Due to China's huge size, its developing economy is having a growing influence on the global economic system. One commodity that has been particularly strongly affected by Chinese popular demand is silver, as well as other precious metals like gold.
Not only has the Chinese government been moving toward holding precious metals in reserve as an alternative to paper currencies like the U.S. Dollar, it has also recently encouraged its citizens to own precious metals as a way to store their wealth in a valuable physical asset.
The following sections will discuss at least three reasons which come to mind that may be behind this official Chinese policy switch.
Reason #1: Controlling Inflation as the Chinese Economy Lands
Monetary policy is often aimed at keeping the population at ease, 'as they ease'. To help ensure a soft landing for the Chinese economy means assuming an inflationary monetary policy.
Contrary to popular belief, controlling inflation is not as easy as one might think, largely because doing so boils down to managing perception, confidence and belief, and these things can be very difficult to rationalize.
The Chinese economy still needs to produce before the Chinese people can consume. With economic production elsewhere in the world still lagging far below Chinese levels - especially outside Asia - the supply of goods for the Chinese to consume is dwindling.
Reason #2: Collectively Increasing the Nation's Supply of Precious Metals Without Direct Buying or Spooking the Markets Higher
China still lags considerably in its official gold reserves, and to increase them in even a small way could induce a market panic that would push the price of gold substantially higher.
By allowing the huge Chinese population to accumulate precious metals - and even officially promoting ownership of precious metals - this creates a domestic supply that could even be confiscated, if deemed necessary by Chinese authorities.
Reason #3: China's Changing Leadership
China is currently undergoing the first 'power transition' in the ruling communist party that has been made in the context of China being a major global economic power.
The world has never experienced this type of change in leadership in an economy that accelerated to become so large over such a short period of time.
This comes also at a time where uprisings are occurring all over the world, most visibly in the Middle East, though imminent in the EU.
For centrally planned economies, monetary intervention remains the only hope for quelling the potential social and political unrest. If sentiment from the recent U.S. Federal Reserve FOMC minutes is any indicator, it looks increasingly likely that they will comply sooner rather than later.
Against the backdrop of rising world food prices, and a clear economic slowdown, China may be forced to follow suit, at the risk of triggering economic and social unrest in this precarious political transition.
One way of keeping the people quiet is to allow them some alternative to paper currency to help them feel more economically secure, and precious metals, which have long been an intimate part of the culture, provide exactly that sort of security for the Chinese.
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Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.