The Two Factors That Influence Gold Prices
Here’s two of the most intuitive factors: Supply and demand as well as inflation.
It may be an oft-overlooked point, but simple supply-and-demand economics can influence physical gold prices as well.
As with any good or service, increased demand with constrained or low supply has a tendency to pull prices of that good or service higher. Conversely, an oversupply of a good or service with stagnant or weak demand can push prices lower.
According to the World Gold Council, gold demand during the first-half of 2016 grew 15% to 2,335 tons, with investment demand surging 16% to its highest levels since 2009. However, gold supply only increased by 1% during the first-half of 2016, which represents the slowest rate of first-half supply growth since 2008. Growing demand and constrained supply have been a reason gold prices have headed higher this year.
While far from a guarantee, rising or higher levels of inflation tends to push gold prices higher, whereas lower levels of inflation or deflation weigh on gold.
Inflation is almost always a sign of economic growth and expansion. When the economy is growing and expanding, it’s common for the Federal Reserve to expand the money supply. Expanding the money supply dilutes the value of each existing monetary note in circulation, making it more expensive to buy assets that are a perceived store of value, such as gold. This is why quantitative easing programs that saw the monetary supply expand rapidly were viewed as such as positive for physical gold prices.
In recent quarters inflation has been relatively tame (just above 1%). A lack of inflation has been one factor that’s coerced the Fed not to raise lending rates, but it’s also held down gold prices which typically perform better in a rising inflation environment. This push-pull between interest rates and inflation can play a constant tug-of-war on gold prices.
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