LAWRIE WILLIAMS: FOMC reports – some relief for precious metals
Market views had been mixed as to whether the U.S. Federal Reserve would accelerate tapering and likely raise interest rates faster than it had previously suggested at the just concluded Federal Open Market Committee (FOMC) meeting. It had been a hard call. The former was perhaps a foregone conclusion, but the speed of the latter path, although an increase was seen as almost inevitable by the markets, was much more difficult to predict.
According to the latest Consumer Price Index (CPI) figures, U.S. inflation is running at its highest rate for around 40 years at 6.8% annually, and probably still rising. Anecdotal evidence suggests that this may already be understating reality as experienced by the U.S. person in the street. This is not just a U.S problem, but a global one with other major central banks waiting on the U.S. decision before deciding whether to take their lead from the U.S., or to plough their own furrow.
There had still been some doubt as to what course the Fed would take as it tends to use the Personal Consumption Expenditure (PCE) index as its preferred inflation measure, and this tends to come in a little lower than the CPI. The next PCE data announcement is only due a couple of days before Christmas. FOMC participants may have had an idea, though, of what the index will likely show before they made their decisions on tapering and the proposed rate raising schedule.
On the face of things, the Fed’s decision had looked to be predictably obvious. It had been under strong pressure from the media to at least indicate that it would likely raise interest rates more aggressively than it had previously been forecasting in order to try and put a stop to rapidly rising inflation. But the Fed Board of Governors has also been very aware that the current year-on-year inflation figures have been hostage, though, to the low inflation figures from 2020 when Covid-19 coronavirus spread restrictions will have depressed them accordingly. This all means that the recent rises that had been being recorded were an increase from a perhaps unduly low base.
The Fed had thus been noting that inflationary increases had previously been running well below the target rate for many months. So above average inflation may not have been unduly unwelcome if it is seen as only bringing the overall inflation level over say a two-year period, up to the average wanted rate.
For a number of months now, the Fed had been suggesting that the inflationary increases would only be ‘transitory’ and would bleed out of the system once full recovery from the virus-related downturn is behind us. Considerable scorn had been forthcoming from many commentators to this interpretation by the Fed, and last week newly re-nominated Fed chair, Jerome Powell, conceded that the term ‘transitory’ was no longer appropriate and that inflation was running higher, and would likely persist for longer, than previously suggested. He re-iterated this in his post-FOMC meeting statement.
The perception by the markets from the earlier Powell statement was that a more aggressive rate increase programme was likely to be inevitable and such an announcement would be made at the close of the FOMC meeting. This did transpire, although the statement tone was perhaps less ‘hawkish’ than the markets had anticipated. Precious metals thus reacted higher and prices picked up quite strongly this morning in Europe. As we write the gold price is back to the upper $1,780s for example, silverhad moved back up over $22 and the pgms were trending higher too..
The overall FOMC recommendations were much as we had expected. Tapering would be speeded up – this was pretty much inevitable. A slightly more aggressive interest rate raising programme was predicted, but not so much that it spooked the markets, and although a speeded up number of 25 basis point rises was forecast up through 2024, Fed chair Powell said that these would be dependent on data and the ‘maximum’ employment level being reached. In other words Powell was leaving substantial wriggle room to possibly slow down, or speed up, the rate rises if employment and inflation data were to differ from expectations. High Covid infection figures and the likely impact of the Omicron variant, could also affect future Fed moves.
The Fed has always tended to err on the side of caution as far as interest rate rises are concerned. This is because of the fear that a too aggressive increase in rates could derail its path to ‘maximum’ employment, one of its key priorities, and also lead to a disruption in the country’s economic recovery with a highly visible sharp downturn in the equity markets. Arguably these markets are unjustifiably high, but an equity downturn could easily get out of hand and turn into an unwelcome crash. With mid-term elections coming up, the Fed will presumably have been under pressure from the Administration, not to overly rock the boat.
For precious metals prices, and for gold in particular, the more rapid tapering programme had already been fully discounted in the price, but the decision on raising interest rates more aggressively, or perhaps leaving things unchanged for the time being, was less concrete than the gold bears had anticipated. No change in the envisaged programme would have given the gold price a boost and see it move back to $1,800 or above, but an even more aggressive one could have had the opposite effect. On past performance the more rapid rise of perhaps three or more rate increases scheduled for next year, might have been expected to see perhaps a sharp dip in the gold price, although that would, in our view, only be temporary. In the end, the opposite tended to be the case initially, although we’ll have to see where the U.S. markets take us as the FOMC recommendations are analysed further.
Unless the Fed eventually goes for much bigger rate increases than expected, the general public will be stuck in a negative real rate position where inflation increases are higher than those of interest rates being received. In theory that tends to be positive for gold. But a more aggressive rate policy also tends to increase the dollar index, which is seen as negative for the gold price, although initial reaction was for the greenback to fall back, but only by a little.. Where prices will go now is in the perception of the market and that has been particularly tough to forecast!