Continuing Chinese growth, rising interest in gold as an investment among domestic consumers and institutions, inflation concerns, increasing income levels and ongoing market uncertainty are all boosting demand for the metal.

In a report* published yesterday, the World Gold Council (WGC) said Chinese gold consumption will continue to rise and has the potential to double from 2009 levels in the next decade. That would certainly suit the organisation, which was set up by a group of mining companies to promote the benefits of holding gold, and wants to see more demand for gold from China and Japan, among other countries.

China is the second largest gold-consumption market, the world's largest producer and has been the biggest net buyer of gold since 2007, says WGC. Historically, most of this demand has been satisfied by domestic gold production, adds the report. But growth in Chinese gold demand has outpaced domestic production growth since 1992, even before private ownership of gold was permitted in 2001 and the Shanghai Gold Exchange opened the year after.

Gold demand from China's two largest sectors -- jewellery and investment -- reached a combined total of 423 tonnes in 2009, but total domestic mine supply contributed only 314 tonnes during the same year. Cumulative demand for the metal -- which includes jewellery consumption (not fabrication), investment demand and industrial demand -- exceeded 6,000 tonnes last year and is now worth more than $14 billion.

However, relative to the Western world, Chinese consumers are catching up in terms of gold demand since the deregulation of the gold industry in 2001. China -- along with some other developing countries such as Russia, India and Brazil -- still has a lower gold-consumption intensity (0.33gm) than Western economies.

Jewellery is by far the main driver of Chinese gold demand, accounting for almost 80% of gold consumption in the country, says WGC. Chinese gold jewellery off-take increased 6% year-on-year to 347.1 tonnes in 2009, and China was the only country to register an increase in jewellery demand last year. But per-capita consumption of gold jewellery in China of 0.26gm remains low when compared to countries with similar gold cultures.

Meanwhile, China's net retail investment in gold reached 80.5 tonnes last year, up 22% on 2008. "Gold's role as a monetary asset, a global currency and an insurance policy providing protection against the unknown, certainly seems to be working in its favour," says the report. "Near-term inflationary expectations and rising income levels are likely to provide further support to the local market for gold."

Governments and institutions are also increasingly aware of the benefits of gold, adds WGC. But while the gold holdings of China's central bank -- the People's Bank of China (PBoC) -- have been creeping up in recent years, as a percentage of total reserves (currently 1.6%) its allocation remains low by international standards.

China is already a major buyer of US Treasuries, but with ongoing uncertainty surrounding the future direction of the dollar, the search for alternative international asset choices for the PBoC's balance sheet may lead it to consider gold.

With total reserves of $2.4 trillion, China still has the "firepower" to increase its gold allocation, notes WGC. If PBoC were to move back up to its recent (final-quarter 2002) peak gold-holding ratio of 2.2% of total reserves, the incremental demand would amount to a further 400 tonnes at the current gold price, says the report. Even a rise of 10% from current levels of holdings would translate into incremental demand of 100 tonnes.

Industrial gold consumption has been growing steadily over the past decade, yet industrial demand for the metal in China has lagged that of developed Western countries. Over the medium term, industrial demand is likely to recover as global economic conditions and Chinese exports improve, says WGC, and it could "easily revert to historical averages".

There could be issues on the supply side, however. Unless there is more funding directed towards domestic gold exploration, mining supply growth in China is likely to decline in the medium- to long-term, says the report.

Despite domestic miners having stepped up gold production by 84% over the past decade, China's known reserves comprised just 4% of total global reserves in 2009, according to the US Geological Survey. Assuming these figures are correct, China could exhaust its existing mines in six years, or even quicker if demand for gold experiences a sudden surge, says WGC.

*China gold report: Gold in the year of the tiger.