After the aggressive interest rate hikes by the Federal Reserve, the U.S. inflation rate shows signs of slowing, but it is still some distance away from the Fed’s target of 2%. Meanwhile, the price of gold has recently performed strongly, hitting a historic high of over $2,400 per ounce in May this year. Although the price of gold has since retreated slightly, it is still up more than 20% compared to last year.
Generally, when the inflation rate rises, the price of gold often increases because gold is regarded as a safe-haven asset that can hedge against the devaluation of currency caused by inflation. Therefore, when inflation intensifies, people tend to shift their funds towards physical assets like gold to preserve their value or achieve higher returns.
Following this logic, if the inflation rate indeed falls to 2%, the demand for gold as a safe-haven asset will weaken, thereby negatively impacting gold prices.
However, inflation is only one of the many factors that affect the price of gold.
The U.S. inflation rate directly influences the Federal Reserve’s monetary policy and interest rate decisions. A downward trend in the inflation rate will prompt the Fed to cut interest rates, which is favorable for gold. The underlying logic is that in a high-interest-rate environment, investors can obtain high risk-free returns by purchasing government bonds or depositing funds in high-yield savings accounts, which effectively raises the opportunity cost of holding gold. If interest rates decrease, some funds may flow into gold and other markets.
Now the question arises, a falling inflation rate is bearish for gold, but the Fed’s subsequent rate cuts are bullish for gold. If the inflation rate really drops to 2%, will the price of gold rise or fall?
Alex Ebkarian, Chief Operating Officer and Co-Founder of gold investment company Allegiance Gold, stated that if this happens, the demand for gold could weaken and prices might fall. However, the Fed’s reported inflation rate is a year-over-year figure, so even if it drops to 2%, the persistently elevated prices over the past three years are still exerting their “lingering effects.” From this perspective, gold prices might remain strong at least in the initial period of low inflation as a store of value.
Nonetheless, Roger D. Silk, Ph.D., Founder and CEO of wealth management company Sterling Foundation Management, indicated that in the short to medium term, the inflation rate alone cannot determine the trend of gold prices. Instead, macroeconomic and geopolitical factors have a more significant influence, such as the depreciation of the U.S. dollar, the risk of large government deficits, de-dollarization, and banking risks driven by the real estate sector. Based on the above analysis, the impact of a falling inflation rate on gold will be neutral.
In conclusion, while inflation affects the price of gold, many other factors also play a role. Therefore, if the U.S. inflation rate falls to the Fed’s target of 2%, it does not necessarily mean that the price of gold will rise or fall. Other factors such as government deficits and global political instability will also influence the investment behavior of gold investors.
