Have you ever wondered why there are fluctuations in the gold market, particularly in response to conflicts and predictions of higher gold prices?
Investors and others often use the term geopolitical to describe investment risk arising from various conflicts between individual countries and also among nations in general on a worldwide basis.
Here is the definition of the term from Oxford Languages ...
adjective: geopolitical; adjective: geo-political
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relating to politics, especially international relations, as influenced by geographical factors.
Our concern is the use of the term to justify recent activity in the gold market based on the perceived role of gold as a safe haven asset and the accompanying predictions of much higher prices.
If you are an analyst or financial writer, it is a convenient answer to the question, "Why did the price of gold go up?"
In the very short term, the attack by Hamas on Israel and the ongoing actions and repercussions spooked investors and prompted the buying of gold by various parties.
An analysis of the buyers might be interesting, but it isn't as important as the action itself and the resulting expectations and predictions for much higher prices.
Is the recent increase in the gold price because of conflict in the Middle East and predictions for a higher gold price fundamentally supportable?
WAR AND RUMORS OF WAR
Early last year, Russia invaded Ukraine. The price of gold closed on that day (February 24th, 2022) at $1906 oz.
Gold had begun the year almost two months earlier at close to $1800 oz. and the upward movement continued after the invasion, with the gold price reaching a high of $2043 just two weeks later.
During that short period of time, we were treated to a new round of projections for an ever-higher gold price. The expectations for expanded geopolitical risk and the reality of actual war were added to the inflation expectations already being touted as reasons to expect a gold price increase in multiples of thousands: $3000, $4000, $10,000, $25,000.
Seven months later, in October 2022, gold closed at $1627 oz. No letup in the war, either; and it still rages on.
Other examples of note which yielded only temporary, early price gains (or none) for gold, and which did not result in a lastingly higher gold price, included verbal jousting and public threats of hostile action re: United States and North Korea; the U.S. invasion of Afghanistan; and...
THE WAR WITH IRAQ
In late 1990, there was a good deal of speculation regarding the potential effects on gold of the impending Gulf War. There were some spurts upward in price, and anxiety increased as the target date for 'action' grew near. Almost simultaneously with the onset of bombing by US forces, gold backed off sharply, giving up its accumulated price gains and moving lower.
Many observers describe this turnabout as somewhat of a surprise. They attribute it to the quick and decisive action and results achieved. That is a convenient explanation but not necessarily an accurate one.
What mattered most for gold was the war's impact on the value of the U.S. dollar. Even a prolonged involvement would not necessarily have undermined the relative strength of the U.S. dollar.
WORLD WAR II
Eighty-two years ago, the United States formally entered a multi-year global war involving most of the major European countries.
Prior to that, in 1933, U.S. citizens had been stripped of their right to own gold. The original fixed price had been increased from $20.67 to $35 oz. and convertibility was only available to foreign countries.
Though the official price of gold stayed fixed for almost forty more years until 1971, long before our previous examples, which used market prices, there is information that helps to determine and clarify any effects of geopolitical issues, i.e., a world war that lasted for six years between 1939 and 1945.
For thirty-six years between 1934 and 1970, the effective gold price declined by sixty-five percent. The U.S. involvement in World War II did nothing to interrupt the long decline.
By effective we mean that the actual purchasing power of the U.S. dollar increased rather than declined. There were fewer dollars because of deflation, but they were worth more. You could buy more with your dollars, not less.
During deflation, the purchasing power of the dollar increases. That is because prices for goods and services have declined.
The downside is that there would be fewer dollars to go around, high unemployment, depressed economic activity, etc.
GOLD PRICE IS ALWAYS ABOUT THE DOLLAR
A higher gold price over time is directly correlated to the long-term decline in U.S. dollar purchasing power.
Any apparent effects from geopolitical issues are temporary at best, and there is no reason to expect them to have any measurable or lasting effect on the gold price unless the U.S. dollar is affected negatively.
A higher gold price is correlated only- and always - to the loss in U.S. dollar purchasing power that has already occurred. (see Gold - After Inflation, What Is Left?)
Kelsey Williams
Kelsey Williams is the author of two books: INFLATION, WHAT IT IS, WHAT IT ISN'T, AND WHO'S RESPONSIBLE FOR IT and ALL HAIL THE FED!