Truth above allThe Federal Open Market Committee raised interest rates by 25 basis points, lifting the target range to 3.75%–4% and pressuring gold.
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The Fed's rate decision influences global borrowing costs and currency markets, with immediate effects on commodities like gold that are sensitive to dollar strength and interest rates.
Gold came under selling pressure once more after the U.S. Federal Open Market Committee, at a meeting held shortly before, voted to increase interest rates by 25 basis points. That action pushed the Federal Funds Target Range up to 3.75%–4%. The higher rates gave the dollar additional backing, and the stronger greenback in turn dragged down the precious metal.[S1]
When I read that the Federal Reserve has raised its target range to 3.75%–4%, and that gold fell more than one percent in a single day, I would ask first what is being measured. The word value, as I have observed, has two different meanings: it sometimes expresses the utility of some particular object, and sometimes the power of purchasing other goods which the possession of that object conveys. Gold has great value in exchange; its value in use, apart from ornament and a few arts, is not what moves the market. What moved in this episode was the power of purchasing other goods that gold commands against a dollar that the higher rate had strengthened.
The article tells us the stronger greenback raised the cost of purchasing gold for overseas buyers, and that the opportunity cost of holding a metal which bears no interest rises when rates rise, driving capital toward higher-yielding assets. I would distinguish here between the nominal and the real. The price of gold in dollars fell; whether the quantity of labor it can command fell in the same proportion is another question, and the article does not settle it. A higher rate alters the proportion between the value of capital and the value of its use; it does not by itself tell us what gold is worth in the general market of goods.
I would also note what the article leaves open. It attributes the decline to the combined effects of the rate decision, a stronger dollar, persistent inflation, and geopolitical pressures, and it reports the chairman's emphasis on price stability. These are several causes acting at once, and I would not pretend to separate them from a single day's price. The market price of a commodity may depart from its natural price, and the causes which raise or sink the parts of price are not always visible in the quotation. What I would watch is the arrangement of incentives: what capital is drawn toward, and what the holders of gold expect to be able to purchase with it later.
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Adam Smith
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