What China’s Economy Means for Future Gold Values

China Gold Bar Image

Recent data published by the World Gold Council (WGC) once again undermined the fears of gold naysayers, who point to the threat of a Chinese economic collapse, or even pronounced recession, as a major risk to owning the precious metal. In February, the WGC announced that Chinese consumer demand for gold jumped 32% in 2013, despite a continued slowing in its economy. In fact, in 2013, China eclipsed India as the world’s largest gold user.

Gold bears have long forecasted that an inevitable slowdown in China’s economy will shrink their demand for the precious metal and, hence, lower gold prices. But historical data refute that hypothesis. To be sure, China’s GDP has slowed continuously from a 10.4% average annual growth rate in the five years from 1999-2003 to 9.3% in 2004-2008 to 7.8% in 2009-2013, according to the World Bank. But during this time, the WGC reports that China’s consumer gold demand more than tripled from 343.4 tonnes in 1999 to 1,120.1 tonnes in 2013.  Fueling China’s voracious gold consumption, even as overall economic growth decelerated, was an unprecedented expansion of the middle class and an erosion of decades-long restrictions on gold ownership.

The real question for investors is will China’s recent history of gold consumption be an indicator of gold demand in 2014?

Measured analysis suggests it will. Many gold critics subscribe to the theory that China’s debt-fueled growth will unwind only in a crash. They rightly point to excess capacity in residential real estate and construction materials, such as steel and aluminum, and debt-to-GDP that has soared from 144% in 2008 to 215% in 2013. But they blindly underestimate China and its central bank’s ability to engineer a soft landing by devaluing the Yuan to accelerate growth in exports. At 27% of GDP in 2012, exports are a major growth engine in China. The central bank, which maintains tight control over its currency, began aggressively weakening the Yuan in late February. A more attractive exchange rate, coupled with an improving global economy, enhances China’s prospects of exporting its way into a soft landing.

Ironically, barring a complete collapse, the country’s leverage threat may continue to boost China’s gold demand. Rationally, China’s investors and consumers are likely to increasingly look to the safety of gold as a store of value. As the economy has slowed, the equity market has under-performed and the outlook for bonds has grown shaky, leaving few investment alternatives. Moreover, the Chinese view of gold is culturally very different from that of the West. They have traditionally viewed gold as a currency and buy jewelry as an investment as well as an adornment and status symbol. Logic would dictate that this view could only be heightened as the Yuan depreciates.

Finally, as in other parts of the world, gold is also seen as a safe-haven. Events such as recent terrorist attacks in prominent public areas, striking steelworkers demanding higher wages, or the latest political corruption scandal, all threaten to destabilize China’s government. Social media amplifies the threat. It is not hard to see why gold will likely remain the currency of choice for many Chinese citizens.

With gold ownership now available to millions of Chinese citizens, gold demand in China has increased significantly, an indication of its value and stability. Other economic and social events in China have also increased citizens’ trust in gold, an indicator that demand will continue to rise, barring a complete economic collapse. With demand and trust at its highest point, many investors believe now is a great time purchase gold.

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