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Slowing China Has Serious Implications For Gold And Silver

It is no secret that the growing demand for gold and silver from China has been one of the underpinnings of present day prices of precious metals.

Demand from China has been highly correlated with its Gross Domestic Product (GDP).  It is now incontrovertible that growth in China is slowing.  Slower growth in China has serious implications for gold and silver.

Chinese Gold Demand

According to the World Gold Council, in Q1 2012 China’s investment and jewelry demand was 255.2 tons, a 10% increase from Q1 2011. Investment demand grew to a quarterly record of 98.6 tons, an increase of 13% from Q1 2011. 

Jewelry demand was 156.6 tons.  China represents 30% of global jewelry demand.

The following simple statistic demonstrates the power of Chinese buying on gold prices.  In Q1 2012, the total worldwide demand for gold was 1,097.6 tons; the demand from China was about one quarter or 255.2 tons.

Financial Times compiled the data of gold demand from India and China; a chart is shown below.

The pattern from the chart is clear; demand for gold from China has been going up.  Of special note is that the foregoing data does not include purchases by the Central Bank of China.

China Is Slowing

The growth rate of China is of utmost importance to precious metal investors in the long-term because there has been a high correlation between Chinese growth rates and gold demand. Such correlation does not exist in the short-term but only in the long-term.

The Chinese economy has been on a tear.  Economists measure an economy by its GDP.   The GDP is a total measure of the value of goods and services produced by a country.  The chart compiled by The Arora Report from the World Bank data tells the story of phenomenal growth of Chinese GDP over the last two decades.

Economic indicators can be broadly divided into three categories: the lagging indicators, the coincident indicators, and the leading indicators. 

The focus of our research at The Arora Report is leading indicators from 23 countries.  As the name implies, leading indicators provide an early indication of the direction of an economy. 

Examples of such indicators are vendor delivery schedules, hours worked in a week, and new construction permits.   Early last year, when the consensus was that the torrid growth in China was continuing, we were beginning to write that leading indicators were forecasting a slower economy.  By August 2011, we were projecting a dramatic slowdown in the Chinese economy.

Further, in August 2011, we forecasted that the peak growth period of the Chinese economy was behind us.  At that time, our predictions of a slowdown in China were not shared by the vast majority of analysts. After all, the Chinese GDP over the prior two quarters had risen 9.6% over the same period in the prior year according to the National Bureau of Statistics of China.   

Now the lagging economic indicators have caught up to the leading indicators. 

It is now universally accepted that the Chinese economy may grow only by 7.5% - 8%.  Gone are the heady days of 11% growth.

The chart compiled by The Arora Report from the data provided by the National Bureau of Statistics of China clearly shows the picture of slowing growth in China.

Why Chinese Buy Gold

Some of the reasons behind Chinese buying gold are not any different from gold and silver investors in North America.  There has been plenty written on these reasons; therefore, we are avoiding regurgitation of fiat currencies and printing presses. 
Chinese have some additional reasons to buy gold that typically do not apply to North American investors. 

  • Capital Flight Restrictions

    Unlike countries in the western world, it is not easy for an ordinary Chinese citizen to transfer cash out of the country.

    More and more Chinese are becoming concerned about the Chinese miracle of growth.  Capital from the rich is fleeing China.  Lacking the means to transfer capital out of China, ordinary Chinese are resorting to buying gold.

  • Declining Stock Market

    The Chinese stock market has been one of the worst performing in the world.  As Chinese investors disillusioned with the stock market sell stocks, they buy gold and silver with the proceeds.

    Since our analysis shows the peak growth period in the Chinese economy is behind us, the Chinese stock market is now going through an adjustment. 

  • Real Estate Bubble

    Rich Chinese have been protecting themselves against inflation by buying real estate. 

    There is a high probability that the property bubble in China will burst.  The rich buy gold in preparation of a debacle in real estate.  The rich know about ghost cities and empty office buildings.

  • Self Esteem

    A lot of money has been made in China very quickly.  These newly rich Chinese are no different than the newly rich in the western world. 

    Perhaps newly rich do not feel secure or feel the need to display the fact that they have arrived.  One of the means in China to fulfill this need is buying gold jewelry. 

    The difference from the western world is that in China there are a lot more newly rich than in the western world. 

Serious Implications of the Slowdown

There is enough momentum behind Chinese demand for gold and silver that in the short to medium-term slowdown in the Chinese economy is not going to affect the demand for precious metals.

The long-term is another story.  The socioeconomic trend of accumulating gold and silver by the Chinese is likely to peak over the next couple of years.  Typically, the peak in socioeconomic trends occurs about two to three years after the peak in hard economic data. 

The slowdown in China means the following:

  • Lower Surplus

    Going forward, China will generate a lower trade surplus than in the past.  A lower trade surplus means lesser money will flow into the Chinese economy.  Lesser money will mean a declining accumulation of gold and silver.

  • Declining Inflation

    The data from the National Bureau of Statistics of China shows that inflation in China is declining. 

    Since the long-term trend is of slower growth and lower trade surpluses, the long-term inflation trends in China are likely to be declining.  Less inflation means less need to buy precious metals. 

  • Stock Market

    The process in the stock market to adjust for lower growth in the economy is more than half way done.  As the adjustment process is completed, the Chinese stock market once again will begin to offer serious competition to gold and silver.

  • Real Estate

    At this time it is not known if the Chinese government will be able to manage the real estate bubble without a crash.  In either case, after a crash or managed declining prices, sometime over the next two to five years, real estate will once again start competing with precious metals for Chinese investors’ money.

  • Newly Minted Rich

    The pace of China minting new rich Chinese is sharply declining.   Our analysis shows that this trend will accelerate.  In the long run, this is a negative for precious metal prices. 

Gold and Silver Bull Market Is Still Intact

From the perspective of the very long-term investor, the current bull market in gold that started on Sunday, August 15, 1971, is still intact. 

There are plenty of good arguments that call for a continued long-term bull market in the precious metals.  Such arguments are well developed, well understood, and widely known.  There is not much point in repeating such arguments.

The focus of our research at The Arora Report is to uncover change before it becomes evident, even to the experts.  Looking ahead five to ten years, the linear extrapolation into the future of the past buying of precious metals by the Chinese is a grave error in analysis. 

By Nigam Arora,
Chief Investment Officer
Courtesy of www.TheAroraReport.com

Disclaimer: The views expressed in this article are those of the author and may not reflect those of Kitco Metals Inc. The author has made every effort to ensure accuracy of information provided; however, neither Kitco Metals Inc. nor the author can guarantee such accuracy. This article is strictly for informational purposes only. It is not a solicitation to make any exchange in precious metal products, commodities, securities or other financial instruments. Kitco Metals Inc. and the author of this article do not accept culpability for losses and/ or damages arising from the use of this publication.
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