Gold Price Climbs Despite China’s Rate Hike

GOLD PRICE NEWS – The gold price climbed $7.10 to $1,523 Wednesday after China raised interest rates for the third time this year.  The price of gold fell as low as $1,510 per ounce before bouncing back above $1,520 after the People’s Bank of China announced that the one-year lending rate will rise to 6.56% from 6.31%, effective tomorrow.  Commodities, notably copper – lower by 0.8% to $4.32 per pound – fell across the board on concerns that China’s fight to stamp out inflation will weigh on its growth rate.

Next week, China’s statistics bureau will release the nation’s consumer price inflation data – expected to climb to over 6%.  The pre-emptive move interest rate hike led to fears that the spike in prices, notably for food, could exceed analyst estimates.  The euro sank against the U.S. dollar, dropping to 1.43 while S&P 500 equity futures declined 6.80 to 1329.90.

On Tuesday, the gold price climbed $19.38 to $1,515.88 per ounce amid broad-based gains in precious metals.  Silver rallied alongside the gold price, rising $1.32, or 3.9%, to $35.47 per ounce.  Gold equities surged higher as well, with the AMEX Gold Bugs Index (HUI) rising 3.0% to 528.42.  Notable advancers included AngloGold Ashanti (AU), Yamana Gold (AUY), and Kinross Gold (KGC) – which added 1.5%, 6.6%, and 4.8%, respectively.  Gold mining stocks moved slightly higher early Wednesday on the back of stronger gold prices.

The gold price rally on Tuesday coincided with this past weekend’s release of an extensive report on the gold market.  Erste Group published its fifth Gold Report, explaining why its long-term gold price target of $2,300 per ounce “could come out on the conservative side.”

With the gold price continuing to post new all-time highs in most major currencies in 2011, Erste Group contended that “gold has been more and more regarded as the purest form of money and increasingly less as a commodity.  It has an international currency code (XAU), and is still held by global central banks as a key reserve.”  To further illustrate its point, the firm highlighted that along with the CME Group and International Exchange (ICE), J.P. Morgan now also accepts the yellow metal as collateral.  In addition, the European Commission for Economic and Monetary Affairs recently began to accept the gold reserves of its member states as collateral.

Erste Group went on to discuss the significant impact of monetary policies on the gold price over the past decade.  Since 2007, the Federal Reserve, European Central Bank (ECB), and the Bank of England have expanded their balance sheets by over $4.5 trillion.  While that amount has helped fuel the gold price advance – according to the firm – of further significance is the fact that real interest rates have remained in negative territory for 47% of the time since 2000.  Based on historical data, Erste determined that the gold price has on average gained close to 20% per year when real interest rates are in negative territory.

As for those who believe the gold price has reached bubble territory, Erste Group noted in spite of its rise over the past decade, gold currently only accounts for approximately 1% of global financial assets.  Furthermore, the gold analyst community remains particularly cautious in its gold price forecasts.  According to Bloomberg, the median gold price estimate for 2012, 2013, and 2014 are $1,400, $1,231, and $1,159 per ounce, respectively.  From a contrarian perspective, these estimates represent a rather bullish sign for the price of gold.

Moving forward, Erste Group asserted that “The global expansion of monetary supply should continue to provide gold investments with a positive environment. The reaction to the current crisis is already feeding into the next crisis. Trying to resolve a crisis with the very same instruments that caused it (i.e. an expansive monetary policy) would seem to be clutching at straws.”

In terms of specific gold price targets, the report included numerous analyses that took into account the unprecedented expansion of monetary supply in recent years.  If the Federal Reserve were to depreciate the U.S. dollar to a level that would cover systemic bank liabilities, according to Erste Group, the gold price would be just under $10,000 per ounce.  In another scenario, if the ratio of U.S. gold reserves (at market prices) to the M2 money supply were to reach its former high from 1980 of 14%, that would imply a gold price of $5,400 per ounce.

Erste Group concluded its report by noting that in light of the 2012 U.S. elections, a third round of quantitative easing (QE3) “should not be ruled out (after an ‘observation period’).”  The firm contended that the Fed and ECB will be forced to keep interest rates at extremely low levels in their attempts to avoid further recessions.  The “global reflating policy,” coupled with negative real interest rates and a still-fragile geopolitical environment, will provide substantial tailwinds for the gold price in the years ahead.