China's Three Trillion Dollar Problem

China is heading for a major show down with the West. Among other things, the country aims to conquer Taiwan. This may cost the lives of thousands of people, but that's a price the political elite in China is willing to pay. However, they are not equally willing to see trillions of dollars frozen through sanctions.

Having watched the West's reaction to Russia's invasion of Ukraine, they know that any foreign reserves that they have in dollars or euros are likely to be frozen if they engage in direct hostilities with Taiwan, and that is probably too much of a prize to pay.

The only way out of this, apart from abandoning their plans to take over Taiwan, is for China to exchange trillions of foreign reserves for assets that cannot be frozen by the West. A logical first step would be to stock up on commodities, which they have already done. The next step would be to stock up on gold and silver. However, there's little available silver, and the total value of all above ground gold in the world is only 11 trillion dollars.

China has at least 3 trillion dollars in foreign reserves that it needs to convert. With little other choice than to buy gold, that's 3 trillion dollars coming into a market that has no more than 11 trillion to offer, of which only a small fraction is readily available in physical form.

China cannot buy and hold paper contracts, because these can be frozen by the issuers, so they will have to have the gold delivered to them. But how will they do that without driving the price of gold higher? The answer is that they can't. They can play the paper market and try to manipulate the prize lower, but they will at some point have to ask for delivery, and that's when it will become clear to everyone that the demand for physical gold is bigger than can be provided at current prices.

Gold prices may be kept artificially low for a while longer, but if China is to invade Taiwan, they will first have to get their gold delivered home to them, and that will drive the price of gold a lot higher than where it is today.

Sovereign

By Heritage Auctions for image, Mary Gillick for coin - Newman Numismatic Portal, Public Domain, Link