Gold loses to US dollar as central banks rush to act; down over 1% for the week

It was a week that belonged to central banks and amid increased volatility in financial markets, the US dollar emerged as the clear winner.

Continuing investor flow towards the US dollar pressurized not just gold but commodities at large.

The US dollar index slumped immediately post the US Fed decision but witnessed a sharp rebound and tested fresh 2002 highs just the next day.

Similarly, gold bounced back to near $1910/oz level in reaction to the US Fed decision before sliding back close to $1880/oz level.

Gold fell just over 1.5% for the week ended 6 May.

Also, it is not just gold but other commodities and equities as well which have weakened as market players preferred to move to the safety of US dollar.

US DJIA index noted a near 3% rise post the US Fed decision but registered an equally sharp fall in the next session.

What has increased appeal for the US dollar is expectations that Fed may lead other central banks in monetary tightening. Additionally, the US currency has also benefitted from safe-haven buying amid increasing challenges for the global economy.

Central banks across the globe are under pressure to act with inflation spiraling out of control. While some have started monetary tightening, some have taken a cautious approach while few are still continuing with accommodative policy.

The week started with Reserve Bank of Australia raising interest rate for the first time since 2010. RBA raised interest rate from 0.1% to 0.35% beating market expectations of a hike to 0.25%. RBA raised inflation forecasts and pointed towards more hikes.

Reserve Bank of India rattled the financial market by announcing a surprise hike in lending rate just a day ahead of Fed’s monetary policy decision.

In an off-cycle meeting, RBI raised the interest rate from 0.4% to 4.4%. RBI warned that the economy faces global spillover risks from geopolitical tensions, elevated commodity prices, and moderating external demand.

The much-anticipated Fed decision failed to surprise much. As expected, Fed raised the interest rate by 0.5% and laid out plan for the reduction of the balance sheet.

The US Fed maintained a hawkish stance and projected more rate hikes in the coming months. The Fed Chairman Jerome Powell however eased market nerves by stating that they are not actively looking at a 0.75% rate hike.

FOMC statement noted that Russia’s invasion of Ukraine and related events are creating additional upward pressure on inflation and are likely to weigh on economic activity.

Amid other central banks, the Brazilian central bank further extended its monetary tightening cycle and raised its lending rate by 1% to 12.75%.

The central bank has raised the interest rates by nearly 10% since 2021 but it has failed to get inflation under control. Meanwhile, with increasing growth risks, the central bank is expected to raise interest rates slowly in the coming months.

Norway’s central bank kept the interest rate on hold as expected but reiterated its intention to hike rates in June. Chile central bank raised interest rate by 1.25% to 8.25% as against expectations of a hike to 8%.

The last jolt came from the Bank of England. BOE raised the interest rate for the fourth consecutive time to a 13-year high of 1% in line with expectations.

BOE however rattled markets by forecasting that inflation may rise to 10%, the highest since 1982. BOE also warned about the increasing risks of a recession.

The general outcome of the central bank meetings is that inflation is unlikely to come under control soon as the Russia-Ukraine conflict continues. Meanwhile, rising borrowing costs and inflationary pressure may slow down economic growth.

While risk aversion pushed market players towards the US dollar, inflation concerns and global growth worries are positive for gold as well, and a pick up in safe-haven buying may help gold prices recover soon.

(The author is Associate Vice President – Commodity Research at Kotak Securities)

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