Intelligent Partnership‘s Luke Jackson investigates what QE3 means for gold:

US Federal Reserve:

  • £25bn ($40bn) per month stimulus to US Economy
  • Interest rates stay below 0.25%
  • Previous QE totalling £1.4tn ($2.3tn)

Bank of Japan:

  • £78bn (10 trillion Yen) bond buying to devalue Yen to increase exports
  • Interest rates stay between 0% & 0.1%
  • Previous QE totalling £546bn (70tn Yen)

Bank of England:

  • Further QE could be on the horizon for late 2012 predicted at £50bn
  • Interest rates stay at 0.5%
  • Previous QE totalling £375bn

The US Federal Reserve (FED) announced last week that they would inject £25bn into the US economy each month to kick start the economic recovery and increase employment. This is an open-ended strategy and is expected to continue until the economy recovers significantly. In a statement released by the FED, they said that “a highly accommodative stance of monetary policy will remain appropriate for a considerable time after the economic recovery strengthens”. This is an extremely opaque statement and does not give any indication into how long this could continue for, leaving the door open for the FED to manipulate monetary supply as they see fit.

Further to this, the Bank of Japan has also announced an injection into their economy of £78bn (10tr Yen) with the aim of devaluing the Japanese Yen in order to make exports cheaper. Japan is an export lead economy and has taken this measure in order to maintain their competitiveness in international trade.

What is Quantitative Easing (QE)?

In the most simplistic terms, this means increasing the supply of currency and involves money “printing”. This is controlled by the country’s central bank, the Bank of England for example, who have overall control over the amount of that currency in issue.

Rather than printing and distributing physical money, in practice this involves issuing electronic money, mainly by purchasing government bonds or other assets from banks.

The aim is to add more money into the system to encourage increased borrowing and investment, which the Government believes will result in lower unemployment and eventually lead to increased domestic production and economic growth. This should also mean that money is more readily available i.e. mortgages should be easier to come by, kick starting a turnover in the housing market.

What is the “real” impact of QE?

In reality, QE can have far reaching negative effects as it lowers the value and buying power of money, which can result in high levels of inflation. This has the largest impact on savers, low income families and those on fixed incomes such as pensioners who may already be struggling on low incomes. Inflation coupled with low base rates of interest can significantly affect the finances of savers in the long term. Inflation, measured by the consumer price index (CPI) in the UK, is the measure of the annual increase in the price of a basket of goods. High inflation will more than often result in a rise in the cost of living and lower disposable income for families.

It can also bring about a number of worries for investors, both from the direct affect it has on money supply and also that QE is further proof to those outside of the Government and Central Banks that the economy is not performing as planned.

How will this affect Gold?

One of the ways for investors to counteract the negative effects of QE and inflation is to invest in assets which act as an inflation hedge. Gold is the purest example of this with its performance regularly outstripping inflation and devaluation of money as seen with QE.

Historically, following each announcement of QE gold prices have immediately jumped, underpinning its status as a store of wealth and a safe haven asset. Following the QE3 announcement by the FED, this “flight to quality” pushed gold well over $1,760 an ounce, a new high for 2012, on the back of 4 weeks of consistent growth.

QE in the US and Japan, rumours of further QE by the Bank of England and potential bond buying by the European Central Bank have increased the appeal of gold as an investment asset. It is predicted that monetary easing will continue until economic growth significantly improves.

“I think other central banks will announce more accommodative policies and that should continue to support gold,” said Jeremy Friesen, commodity strategist at Societe Generale.

Demand is predicted to stay very strong as investors believe gold to be one of the most accessible safe haven assets available. Demand is also expected to increase in Asia – in India it is the start of the festival season where physical gold and jewellery are regularly given as the main gifts. These factors are expected to increase the spot price for gold with many analysts expecting $1,800 per oz. in the coming weeks.

“Gold is heading for $2,000/oz, maybe before the end of the year”, Bank of America Merrill Lynch’s Michael Widmer.

 

 

 

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