2014 battle over U.S. rates & inflation key to gold, say analysts

The price of gold rose to touch $1,250 per ounce for the first time in seven sessions Tuesday morning, as major government bonds also rose after comments from U.S. Fed officials on the odds of reducing their monetary stimulus at next week's policy meeting.

European stock markets crept higher, but Asian shares closed lower.

Silver broke to a two-week high above $20 per ounce as commodities rose. The British pound hit a new two-year high vs. the dollar, capping gold in Sterling at £760 per ounce.

"A recovery may be gaining pace," said Bank of England governor Mark Carney in a speech in New York overnight, "but our economies are a long way from normal."

In gold, "We see short-covering and some bargain hunting," Bloomberg quotes David Govett at London metals brokerage Marex Spectron, "coupled with signs of some physical demand in China.

But the market "is still limited on the upside," Govett adds. "We continue to wait for next week's Fed meeting."

Gold's rise "is no doubt due to a large extent to speculative financial investors covering their short positions," agrees Germany's Commerzbank in a commodities note, "having previously built up record-high bets on falling prices."

But again, and looking ahead to the U.S. Federal Reserve vote on Wednesday, Dec. 18, Commerzbank says the debate about possible Fed tapering of its $85 billion per month in quantitative easing "hangs like the sword of Damocles over commodities in general and gold in particular."

"It is time to taper," said Richard Fisher, president of the Dallas Federal Reserve Bank, in a speech in Chicago yesterday, warning of "financial shenanigans" thanks to "a surfeit of excess liquidity sloshing about in the system."

Fisher, who has repeatedly called for an end to quantitative easing – and who said in August that "We have artificially suppressed rates...this cannot go on forever" – will become a voting member of the Fed in 2014.

But also speaking Monday, "Inflation continues to surprise to the downside," said current voting policy-maker James Bullard, president of the St.Louis Fed.

"This is a concern that often gets lost amid other encouraging economic metrics like jobs [which] a small taper might recognize.

"Should inflation not return toward target [currently at 2.0% per year], the Committee could [then] pause tapering at subsequent meetings," Bullard added.

Pointing to the fact that gold "tends to struggle" when real interest rates rise, "If you have a view on U.S. 10-year rates and US inflation, you can formulate a view on gold," says a note from Canadian bank CIBC.

"With the latest [U.S.] October inflation reading at 1.2%, we see little room for inflation to fall further without instigating fears of deflation," says the note – a trend likely to boost QE from the Fed, rather than tapering.

Because of the U.S. Fed's stated policy of keeping interest rates low to support housing and credit, "We also see limited scope for a material rise in 10-year yields," add the bank's analysts, who said gold's "glorious run" was over in Feb. 2013, eighteen months after the peak but shortly before the metal's worst crash in three decades.

On the supply side meantime, and recovering from a series of violent wildcat strikes in late 2012, South Africa's gold mining production jumped 75% in October from a year earlier, the government said today.

The former world No.1, but now the fifth largest gold mining nation after annual production more than halved from record levels a decade ago, mined only 170 tonnes of gold last year.

China, the current world No.1, mined 347 tonnes of gold in the year to October, new data showed Tuesday, versus 403 tonnes in full-year 2012.

About the Author

Adrian Ash runs the research desk at BullionVault.