by Alasdair Macleod, Gold Money:
It is commonly assumed that the gold price and interest rates move in opposite directions. In other words, a tendency towards higher interest rates is accompanied by a lower gold price.
Like all assumptions about prices, sometimes it is true and sometimes not.
The market today is all about synthetic gold, gold which is referred to but rarely delivered. The current relationship is therefore one of relative interest rates, because positions in synthetic gold, in the form of futures and forwards, are financed from wholesale money markets.
This is why a rumour that interest rates might rise sooner than expected, if it is reflected in forward interbank rates, leads to a fall in the gold price.
To the extent that this happens, the gold price has been captured by the modern banking system, but it was not always so. The chart below shows that rising interest rates were accompanied by a higher gold price in the 1970s after 1971.
We can divide the decade into four distinct phases, numbered accordingly on the chart. In Phase 1, to December 1971, interest rates fell and gold increased in price, much as today’s market expectations would suggest, but from then on until the end of the decade a strong positive correlation between the two is clear. So why was this?
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