Gold price drops sharply as investors focus their attention on the Federal Reserve (Fed), which is likely to resume its policy tightening spell next week after skipping in June. In addition to the Fed, the Bank of England (BoE) and the European Central Bank (ECB) are also preparing for raising interest rates further so that inflation can return to the 2% target. The appeal for Gold is diminishing as more interest-rate hikes from the Fed would also propel fears of a recession in the United States.
It looks like Gold’s strength from discussions about introducing a new gold-backed currency by the BRICS (Brazil, Russia, India, China, and South Africa) is losing its appeal. The reasoning behind introducing a new gold-backed currency, an announcement which is expected in August, is that it might be used for international payments.
Gold price faces pressure above $1,980.00 as the US Dollar Index rebounds meaningfully. However, the broader trend of Gold is bullish as it trades comfortably above the 20-day Exponential Moving Average (EMA) at $1,950.00. Investors should note that 20- and 50-day EMAs are on the verge of delivering a bullish crossover. This would strengthen the upside bias further. Fresh longs are expected in Gold price if it manages to climb above $1,980.00 convincingly.
Interest rates are charged by financial institutions on loans to borrowers and are paid as interest to savers and depositors. They are influenced by base lending rates, which are set by central banks in response to changes in the economy. Central banks normally have a mandate to ensure price stability, which in most cases means targeting a core inflation rate of around 2%.
If inflation falls below target the central bank may cut base lending rates, with a view to stimulating lending and boosting the economy. If inflation rises substantially above 2% it normally results in the central bank raising base lending rates in an attempt to lower inflation.
Higher interest rates generally help strengthen a country’s currency as they make it a more attractive place for global investors to park their money.
Higher interest rates overall weigh on the price of Gold because they increase the opportunity cost of holding Gold instead of investing in an interest-bearing asset or placing cash in the bank.
If interest rates are high that usually pushes up the price of the US Dollar (USD), and since Gold is priced in Dollars, this has the effect of lowering the price of Gold.
The Fed funds rate is the overnight rate at which US banks lend to each other. It is the oft-quoted headline rate set by the Federal Reserve at its FOMC meetings. It is set as a range, for example 4.75%-5.00%, though the upper limit (in that case 5.00%) is the quoted figure.
Market expectations for future Fed funds rate are tracked by the CME FedWatch tool, which shapes how many financial markets behave in anticipation of future Federal Reserve monetary policy decisions.
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