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The China Daily, citing another newspaper, the New Century Weekly, says that the Chinese government will diversify its massive $3 trillion dollar foreign reserve stockpiles into investment funds designed to invest in precious metals and oil. New Century says that it got this information from confidential sources inside the Chinese central bank, which is concerned about the continued devaluation of the U.S. dollar and wants to preserve the future buying power of its reserves.

Because a large part of China’s economy is based upon exports, it has been engaged in years of currency debasement of the yuan against the dollar. Successive U.S. administrations, both Democrat and Republican, have uniformly demanded an end to artificial support of the dollar against the yuan and, apparently, the demand has finally been accepted. People really need to be careful what they wish for.

It was, of course, inevitable that the Chinese would wean themselves from over-dependence on exporting to the West. There is no reason to impoverish your own people and restrict their purchasing power for years while using the consequent cheap labor to import technology and know-how, if you never intend to use it.

Ben Bernanke’s bid to out-debase the Chinese has finally borne fruit. China has taken delivery of most of the technology and know-how it is going to get. It is already the factory of the world, producing everything from Barbie dolls to sophisticated automobiles and computers. The remaining technology it would like to import from the West is classified by the military, and America and Europe won’t share it with the Chinese.

China apparently has weighed the alternatives and decided to strike out on its own. It will do everything that it can to become more dependent upon internal, rather than external, demand. It will allow the yuan to rise against the dollar in order to slow down inflation imported from America, and it will make an attempt to salvage whatever value it can from dollar reserves before they become worthless. The plan will come as a surprise for many in the West who assumed that China would not and could not get rid of its dollars, and we do not doubt that many will be in denial until the impact of China’s next move becomes crystal clear.

If China's central bank starts to buy gold, silver, platinum, and palladium on the world market with even a small fraction of its dollar reserves, the impact will be enormous. It means that the demand for U.S. Treasuries as well as European sovereign bonds issuances will fall. That means the U.S. dollar and the euro are going to be deeply declining in their buying power. It also means that the demand for oil and precious metals is going to skyrocket.

Let’s say that China uses 10% of its $3 trillion worth of currency reserves to buy gold. That’s $300 billion. It will buy over 6,000 metric tons of gold at $1540 per ounce. It is interesting to note that, with the gold it already has, plus about 7,000 metric tons more, Chinese gold reserves would equal those of the United States of America.

But the price of gold won’t stay at $1,540 per ounce if the Chinese enter the market in a big way. Nor will the price of silver, platinum and palladium stand still. They will all rise astronomically. Tiny supplies of platinum and palladium, and the fact that both have always been more popular in Far Eastern jewelry than in the West, will conspire to explode those prices if even a small portion of that $300 billion is spent on them.

You can read more about how to take a position in precious metals in a previous article.

Source: People's Bank of China Looking to Diversify Into Precious Metals?

Additional disclosure: Long precious metals.