Gold Price Strengthens As USD Comes Under Fire

March 20, 2017

When the Fed wrapped up its 2-day meeting on Wednesday (15 March 2017), the Federal Funds Rate increased by 25-basis points to 1.00%. The lone dissenting voice in the FOMC (Federal Open Market Committee) was Neel Kashkari of the Minneapolis Federal Reserve Bank.  The Fed has been targeting an inflation rate of 2%, in addition to price stability. Now that these dual objectives are within reach, the Fed believes the time is nigh for rates to rise and monetary tightening to kick in. The FOMC’s 2% long-term inflation objective is fast approaching, and this is precisely what prompted Fed chair Janet Yellen to pull the trigger on rate hikes for the second time since December 2016.

Fed policymakers have stressed the need for monetary tightening in 2017, with at least 3 rate hikes expected for the year. The US economy has been subject to solid job gains, and GDP growth at moderate levels. By the end of the year, analysts expect the federal funds rate to increase to 1.5% or thereabouts. By 2018, the FFR will likely increase to 2.1%, which implies an additional 2 rate hikes in 2018. Economists and analysts across the board expected the Fed rate hike to kick in in March, as evidenced by the CME Group FedWatch tool which displayed a 90% + probability for the March rate hike.

Dollar Tumbles As Rate Hike Kicks In

The rate hike had a surprising effect on the strength of the US dollar. While currency traders were expecting the USD to get a bump from the 25-basis point rate hike, it went the other way. While US GDP growth, NFP data and inflation data are all in line with expectations, there was one crucial omission from the Fed statement. That related to the probability of additional rate hikes in 2017. No mention was made of gradual tightening beyond the 25-basis point hike. As a result, the USD tumbled to a 5-month low and this dramatically affected multiple currency pairs such as the GBP/USD, USD/JPY, USD/ZAR, USD/EUR and others.

The US dollar index also tumbled to its midrange of its 52-week high and low, trading around 101. One of the most interesting developments to take place after the rate decision was the impact on gold bullion. Gold is a dollar-denominated asset like oil, copper and others. When the dollar weakens, demand for gold bullion increases. Traders saw a massive spike taking place in the gold futures market for delivery in April. The gold price rallied substantially, racking up strong gains and reversing a short-term bear trend. While speculators thought that gold would be a bearish asset and sold it en masse, they were all wrong-footed. Gold is now priced at $1,230.44 per ounce, up 0.05% or $0.64. This represents a dramatic about-turn in the price of the precious metal which has a 1-year performance of -1.13% or $14 lower per ounce.

How Has The Rate Hike Affected Main Street?

Interest-rate hikes do not bode well for everyday Americans. Every time the federal funds rate increases, homeowners, consumers and others are subject to higher interest repayments. While the federal funds rate only increased by 25-basis points, banks and credit card companies use that as their cue to increase repayment percentages by a much greater margin. It is estimated that every 25-basis point rate hike increases the average American household’s interest repayment on credit cards by $17. On its own that is negligible, but consider that at least 3 rate hikes are forecast in 2017 and that many home loans are variable and adjust accordingly. Useful resources for evaluating the impact of interest-rate hikes on credit availability include CreditLoan.com. Financial planners recommend that consumers shop around for the best deals when interest rates are rising. Presently 15-year mortgages are going at a fixed rate of 3.006%, up slightly from the figure a week ago, while 30-year fixed mortgages are going at a rate of 3.744%, up from 3.716% a week ago.

Luis Aureliano is a business writer and financial analyst. With over 15 years of experience in global finance and an MBA in economics and management, Luis’s areas of expertise include business, marketing, communications, personal finance, macro economics, stocks and emerging markets.

14 karat gold is 58.5% pure gold