Gold Retreats as Global Growth Risks Mount

22-Sep (USAGOLD) — Weak PMI data out of China and the eurozone have weighed heavily on global shares and the commodity complex on Thursday, just a day after the Fed offered a pretty dire assessment of the US economy. Broad-based risk aversion has prompted flows out of stocks and commodities and into the perceived safety of dollars and low yielding sovereign debt. While this risk-off trade is also weighing on gold, because of its allocation to commodity pools and funds, the safe-haven aspects of the yellow metal suggests that downside potential may prove to be limited in the face of all the global uncertainty.

It would seem that Europe is on the verge of recession, on top of heavy stresses associated with the sovereign debt crises. Meanwhile, even the Chinese economy may be sputtering under the weight of carrying the water for the rest of the world. As for the US economy, leading indicators were up slightly in August, but initial jobless claims once again disappointed, remaining well above 400k.

The Fed moved on Wednesday to offer additional accommodations via an Operation Twist, hoping that in driving down longer term yields, it might spark some economic activity. While this move was widely anticipated, the market’s assessment seems to be that simply swapping $400 bln in maturities less than 3-years for $400 bln in maturities greater than 6-years, is unlikely to have any meaningful impact on growth. The Royal Bank of Canada summed it up thusly, “the economic impact will be low; the private sector is simply not responding to low yields and the housing market is languishing amid low confidence and demand while mortgage lending standards are tightening.” Arguably, the private sector is being prevented from responding to lower yields by those tighter lending standards.

The weaker growth outlook certainly mitigates inflation risks, and that may be factoring into gold’s return to the low end of the 5-week range as the dollar jumped on FX flows out of the euro and into something perhaps not quite as ugly. However, a return to recession also heightens systemic risks (just look at banking shares today), raising expectations that the central banks of the world will react in the only way they know how, with the blunt-instrument of ever-more accommodative monetary policy. The Fed and the BoE at least are very unlikely to sit idly by and allow for deflation. They will print and pump to maintain at least some inflation.

It appears that the BoE is very likely to launch additional QE measures, perhaps as early as next month. The ECB, due to hotly contested rate hikes earlier in the year, has some limited maneuvering room. The Fed, in opting for Operation Twist, has left the arrow of more full-on QE in the quiver, to perhaps be used at a later date. On top of all that, there are rumors circulating today that the Fed is planning to slash rates on the swap lines that were vastly expanded last week; a further indication of just how tight liquidity is getting.

If further expansion of the monetary base, here in the US and elsewhere in the industrialized world, is to be forthcoming — and given the well-established trend, it’s hard to believe that it won’t be — then gold’s pullback within the range is likely to be short-lived.