Rumors that China is planning to move to a gold backed yuan currency

Posted on 21 July 2013 with 1 comment from readers

Could the People’s Bank of China be on the verge of switching the reference point for its yuan currency from the US dollar to gold? That’s the rumor circulating in the Far East.

Why on earth would China do that? It would be immensely destabilizing to the global financial system and come at a time when the Chinese economy is facing its first serious slowdown in two decades.

Logical madness?

Step back, however, and the macroeconomics do not seem so mad. If you really believe that the Federal Reserve is on a money printing trip to hell then taking radical action to avoid following it down the same road does make sense.

China must know that the backing for all its US treasury holdings is simply paper that the Fed is inflating away. Replace that paper money with gold and there is something more solid in place with an intrinsic value.

Besides if China made this move it would have a huge impact on the gold price and balance its books, if it has accumulated enough gold within its borders that could be scooped up by the PBC for its vaults.

It’s no secret that many Chinese have been quietly swapping their paper money for gold for a long time. ArabianMoney was given this as the reason for rising gold prices ages ago in our own gold souks (click here). Gold purchases have accelerated to over 1,000 tonnes in the past six months.

Why has this become such a national obsession? If it is really to protect against future inflation and the collapse of the US dollar then the switch to some kind of yuan gold standard as a sound money policy does make sense as a next step.

Actually it makes a lot more sense than printing money ad infinitum and hoping for the best while knowing that only the worst can follow in the long-term. The PBC as a central bank is the guardian of the nation’s wealth, not a provider of liquidity for short-term speculation.

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Economic suicide?

However, what makes the move to a gold backed yuan appear an unbelievable rumor is that it would immediately cause a credit event bigger than the global financial crisis of 2008-9 and China was the biggest pumper of cash into its system then.

Why try to undo that now when the Chinese economy is already slowing down if you look at falling electricity consumption and freight movements? It would be tantamount to economic suicide.

Still you can understand that with Detroit declaring for bankruptcy protection that the long-term future of US bond holdings must come into question and bondholders have been very severely squeezed over the past two months by the Fed.

China must be looking for a way out. Whether a gold backed yuan would work is still doubtful. Then again as a national back-up plan for a US dollar collapse it does make sense and central banks plan ahead.