By Kishori Krishnan Exclusive To Gold Investing Newswidth=300

Its sabre rattling of the worst kind. Trade friction between the United States and China has reached gigantic proportions. And gold appears to be caught right in the middle of these heavyweights doing their dance routine.

Americans are increasingly disturbed by the growing economic clout of China. With Chinese growth rates consistently above nine per cent, most US citizens accuse it of stealing US jobs, of keeping the yuan undervalued by pegging it to the dollar, of exporting deflation by selling its products abroad at unfair prices, and, above all, of buying up gold like there was no tomorrow.

Economic statistics point to this swing: Chinese exports to the United States peaked at $34 billion a month in October 2008, just as the full extent of the global financial crisis was being realized in the United States.

By February 2009, they had fallen to less than $19 billion. But since then, they have risen more or less steadily to $29.5 billion in October 2009, a report by Reuters has revealed.

But, hark back a bit to understand the situation playing out on the global stage. Ever since US President Barack Obama announced special duties on tire imports from China in September last year, trade tensions between two of the world’s most important economies have tightened and spread to other areas.

Gold got seared too.

The US placed tariffs starting at 35 per cent on $1.8 billion of tire imports from China, backing a United Steelworkers union complaint against the second-largest US trading partner.

Apply the brakes here - Was it a mere coincidence that the US tariffs on Chinese tires came only days after gold and silver staged important, technical break-outs?

Then, the tit-for-tat game began in right earnest.

Two days after Obama imposed tariffs on tire imports from China, the Asian major announced a probe into the alleged dumping of American auto and chicken products.

Does this portend the way ahead?

Cosying up

The Asian major’s sudden love for gold has also not gone unnoticed.

China Gold Association said the country’s gold demand grew by an estimated 13.8 per cent year on year to 450 tons in 2009, compared to 395.6 tons in 2008.

China alone accumulated $150 billion in reserves in the third quarter, pushing the total to $2.3 trillion. These are colossal sums.

China is amassing almost as much each month as the United States ($63 billion) has built up in the entire history of the country. True, the US understates the value of its gold, but you get the picture.

Something big is going on here.

Moreover, China’s revelations that it has been in a continuous accumulation mode for the last several years and is now the fifth largest sovereign reserve of gold created an impetus in the gold camp that has been seen lacking in the past.

A question that begs to be asked - By making a bold statement about its holdings, did the country want to undermine the value of its $2 trillion in US debt holdings?

Chinese capers

The Chinese government has a kitty of over $2 trillion, mostly greenbacks. Unfortunately, Beijing is not terribly fond of this currency right now. It believes the dollar may well become a dud, given US’ persisting economic woes.

So, it wants to stock up on something whose value does not change with one country’s policy moves. Gold fits the bill.

By shoring up on gold, China is clearly showing the US dollar the door. For China, the “game” is to dump its US dollars as fast as possible. Not an issue for China, as so many US propagandists continue to assert. It wants to buy up hard assets (i.e. commodities and commodity-producers) as fast as it can, and the US dollar is still the most popular medium of exchange for the world.

But for how long, one wonders?

Going long

Since 2003, Beijing has been buying most of the gold excavated and refined locally. It was a perfect strategy. No one in the international market was any the wiser and the bill was paid in yuans.

Today, China is said to have more than 1,000 tonnes in its official vaults, up 75 per cent in six years.

Now consider this: what would be the impact if China were to increase its gold holdings from the current less than 2 per cent of its $2.2 trillion reserves to 6 per cent or even 10 per cent? Each 1 per cent increase in gold weighting would mean gold purchases of more than $20 billion, or nearly 600 tonnes. A tall order?

Moreover, China has been careful to avoid buying gold on the international market, for fear of creating a stampede of sorts into the precious metals market. Not only would this immediately increase the cost of its stated intention to continue accumulating gold towards the backing of the yuan (renmibi) as a global reserve currency, it would clearly help the country indulge in one-upmanship, if the need so arose.

Reports indicate that during the first six months, mid-sized Xingye Bank, which offers gold trading business with Shanghai Gold Exchange, traded 20.9 billion yuan ($3 billion) worth of gold for its clients, almost three times as much as they did last year.

Other than earning a commission for buying and selling for their clients, the bank is also making a gamble itself. It traded 15.3 billion yuan ($2 billion) worth of gold on its own account, up 15 per cent from last year.

And this happens to be just a single example of the goings-on behind the Great Wall of China.

New found love?

There has clearly been a volte face.

After decades of dissuading the public from buying precious metals as an investment, China has changed the rules concerning the sale of physical gold in the form of bars or coins to private individuals. Not only have they allowed sales, but they are actively encouraging the process with TV advertisements.

Given the high speculative activity in shares and property in the Chinese stock market, is this move meant to encourage investment in metals as an attempt to soak up excess liquidity from the market and hence reign in inflationary forces?

The jury is divided on that one.

One thing is for sure though. Given that China’s retail investors are trading more of the yellow metal, often using borrowed money, it is further evidence that recent high gold prices may not be sustained.

And as imports bounce back from 2009 lows and American factories seek protection from lower-priced Chinese competition that they blame for lost sales and jobs, gold is expected to trade in a tight band.

Loud or otherwise, the message is clear: attack Chinese imports and thus its manufacturing sector, and China will `theaten’ to dump US dollars to buy gold. This could end up being a double-whammy for the US government and the Wall Street oligarchs they serve.

Gold price

On Thursday, the price of gold jumped more than $20 overnight to a three-week high of around $1,114. Demand for the precious metal shot up on the back of the weakening American dollar and a renewed appetite for commodities from the investment community.

On Friday however, gold price eased, as the dollar firmed hitting a fresh four-month high, on growing expectation of an upbeat jobs report from the US.

Clearly, the US is engaged in a second cold war.  With golden bullets, this time?