On Tuesday, 11 August, China announced a surprise devaluation, prompting a four-year low against the US dollar. This is the largest one day devaluation we have seen from China since 1994 and is thought to be a strategic move to boost exports to propel growth.

Speculators believe this may spark a series of global currency wars. Just last week I discussed the downward trend of gold prices (here), but in light of China’s devaluation and the uncertainty of the impact, gold’s title as a safe haven investment may be more relevant than previously thought.

Impact on commodities

China is currently the biggest consumer of commodities, importing over half of the world’s metals output. The devaluation has been perceived as a signal for a weaker Chinese economy with slower growth prospects – bad news for commodities, implying China will want to import less. Over the past few months, we have seen a downward trend in Chinese imports and commodity prices, paralleled with the slowdown of China’s economy.

However the sudden devaluation has confirmed fears of a weaker China, sending shock waves through commodity markets. Following Tuesday’s announcement, copper, crude oil and aluminium prices all dropped significantly, with copper reaching a six-year low.

Not forgetting that a devalued Yuan means imports become more expensive for China, likely to further dampen China’s appetite for commodities.

International Response

China’s devaluation has significantly impacted international markets and there is a great deal of speculation of how countries and central banks will react. The fall of the Yuan dragged down currencies which follow commodity export prices; this has had particularly damaging effects for the Russian Rouble and Asian currencies. Stocks and yields were also affected, with export-led economies, Germany and the US, under particular pressure.

It is unclear how other economies will respond. It is widely anticipated that the Federal Reserve will postpone the long awaited US interest rate rise – a weaker Yuan combined with higher interest rates would depress US inflation. This is good news for gold as higher interest rates raise the opportunity cost of holding gold, an asset that doesn’t pay interest. Many central banks will need to take measures to protect their own currencies against a falling Yuan and have begun to do so already. There is speculation as to whether some economies will want to retaliate more aggressively against China, using sanctions. The one thing that is clear, however, is that there is a great deal of tension and uncertainty in international currency markets. This uncertainty is good for gold since it remains unaffected through the turbulence; investors enjoy the safety and stability investing in gold brings.

Gold as a Safe Haven

Despite fears of falling commodity prices, gold rose to a three week high on Wednesday, 12 August. This clearly indicates growing confidence in gold as a safe investment in a time when it is unclear what the landscape of global currencies will be. Silver and platinum prices also rose, suggesting similar effects across precious metals.

Having said that, Thursday saw yet another fall in the price of gold as the dollar strengthened, easing concerns over the losses caused by China’s currency devaluation. While the uncertainty surrounding China’s devaluation does attract investors to the safety of gold, gold is still vulnerable to dollar strength. Also, once the dust settles and markets stabilise, the underlying effect could just be a reduced demand for gold, pushing down prices once more.

While it can be argued that gold may not be such a lucrative and stable investment at all times, the behaviour of investors has made evident that in immediate periods of trouble and insecurity, investors still choose to flock back to gold. The persistent uncertainty over the past few days leading to increased gold prices over the weekend stands testament to this. Perhaps we were too quick to dismiss gold’s value as an investment in today’s world.