The Federal Reserve maintained the fed funds rate at the previous week’s meeting, as expected. This continues the streak of 17 Fed meetings since March 16, 2022, where the forecast has been spot on. The press conference led by Jay Powell after the FOMC meeting touched on several subjects including quantitative tightening (QT), potential tapering of QT, central bank digital currencies (CBDCs), and Fed transparency. Yet, there was minimal discussion about the interest rate policy.
Regarding the policy rate, Powell reiterated many of his points from last January, stating that the economy is doing well, but inflation remains high despite progress. He recognized the challenge the Fed is facing: “The risks are really two-sided here. …If we ease too early, we could see inflation come back… If we ease too late, we could impact the economy negatively.”
According to the Fed’s “dot plot,” indicating three rate cuts before 2024 ends, and Powell’s alignment with this perspective, it is anticipated there will be no rate cut in June, a “pause” in September, and 0.25% rate cuts in November and December. This policy direction aims to fulfill the Fed’s three-rate-cut forecast while allowing inflation to cool down, avoiding a political pitfall, and reducing rates quickly enough to avoid a recession.
However, this plan carries risks, as the assumption that interest rates and inflation have an inverse relationship might not be valid. History has shown that there is no reverse correlation between interest rates and inflation. The Great Depression (1929–1933) witnessed low interest rates and unprecedented deflation, while the Great Inflation (1977–1981) saw high interest rates and record-breaking inflation. In both instances, the Fed was not the initiator but responded to market forces and individual psychology.
In the current scenario, we could encounter the worst of all situations, with slowing growth, higher unemployment, and increased inflation simultaneously. As a consequence, gold is not only an excellent hedge against inflation but also the “everything hedge.”
Gold has been performing well, with a 21% increase since its interim low of $1,832 per ounce on Oct. 5, 2023. This significant gain comes after gold had been trading in a relatively tight range of $1,650–2,050 over the past two years. The recent market activity suggests a weaker dollar, and gold’s performance displays the real weakness in the dollar when used as a measure.
Several factors contribute to the rising gold prices, including supply and demand, the need for hedging against various risks, and U.S. threats to seize $300 billion in U.S. Treasury securities from the Russian Federation. With central bank demand for gold surging, constant output coupled with increasing demand by central banks provides a base for gold prices, establishing a trade with limited downside but unlimited upside.
Given the flat output, increasing central bank demand, hedging, protection against digital confiscation, and simple momentum, it is expected that the gold price rally will persist.
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