What Is China's True Gold Demand?

In response to a question posted here.
Any thoughts on what to make of the HK-Mainland gold trade figures? Reliable or questionable like all other statistics coming out of China? Part of some trade financing scheme or other?

I was just thinking about this topic after listening to this interview with Alasdair Macleod: China's Demand for Gold Has Trapped The West's Central Banks

And as regards China, I find it absolutely extraordinary that everybody is in denial. They seem to think that China's demand has only just overtaken India's at about a thousand tons a year. I've recently reworked these figures and I find it's nearly five times as much. I've identified 4,843 tons of demand in 2013, which is a staggering figure and it's so far adrift from what the analysts and the big banks are talking about as to—I mean are they giving disinformation or am I missing something?

Chris Martenson: Well, let's talk about how you got that information because that's critical, 4,800 tons is an extraordinary number. It's just, it's mind boggling. So how did you get that, knowing that gold information is hard to come by. The Shanghai Gold Exchange no longer prints in English as far I've been able to determine. So you need some translation skills there to read what's going on. So where do you get your data and how much confidence do you have in it?

In sum, he thinks the number show Chinese gold demand much higher than it is. My concern is the import numbers. Last year, I wrote How Fake Exports Caused The Yuan Rally. Since then more information has come out on how Chinese use fake exports to get around capital controls. Gold is popular for that since it has a high price to weight ratio.

Here is the FT in June 2013: An unwind in the great Chinese over-invoicing carry-trade?

This part is a quote from a Deutsche Bank analyst Bilal Hafeetz:
Perhaps, the most popular approach of late has been for companies to disguise the CNY/USD carry trade as a trade flow by overinvoicing exports. The full mechanics are described in the appendix, but the essence is for Chinese companies to trade high value- commodities or electronic goods between China and HK, often overstating their value when “exporting” them. Often the goods used never leave the shores of China.They stay in bonded areas where they count as exports, but fail to be recorded as imports in HK (see Figure 3). The scale of this trade can be estimated by looking at the gap between Chinese exports to HK and HK imports from China (see Figure 4). There has been a surge in such activity over the past year, precisely when the carry turned positive. Imports have also been affected by this trade primarily through financing deals that use commodities as a tool to capture the interest rate differential.

The core mechanics:
An onshore corporate obtains USD funding from a bank to import a good held in one of China’s tax-free bonded zones

The corporate exports the good to its offshore subsidiary in Hong Kong. The good does not physically leave the bonded warehouse and is thus not recorded as an import in HK. The exported value can be inflated relative to its imported value if extra funds are to be channeled in. The goods which appear to have been used for this trade include metals like copper and gold as well as electrical machinery. These goods are both more economical to store given high value-to-densities, and their values can be more easily manipulated.

The offshore subsidiary sells the bonded copper back to the supplier and obtains USD. The subsidiary buys RMB at the offshore USD/CNH rate and sends RMB to its onshore parent as payment.

The onshore corporate deposits the RMB in an onshore bank account or a WMP earning a higher CNY yield than it is paying on the USD funding.

The USD funding is rolled, and the trade on the back of the same underlying good can occur multiple times.
China cracked down on this behavior last May though, so it shouldn't be a major factor in recent figures.

Going back to what Macleod is saying:
Alasdair Macleod: No, you have to net it out. I mean essentially you've got three sets of figures in Hong Kong. You have got the exports to China in sort of jewelry form or whatever, that doesn't go into the Shanghai Gold Exchange. You've got the re-exports which go into the Shanghai Gold Exchange. But you have also got to net out imports which come from China into Hong Kong because Hong Kong is a great jewelry processing center. It also has vaulting arrangements. Now, I don't know how much of it is jewelry and how much of it is vaulting. But what we do know is that there is no taxes on jewelry purchased in Hong Kong. So what happens is the people in the mainland do a day trip into Hong Kong, they shop for their jewelry, and then they go back. And that way they save themselves tax on jewelry. So quite a lot of—I think it's something like a net three hundred tons off the top of my head—of what came in last year has actually been bought by Chinese citizens and then walked back into the mainland. So those are the variables which we're playing with.

He posted his latest research: Renewed estimates of Chinese gold demand.

The original was from earlier in the year: China’s gold demand

There is also this site which covers the Chinese gold market in detail: IN GOLD WE TRUST

Here is a recent post where he disagrees with Macleod: SGE Withdrawals Equal Chinese Gold Demand, Part 3
On April 4, 2014 Alasdair Macleod published an extensive analysis on the Chinese gold market. I felt obligated to respond to it by sharing my point of view and explain where I disagree with his analysis. I think his estimates are largely overstated because he double counts certain demand categories. He states Chinese gold demand in 2013 was 4843 metric tonnes, according to me it was 2197 metric tonnes (my estimate excludes some hidden demand and PBOC purchases on which I have no hard numbers). Setting out our differences was incidentally a good occasion for me to write another in-depth analysis on the Chinese gold market.

I highly respect Macleod, who was probably working in finance when I was in diapers, and I’m very grateful he has been using my findings about SGE withdrawals and the structure of the Chinese gold market. I see very little commentators stepping into this realm, though it’s truly the most important economic event happening in our time. Having said that, my concern is the accuracy of the data being spread. I present my analysis:

I haven't gone through all the numbers yet, but it is there for those interested and that is the most in depth coverage I have seen.

Even without inflated numbers, Chinese gold demand is huge. If the higher numbers are even partially true, gold is very undervalued. If the numbers are 100% wrong, Chinese gold demand might fall if there's a major economic crisis and the yuan stays flat or appreciates enough against gold to kill investment demand. Rising income alone will push up demand for jewelry and investment assets.

Gold is easier to buy than foreign currency in China. I can walk into the local bank here and walk out with gold bars. Or go to a gold shop and buy as much gold as I want. If Chinese nationals want to obtain foreign currency, they need to give the bank a reason and they are limited in how much they can buy.

If the renminbi devalues, if the price of gold in yuan increases, gold will see an increase in investment demand.

China encourages gold consumption by the public. One seldom discussed reason is that gold imports reduce China's trade deficit with the world. The main reason often given for the encouragement of gold investment is that China can control how much gold leaves China. Therefore, China's central bank can consider all gold in the country as potential reserves. At any time, they could declare that all gold held in gold accounts, for example, will be purchased by the PBOC.

Chinese financing schemes, if they used gold, probably reused the same gold over and over. So the actual metal involved is smaller than reported. Second, per above, that gold won't hit the international market. Banks will take paper losses and keep the physical metal if they repo the assets, or they will make their way to new owners inside of China. That might lessen demand for a time, except that if this occurs as part of a financial crisis, odds are demand for gold will be increasing. Even in the worst case scenario of a large amount of gold hitting the market and driving down prices, Chinese would probably use it as a buying opportunity.

I see the demand in China, in person and in the news. The demand is real, whatever the actual number that demand represents. Gold is clearly a hedge against the PBOC's vast Treasury holdings and gold is also free from outside political control.


  1. ZH has another article today on Chinese gold demand and secrecy. It reminds me of the story of how Walt Disney compiled the land in Flrodia to build his new Disney World - he used many different anonymous holding companies and had different lawyers represent the companies. He aggregated the land anonymously to avoid price hikes and holdouts if anyone were to figure out that such a big whale was buying.

    Rickards is of the opinion that the West is manipulating the price down to give China a chance to top up its gold reserves to a level that is comparable to the USA's as a percent of GDP. Once that is reached they will then all sit down at the bargaining table and hammer out a new global monetary policy (one which hopefully is less absurd than the current one).

  2. China Goes Dark: PBOC To Keep Goldbugs Clueless About Its Gold Buying Spree. Maybe China will have an equal reserve level in their central bank, but I view all of the gold in the Chinese banking system and gold retailers (at many shops you can buy investment gold stored at company vaults) as potential reserves because it can be easily nationalized. Rickards has said in a crisis, the U.S. might do the same with all the foreign gold it holds. Everyone, in China and America, would be paid fairly, but the physical within the system (not bars and coins held outside of it) would fall into the control of the central government.

    Rickards is the only one I've seen who makes the argument from the standpoint of the U.S. governments. I doubt the U.S. lent all the physical gold away (instead of lending paper gold) because as Rickards pointed out, if most of it is in Fort Knox and another amount at West Point, the U.S. government clearly thinks gold is worth having and protecting.

    He also makes a good case for the SDR being the next step because of the wants and needs of various governments. I don't see how the IMF could manage it without some type of political control though. There's too much incentive for a country to inflate faster than the SDR basket and buy SDRs with the newly printed money. On the other side, no one with a strong currency will want to hold SDRs as a reserve asset. It is ultimately a fiat currency backed by a basket of fiat currency. It doubles down on the failures of the current system. The politics of it alone will make the SDR the League of Nation of currencies.