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China Changing the Global Gold Market

While many investors have been distracted by the goings on in Europe, China has been making a dent in the global gold market by making it easier for investors to buy and invest in the yellow metal.

The goal: To dominate the global gold market and carve out a new role for its currency, the yuan.

China and other developing nations like India have been encouraging citizens to buy and hold physical gold, in forms ranging from jewelry and coins to bullion bars. China's aggressive promotion has pushed Chinese consumer demand for gold up 25% overall this year - much higher than the 7% global average.

World Gold Council (WGC) Far East Managing Director Albert Cheng, who predicted in March 2010 that Chinese gold demand would double by 2020, noted: "We now believe this doubling may, in fact, be achieved far sooner."

China is pushing gold because it wants the government and citizens to build financial reserves in assets stronger than the U.S. dollar, euro, and other weakening currencies. It also increases China's role in the precious metals market.

But there's another effect of this push for gold ownership: it's dislodging the dollar as the world's main reserve currency.

China's Gold Push Efforts

China's push for private gold ownership represents a major policy shift.

Chinese citizens were barred from owning physical gold under penalty of imprisonment until 2002. Since that policy was dropped and the Shanghai Gold Exchange opened, China has steadily stepped up efforts to encourage precious metal ownership.

The government now airs news programs on state-owned China Central Television describing how easy it is to buy and sell gold and silver. It also started its first gold vending machine, letting Chinese customers easily buy gold coins and bars using cash, debit cards and credit cards.

Current plans call for an additional 2,000 gold vending machines to come on line in the next two years. If they prove as successful as they did in Germany, where metals vending machines were first introduced, China's consumer gold demand will surge.

Chinese consumers turned off by the vending machines' high price mark-ups have another option - official government-operated "Mint Stores." Structured like a typical jewelry store, they feature specially minted bars in a variety of sizes. Mark-ups are minimal since each store has a Bloomberg screen tracking the current spot gold price, usually quoted in renminbi based on Shanghai trading, rather than in dollars on the London or New York market.

China also has encouraged more gold investment through new exchanges and yuan-denominated products.

The country on June 28 opened its first precious metals spot exchange. The South Rare Precious Metals Spot Exchange offers spot trading - as well as deferred and long-term electronic trades - in gold, silver, bismuth, indium and tellurium, with plans to add 13 other metal-related products. Chinese citizens can trade the metals through either direct margin accounts with the exchange, or through their banks and brokerage firms.

These efforts have increased Chinese consumers' gold interest, but it's the next development that will make China a major global player in gold trading.

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Outlook 2011: Fear and Love in Gold Trading

Wall Street has been calling gold a bubble since 2005, when it hit $500. Some media naysayers remained negative even as they wrote the headlines proclaiming record highs and saw gold rise almost 30% in the past 12 months.

Interestingly, despite gold's latest run, it was still a laggard compared to many other commodities. In the commodity world, gold didn't even place in the top half in 2010. Against a basket of 14 commodities that includes everything from aluminum to wheat, gold's 29.52% return places it eighth. Palladium took the top spot with a 96.6% return, followed by silver with an 83.21% return. Natural gas continued its cellar-dwelling ways, dropping 21.28% to become the worst-performing commodity of the basket.

There are two main drivers of gold demand: The Fear Trade and the Love Trade.

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