Call Sherlock Holmes: 500 Tons Of Gold Goes Missing In China 
Last year, China imported and mined far more gold than its citizens and businesses purchased. Some think there was substantial back-channel hoarding of the metal due to uneasiness over the economy while others speculate that the People’s Bank of China , the central bank, secretly acquired the metal for its foreign reserves. A few believers of the second scenario argue that Beijing will attack the dollar by soon announcing a new gold-backed currency.
This month, the China Gold Association released data showing that the country’s consumption of the yellow metal in 2013 reached 1,176.4 metric tons, an increase of 41.4% over 2012. Yet that tonnage is far less than the total of mine production—428.2 tons—and imports from Hong Kong, 1,158.2 tons. The discrepancy: 410.0 tons.
As large as that number is, the real gap was undoubtedly bigger. Beijing does not publish gold trade statistics, and there are substantial volumes entering the country unrecorded, through Shanghai and gray routes, with both the government and the wealthy bypassing established channels. Analysts, in short, believe China’s “apparent gold consumption” last year was over 1,700 tons, making the unaccounted gold more than 500 tons.
So where did all that metal go? Some was used for jewelry that was exported. Bars may have been delivered to Iran to surreptitiously pay for oil and gas. Gold could have been lost in the complicated and opaque accounting system maintained by the Shanghai Gold Exchange. A small amount was acquired by wealthy—and nervous—Chinese in off-the-books transactions. Banks were buying for their own accounts.
And then there is the possibility of secret central bank purchases. Zhang Jianhua, a PBOC official, in December 2011 talked about the institution buying on price dips. Despite Zhang’s public words, there were reasons to believe the central bank was not in the market then, at least not in a big way.
In 2013, however, the PBOC may have changed its stance and become a large purchaser. The price of gold, which had steadily climbed from 2001 to 2012, plunged last year, falling about 28% and creating a buying opportunity for the cashed-up central bank. China’s gold reserves now stand at 1,054 tons, an official number not updated since April 2009, and most analysts suspect there has been unannounced buying.
Speculation about secret gold purchases gives credence to recent rumors, circulating in big financial houses in New York, that Beijing will soon move to full convertibility of its currency and adopt the gold standard. The rumors got a boost when Freya Beamish of Lombard Street Research issued a note on February 12 referring to the issue. “The massive flow of gold into the country does make it seem plausible that they could be moving in the direction of using gold in the effort to internationalize the currency and escape what is seen as a domineering dollar,” she wrote.
The yuan, as the renminbi is informally known, became convertible on the current account in December 1996. Since then, Beijing has failed, despite official promises to do so, to take the next big step, to make it convertible on the capital account. Yet there are now compelling reasons for Chinese authorities, in some dramatic fashion, to restructure the country’s money.
Beijing wants its money—not America’s—to be the world’s medium of exchange and store of value. To achieve these goals, Chinese technocrats have been engaged in a “significant and coordinated promotion” of the use of the renminbi since July 2009, according to Chris Dixon of the Global Policy Institute, and they have in fact made progress. For instance, the Society for Worldwide Interbank Financial Telecommunication, better known as SWIFT, announced that the renminbi was ranked No. 8 for global payments in December.
Beijing has, through some cost to itself, pushed use of the renminbi, but there is only so much progress it can make until the currency becomes fully convertible. Yet full convertibility could result in “importing instability and undermining development policies and priorities,” as Dixon dryly puts it in a new paper. The risk, as others would say, is triggering a massive flight of money out of the country, especially during a time of declining confidence in China.
Anne Stevenson-Yang of J Capital Research perceptively points out that if Beijing is thinking of adopting the gold standard, as current rumors tell us, then Chinese technocrats must be contemplating a dual-currency structure. The renminbi would become a local-only currency while the companion international currency would be used for international trade.
Theoretically, this two-currency structure would permit the Chinese central government to have the best of both possible worlds. The PBOC would have even more control over domestic money while the companion international currency would undermine the greenback. Could the offshore renminbi dethrone the dollar? In an era of rapid monetary expansion, who wouldn’t love money backed with the shiny yellow metal?
Beijing is no stranger to two-currency structures. The Foreign Exchange Certificate scheme, special currency for use by foreigners inside China, was adopted in 1980 and discontinued in 1995.
Yet there would be problems inherent in a new gold-standard renminbi. For one thing, the value of the local renminbi, a fiat currency, would surely fall upon the introduction of a gold-backed one, even though it would presumably be illegal for those in the Mainland—the People’s Republic except the special administrative regions of Hong Kong and Macau—to hold substantial amounts of the new offshore money.
Market participants, both Chinese and foreign, have proven adept in evading Beijing’s existing capital controls, and it would take them no more than 35 minutes to figure out how to import, store, and use the gold-backed currency in the Mainland. A black market for the new—and far stronger—renminbi would arise, with people demanding it. The good money would, for some uses, drive out the bad, and China would end up with two currencies in use at home. There could be, in a relatively short period of time, something akin to a real-life test of Gresham’s Law.
Despite daunting technical obstacles, reports of China’s imminent adoption of the gold standard just won’t go away. That may be partly because gold bugs want that to happen, but there is more to the rumors than that. At this moment, Beijing needs to strengthen its currency, especially as the erosion in the economy becomes more noticeable and capital flight more evident. A currency underpinned by gold—or the country’s foreign reserves—would go a long way in maintaining confidence.
