Gold Would Not Enjoy That FOMC Is Going More Restrictive / Commodities / Gold and Silver 2018

“Policy would need to become modestly restrictive fora time.” This is the key quote from the recent FOMC minutes. This is not areason for gold’s joy.

Fed IsBecoming More Hawkish

Yesterday, the Fed released minutes from the recent FOMC meeting. Aseveryone knows, the Committee hiked interest rates by another25 basis points in September. But what about the future stance? Well, the minutes signal that the FOMC is going to be more hawkish in the near future (as we havebeen warning for some time). The key paragraph is as follows:

Participantsoffered their views about how much additional policy firming would likely berequired for the Committee to sustainably achieve its objectives of maximumemployment and 2 percent inflation. A few participants expected that policywould need to become modestly restrictive for a time and a number judged thatit would be necessary to temporarily raise the federal funds rate above theirassessments of its longer-run level in order to reduce the risk of a sustainedovershooting of the Committee’s 2 percent inflation objective or the risk posedby significant financial imbalances. A couple of participants indicated thatthey would not favor adopting a restrictive policy stance in the absence ofclear signs of an overheating economy and rising inflation.

It means that only “a couple of participants” wouldnot raise the federal funds rate above theneutral level without strong indicators of accelerating inflation which couldrisk  overheating of the US economy.Meanwhile, the majority of them (this is our understanding of the sum of “afew” and “a number”) would not have any qualms to do that. The conclusion isclear: the restrictive policy is coming,brace yourselves!

Why Is Fed Tightening?

How the US central bank justified its hawkish stance?Well, the recent data is encouraging. Although inflation remains near 2 percent,it may modestly exceed the Fed’s target, as reports from business contactsindicate the rise in input prices due to the strong demand or import tariffsand the increased ability of domestic companies to raise the prices in anenvironment of trade wars.

Moreover, the labor market is tight. Job gains havebeen strong, while the unemployment rate dropped to a record low level. And manycompanies report difficulties in finding qualified workers, so some of themstart to increase salaries. So there might be an acceleration in wages, which is another reason for adopting a morerestrictive monetarypolicy.

Last but not least, household spending and businessfixed investment has grown strongly so far this year, while the pace ofeconomic growth has surprised positively a few of Fed officials:

Based onrecent readings on spending, employment, and inflation, almost all participantssaw little change in their assessment of the economic outlook, although a fewof them judged that recent data pointed to a pace of economic activity that wasstronger than they had expected earlier this year. Participants noted a numberof favorable economic factors that were supporting above-trend GDP growth;these included strong labor market conditions, stimulative federal tax andspending policies, accommodative financial conditions, solid household balancesheets, and continued high levels of household and business confidence. Anumber of participants observed that the stimulative effects of the changes infiscal policy would likely diminish over the next several years. A couple ofparticipants commented that recent strong growth in GDP may also be due in partto increases in the growth rate of the economy’s productive capacity.

What is important here is that “a couple ofparticipants” related the uptick in economic growth not to the easy fiscal policy, whichdissipate relatively quickly, but to the improve “productive capacity”, i.e. tothe supply factors, which are key for the long-term economic development. If this is true, the solid pace of GDP growth might last even without fiscalstimulus, to the gold’s despair.

Implicationsfor Gold

The recent FOMC minutes indicate that the US centralbankers are more emboldened to extend the current tightening cycle. The goldmarket saw little immediate reaction to the publication, as one can see in thechart below.

Chart 1: Gold prices from October 15 to October 17.

However, they may signal problems for the preciousmetals in the long-run. The Fed officials are less concerned about thepotential recession lurking around the corner and they consider furtherinterest rates hikes, even temporarily above the neutral level. The rising yields shouldwiden the divergence in monetary policies around theworld and strengthen the US dollar. The minutes could, thus, bolsterexpectations that the Fed will raise rates again in December despite the recentstock market turmoil. As a reminder, traders lag behind the US central bank – if they reprice the odds of hikes in theupcoming months, the yellow metal may struggle. Stay tuned!

Thank you.

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Arkadiusz Sieron

Sunshine Profits‘ MarketOverview Editor

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