Over the last few days, the two most important people in the world held press conferences. What did they say and how can these remarks affect the gold market?
Powell Faces Difficult Questions
On Wednesday, Powell held a press conference. We have already analyzed the latest FOMC statement and the dot-plot, but there was not enough room to discuss Powell’s answers to journalists’ questions. Let’s do it today.
Steve Liesman from the CNBC asked a good question why the Fed thinks that the interest rates will be above neutral in 2020 and 2021. Powell did not know what to say, so he replied that “some of the participants have mostly very modest overshoots of their personal estimates of neutral”. We bet that there is just a need to return to a more normal level of interest rates, partially to have some ammunition when the next crisis hits. Anyway, whatever the reason, when the actual federal funds rate will be higher than the estimated neutral level, the monetary policy would turn into restrictive. The hawkish stance will not help the gold prices – unless it triggers, after some lag, the next recession.
Howard Schneider from Reuters also had an interesting question. He asked about the flat Philips curve. And Powell again couldn’t give a satisfactory answer. He just said that “the inflation process has changed dramatically,” but it is not an answer – this is exactly something that needs an explanation. OK, Powell also mentioned anchored inflation expectations, but it did not sound convincing. Anyway, the lack of inflationary response to very low unemployment level is bearish for gold prices. The yellow metal loves high and rising inflation – not a stable level around the Fed’s target.
Michael McKee from Bloomberg Radio and Television noted that financial conditions are still extremely loose despite the Fed’s tightening cycle. We pointed out this feature of the US current economy many times, arguing that this is one of the main reasons why the interest rate hikes do not have to lead to an immediate recession. Gold bulls should remember about this and acknowledge the fact that, as Powell admitted, the Fed does not fully control the financial conditions.
Last but not least, Marty Crutsinger from Associated Press asked about the Fed’s outlook for the trade war and its possible effects on the economy. Powell admitted that businesses all over the country worried about disruption of supply chains. But he also emphasized that no negative effects are seen on a national level yet. So, we also agree that the impact of a trade war on the U.S. could be dire, we fortunately have not seen a trade war so far, just trade disputes.
Trump Announces New NAFTA
Actually, the likelihood of trade wars has diminished recently. Yesterday, Trump held a press conference on details of a new trade agreement reached between the United States, Mexico and Canada. He said that he was thrilled to share truly historic news:
It’s my great honor to announce that we have successfully completed negotiations on a brand new deal to terminate and replace NAFTA.
Indeed, the accord would be renamed the USMCA (United States-Mexico-Canada Agreement). But do not be fooled by this political theater: the agreement largely leaves the broad deal intact. And what is really important: the new-old deal maintains the current supply chains that would have been fractured under weaker bilateral deals. It means no or weak business disruptions. Hence, the NAFTA has been successfully renegotiated, which would be a positive development for the U.S. economy. The fears should ease now, spurring further investment demand into the equity sector and other risky assets. But gold is a safe-haven asset, so it should suffer on a relative basis.
Implications for Gold
Powell did not say anything new, but he expressed his readiness for further hikes, even above the neutral level. Indeed, he said:
Maybe we'll be raising our estimate of the neutral rate and we'll just go to that, or maybe we'll keep our neutral rate here, and then go one or two rate increases beyond it.
Such a hawkish stance is bearish for the gold prices in the medium term. The yellow metal could, thus, remain under downward pressure. As one can see in the chart below, gold can’t return above $1,200.
Chart 1: Gold prices from September 28 to October 1, 2018.
And a few days later, Trump announced the replacement of NAFTA. The new deal with Mexico and Canada eases the worries about the trade wars. It’s, thus, another negative factor for the gold market.
Disclaimer: Please note that the aim of the above analysis is to discuss the likely long-term impact of the featured phenomenon on the price of gold and this analysis does not indicate (nor does it aim to do so) whether gold is likely to move higher or lower in the short- or medium term. In order to determine the latter, many additional factors need to be considered (i.e. sentiment, chart patterns, cycles, indicators, ratios, self-similar patterns and more) and we are taking them into account (and discussing the short- and medium-term outlook) in our trading alerts.