For the first time in four years, the U.S. central bank recently reduced the cost of borrowing. In September, the Federal Reserve cut interest rates by 50 basis points, bringing the federal funds rate to a range of 4.75% to 5%. It’s a big deal for the U.S. economy and it will no doubt have an impact on various assets, including gold.
But to really understand what the rate cut means for gold, it’s important to look at why the interest rates were reduced. And perhaps more importantly, what message the cut sends out about the U.S. economy.
Crucially, rate cuts are usually a sign that the Fed is concerned about slowing economic growth. So, by reducing the cost of borrowing, it aims to stimulate consumer and business spending – and give the economy a boost. Lower rates address the cooling labour market by allowing businesses to hire more workers. Generally, therefore, a rate cut suggests that the Fed sees risks to continued economic growth, inflation, or employment.
But the rate cut isn’t all bad news – especially for gold. The relationship between interest rates and gold prices has historically been inverse, meaning that lower rates tend to support higher gold prices. Here’s why:
⭐ Lower opportunity cost of holding gold versus other assets
When interest rates are lower, investors prefer gold because the returns on savings accounts, bonds and other interest-bearing investments are reduced. After the rate cut, gold prices rose more than 1% to hit an all-time high, before easing but remaining strong. The graph below shows how lower borrowing costs reflect on the price of gold.
⭐ Potential for a weaker U.S. Dollar
Interest rate cuts often lead to a weaker U.S. dollar, making it less attractive to foreign investors. But a weaker dollar tends to make gold cheaper for international buyers, boosting demand and potentially driving up its price.
⭐ Inflation concerns
Although rate cuts often aim to boost economic activity, they can stoke inflation fears. Because gold is considered a hedge against inflation – because its value usually rises as the purchasing power of paper currency drops – investors may favour gold as a safe option if they think inflation could rise.
⭐ Gold is seen as safe
Finally, rate cuts can send out warning signs about economic growth or stability. This uncertainty can drive investors toward safe-haven assets like gold. The demand for gold could increase, pushing prices higher.
So, how did gold react to the Fed's announcement of rate cuts?
Immediately after the announcement, the price of gold soared to a record high before settling again. Spot gold fell 0.4% to $2,560.29, after earlier rising to $2,592.39 per ounce. Meanwhile, U.S. gold futures settled 0.2% higher at $2,598.60.
As explained earlier, this rate cut could see gold increase in demand because of lower opportunity costs, potential U.S. dollar weakening, inflation concerns, and heightened investor appetite for safe-haven assets. And an increase in demand raises the price of gold.
However, it’s possible that the expected rate cut may have already been priced into the market. In other words, because rate cuts have previously sent gold prices up, this expectation may have already been factored in – and the recent cut may not have as big of an impact as you’d expect.
But the rate cut isn’t the only thing influencing the price of gold. 2024 has been a good year for gold for several key reasons:
⭐ Strong central bank buying
There has been a high level of central bank demand for gold. In the last few years, central banks around the world have increased their gold holdings. This directly increases demand, signals confidence in gold and tightens the available supply for other buyers, sending prices higher.
⭐ Economic uncertainty
Geopolitical tensions, including conflicts in the Middle East and Europe, as well as the U.S. election in November and concerns over economic stability all create uncertainty. This increases demand for safe-haven assets like gold.
⭐ Inflation concerns
Persistent inflationary pressures have driven investors to seek gold as a hedge against currency devaluation and rising consumer prices. Gold is appealing when inflation is high, because the metal keeps its value.
⭐ Global monetary policies
The Fed isn’t the only central bank to cut interest rates this year. The European Central Bank (ECB)
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