As we are approaching the moment the PBOC unveils they have more physical gold in reserve than what has been disclosed since 2009, 1054 tonnes, we will again analyze everything there is to find about PBOC gold purchases. Grasping the exact size of their current official gold reserves is unfortunately impossible, but if we understand why, “not-knowing” actually forms a piece of the puzzle. The purpose of this post is to get an overview of all data and clues in order to separate the facts from speculation. From there we’ll estimate how much above ground gold is held in China mainland – official (PBOC) and private reserves.
I have been writing for a long time the PBOC does not buy any gold trough the Shanghai Gold Exchange (SGE), therefor PBOC purchases must be seen in addition to the flows of gold going through the famous bourse in Shanghai. However, I deem it necessary to contemplate this assumption one more time. I’ll tell you what I know and what I think.
We have a fairly good view on how much gold is going through the SGE and is net imported into China, after which it’s not allowed to be exported and thus is accumulated in the mainland (read this post for an analysis on Chinese gold trade rules). By adding domestic mine supply we can estimate how much gold is held in reserves by the Chinese. But, are any of these visible gold flows bought by the PBOC? If not, how much does the PBOC buy abroad in addition to the visible flows we see entering China mainland through the SGE? These questions are the springboard for our investigation.
Please make sure you have read this post, about the basic mechanics of the Chinese gold market with the SGE at its core, before you continue.
Why The PBOC Would Not Buy Gold Through The SGE
1) The get a better grip on this subject it helps if we understand why the PBOC would buy gold in the first place, so let’s sum up all possible incentives. The main objectives for the PBOC to accumulate gold are:
- Supporting the renminbi for its internationalization (adding trust and credibility).
- Owning hard currency as the cornerstone of capitalism.
- Owning reserves that protect the Chinese economy from external/internal shocks and inflation.
- Owning reserves that are not controlled by a foreign nation (the US).
- Diversifying its excessively large US dollar (USD) reserves.
- Hedge their USD reserves.
- Overthrow the USD hegemony.
After reading this list it should be clear the PBOC rather buys gold with their foreign exchange reserves than with renminbi – China’s FX reserves are worth about $3.7 trillion and mostly held in USD. The amount of gold currently on the PBOC’s balance sheet is disproportionate to the amount of USD held. Hence, the PBOC needs to exchange USD for gold (less USD, more gold). All gold on the SGE is quoted in renminbi, meaning the PBOC can’t exchange USD with gold through the SGE. Therefor, they are more likely to buy gold abroad and these purchases should be added to the visible gold flows we see entering the mainland through the SGE – later on we’ll do some number crunching.
2) It should be said the SGE is a subsidiary of the PBOC. In 2002 China’s central bank created the SGE for the domestic Chinese gold market, for the people to trade gold in renminbi. Gold bar sizes available on the SGE vary from 50 gram to 12.5 Kg, though the volume of 12.5 Kg contracts (Au99.5 and iAu99.5) ever traded is close to nil. Only the 50g, 100g, 1 Kg and 3 Kg bars are traded, which are consumer sizes. This is a sign the PBOC is not likely to be buying gold through the SGE (gold in larger denominations such as 12.5 Kg bars is cheaper and more attractive for buyers such as the PBOC).
3) The reason we don’t know how much Chinese official gold reserves are is because this is the best kept secret in China. The PBOC buys gold in utmost secret or it would influence the market and geo-politics. If we think from the PBOC’s strategy, why would they leave a single trace when buying gold? Why would the PBOC buy any gold through the SGE for the world to see? I think they wouldn’t.
4) Furthermore, why would any gold we can see being exported by Hong Kong, the UK, Switzerland, Australia or Singapore to China mainland be destined for the PBOC? All gold (bullion) trade on planet earth that is visible (that shows up in customs reports) is classified as non-monetary (usually HS code 7108.1100, 7108.1200, 7108.1310 or 7108.1380). Monetary gold is not published in customs reports (HS code 7108.2000, which captures data that is not publically disclosed). I don’t see it likely the PBOC would insist exporting countries to disclose the gold as non-monetary trade, for the world to see, while it can easily be hidden as monetary trade. Therefor, all visible gold exports to China are not PBOC purchases in my opinion.
To illustrate the difference between monetary gold and non-monetary gold trade let’s have a look at the UK. Data about all gold traded in and out of the UK – the London Bullion Market – was not publically available a few years ago. UK customs (HMRC) told me in 2014 all gold import and export used to be hidden under HS code 7108.2000 (monetary). They wrote me:
For trade prior to 2014, the UK had a long standing exemption from the International reporting requirements for gold. This means that gold held as a ‘store of wealth’ had not been recorded as trade in goods. It had previously been classified as monetary gold, which is excluded from trade in goods as per international guidelines.
In order to bring the UK recording of non-monetary gold in line with international standards and legislation, the majority of the UK trade originally classified in the monetary gold commodity code (7108.2000) was reclassified as non-monetary gold. All that Monetary gold re-classified as Non-Monetary gold was put into the comcode [HS] 7108.1310. This was for the period 2005 to 2013 and allows better comparability with the statistics produced by other countries.
Switzerland enjoyed the same long standing exemption from International reporting. Hence, I think in any country gold trade can be disclosed in customs reports under HS code 7108.xxxx if no one is making a fuss, or it can be hidden under HS code 7108.2000.
The PBOC (or its proxies like SAFE and CIC) is likely to buy bullion from places like the UK, US, Switzerland, Hong Kong or Singapore; the big gold hubs. Possibly, gold has at some point been imported into one of these countries, and disclosed in their respective customs reports as such, after which it was exported to China, without being disclosed in any customs reports. Let’s take Hong Kong for example. Since January 2013 Hong Kong has net imported 836 tonnes of gold, illustrated in the charts below.
Some of this gold could have been visibly (non-monetary trade) imported into Hong Kong, and then invisibly (monetary trade) exported to PBOC vaults in the mainland. Resulting in less residual gold present in Hong Kong than data from the local Census Department indicates.
5) The majority of global gold trade (total volume) is done through the London Bullion Market. This is not a central exchange like the COMEX, but an Over The Counter (OTC) market where buyers and sellers connect (electronically) one on one to trade gold without nosy analysts taking notes. Gold traded can be Loco London – located in London – or elsewhere. The London Bullion Market is ideal for the PBOC, as opposed to the SGE. I don’t rule out there is gold invisibly exported from the UK as well.
6) Another reason for the PBOC to buy abroad would be because it’s cheaper. Gold on the SGE often attracts a premium over London spot. Why pay a premium? (Especially, if one is buying large quantities.)
7) Gold industry expert Jim Rickards has written in The Death Of Money (2014):
A senior manager of G4S, one of the world’s leading secure logistics firms, recently revealed to a gold industry executive that he had personally transported gold into China by land through central Asian mountain passes at the head of a column of People’s Liberation Army tanks and armored transport vehicles. This gold was in the form of the 400- ounce “good delivery” bars favored by central banks rather than the smaller one- kilo bars imported through regular channels and favored by retail investors.
This is very interesting. Not only because it demonstrates the PBOC prefers 400 ounce (12.5 Kg) bars over 1 Kg bars, but more so because it confirms the PBOC does not import gold through visible channels. This strengthens my assumption the PBOC does not buy any gold through the SGE. Note, all visible import (general trade) is required to be sold through the SGE in China.
8) On the LBMA Bullion Market Forum in Singapore on 25 June, 2014, a speech was delivered by Xu Luode, Chairman of the Shanghai Gold Exchange. Let’s have a look at a snippet:
Last year, China imported 1,540 tonnes of gold. Such imports, together with the 430 tonnes of gold we produced ourselves, means that we have, in effect, supplied approximately 2,000 tonnes of gold last year.
The 2,000 tonnes of gold were consumed by consumers in China. Of course, we all know that the Chinese ‘dama’ [middle-aged women] accounts for a significant proportion in purchasing gold. So last year, our gold exchange’s inventory reduced by nearly 2,200 tonnes, of which 200 tonnes was recycled gold.
Xu mentions the amount of gold imported into China mainland in 2013 (1,540 tonnes). Would Xu be allowed to break China’s best kept secret on an LBMA forum? Would any of these imports end up at the PBOC? I don’t think so. Moreover, Xu explicitly says all imports and mine output (and scrap supply) has been sold through the SGE system to consumers, not the PBOC.
Economic person of the year 2011 in China, Sun Zhaoxue, who was also the President of the China Gold Association and General Manager of the China National Gold Group Corporation, wrote in August 2012:
Individual investment demand is an important component of China’s gold reserve system, we should encourage individual investment demand for gold. Practice shows that gold possession by citizens is an effective supplement to national reserves and is very important to national financial security.
Sun makes a clear distinction between consumer purchases (SGE flows) and “national reserves”.
9) When examining SGE gold purchases, by withdrawals from SGE designated vaults, we can depict a seasonal trend of strong demand around New Year (and in April 2013 when the price of gold made its famous nosedive). The Chinese typically buy gold in this period as gifts for each other. Does this trend look like PBOC activity?
10) Though at first the WGC thought the PBOC would buy gold through the SGE, last thing I read from them on China they seemed to have to have changed their stance (Understanding China’s gold market, July 2014):
China’s authorities have a range of options when purchasing gold. They may acquire some of the gold which flows into China; there has been no shortage of that. But there are reasons why they may prefer to buy gold on international markets: gold sold on the SGE is priced in yuan and prospective buyers – for example, the PBoC with large multi-currency reserves – may rather use US dollars than purchasing domestically-priced gold. The international market would have a lot more liquidity too.
11) For what it’s worth, I have two sources in the mainland, including a teacher in ‘economics and the gold market’ at the Henan University of Economics and Law in Zhengzhou City, that both tell me the PBOC would not buy gold through the SGE.
12) Last but not least, the SGE President of the Transaction Department confirmed to Na Liu from CNC Asset Management Ltd. the PBOC does not buy any gold through the SGE. Na Liu wrote in a report about 2013 SGE withdrawals:
…none of the 2,200 tonnes of gold was bought by the Chinese central bank. The President said: “The PBOC does not buy gold through the SGE.”
Why The PBOC Buys Gold Through The SGE
1) There are also arguments the PBOC does buy gold through the SGE. For example, in the previous chart we can see SGE customers are very keen on buying the dips. Is this buying pattern caused by clever consumers or is the PBOC perhaps in play here? (My response would be, currently the SGE has 8,358 institutional customers – and 7.33 million individual customers, I believe these buyers can perfectly be responsible for the buying pattern we see on the SGE with regard to withdrawals in relation to the price of gold.)
2) More important is a lot of metal on the balance sheets of Chinese banks. Although the annual reports of the banks do rarely specify these holdings other than “precious metals”, presumably they can be gold, silver, platinum, gold savings accounts, gold swaps, leases, pledges and derivatives. MacQuarie bank has estimated by the end of 2014 approximately 1,800 tonnes of gold was spread over all Chinese banks’ balance sheets. Though unclear what kind of gold we’re actually talking about, I’m positive all this gold has at some point been through the SGE system and therefor belongs to the visible gold flows. I will research the banks balance sheet topic extensively for a separate post, for now let’s be open minded to the possibility some of this gold can be added to the PBOC balance sheet in the future. Song Xin, President of the China Gold Association, General Manager of the China National Gold Group Corporation and Party Secretary, wrote I an opinion editorial in July 2014:
Establish a Gold bank. We need to establish our gold bank as soon as possible, and enable it to break the barrier between the commodity and monetary world. It can further help us acquire reserves and give us more say and control in the gold market. It may be guided under the PBOC and led by the China Gold Association, involving leading gold industry companies and commercial banks, and it’s business would include: gold pricing (fix), gold financing and leasing, gold-guaranteed payments, gold saving accounts, gold lending, gold production chain financing and issuance and trading of paper gold and other gold investments. This gold bank can then naturally use market-oriented methods to change commodity gold into monetary gold reserves, thus help us increase our strategic gold reserves.
3) Probably the most significant reason people think the PBOC buys gold through the SGE is the huge gap between SGE withdrawals and consumer demand as reported by the World Gold Council (WGC). Let’s have a look at this gap in a chart.
As you can see there is an immense gap between the purple bars (WGC demand) and the red bars (SGE withdrawals). Possibly some of this gold has been moved to PBOC vaults.
I’ve extensively been writing on these pages “the gap” was not filled by PBOC purchases - for a lot of reasons. I’ll let go of this analysis here, simply to be able to present all pros and cons.
4) There are periods in which gold on the SGE (Au99.99) trades at a discount to London/NY spot. When the price in China is lower than in the UK this means there is more supply in Shanghai than in London. Gold is currently not allowed by the PBOC to be exported from the mainland; for foreigners the gold in China can’t be physically moved out of the mainland in general trade (however, I think there is possibility for SGEI members to arbitrage an SGE discount, that is to buy Au99.99 (long) and at the same time hedge on the COMEX (short) when the discount has narrowed close all positions and strike a profit).
In the periods of persistent discounts on the SGE – i.e. March 2014 – withdrawals remain relatively high. Is the PBOC buying the discounted gold to take possession and support SGE trading?
I shall rest here. For all pros and cons we think of many counter arguments, it’s an endless story. The purpose of the listed arguments is to provide you with as much information about the Chinese gold market and PBOC purchases as possible.
Does The PBOC Buy Gold?
Do we know the PBOC buys gold at all? Yes, Jim Rickards’ story illustrates what goes on behind the scenes – gold is imported from central Asia – and his writings are certainly not all we have. I’ll briefly present a few clues, after which we’ll try to make some sense of it all.
1) From a study by Zhang Bingnan, Vice President of the China Gold Association, (August 2012):
Forecast the optimal gold reserve capacity in the next 20 years. The conclusion is: 2020, China’s gold optimal reserves should be 5,787 tonnes – 6,750 tonnes. 2030 should be 8,995 tonnes – 10,532 tonnes.
2) Yi Gang, deputy Chinese central bank governor, stated (March 2013):
We will always keep gold in mind as an option in reserve assets and investments. We are able to import 500-600 tons a year, or more, but we will also take into consideration a stable gold market. If the Chinese government were to buy too much gold, gold prices would surge, a scenario that will hurt Chinese consumers. We can only invest about 1-2 percent of the foreign exchange reserves into gold because the market is too small.
3) From Song Xin, President of the China Gold Association, (July 2014):
That is why, in order for gold to fulfill its destined mission, we must raise our [official] gold holdings a great deal, and do so with a solid plan. Step one should take us to the 4,000 tonnes mark, more than Germany and become number two in the world, next, we should increase step by step towards 8,500 tonnes, more than the US.
4) Deutsche Bank Markets Research (November 2014):
In another example, the Chinese government’s open market purchases of roughly 500 tonnes per year have not prevented the gold price from plummeting in recent years.
5) Roland Wang, World Gold Council China Managing Director, said (March 26, 2015):
China currently holds about 1.6 percent of its foreign exchange reserves in gold, which is relatively low compared with developed countries and some developing countries, WGC China managing director Roland Wang said.
“The ideal amount should be at least 5 percent of its total forex reserves,” Wang told Reuters in an interview in Hong Kong.
Gold accounts for only 1.6 percent of China’s forex reserves. This is only a fraction of the figure in the United States and many other developed countries. If China ever increased the level to 5 percent, it would have an enormous impact on global demand for gold.
Funny enough, Li mentions the exact same numbers as Wang from the World Gold Council on the same day: 1.6 % and 5 % of total FX reserves. If China would announce they hold 5 % of total reserves in gold, this would translate into roughly 5,000 tonnes.
6) Jeremy East, Managing Director Global Head, Metals Trading, Standard Chartered Bank (June 25, 2014):
I was at the Shanghai Derivatives Forum at the end of May and one of the speakers was a representative of the [China] Gold Association. He gave us quite an interesting insight into the flavor of what is going on in China from a strategic perspective. Some of the things he talked about included that China planned to change the landscape of world gold markets. He talked about having a strong currency and about having that currency backed by gold, like the US dollar. He also talked about people holding more gold and encouraging more people to hold gold. That is not just individuals, but also the central bank. From that perspective, it is also getting gold into the country in terms of encouraging domestic gold production, but also investing in international mining companies and sourcing the product from them. China has got a very friendly gold strategy.
I do not rule out the PBOC buys gold through overseas mines. (By the way, China is not planning to “back” their currency with gold in my opinion, they’re more likely to “support” their currency with gold at no fixed parity.)
What many of these clues have in common is that they hint the PBOC buys about 500 tonnes a year and thus its official gold reserves are approximately 3,500 tonnes. Unfortunately, we can’t know anything for sure. We just have to wait for the Chinese government to make a decision and disclose a number they see fit – the number disclosed can be less of what they actually have.
Facts And Speculation
Let’s chew on some numbers to separate facts from speculation. In the first chart below I’ve plotted a conservative estimate of the total above ground reserves in China mainland on March 31, 2015. This estimate is based on the assumption the PBOC has bought zero gold since 2009. The starting point is 1994, when the Chinese gold market was not yet liberated. Precious Metals Insights (PMI) has estimated that 2,500 tonnes of gold amongst the population were present in the mainland in 1994; that’s the dark grey jewelry base you can see in the chart.
According to the PBOC their official reserves in 1994 accounted for 394 tonnes. Since then China is said to be an “importer”, suggesting mined gold before 1994 could have been exported. In the next screen shot from the China Gold Market Report 2010 we can read the clue “China has been a gold importer since the 1990s” (/1994).
To support the theory China has only seriously began importing gold a few years ago – not in the eighties – have a look the next chart on gold trade between Hong Kong and China. Net imports ramp up in 2010.
Chinese domestic mines produced 90 tonnes in 1994. This is a chart showing Chinese mining since 1994:
Our starting point is 2,500 (jewelry base) + 394 (official reserves) + 90 (mining) = 2,984 tonnes in 1994. Subsequently I added yearly domestic mining, cumulative, as the Chinese didn’t export any gold since that year. In 2001 The PBOC announced their official reserves had increased to 500 tonnes, in 2003 to 600 tonnes and in 2009 to 1,054 tonnes. Because the Chinese gold market wasn’t fully liberalized in that period I have subtracted all PBOC gains until 2003 from cumulative domestic mining. From 2003 to 2009 total supply (scrap + mine + import from Hong Kong) wasn’t sufficient to meet consumer demand and 454 tonnes PBOC purchases. Although the PBOC claims all purchases before 2009 were done from domestic mines and scrap, I don’t think that’s possible, the PBOC likely started to invisibly import somewhere in between 2003 and 2009.
Fact: the result is that the minimum of total above ground gold reserves in China mainland on March 31, 2015, was 13,177 tonnes (1,054 tonnes in official reserves and 12,123 tonnes in private reserves). This does not capture gold in the black market -that thrived before 2002, neither any assets from wealthy Chinese families. It’s the most conservative estimate I can make using all data I could find. This estimate can also be used if the PBOC has predominantly bought gold through the SGE since 2009, for these purchases would have been captured in visible import numbers or in domestic mining, both flows go through the SGE. If so, PBOC purchases would have to be subtracted from the 12,123 tonnes in private reserves.
However, in my opinion the PBOC has not bought gold through the SGE since 2009, but abroad through the major global gold hubs and possibly from overseas mines. The next chart is a copy of the previous conservative estimate, now supplemented by 500 tonnes a year since 2009 for PBOC purchases, which I have not subtracted from cumulative domestic mining or cumulative import, as my assumption is this gold has invisibly been imported and not bought through the SGE.
Speculation: this total has reached to 15,623 tonnes on March 31, 2015 (3,500 tonnes official reserves, 12,123 tonnes private reserves). Although, the official reserve can be more or less.
Summary: for a fact the PBOC has 1,054 tonnes and 13,177 tonnes in total is located in the mainland. Possibly the PBOC could have as much as 3,500 tonnes, stretching total above ground reserves in the mainland to 15,623 tonnes. If the PBOC has bought gold through the SGE and abroad, the part bought through the SGE should be subtracted from 12,123 tonnes in private reserves (which would lower total reserves)
In addition, there can be a lot more gold in China – accumulated through thousands of years of civilization – of which I have no evidence.
These are the best estimates I can make at this stage; if I find new information I’ll keep you posted.
Above you could read clues from Song Xin (China Gold Association, July, 2014) and Jeremy East (June 25, 2014) about China working on a new monetary system that will include gold. Something similar was said by Zhou Ming, General Manager of the Precious Metals Department at ICBC, when Jeremy East asked him at LBMA forum in Singapore (June, 2014) if the statement “Western gold moves East” was true:
With the status of the US dollar as the international reserve currency is shaky, a new global currency setup is being conceived. Uncertain changes will happen to gold’s traditional dollar-pricing so the US dollar’s influence on gold pricing needs to be re-evaluated.
Jean-Claude Trichet, former president of the European Central Bank and a co chairman of the International Financial Forum (IFF) think tank, said at the IFF forum in Beijing (April, 2014):
The global economy and global finance is at the turning point in a way,.. new rules have been discussed not only inside the advanced economies, but with all emerging economies, including the most important emerging economies, namely, China.
The IFF Board consists of Mr. Cheng Siwei as the Chairman; Mr. Paul Volcker as the Honorary Chairman; Mr. Han Seung-soo, Mr. Jean-Claude Trichet, and Mr. Kevin Rudd as the Co-Chairmen; and Mr. Dai Xianglong as the President.
E-mail Koos Jansen on: email@example.com