potentially dominate London’s physical market by bypassing current fixing banks.
Is there a Currency War at play?
Once China comes into trading Gold in renminbi, it will be able to indirectly but surely help the process of ‘devaluing’ the US dollar or even reduce Dollar’s dominance over the markets. Could this be classified as a subtle but a probable Currency War?
The mechanics of a planned currency war may be not only a much heated-up topic nowadays, but may have already taken the center stage with one of its major player- China. How you may ask?
Well, firstly let us just understand that the initial step in an effort to trigger a ‘Currency War’ is to debase its’ own currency, which China has already done. The evidence of this lies in what had been happening since this January when the People’s Bank Of China (PBOC) facilitated the yuan’s biggest fall in five months by setting the official midpoint rate on the yuan 0.5 percent weaker at 6.5646 per dollar, the lowest since March 2011.
China’s eyes on Commodities
Additionally, China seemed to have always kept an eye on the three USD-based commodities like Gold, Silver and Oil with keen interests in gaining control as much as possible over these markets.
As of yesterday, it’s been announced that due to the biggest buying spree by China’s Gold miners in four years, this may be the reason for asset prices to have surged from Australia to the U.S.
China’s Gold strategy
One of the most important things to understand about China’s gold strategy is that China sees gold as a hedge against the financial system and the reserve holdings that they rightfully own till date.
That also means that the Chinese prefer to park some of their Gold overseas, but they would also like to own the Vault that stores them.
So, by controlling the vaults, the Chinese will be able to control the gold settlement system. This, in essence, allows them to access control to the gold future trading, which at the end of the day, the core pricing mechanism for Gold.
China’s lesson learnt from history
A lot can be learnt from either history or past economic crisis. As an example, the Chinese experienced hyperinflation in the late 1940s causing monetary unrest, when the Chinese Communist Party (CCP) could only gain control during the period of chaos. So the times of crisis, causing economic as well as political unrest, are the times when the CCP has learnt the importance of controlling the root cause – ‘the undermining of Trusts in the system and the country.’ The loss of trusts by its people has been equalized to the loss of power by the Chinese Communist Party.
In today’s global economic sense, the Chinese authorities concluded that their utmost priority is avoiding a collapse of trust in its paper currency system. Hence the reason, in theory, the Chinese may be quite scared of big moves in financial markets, so they feel the need to control the financial and currency markets which is why gold is so important to the Chinese. It’s all about staying in power and not losing the control over its people.
The Chinese also learnt from Russia’s recovery after the 1998 financial crisis, which China managed to benefit from. China was witty enough to set up a trading bloc in partnership with Russia as a replacement to Western Export Markets, and this plan gave birth to the Shanghai Cooperation Organization (SCO) in 2001.
The SCO was established to meet the increasing demand by Chinese citizens for Gold, which was the first time for citizens to buy Gold at the time.
The Shanghai Cooperation Organization (SCO) is one of the most important achievements of China. It encompasses over 50% of the global population and over 70% of the natural resources on this planet. The Shanghai Cooperation Organization, or SCO, is a Eurasian bloc of energy producing, consuming, and transit nations with four nuclear powers (possibly five including Iran).
It began as the Shanghai Five in 1996 to solve border disputes and consolidated into the SCO in 2001 with an ever-expanding mandate into the realms of regional security, terrorism, energy, economics, and increasing joint military exercises. Its members are China, Russia, Kazakhstan, Kyrgyzstan, Tajikistan and Uzbekistan; observer states are Iran, Pakistan, India and Mongolia; and dialogue partners are Belarus and Sri Lanka.
Here we should be asking whether China’s plan of market dominance has more of a political agenda than of an economic one.
No more SWIFT for the Chinese
In addition to the intentions of larger control over Gold and commodities globally, China has also developed their own ‘money transfer system’ known as the CIPS, which stands for China International Payment System. This payment system replaces globally renowned western transfer system, the SWIFT, which stands for the Society for Worldwide Interbank Financial Telecommunication that currently operates in 215 countries while used by over 10,000 financial institutions.
The CIPS is no longer a new thing since it has already been incorporated into trading and monetary exchange within China and Russia in addition to the BRICS countries like Brazil, India, and South Africa. However, the actual large scale launch of the CIPS is said to take place as early as September 2016.
The Chinese are most likely to plan something really elegant within its internal financial system by using gold as the most dominant part of the system. It looks to me; there is a possibility of mutual understanding with the International Monetary Fund (IMF). If the total holding funds of the United States, China & the European Union are pooled and once it reaches a specific agreed amount in tons, then this could justify the Special Drawing Rights reserve basket (SDR) to be gold-backed.
The Chinese believe that by bringing gold back into the system, it could potentially put trust into the monetary system while helping to avoid hyperinflation and creating a golden foundation for the SDR.
Additionally, Chinese may even have a ‘secretive or unforeseen’ mutual understanding with the United States and the IMF by agreeing on some of the Chinese gold holdings to remain in the United States but to be stored in a vault which is Chinese owned. Whatever it is that may come to our surprise from what the Chinese are thinking or planning on doing, one thing maybe clear as crystal; the Chinese have always wanted to add gold to the International Monetary System, so we could end up using a gold-linked SDR in the future.
- China’s Global Gold Strategy / Seeking Alpha
The new London gold fix and China / GoldMoney
- China’s Gold Hunger Means Beijing’s Global Financial Power / Investorintel
The Yuan Gold Fix – almost here! / Stockbridgemgm