Why Are Gold Prices Rising? Ep 2. – Ultimate Guide

(feat. China, U.S. Government Debt, inflation, Bonds, and Dollar)

In the last blog post, we looked at how to estimate gold prices using the four main types of U.S. Treasuries. But what we found was that gold prices were most closely tied to TIPS, the Treasury Inflation-Protected Securities, especially the longest-term ones. As you’d expect, since TIPS are linked to inflation, they gave us some insight into how inflation and gold move together.

But here’s the thing—by the end of that post, we saw that gold prices were rising beyond what TIPS alone could account for. Clearly, there are other forces at play driving this surge. So, in today’s post, we’re shifting from theory to a broader view of market dynamics. And this time, we’ll be looking at major players like China and South Africa. Let’s dig into what’s really fueling gold’s rise!

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26. There are two main factors influencing gold prices.

27. The first is “Liquidity.”

28. Since last year, the U.S. has been increasing the issuance of short-term Treasury Bonds, injecting more liquidity into the market.

29. The liquidity flows into the stock market, driving up stock prices, as well as the prices of Gold and Bitcoin.

30. As this flow is quite interesting, I’ll cover it in more detail in future posts, so let’s keep the explanation brief for now.

31. The second factor is the concept of “scarcity value,” where something becomes expensive if it’s rare and cheap if it’s common.

32. From a supply perspective, gold is becoming increasingly scarce.

33. In the past, South Africa was the world’s largest gold producer.

34. South Africa used to produce around 1,000 tons annually, accounting for 40% of global gold production.

35. However, after many years of mining, South Africa’s gold mines are depleting.

36. In the 1970s, South Africa produce over 1,000 tons of gold. Today, production has dropped to just 100 tons – only a tenth of what it used to be – dropping the country to 9th place among global producers.

37. Globally 3,000 tons of gold are mined each year. In 2023, China was the top producer, mining 370 tons of gold.

38. However, while China produces the most gold, it prohibits exporting gold, so its supply doesn’t enter the global market.

39. According to a report from the U.S. Geological Survey (USGS), the total estimated gold in the Earth is 244,000 tons, and humanity has mined about 187,000 tons so far.

40. That leaves around 57,000 tons of unmanned gold, and at the current rate of mining – around 3,000 tons per year – it’s estimated that we’ll run out in less than 20 years.

41. The remaining gold reserves are primarily in Australia (9,800 tons), South Africa (6,000 tons), and Russia (5,300 tons) (Source Link : World Gold Council)

42. The supply of gold is not infinite, and there are limits to how much more can be produced, which makes gold scarcer from a supply-side perspective.

43. In terms of demand, about 46% of gold is used for jewerly, 23% is held by central bank, 16% is in gold bars, 9% is minted into coins, and 5% is used in industrial applications.

44. The fact that central banks hold 23% of gold means they “purchase” around 700 tons annually from the 3,000 tons produced globally.

45. Central banks have been increasing their gold purchases.

46. Although the People’s Bank of China (PBOC) temporarily paused its gold purchases in May 2024, in the first half of 2024 alone, central banks made net purchases of 483 tons of gold.

47. On average, central banks typically buy about 23% of global gold production, but this year they’ve taken up 32%.

48. Central banks explained that they are purchasing gold as a safeguard against currency devaluation, especially as fear of an economic recession grow.

49. In terms of recession, capital tends to flow out of emerging markets, leading to sharp drops in the value of their currencies.

50. When currency values fall, gold prices tend to rise, so central banks see gold as a safety net and are increasingly adding it to their reserves.

51. As of April this year, China was the central bank purchasing the most gold, rapidly increasing their reserves.

52. China, as the world’s top gold producer, has banned the export of its domestically mined gold while aggressively acquiring as much of the global gold supply as possible, turning gold into an increasingly scarce resource.

53. China is accelerating its gold reserve through three key policies.

54. The first policy is the aforementioned ban on gold exports.

55. By prohibiting the export of domestically produced gold, China ensures that its gold stays within the country to meet domestic demand and prevents any leakage to international markets.

56. Additionally, China unofficially secures as much gold as possible from Russia, one of the world’s major gold producers.

57. The second policy mandates that all gold produced in China must be traded exclusively through the People’s Bank of China‘s designated gold exchange.

58. This allows the government to regulate and control the flow of gold, minimising the risk of gold leaving the country.

59. The third policy involves keeping gold futures prices on the Shanghai Gold Exchange higher than those in the U.S. futures market, which naturally incentivises more gold to flow into China.

60. Through these mesures, China continues to absorb a significant portion of the global gold supply each year.

61. In 2023 alone, China’s government purchased 225 tons of gold, while Chinese consumers acquired another 706 tons for retail purposes.

62. Over the past two years, China’s total gold imports, including both government and private purchases, have reached nearly 1,900 tons, about one-fourth of the 8,100 tons held in U.S. government reserves.

63. To predict the price of gold, you need to observe whether the factors driving the upward trend in gold prices are changing.

64. China is showing signs potentially restricting private gold consumption, which could become a variable affecting gold demand.

65. In 2023, Chinese consumers surpassed Indians to become the world’s largest purchasers of physical gold for retail, acquiring 706 tons.

66. Among China’s younger generations, particularly the MZ generation, buying 1-gram “gold beans” (金豆) has become a popular trend.

67. These 1-gram gold beans are traded at around $62 – $94 (400-600 RMB) each, and sales during this year’s Lunar New Year increased 24% compared to last year.

68. Chinese investors, who previously focused on real estate and stocks, are shifting their investment to gold, with “gold shopping trips” to Hong Kong becoming a popular trend, where gold prices are lower.

69. Despite the U.S. raising interest rates, China has not followed suit. In fact, China’s benchmark rate has dropped from 3.85% at the end of 2021 to 3.35%

70. With interest rates lower than in the U.S., depositing money in China isn’t seen as an attractive investment option.

71. Consequently, some of China’s investment demand has shifted toward gold, with consumption of gold products reaching record levels.

72. China has also launched the “Two Anchors, One Body¹” policy to stimulate consumption and drive economic growth.

73. From the Chinese government’s perspective, it is not ideal for these funds to be diverted into gold investments instead of being used for consumption.

74. In April 2024, the Shanghai Gold Exchange and Shanghai Futures Exchange raised margin requirements and imposed stricter conditions on gold trading.

75. By May 2024, after 18 months of continuous gold purchases, the People’s Bank of China paused its gold buying.

76. China’s absorption of global gold is slowing down.

77. The U.S. government has traditionally been uncomfortable with gold prices rising too high.

78. Gold prices tend to rise when trust in the U.S. dollar or U.S. Treasury bonds is questioned.

79. Factors such as the increased issuance of U.S. Treasury bonds and the ballooning U.S. Treasury debt are contributing to doubts about the reliability of the dollar and U.S. Treasuries.

80. In the past, when gold prices rose beyond a certain point, the U.S. has employed strong policies to suppress them².

81. China’s halt in gold purchases, the rise in margin requirements in the Shanghai market, and the rapid increase in gold prices are gradually piling up as negative factors.

82. Personally, I reduced my U.S. Treasury bond holdings, while increasing my gold allocation.

83. While I believe holding gold is valuable as a hedge against risk, I plan to reduce my gold holdings as an investment.

84. In September, depending on the movements of currencies like the yen, I am considering realising some profits.

85. Gold may not be an asset that increases returns in the long run, but it serves as a form of insurance to mitigate asset volatility risks.

One liner comment

During the 2008 financial crisis, while the S&P 500 plummeted 37,4%, gold prices rose by 16.3%. In the 2020 pandemic, for the first time, international gold prices exceeded $2,000 per ounce. Although gold is not-yielding asset that does not provide dividends or interest, it shines in times of major crosses, offering a sense of security in a portfolio. Allocating 20-30% of portfolio of gold might not guarantee profits, but it can certainly provide peace of mind.