In 2021, the 56% y-o-y rise in China's gold consumption marked a strong comeback from 2020.
And Chinese gold demand will likely remain strong in 2022. Our quantitative analysis, based on our Chinese gold demand models and inputs across various scenarios from Bloomberg, Oxford Economics and QaurumSM, supports this view, despite concerns around a potential slowdown in China's economic growth.
Additionally, there are qualitative factors that might provide further support: an increasing interest in gold jewellery among young consumers, greater pricing transparency and the endeavour of local commercial banks to sell physical gold products.
China's gold consumption witnessed a strong 2021 compared to 2020 (Chart 1). Gold jewellery demand reached 675t, a 63% rise y-o-y and 6% higher than 2019, driven by the economic recovery and a pullback in the gold price from its 2020 record high. It was a similar picture for Chinese bar and coin demand: the 2021 annual total of 284t was 44% higher than 2020 and 35% higher than 2019. One stand-out in the key drivers of this sector's growth was local commercial banks' increasing efforts in selling physical gold products due to restrictions in their other gold businesses.1
Consequently, the local gold price premium trended up in the year, averaging US$6/oz, in sharp contrast of the 2020 discount of US$25/oz (Chart 1). Meanwhile, 2021 gold withdrawals from the Shanghai Gold Exchange (SGE) - a proxy of China's wholesale physical gold demand - rose by 45% y-o-y, reaching 1,746t.
Annual gold consumption and average premium*
*As of December 2021. Gold consumption refers to demand for gold jewellery, bars and coins. And the local gold price premium is based on daily Shanghai Gold Benchmark Price PM and the LBMA Gold Price AM.
By the end of 2021, collective holdings in Chinese gold ETFs stood at 75t (US$4bn, RMB28bn), a record high in tonnage terms. Over the year, there was a net inflow of 15t (US$787mn, RMB5bn) despite the gold price weakness.2
Compared to previous years, the data suggests that Chinese investors seem to have become more tactical in gold ETF allocation (Chart 2). For instance, in the first quarter of 2021, total holdings in Chinese gold ETFs increased by 12t as the local gold price fell by 9%. And Q2 saw a modest outflow of 4t when the gold price rebounded: Chinese investors may have capitalised on their previous allocations. The local gold price fell by 4% in 2021 and this, among other factors, played a key role in pushing up total Chinese gold ETF holdings.
*As of December 2021.
Looking ahead to 2022, we expect:
Despite the strong performance of H1 2021, China's GDP growth slowed in the second half. By the third quarter, the y-o-y growth in China's GDP had fallen to 4.9% from 7.9% in Q2. And it decelerated further in Q4 with a 4% y-o-y GDP growth - the lowest on record.
Challenges facing China's real estate sector - which had accounted for over 13% of the country's GDP in 20193 -weighed heavily on the economy. To stabilise housing prices and avoid systemic risks, China introduced measures such as setting secondary home guidance prices, imposing ceilings for banks' home mortgage loan ratios, and tightening controls over developers' debt levels in 2021, all of which helped drag down the real estate sector's growth.
And it seems the real estate sector could remain a downside risk factor to China's economic growth in 2022. In its annual conference in late January 2022, the Ministry of Housing and Urban Development reiterated general principles of "houses are for living in, not for speculation" and "not using the real estate sector as a short-term economic stimulus"4. Also, China is focused on the long-term economic transition from a fast-growing, industry-led path to a tech-driven, high-quality one. As such, despite the marginal relaxation in the sector in late 2021 which meant to cushion shocks instead of spurring growth5, the structural downtrend in the housing market is likely to extend.
Meanwhile, uncertainties of the pandemic remain a risk factor for the local economy. China has adopted a "zero tolerance" policy to the pandemic and periodic lockdowns are likely to persist, potentially slowing the nation's economic growth.6
The annual Central Economic Work Conference held in December 2021 set an easing tone for China's monetary policy in 2022 in response to potential challenges. And the People's Bank of China (PBoC) has acted: following cuts in the required reserve ratio for financial institutions and the one-year Loan Prime Rate (LPR) in December 2021, the PBoC lowered its Medium Lending Facility rate in January 2022. prompting further cuts in LPRs.7
We believe China's monetary policy will remain accommodative in 2022, keeping local interest rates and bond yields low.
2021 profit growth in different sectors*
*Not all sectors are included. Data as of December 2021.
There is a possibility that the RMB might weaken in 2022 due to:
Margins across Chinese industry sectors are imbalanced. Chinese upstream sectors saw their profits surge due to markedly higher commodity prices while downstream industries' margins are being squeezed (Chart 3). And with higher costs gnawing away profits, retailers have had no option other than to increase their product prices to avoid losses. For instance, listed companies in sectors such as condiments, cooking oil, and home decorations have been announcing a stream of price hikes over recent months.9 This seems unlikely to end until the downstream sector margins recover to reasonable levels, potentially fuelling 2022's inflation in China.
Other factors could also create inflationary pressure in 2022 - such as uncertainties over the pandemic-related global supply chain disruptions and the possible initiation of another hog cycle which might lead to higher pork prices.10
The USD/CNY and the China-US real 10-year government bond yield spread*
*Based on weekly averages of the USD/CNY, the Chinese 10-year government bond yield less the CPI y-o-y growth in the month and the US 10-year TIPs yield between December 2016 and December 2021.
Our analysis shows that China's gold consumption11 is closely linked to the local economic performance (Chart 5). The 8.1% y-o-y GDP growth in 2021 was key in supporting the 55% y-o-y rise in Chinese gold consumption. Gold jewellery demand is also impacted by the gold price whereas factors such as households' income and consumer inflation could influence bar and coin investment.
China's quarterly GDP growth and gold consumption between 2001 and 2021
*Gold consumption refers to the sum of quarterly jewellery demand and bar and coin sales in China.
Our quantitative analysis of China's gold demand allows us to determine historical drivers of jewellery consumption, as well as bar and coin demand (Appendix I). These quarterly models, in turn, provide a framework to determine how gold demand may perform across various macroeconomic environments.
Based on perspectives for the Chinese economy in 2022 discussed in the previous section, we used inputs from two relevant economic scenarios supplied by Oxford Economics based on their Global Economic Model updated as of 29 November 2021 and one scenario we named "Moderate growth" based on Bloomberg's median of various institutions' projections:
This corresponds to the medians of various institutions' forecasts from Bloomberg's "Economic forecasts" function. And this is a scenario broadly in line with our previous 2022 Chinese economic outlook.
This corresponds to the "Baseline" scenario from Oxford Economics. In this scenario, China is likely to witness similar GDP and income growth as the "Moderate growth" scenario. However, China could also see higher-than-expected inflationary pressure and relatively higher bond yields in 2022.
With China's "zero COVID" policy remaining in place, the "sticky" pandemic and related lockdowns or social and traveling restrictions could further clamp down the local economic growth and prompt more stimuli, resulting in lower GDP growth and personal income than in previous scenarios.
We based our quarterly RMB gold price estimations on the performance that our web-based valuation tool, QaurumSM implies under the two Oxford Economics scenarios and Bloomberg projections from the "Commodity price forecasts" function for the "Moderate growth" scenario. For more details, see Appendix II.
We used historical data from Q1 2009 to Q2 2019 to construct the Chinese gold jewellery demand model. This model produces a directional accuracy of 88% and a root mean squared error (RMSE) of 15% in-sample. For out-of-sample estimation between Q3 2019 and Q4 2021 (excluding the first two quarters of 2020 as they were distorted by the pandemic), the model achieves a directional accuracy of 100% and a RMSE of 12% (Chart 6).
*Based on data between Q1 2010 and Q3 2021. The first two quarters of 2020 were excluded as demand was distorted by the COVID-19 pandemic.
Applying our parameter assumptions to the model, we expect the y-o-y growth in 2022's Chinese gold jewellery demand under these scenarios to be12 (Chart 7):
*Based on our modelled q-o-q changes in 2022 and the Q4'21 gold jewellery demand in tonnage terms.
Our modelled results suggest that even though the slowing GDP growth and continued declines in marriage registrations might limit the sector's increase, local gold jewellery consumption could receive strong support if the gold price goes lower in 2022.
While quantitative models are a useful tool, they may not capture the nuances of real-world market dynamics. Other factors such as the rising desirability of fine gold jewellery as an investment among Chinese young consumers, greater pricing transparency, and the rising popularity of Heritage Gold jewellery products13 might provide further support for China's gold jewellery demand in 2022. However, unexpected COVID-related lockdowns and slower-than-expected economic growth might result in negative impacts (Focus 1).
As for gold jewellery, we created a Chinese bar and coin demand model (Appendix I) based on historical data between Q1 2010 and Q4 2021 due to their data availability. The model has a directional accuracy of 81% and RMSE of 23% (Chart 8).
*Based on data between Q1 2010 and Q4 2021.
Under the three different scenarios, our model's estimation of the y-o-y growth in 2022's Chinese bar and coin demand are14(Chart 9):
Results show that relative to 2021, expectations for higher inflation, lower bond yield, and a weaker currency across the three scenarios might be key in driving 2022's Chinese bar and coin investment. Meanwhile, the long-term saving demand could stay reasonably stable and be limited by slower GDP growth. Overall, China's gold bar and coin investment in 2022, based on our model in different scenarios, could remain well above the 2019 level.
* Based on our modelled q-o-q changes in 2022 and the Q4'21 gold bar and coin demand in tonnage terms.
And we believe that factors our model cannot capture - such as the increasing efforts of commercial banks in selling physical gold products - will continue to play a key role in encouraging local bar and coin demand this year (Focus 1).
Quantitative models have their limitations. Our model cannot capture the positive impact on gold jewellery demand from the surging popularity of Heritage Gold jewellery products, for instance. This was evidenced in late 2020 when our model underestimated gold jewellery demand in China.
We have studied qualitative factors which might impact China's gold jewellery demand in 2022, in particular the changing attitude to gold consumption among young consumers and the rise of Heritage Gold jewellery products. Social media analysis tells us that today's young Chinese consumers are paying increasing attention to wealth management and often treat a gold jewellery purchase as an investment.15 Many prefer well-designed chunky 24K products - so long as labour charges are reasonable and transparent - because these trendy designs fit their tastes and heavier weights could mean higher profits should the gold price rise in the future.
And our nationwide gold jewellery market survey in 2021 found that Heritage Gold jewellery products have become a major sales focus in local jewellery stores mainly driven by young consumers' increasing interests in traditional Chinese culture embedding fashion and lifestyle products as the "Guochao" trend intensifies.16
In the meantime, retailers are focusing more efforts on promoting heavier products that could carry higher margins under the per-gram pricing method which are increasingly adopted by jewellers.17
We believe retailers' return to the "per-gram" pricing is well-timed. The rise of "Guochao" and an increasing focus on the financial aspect of gold jewellery products among the young have been driving up sales of well-designed weighty 24K items. Greater pricing transparency under the "per-gram" pricing model should encourage even further growth.
In retail investment, we believe the focus of Chinese commercial banks on selling physical gold products is likely to continue as other retail gold businesses remain restricted, and this could further stimulate 2022 bar and coin demand.
But it is not all positive news:
2022 is likely to be a challenging year for China's economy. Almost all of our scenarios assumed slower GDP growth in 2022, coupled with the possible downward trend in Chinese marriage registrations, could limit China's gold jewellery consumption. What's more, the combination of China's "Zero COVID" policy and possible sporadic outbreaks could lead to periodic regional lockdowns, unexpected economic damages and gold consumption restrictions.
Despite these setbacks, we would expect gold jewellery demand to rise in 2022 if the local gold price falls or stays reasonably stable. And the changing attitude of the young towards gold jewellery as an investment, along with retailers' increasing adoption of the "per-gram" pricing method could provide further support.
Gold bar and coin demand might be higher in 2022 than its pre-pandemic level. While the possibility of rising inflation could play a key role, weakness in the local currency and the lower opportunity cost of holding gold under our scenario assumptions may also serve to stimulate demand. And if commercial banks continue to prioritise physical gold products sales, bar and coin investment in China could end 2022 higher than our projections.
1In China, commercial banks are the primary bar and coin sales channel. Starting in late 2020, Chinese commercial banks were gradually exiting some of their retail precious metals trading and brokerage businesses to lower risks, for more information, please visit: Chinese banks to suspend new precious metal account openings | Nasdaq and ICBC to halt deferred transactions of precious metals for some clients | Nasdaq
2The asset under management (AUM) of each Chinese gold ETF in RMB is calculated by multiplying their total shares outstanding by the fund's close price at specific dates, and then divided by the period's USD/CNY to calculate their USD AUM. Tonnage holdings were converted based on end-of-period Au9999 close price and the fund's RMB AUM.
3For more information, please visit: Peak China Housing_2020_08_12 (harvard.edu)
4For more information, please visit: 住建部最新表态：2022年坚持"房住不炒"不动摇_腾讯新闻 (qq.com) and Interview: Minister reaffirms "houses for living in, not speculation" - Xinhua | English.news.cn (xinhuanet.com).
5For more information, please visit: Three takeaways from China's key conference for 2022 economic plan - CGTN and Experts and business leaders' take on Central Economic Work Conference - Chinadaily.com.cn
6For more information, please visit: China tops forecasts with 8.1% growth in 2021 but headwinds loom (fidelity.com)
7For more information, please visit: China cuts key rates, steps up monetary stimulus to boost economy | Reuters
8For more information, please visit: Goldman predicts the Fed will hike rates four times this year, more than previously expected (cnbc.com)
9For more information, please visit: Chinese Food Giants Hike Prices as Costs Rise - Caixin Global
11In this article, gold consumption refers to demand for gold jewellery, bars and coins.
12Annual gold demand changes are calculated by comparing projected tonnage demand in 2022 with 2021 tonnage demand of gold jewellery.
13Heritage gold jewellery products refer to 24K, chunky gold jewellery products with ancient craftsmanship, matte surface finishing and traditional Chinese cultural themes.
14Annual gold demand changes are calculated by comparing projected tonnage demand in 2022 with 2021 tonnage demand of gold jewellery.
15For more information, please visit: China's wealth management population gets younger - Chinadaily.com.cn
16For more information about "Guochao", please visit: 'Guochao' products favored by Chinese youth - Chinadaily.com.cn
17For more information, please visit: Jewellery | World Gold Council
Editor's Note: The summary bullets for this article were chosen by Seeking Alpha editors.
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