China-US currency tension growing

The gold price toyed with resistance at $1,680 per troy ounce yesterday, but was unable to break through this level. As judged by the price chart for the exchange-traded fund GLD, the volume of gold trading remains subdued. A pick-up in volume and open interest in gold futures will be necessary if the price is to mount a sustained push higher.

The same point about volume and open interest applies to the silver market. Volume in the popular silver ETF SLV remains at year-to-date lows. The silver price keeps trying and failing to break above resistance at $32.50. Precious metals and commodities are being being boosted by a weakening US dollar; the Dollar Index (USDX) closed down 0.76% yesterday at 76.99. The Japanese yen – another long-standing “safe haven” currency – has also weakened in recent days, underscoring the increasing risk appetite among traders.

Interesting developments are also afoot with regards the Chinese yuan. Following a vote in the US Senate in favour of protectionist measures against the Chinese – owing to American complaints that the undervalued yuan is “stealing jobs” from America – the People’s Bank of China (PBC) has retaliated by raising the dollar-yuan central parity rate. Unsurprisingly, the yuan fell against the dollar in early trading yesterday, though this fall was reversed later in the session. Many investors remain bullish on the yuan over the long-term, with many predicting that one day it may function as a reserve currency. This bullishness will provide some resistance to PBC devaluation efforts.

China also faces a serious inflation problem that will only get worse if the PBC attempts to re-peg the yuan to the US dollar. If it does attempt to re-peg, angry American politicians will demand more protectionist measures against China, while the Federal Reserve may resort to more quantitative easing in an effort to force the PBC’s hand, as more QE in America will result in more dollars flooding into China – something that will drive inflation in China even higher if the PBC insists on suppressing the yuan-dollar exchange rate.

Gold is the only winner in this devaluation race. Governments may not succeed in devaluing their currencies against other fiat currencies, but they sure-as-hell will succeed in devaluing their issuances against the yellow metal. As former Federal Reserve chairman Alan Greenspan recently remarked: "Gold, unlike all other commodities, is a currency," he said. "And the major thrust in the demand for gold is not for jewelry. It's not for anything other than an escape from what is perceived to be a fiat money system, paper money, that seems to be deteriorating."