China on a gold standard? Food for thought at least

By Lawrie Williams

Earlier this week I penned an article based on a talk by Ken Hoffmann, Bloomberg’s Global Head of Metals & Mining Research at the Global Mining Finance Precious and Base Metals Conference in London.  This was published on Mineweb and has already attracted extremely strong readership from around the world – See: Will China go for a gold standard? The jury is out!

In it, Hofmann set out what some might consider an off-the-wall appraisal of possible Chinese moves to back its currency with gold to try and help cement the yuan’s position as a potential future reserve currency.  This, it feels, could go a long way towards other countries’ central banks accepting the yuan as an integral part of their foreign currency holdings, perhaps even pari  passu with the U.S. dollar.

Hofmann puts forward the viewpoint that the Chinese are exasperated by the West trying to treat the nation as a second class citizen on global trade and economic organisations, despite it being the world’s second largest economy – or some would even put it at No.1.  The Chinese administration is also of the opinion that the U.S. is obstructing Chinese efforts to gain a place at the global table commensurate with its economic standing as the U.S. sees China as a competitor to its global dominance of trade, and all the advantages that brings to the U.S. economy and place in the world order.

Other media picked Hoffmann’s hypothesis up, but in effect only appeared to look at how much gold China would need, or what gold price would be required, to fully back the yuan with gold in the manner of the old gold standard – perhaps with the implication that this is some kind of crackpot idea which puts Hoffmann in the ‘gold cultists’ mega-price camp.

Yet this was not really what Hoffmann was suggesting.  He effectively said that he did not know how China could achieve this but that the Chinese tend to view things in a totally different manner to the West and can move at lightning speed in comparison and might, by thinking outside the box, come up with some solution which could satisfactorily at least partially link the yuan to gold.  This would hugely enhance the currency’s status in the eyes, perhaps not of the major Western central banks, but for state banks in other parts of the world – notably in Asia, Africa and Latin America where there may be a more natural positive association with gold as a key indicator of financial strength. Indeed in many cultures gold is viewed  as the ultimate in financial probity and a symbol of wealth and power, regardless of the opinions of today’s mostly Keynesian economists who say that gold has no place in the modern financial system.

Central bankers are opposed to gold because it imposes disciplines, and ever since President Nixon dropped the dollar’s gold backing, the world’s central banks have seemed to have gradually seen this as carte blanche to allow monetary easing on an unprecedented scale and bring the global economy to the perilous state it finds itself in today.  Today’s economists, except perhaps those who follow the Austrian School, and bankers are almost unanimous in their opinions that gold should play no place in global economic thinking.  Yet the major Western nations’ central banks are for the most part hugely reluctant to part with any of their accumulated gold reserve – something of a contradiction in attitudes.  Gold obviously still has a place deep down in their collective psyches!

Today, at Bloomberg’s own  Precious Metals forum in London, Hoffmann gave a further short talk setting out the hypothesis – seeing the possibility of China going down this route as a possible Black Swan scenario.  While, in a short article released at the event he admits that the backing of the yuan fully by gold is an exercise that is highly unlikely and that in any case the Chinese government would not wish to have its monetary policy hands tied to the extent a traditional gold standard would suggest.  Indeed he admits that while the debate on this is an interesting one, ‘the idea of China on the gold standard is likely to remain in the alchemist’s lab for now’.

So what Hoffmann has done is to bring the idea of a Chinese introduction of some form of gold standard into the debate and for that he should be praised rather than vilified by those who find the whole idea counter to their own views.  The Chinese are indeed capable of springing surprises on the West.  As pointed out earlier the Chinese have a different way of thinking than us westerners.  They tend to operate with the kind of long term game plan no longer even considered in most capitalist countries and with a centrally controlled economy are perhaps far better placed to implement economic reforms which are to their ultimate benefit which might be considered impossible in the Western thought train.

So while a Chinese return to some kind of gold standard may be extremely unlikely, one perhaps should not write the idea off as totally impossible, and Hoffmann has done us a favour in getting us to think outside the box ourselves.

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