Gold and a Chinese credit event

18 Sep 2023 / Corporate research

A Western phenomenon?

  • If you own, or are considering owning, gold or gold equities, it’s likely that you’re concerned about protecting your wealth, or the performance of your fund, in the expectation of some kind of financial instability. Maybe you’ve researched debt bubbles in history and concluded that physical gold and silver have been the safest places to be invested when they unwind. Maybe, you can’t put your finger on it. You don’t know where it might come from, but something doesn’t feel right.
  • The bursting of the tech bubble and Lehman’s failure may have conditioned us to focus on Western financial systems for sources of financial turbulence. Yet there’s no rule stipulating that the next phase of instability has to begin in the US, or any Western nation.
  • Strong GDP growth and buoyant asset prices, fuelled by abundant credit expansion, can mask many structural problems, blindsiding regulators. The economic landscape is always changing and one economy’s relentless expansion has dwarfed all others in the past two decades: China.
  • This resilience was driven by expansion in debt by central/local government and commercial banks, coupled with an explosion of leverage in China’s nascent shadow banking sector. This shifted the driving force of growth from exports to domestic investment.
  • China’s overall debt to GDP, taking into account other lending – including leverage in the shadow banking sector and off-the-books lending – is likely to be around 300%. Most commentators are attaching a relatively low probability to a financial crisis in China, but if they don’t get to grips with the problem, we are potentially looking at a Chinese credit event, with ramifications across global asset markets.
  • We saw what happened to gold in the aftermath of the Silicon Valley Bank failure earlier this year. It would be reasonable to expect a strong rebound in the gold price as investors flock to safe havens like gold and perceived safe havens like US Treasuries.

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