Working Together to Achieve the Mutual Benefits in the Golden EraBy Wang Zhenying, President, Shanghai Gold Exchange
Published on June 4, 2018
With gold market activity moving from West to East, the potential of China’s gold market is immense. As the main hub of China’s gold market, Shanghai Gold Exchange (SGE) is facilitating a move towards its liberalisation and is encouraging innovation to allow wider participation in the gold market.
The global gold market is entering an important stage of development. While it is a mature market, it is still incomplete and there is room for further development.
Global macroeconomics in the post-financial crisis period can be characterised as “four highs and Four lows”; of which the “four highs” are high liquidity, high leverage, high asset price, and high risk; and the “four lows” are low interest rates, low investment, low inflation, and low growth rates. The outbreak of the global financial crisis has highlighted the shortcomings of national currencies. Time after time, central banks had to release large amounts of liquidity into the financial system in order to keep the economy afloat. While there are several reserve currencies, the global financial market is currently seeking an anchor of value.
The deflation during the Great Recession, from 1929 to 1933, resulted in the first dramatic adjustment of the global financial system and initially started the process of anchor seeking. The US Gold Reserve Act of 1934, which resulted the associated relationship between gold and the US dollar, the key currency of the world, was the first attempt to find a value anchor after the industrial revolution.
Later, Western economies entered a period of stagnation brought about by trade wars, a reduction in international trade, and the oil crisis. The US finally ended the convertibility of gold to the US dollar in 1971 – an event referred to as the “Nixon shock”, which prompted the US dollar to become a reserve currency, and for other fixed currencies to become free-floating.
The birth of cryptocurrency was another significant event in the world after 2008. Among them, the most well known is bitcoin, introduced in 2009. In 2011, it traded at 1BTC = US$0.30, and it now trades for approximately 1BTC = US$8,000, though it has reached nearly 1BTC = $20,000 in the past year. Why has the bitcoin grown so dramatically? We believe the main reason is that the market is seeking the value anchor of the currency. However, due to its various defects, bitcoin has not been able to play a more qualified role in the financial market. The advantage of gold, on contrary, is its massive consumer base and use in jewellery and a wide range of products.
Given the backdrop of inflation and financial instability, gold’s role as a value anchor has been growing. From a long-term perspective, the price of gold shows a positive correlation with the long-term M2 and M2/GDP of major global economies and its acceleration. Its trend is essentially a monetary phenomenon, which will maintain the growing attitude along with the increasing total volume of the global currency supply. According to historical data of the US economy, the average monetary growth was only 6 percent in the past 100 years, while the actual economic growth was 3 percent. The extra 3 percent the premium of gold to the dollar, which supports the role gold has been playing as the global value anchor.
In 2017, China’s gold market continued to grow while global financial markets experienced a relative downturn. The total gold consumption in China was 1,089.07 metric tons in 2017 – a 9.41% increase compared to the year before. In particular, the total jewellery consumption was 696.5 metric tons – a 10.35% increase compared to 2016, while the total gold bar consumption reached 276.39 metric tons – a 7.28% increase compared to 2016. SGE’s total gold contract transaction volume in 2017 was 50,043 metric tons – an 11.54% increase compared to the year before. The total turnover reached RMB 14.98 trillion, showing a 1.98% increase compared to 2016.
SGE’s transaction volume ranks among the top exchanges globally, buoyed by the tremendous capacity of China’s gold market, and is a reflection of China’s economic progress in the past 40 years. Accompanied by its economic growth, the country now has the world’s largest middle class – which is pushing the demand for gold and gold investment products. Chinese people have a culture of gold consumption and investment, so there is immense market potential as wages and GDP continue to grow, and living standards continue to rise.
New gold financial products are important in encouraging domestic citizens to hold the precious metal. The recent weakness that exists in the gold market is because of its focus on profit – of either the price rise or the price premium. However, it is necessary for any financial product to have two characteristics: premium rate of return and cash flow yield. This is why we should consider the development of gold derivative products and to improve its profitability during the holding period. China will continue to expand both the depth and the width of its gold market, enrich derivative financial products that are based on gold, and provide a more diversified way to manage such assets.
SGE is accelerating its pace of participation in the global market by its reform and innovation. SGE has created a strong foundation for future product innovation based on the comprehensive services it provides the market. It offers a full-function trading system, a range of product categories, maintenance of market liquidity, the multi-layered structure of the market participant, and a complete set of trading modes, including price matching, price asking, the Shanghai Gold Benchmark Price, and quotation, which will be launched in the near future.
SGE is also combining two strategies – “bring in” and “go global” – to strengthen the integration of its trading rules with the global market, bring corporate social responsibility in line with international norms, and to diversify its trading products in accordance with international standards. With such measures in place, gold trading has the potential to become an important pillar in the development of China’s gold market and will make investing in China’s gold market crucial to wealth accumulation.