- Easy Fed policy and debt-fueled stimulus drive gold up +33% ytdÂ
- Washington remains at impasse on new pandemic bill
- U.S. PPI expected little changed
- 3-year T-note auction to yield year 0.15%
Easy Fed policy and debt-fueled stimulus drive gold up +33% ytd — Gold futures prices are consolidating mildly below last Thursday’s record nearest-futures high of $2063.00 per troy ounce. Gold prices fell back last Friday after the stronger-than-expected payroll report of +1.76 million, which put the U.S. economy is a slightly stronger light.
Still, gold prices have been on a rampage and are up +33% on a year-to-date basis. The pandemic has sent gold into overdrive mainly because of the Fed’s extraordinarily easy monetary policy and negative real interest rates. The Fed in March cut its funds-rate target to near-zero, where the market expects it to stay for at least the next two years.
The Fed has also been furiously pumping permanent reserves into the banking system with its QE program of $120 billion per month. The Fed’s balance sheet has soared by $2.8 trillion since February to a record high of $6.9 trillion and now accounts for 32% of GDP (versus 19% of GDP before the pandemic). The nearby chart illustrates that the rise in the combined balance sheets of the U.S., Europe, and Japan closely correlates with this year’s surge in gold prices.
The Fed’s easy monetary policy has driven nominal Treasury yields far below inflation expectations, resulting in negative real yields. The 10-year real T-note yield (as represented by inflation-adjusted TIPS) has a strong negative correlation with gold prices, as seen in the nearby chart. Negative real yields mean the Fed is pegging interest rates far below inflation expectations, which means a big inflation outbreak could be down the road. Also, negative interest rates increase the attractiveness of gold since gold should hold its value while investors would lose money on an inflation-adjusted basis by buying nominal Treasury securities. Low nominal interest rates also make it cheap to finance leveraged gold purchases and also pay storage-insurance costs.
Gold is also being driven higher by the massive fiscal stimulus being seen worldwide. Most of that stimulus is being fueled by a sharp increase in government debt, which will put pressure on global central banks to monetize that debt with QE programs.
Other bullish factors for gold include (1) the weak dollar, (2) strong safe-haven demand driven by concerns about systemic stress in the global financial system, U.S./Chinese tensions, and geopolitical hotspots such as Iran and North Korea, and (3) strong investment demand as assets in gold ETFs have risen to a record high of 3,388.41 metric tons.
Washington remains at impasse on new pandemic bill — There is no indication that Republican and Democratic leaders will soon return to the bargaining table to hash out a compromise pandemic relief bill. Since President Trump on Saturday issued four executive orders, Republicans and Democrats have been trading barbs on who is to blame for the collapse of the talks. Moreover, both the House and Senate are on recess for the remainder of August.
The two sides may have to let the dust settle while they wait to see whether President Trump’s executive orders work and which side will get the blame from voters for the lack of new help for the economy.
Of the four executive orders that President Trump issued on Saturday, only the extension of student loan relief and the eviction protections seem to be fully executable by the President. By contrast, the temporary payroll tax deferral seems to be a non-starter because few businesses apparently plan to pass the deferral through to employees since the tax is not forgiven and businesses will still be on the hook to collect and pay the tax for their employees later.
Meanwhile, the executive order on the unemployment bonus relies on the constitutionally-questionable process of redirecting disaster recovery funds to pay a $300 per week unemployment bonus. Also, the executive order says the states have to pay a $100 per week unemployment bonus, even though most states are running deficits due to pandemic expenses and have no extra money to devote to increased unemployment benefits. Several governors on Monday said the plan is unworkable, and Ohio’s Republican Governor Mike DeWine said that Ohio will not be participating in Mr. Trump’s unemployment bonus plan.
The stock market on Monday initially reacted positively to the news of President Trump’s executive orders. The positive reaction seemed to be based on the idea that “some aid is better than no aid” and that the talks may still resume and produce an agreement.
However, if there is no new Congressional pandemic deal of $1+ trillion, then there will be no new $1200 stimulus payments to individuals, no second round of PPP payments, no new aid for schools, no aid for state/local governments, and no new money for virus testing.
U.S. PPI expected little changed — The consensus is for today’s July final-demand PPI to strengthen slightly to -0.7% y/y from June’s -0.8% y/y. Meanwhile, the July core PPI is expected to ease slightly to unchanged y/y from June’s +0.1% y/y. The inflation indexes have been knocked down by the pandemic-slam to the economy. However, inflation expectations have been on the rise. The 10-year breakeven inflation expectations rate has risen sharply from March’s crisis-low of 0.47% to the current level of 1.61%, which is just below the Q4-2019 pre-pandemic average of 1.65%.
3-year T-note auction to yield year 0.15% — The Treasury today will sell $48 billion of 3-year T-notes. Today’s 3-year T-note issue was trading at 0.15% in when-issued trading late yesterday afternoon. The Treasury will then continue this week’s $112 billion quarterly refunding operation by selling $38 billion of 10-year T-notes on Wednesday and $26 billion of 30-year T-bonds on Thursday.