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Heraeus Precious Appraisal

  • Edition 15 - 03. May 2021

Some central banks are concerned about inflation, but not the Fed

Federal Reserve Chairman Jay Powell thinks higher inflation will be transitory. Unfortunately, his predecessors at the Fed said the same thing about low inflation and that proved to be very long lasting. Other central banks are not so sure. Hungary’s central bank recently announced the purchase of 63 tonnes of gold which tripled its gold holdings. One reason given for the purchase was to hedge inflation risks.

Central bank gold purchases turned net positive for the year in March, with Hungary’s large gold purchase, after some sales in January. The head of the Polish central bank has also said that the bank should add 100 tonnes of gold over the next few years to lift gold’s share of reserves to 20% from around 8% currently.

Gold purchases by central banks in 2020 were much lower than in 2019 and coincided with a sharp drop in jewellery demand and lower technology requirements too. Previously, large central bank purchasers have either stopped buying (Russia, China) or turned sellers (Turkey). Central bank gold buying is likely to remain intermittent without these systematic purchasers and add only moderately to overall gold demand. Gold demand fell 14% last year (source: World Gold Council) as gains in investment demand were unable to offset the other declines. However, that still enabled the gold price to gain 24% during the year.

For gold investors the question is: which will be more important, bond yields or inflation? Changes in the gold price have been well correlated with movements in bond yields; lower bond yields have been accompanied by higher gold prices. With bond yields rising this year, the gold price has fallen. Higher inflation should mean higher bond yields and therefore lower gold prices, but the gold price has been correlated with inflation in the past. That means that if inflation continues to be a concern, the gold price needs to break its connection to bond yields and follow inflation higher.

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