Talk of a synchronized world – all three economic superpowers are in recession. The U.S. suffers from industrial recession, Japan from export recession while Germany may fall into a broad economic recession.
Will the gold market react to this news?
Recent U.S. Data Shows Industrial Recession
The recent inversion of the yield curve has sparked recessionary fears. Some of the newest pieces of U.S. economic data confirm the gloomy outlook. For example, the industrial production fell 0.2 percent in July, the second drop in the past four months as one can see in the chart below. Although the scale of slump might be overstated due to Hurricane Barry hitting oil production in the Gulf of Mexico, the industrial sector remains in a technical recession.
However, other recent economic reports have been more positive. Retail sales surged 0.7 percent in July, beating expectations. As the chart below shows, there is also an improvement on an annual basis. And that's not all. when omitting auto dealers and gasoline stations, retail sales scored an even stronger gain of 0.9 percent last month.
Chart 1: Annual percentage change in the U.S. industrial production (green line) and the retail sales (red line) from January 2010 to July 2019.
Moreover, the CPI increased 0.3 percent in July after rising 0.1 percent in June, according to the BLS. The core CPI also rose 0.3 percent, the same increase as in June. On an annual basis, the overall inflation rate jumped 1.8 percent, an acceleration from the 1.6-percent change in June while the core CPI rose 2.2 percent over the last 12 months, slightly more than the 2.1-percent increase for the period ending June, as the chart below shows.
Chart 2: Annual percentage change in the US CPI (green line) and the core CPI (red line) from January 2015 to July 2019.
Although higher inflation is not good news for consumers, it can soothe the nerves of doves among the FOMC and those who believe that subdued inflation is bad for the economy. However, the markets still expect two more interest-rate cuts this year – the modest acceleration in inflation notwithstanding.
And that is the best fundamental combo for gold: higher inflation and a dovish Fed.
Japanese And German Exports Suffers
Although the factory sector is in technical recession, the U.S. economy appears to be on a much more solid footing than Japan or the Eurozone. In the Land of the Rising Sun, exports fell 1.6% from a year earlier, marking the eighth decline in a row. At the same time, manufacturers' confidence turned negative for the first time in over six years
When it comes to Germany, the Eurozone's economic powerhouse, it may already be in recession. Its GDP fell 0.1 percent in the second quarter of 2019. To make matters worse, the Bundesbank said on Monday that the German economy could have continued to shrink over the summer. The downturn stems from weak industrial production amid a dearth of orders. The trade war finally hit both export-focused economies. Although the services sector should provide support for Germany (and Japan), there are some signs that the industrial downturn will be felt in the labor market.
Given that slump and the fact that inflation in the Eurozone is now running at 1 percent, the European Central Bank could opt in September for further stimulus, perhaps even bigger than expected. It should weaken both the euro and gold against the U.S. dollar. However, it can also increase the safe-haven demand for gold – if the ECB's action scares European investors.
Implications For Gold
What does it all mean for the gold market? On the one hand, the U.S. remains in much better shape than Japan or the Eurozone. This should support the U.S. dollar, creating downward pressure on gold prices. On the other hand, the global slowdown may eventually spread to the U.S. When that happens – and the yield-curve inversions suggests it's only a matter of time – gold should shine.