EDITOR NOTE: China's economic problems are intensifying, which could mean big things for gold. Gold.org reports that signs are worsening for China’s economy, which points to two factors that could help gold in the coming weeks and months. First, the slowdown means an increase in equity market risks and, second, commodity prices might continue to soar, which points to possible stagflation. Experts say that these situations mean that Gold “could be an effective tool for investors” as they look to safeguard themselves from this economic downturn of a world superpower.
China’s economy is facing challenges. Recently, many industries in major provinces have been impacted by power rationing and enforced cuts in a drive to meet targets for reducing energy and emission intensity.1 And this could last for some time, placing further pressure on the supply side of the economy which is already showing signs of a slowdown.
Meanwhile, the demand side of China’s economy is weakening. The y-o-y growth in China’s retail sales fell to 2.5% in August, a sharp drop from previous months. Growth in real estate investment, sales and new constructions are also rapidly trending down. This could be due to a combination of the Delta variant’s resurgence and tighter regulations in the property market.2
Chart 1: Both supply and demand sides of China’s economy encountered challenges recently
This downward pressure on China’s economy has two major implications. First, a weakening economy could potentially increase equity market risks – which was partially reflected by recent increase in equity market volatility. Gold, with its unique relationship with the Chinese stock market and the independence from China’s economy, could be an effective tool for investors.
Chart 2: gold, an effective equity market risk diversifier
Conditional correlation between Au9999 and CSI stock index during the past decade*
Second, amid supply restrictions, commodity prices might continue to soar, leading to further inflationary pressure at factory gates. Consequently, retail price indices of many categories such as home appliance and transportation rose significantly. But at the same time, demand remains weak. This could signal a potential threat of stagflation. And our research shows that RMB gold tends to outperform other major RMB asset classes during stagflation-alike periods. This, we believe, could make gold a valuable addition to investors’ portfolios.
Table 1: gold has delivered superior returns during stagflation-alike periods in China
Conditional returns of assets under different periods*
Looking ahead, many economists are anticipating further stimulus packages to support domestic demand.3 We believe that China is likely to achieve economic stability after short-term shocks fade and stimulating policies are implemented. But for now, the ability to hedge against local stock market volatilities and outperform other assets during stagflation-alike periods in China could make gold shine in investors’ portfolios.
1As of 26 September, around 25 listed companies announced their plans to suspend production due to power cuts, ranging from chemical to materials and steel. For more information, please visit: China’s Power Cuts Widen Amid Shortages and Climate Push (yahoo.com)
2For more information, please visit: China’s economic recovery stalls as COVID-19 continues | Fox Business and China to intensify real-estate market regulation (www.gov.cn)
3For more information, please visit: www.163.com/dy/article/GIP04QLA0519IGF7.html and China's central bank injects liquidity into market - Chinadaily.com.cn
Originally Posted on Gold.org