China wants to do what the U.S. has done, which is to remain on a paper currency standard but make that currency important enough in world finance and trade to give China leverage over the behavior of other countries.
The best way to do that is to increase its voting power at the IMF and have the yuan included in the IMF basket for determining the value of the special drawing right. Getting those two things required the approval of the United States because the U.S. has veto power over important changes at the IMF. The U.S. can stand in the way of Chinese ambitions.
China accomplished that last November when the IMF agreed to include the yuan in its basket of currencies. That officially happened just a few days ago, Sept. 30.
The rules of the game also say you need a lot of gold to play, but you don’t recognize the gold or discuss it publicly. Above all, you do not treat gold as money, even though gold has always been money.
The members of the club keep their gold handy just in case, but otherwise, they publicly disparage it and pretend it has no role in the international monetary system. China is expected to do the same. It’s important to note that China will not act in the best interests of gold investors; it will act in the best interests of China.
Right now, China officially does not have enough gold to have a “seat at the table” with other world leaders. Think of global politics as a game of Texas Hold’em.
What do want in a poker game? You want a big pile of chips.
Gold serves as political chips on the world’s financial stage. It doesn’t mean that you automatically have a gold standard, but that the gold you have will give you a voice among major national players sitting at the table.
For example, Russia has one-eighth the gold of the United States. It sounds like they’re a small gold power — but their economy’s only one-eighth as big. So, they have about the right amount of gold for the size of their economy. And Russia has ramped up its gold purchases recently.
The U.S. gold reserve at the market rate is under 3% of GDP. That number varies because the price of gold varies. For Russia, it’s about the same. For Europe, it’s even higher — over 4%.
In China, that number is about 0.7% officially. Unofficially, if you give them credit for having, let’s say, 4,000 tons, it raises them up to the U.S. and Russian level. But they want to actually get higher than that because their economy is still growing, even if it’s at a much lower rate than before.
Here’s the problem: If you took the lid off of gold, ended the price manipulation and let gold find its level, China would be left in the dust. It wouldn’t have enough gold relative to the other countries, and because the price of gold would be skyrocketing, they could never acquire it fast enough. They could never catch up. All the other countries would be on the bus while the Chinese would be off.
When you have this reset, and when everyone sits down around the table, China’s the second largest economy in the world. They have to be on the bus. That’s why the global effort has been to keep the lid on the price of gold through manipulation. I tell people, if I were running the manipulation, I’d be embarrassed because it’s so obvious at this point.
The price is being suppressed until China gets the gold that they need. Once China gets the right amount of gold, then the cap on gold’s price can come off. At that point, it doesn’t matter where gold goes because all the major countries will be in the same boat. As of right now, however, they’re not, so China has though to catch-up.
There is statistical, anecdotal and forensic evidence piling up for this. All of it is very clear. I’ve also spoken to members of Congress, the intelligence community, the defense community and very senior people at the IMF about it.
China is our largest trading partner. It’s the second largest economy in the world. The U.S. would like to maintain the dollar standard.
I’ve described some catastrophic scenarios where the world switches to SDRs or goes to a gold scenario, but at least for the time being, the U.S. would like to maintain a dollar standard. Meanwhile, China feels extremely vulnerable to the dollar. If we devalue the dollar, that’s an enormous loss to them.
That’s why, behind the scenes, the U.S. needs to keep China happy. One way to do that is to let China get the gold. That way, China feels comfortable.
If China has all paper and no gold, and we inflate the paper, they lose. But if they have a mix of paper and gold, and we inflate the paper, they’ll make it up on the gold. So they have to get to that hedged position.
Gold is liquid, but it’s a fairly thin market. If I call JP Morgan and say, “Hey, I want to buy 500 tons of gold,” I can’t do it. That would be a huge order. An order like that has to be worked between countries and central banks behind the scenes.
It’s done at the BIS, the Bank for International Settlements, in Basel, Switzerland. They’re the acknowledged intermediary for gold transactions among major central banks and private commercial banks.
That’s not speculation. It’s in the footnotes of the annual BIS report. I understand it’s geeky, but it’s there. They have to acknowledge that because they actually get audited. Unlike the Fed and unlike Fort Knox, the BIS gets audited, and they have to disclose those kinds of things.
The evidence is there. China is saying, in effect, “We’re not comfortable holding all these dollars unless we can have gold. But if we are transparent about the gold acquisition, the price will go up too quickly. So we need the western powers to keep the lid on the price and help us get the gold, until we reach a hedged position. At that point, maybe we’ll still have a stable dollar.”
The point is that is that there is so much instability in the system with derivatives and leverage that we’re not going to get from here to there. We’re not going to have a happy ending. The system’s going to collapse before we get from here to there. At that point, it’s going to be a mad scramble to get gold.
Gold is still the safest asset, and every investor should have some in their portfolio. The price of gold will go significantly higher in the years ahead. But contrary to what you read in the blogs, gold won’t go higher because China is confronting the U.S. or launching a gold-backed currency.
It will go higher when all central banks, China’s and the U.S.’ included, confront the next global liquidity crisis, worse than the one in 2008, and individual citizens stampede into gold to preserve wealth in a world that has lost confidence in all central banks.
When that happens, physical gold may not be available at all. The time to build your personal gold reserve is now.
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This story originally appeared in the Daily Reckoning