I recently received a fascinating letter from a Sound Money. Sound Investments subscriber who was ‘…born, educated, and obtained my university degree in an Eastern European Communist Country. On the day of my graduation I escaped the country and regime that I grew to hate’.
In his letter, he shared his experiences of life in a communist regime and his insight into what possible outcomes are ahead for China as their economy is undone.
I found this reader’s insight very interesting. Because it came from someone who has experienced this type of economic system before. Granted, there are obviously differences between Eastern European communism and Chinese communism. And there will be differences between the revolutions of Eastern Europe and whatever is to come in China.
I want you to think differently about China and the way the Western media presents its economic development. There is no doubt China’s economy has some real challenges.
One question the reader asked was if it’s possible China is cornering the gold market to solve their problems.
Now, I’m not suggesting this is a way out for China’s economy. I’d like to point out that it’s the only way for China to mitigate some of the fallout it will experience from abandoning its old growth model…that is, moving from export and investment-led growth to a system based on internal growth.
How China is Rebalancing
the National Balance Sheet with Gold
the National Balance Sheet with Gold
Think of it this way.
Most of China’s economic assets are other countries’ debt…for example, US Treasuries. This is not a sound or stable asset base. But if China accumulates gold, it’s buying a pure asset. There is no liability, or counterparty, on the other side of the asset.
Say it amasses 5,000 tonnes of gold. At a price of $1,600 an ounce, that’s a value of $282 billion. Not much in the scheme of things. But at $5,000 an ounce, the value of the gold hoard jumps to $882 billion. At $10,000 gold, it becomes $1.76 trillion. At that level, gold would represent around 50% of China’s reserves.
Can you see how this increase in asset value, without any corresponding increase in liabilities (debt) improves China’s national balance sheet? And can you see how the same applies to the individual’s balance sheet?
An increase in assets without an increase in liabilities translates into increased equity. Equity represents unencumbered ownership. For want of a better word, it represents an increase in wealth.
A major revaluation in gold represents a transfer of wealth from issuers and owners of debt to owners of gold. This strategy is not a panacea for China’s economy, but it’s certainly a way to reduce the cost of its past policy mistakes and ease the social tension that will arise from its upcoming transition to a new growth model.
Speaking of China and gold, Bloomberg reports that Hong Kong customs data showed gold imports into China from Hong Kong were 76 metric tonnes for the month of May. This represents a six-fold increase on last year.
Physical gold is flowing from West to East. It’s as simple as that.
Editor, Sound Money. Sound Investments
Ed Note: To read the fascinating story of life behind the ‘Iron Curtain’ and why Greg believes the Chinese economy is about to become undone, click here to take out an obligation-free trial to Greg’s investment advisory service…
From the Archives…
The Credit Market Debt Bubble and the Role of Gold
13-07-2012 – Greg Canavan
How to Survive and Thrive from China’s Bust
12-07-2012 – Kris Sayce
Payday Loans: Why This Lender of Last Resort Isn’t the Bad Guy
11-07-2012 – Kris Sayce
What A Slowing Chinese Economy Means For Pork Chops
10-07-2012 – Dr. Alex Cowie
Late News: Bankers Rig Interest Rates, No-One Fired
09-07-2012 – Dr. Alex Cowie
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Written by Greg Canavan
Greg Canavan is a feature Editor at The Daily Reckoning Australia and is the foremost authority for retail investors on value investing in Australia.
He is also the author of Sound Money. Sound Investments (SMSI). An investment publication designed to help investors profit from companies and stocks that are undervalued on the market.
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