China’s Bitcoin Meddling Reinforces Gold’s History as a True Store of Value

As they say, a chain is only as strong as its weakest link, and right now Bitcoin’s weakest link is China. About 65% of the world’s Bitcoin mining took place in China as of April 2020, according to an estimate by the University of Cambridge.

Given China’s dominance of Bitcoin mining and therefore its critical role in the stability of the Bitcoin network, the country has presented an enormous concentration risk that has been widely neglected by both crypto speculators and the media – until now.

China’s Crackdown on Bitcoin

On June 20th, 2021, officials in Sichuan province, one of China’s largest crypto mining hubs, ordered a crackdown on all Bitcoin and major Cryptocurrency mining. Shortly after there was a report published in the Chinese state media outlet Global Times, which stated that more than 90% of China’s bitcoin mining capacity was going to be shut down.

The next day China’s central bank held talks with a number of Chinese banks and payment institutions, asking them to screen the capital accounts of cryptocurrency exchanges and over-the-counter dealers and cut relevant payment links.

China’s actions spooked crypto investors and caused the price of Bitcoin to plummet to under $30,000 on June 22nd, as investors continue to grapple with an unpredictable and rapidly changing landscape.

While these recent regulatory shifts in China have cost billions of dollars in losses for Bitcoin holders, this kind of volatility is not new to crypto investors. However, these unforeseen policy changes in China are likely to have a deeper and larger impact on the Bitcoin network, with roughly two-thirds of the world’s mining power vanishing overnight.

China’s Chess Moves

One of the most controversial and widely discussed criticisms against the global expansion and use of Bitcoin and cryptocurrencies has been that governments would eventually intervene and fight back to protect their own interests.
Though many countries including the US and India have threatened to fight back against Bitcoin, China is leading the way, as the cryptocurrency poses a threat to its strict capital controls.
Not only does China have its own sovereign interests to protect, it has also created its own digital currency, the cyber yuan. In doing so, any cryptocurrency is now a direct competitor against the world’s second largest economy, which is very keen to become the world’s leading currency.
If China did want to knock the US Dollar out of its position as the world’s global reserve currency (and it is suspected that this is very much one of China’s goals), creating a digital currency war would be one way to do it. In fact, China’s strategy is eerily reminiscent of the way the US corralled gold supplies to position itself as the world’s reserve currency in the 1900s.

Even prolific investor and Bitcoin enthusiast Peter Thiel stated recently: “Even though I’m a pro-crypto, pro-Bitcoin maximalist person, I do wonder whether if at this point Bitcoin should also be thought of in part as a Chinese financial weapon against the U.S.”

A Brief History of Gold as Currency

Gold often gets blasted by crypto investors as a relic of the past with no real value in modern-day society. But historically, gold has been used as a currency dating all the way back to 550 BC.

The Gold Standard, a monetary system whereby a country’s currency is directly linked to gold, which is set at a certain price, was formally adopted by Britain in 1819. The period from 1880 – 1914 is known as the classical Gold Standard, during which the majority of countries adhered to gold, and the British pound sterling was the world’s leading reserve currency.

The system began to break down during World War I, when the countries involved in the war suspended the Gold Standard to print money to pay for military expenses, devaluing their currencies in the process.

In 1934, US President Franklin D Roosevelt passed the Gold Reserve Act, which banned private ownership of gold and forced Americans to turn their gold in exchange for US dollars, increasing the US’s gold reserves.

During World War II, countries bought military supplies from the US and paid for them in gold, depleting their gold resources and making the US the world’s largest holder of gold.

In 1944, delegates from 44 countries met in Breton Woods, New Hampshire, where the United States, as the world’s largest holder of gold, pledged to fix the US Dollar at $35 an ounce. Other countries then fixed their exchange rates to the Dollar, making the US Dollar the world’s reserve currency.

However, in 1971, after accumulating huge debts and with its gold supplies running low, President Richard Nixon was forced to intervene, and the US dollar was decoupled from gold entirely, bringing us to where we are today – with government-backed fiat currencies that are not tied to a physical commodity. Yet the US Dollar still remains the world’s reserve currency – for now.

Interestingly, Benn Steil, who wrote the book The Battle of Bretton Woods, which details the Bretton Woods conference that ended with the US becoming the world’s reserve currency, says he has sold more copies in Chinese than English. “The Chinese love the Bretton Woods story,” Steil told Planet Money. “They see us here in the United States as being the British of the 1940s. And they see themselves as being the Americans of the 1940s.”

Is Gold the Next Contrarian Asset Class?

While today’s gold prices oscillate with investor sentiment driven by political and economic forces, over a longer period gold has still proven to be a great store of value, having appreciated 5,000% from $35 per ounce in 1971, when President Richard Nixon closed the U.S. gold purchase window, to $1,750 today – or an 8% CAGR.

Given the extraordinary current macroeconomic setting, including a post-pandemic economic rebound which is being fueled by record-low interest rates and monetary stimulus, the stock market remains buoyant.

Meanwhile, there’s extreme uncertainty about a new asset class – digital currency – that is shifting political and financial power away from government-backed fiat currencies, but that is also susceptible to extreme price swings at the hands of unpredictable (some would say erratic) forces like Elon Musk and China.

As they say, a bird in the hand beats two in the bush. In a similar vein, while everyone is busy speculating over Bitcoin and the US Dollar, they are blindly ignoring the obvious store of value that has stood the test of time – dating all the way back to 550 BC.

With the world still very much in the thick of rising inflation thanks to excessive money-printing during the pandemic, gold prices have actually come off in recent weeks. This is unusual, as historically gold prices rise with inflation. It seems gold is arguably becoming a contrarian asset class as a new generation of investors seek to pioneer the future, while forgetting about history.

While it is hard to bet against the crowd, being a contrarian investor in a market with so many unknowns, starts to make a lot more sense as prices fall. In recent weeks, gold prices have come down from $1,900 per ounce to $1,775 or about a 7% drop, which continues to create a new buying opportunity.

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