Date: 08/09/2023
Author: Mr. X
Don’t look now but China has entered deflationary territory. Consumer prices were down in July for the first time in two years. Wholesale and real estate prices are also declining. Surging debt and a declining population make the potential crisis very serious in China, once taken for granted as the growth engine for the global economy. A negative feedback loop could be underway, as deflation will make it more difficult to ensure economic growth.
Meanwhile, interest rates in the United States are now in the range of 5.25% to 5.5%, the highest level in 22 years. In June 2022, inflation was at 9.1%. Inflation is now at its lowest level since early 2021. Inflation is now at about 3%, significantly above the Fed’s 2% target but far better than many expected. It is still questionable whether there will be any more interest rate increases.
According to Federal Reserve Governor Michelle Bowman, when of the Fed’s most hawkish members, more interest rate increases will be needed. “I also expect that additional rate increases will likely be needed to get inflation on a path down to the FOMC’s 2 percent target,” she said earlier this week. “We should remain willing to raise the federal funds rate at a future meeting if the incoming data indicate that progress on inflation has stalled.” In contrast, Philadelphia Fed President Patrick Harker has said that it may be time to stop increasing interest rates. “I believe we may be at the point where we can be patient and hold rates steady and let the monetary actions we have taken do their work,” he said. However, he all but ruled out rate cuts. Either way, the rate of inflation (though not inflation itself) will likely decline in the short run in the United States.
India could prove to be an exception. Retail inflation accelerated to 6.4% in July, as food prices are growing especially fast. India’s government has responded by restricting exports, though most experts do not believe this will do much good. The government of Prime Minister Narendra Modi is relying on export restrictions and grain inventories to ease supply pressures, though inflation may hit 5% throughout the next fiscal year. However, even if inflation is higher, food is becoming more important than luxury purchases, including precious metals.
All of this is creating downward pressure on gold. Indian purchases of gold are expected to decline compared to last year, and will probably hit the lowest levels since the COVID-19 pandemic began. In 2023, purchases are estimated to be between 650 tons and 750 tons, compared to 774 tons in 2024.
Lower inflation and more restrictive Fed policies are also putting pressure on gold prices in the United States. Gold has fallen over the last two weeks and is coming off the biggest weekly loss since mid-June. The dollar is increasing in value, with the Invesco DB US Dollar Index Bullish Fund (UUP) up more than 1% over the last month and 1.7% over the last six months.
Finally, declining hopes for the Chinese economy as well as the spectacular possibility of deflation are another downward pressure for gold prices internationally. China is the world’s largest market for gold, but demand weakened in July even as gold reserves increased and withdrawals faded. Gold purchases increased earlier this summer as the economy showed signs of life, but as these fade, we can expect gold to fade also.
All this suggests that a buying opportunity may be nearing for precious metals. Gold is below $1,915 as of this writing. Gold has repeatedly tested $1,900 and remained above it, but that may not remain true for much longer. If the Fed moves for more rate hikes this year, look for gold to drop below this psychologically important level. From that point, it may fall even farther, especially as the Chinese economy struggles to stay afloat and India grapples with rising food prices.
Mr. X is an investment analyst working in the Washington DC area who specializes in the intersection of business and public policy. After fifteen years working in politics, he writes on a classified basis for RogueInvesting.com to bring you news on what those with power are debating, planning, and doing
