Gold price soars amid negative interest rate

March 04, 2016 16:37
Uncertainties in the financial market have driven up the price of gold. Photo: Bloomberg

Several major central banks have expanded monetary easing measures since January. Those in the eurozone, Japan, Sweden, Denmark and Switzerland adopted the negative interest rate.

The actions of Bank of Japan and the European Central Bank have a far more significant impact on the global economy and financial markets, compared with those of the central banks of the relatively smaller Sweden, Denmark and Switzerland.

The Japanese government bond yield tumbled to a record low, and the 10-year government bond fell to 0.07 percent. That would force some Japanese investors to seek high-return assets overseas.

The European Central Bank might further expand its monetary easing next week, and the negative interest rate could slip further.

Currently, the 10-year government bond yield in Germany is 0.15 percent, and the yield of bonds with shorter durations has already dropped to zero or negative territory.

It’s no longer an investment, as investors need to pay money for buying these bonds. That would hold back investors from buying bonds, or prompt them to keep their money in banks.

However, this approach may have very limited boost to the real economy. It could spark a backlash if major central banks continue to stimulate growth through their pointless expansionary monetary policy.

Investors are reluctant to make investment amid the negative interest rate and gloomy economic outlook. Consumer spending will decline if wage growth falters and investment activity cools down.

Negative interest rate may do little to boost economic activity. Instead, it could trigger a currency war among nations.

Nations should enhance communication and coordination in economic policy to avoid a currency war or competitive interest rate cuts.

Investors are also closely watching whether the Federal Reserve would follow the five central banks in lowering interest rates to curb deflation.

However, it seems negative interest rate remains an option for the United States as recent economic data points to solid economic growth.

Employment and inflation data are both encouraging. Investors are still expecting another rate hike within the year.

The US dollar may gain further strength if the Fed raises interest rates, since the US monetary policy is already divergent from that of Japan and the eurozone.

That in turn could put pressure on US inflation and make the 2 percent target more difficult to achieve.

The latest federal funds rate indicates more traders believe there won’t be a rate hike in March. As a result, the dollar may give back some of its gains in the short term.

There are many other uncertainties in the financial market, such as the risk of a Brexit, struggling global economic growth and deflationary pressure.

All these factors have boosted safe-haven demand and driven up the price of gold.

The spot gold price has returned to a level above US$1,240 per ounce, with a sharp rally of 10.74 percent in February alone. That was the biggest monthly gain in four years.

The stock market turmoil and weak dollar are major driving forces for the gold price rally.

The precious metal may test a high of US$1,300 within the year because we are in the era of negative interest rate.

This article appeared in the Hong Kong Economic Journal on March 4.

Translation by Julie Zhu

[Chinese version中文版]

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Senior investment strategist and vice president, treasury & markets division, DBS Bank (Hong Kong)