Gold set to fall toward $4,000 as Warsh faces a Fed rate-hike dilemma

As the Federal Reserve (Fed) monetary policy announcement approaches and the Middle East war intensifies, the US Dollar (USD) resumes its advance. Gold price posted a tepid attempt to recover its shine in early August, but with renewed USD demand, the bright metal faltered miserably and is now closer to the $4,000 mark than the encouraging $4,700 peak from a month ago.

Federal Reserve: To hike or not to hike

The Federal Open Market Committee (FOMC) will announce its monetary policy decision on Wednesday, and market players are pretty much convinced that Chair Kevin Warsh and co will deliver a 25 basis points (bps) interest rate hike, as odds for an on-hold decision are below 10%, according to the CME FedWatch Tool.

The decision should not come as a surprise, but there’s a lot more behind it than just the logical next step of the world’s largest central bank.

On the one hand, Fed Chair Kevin Warsh made it clear that he does not favor forward guidance and has refrained from providing any since taking the Chair in May. However, during his appearance at the Jackson Hole Symposium this year, Warsh noted that inflation is still too high, and suggested a rate increase in the near term would be needed to bring it down, the clearest signal he provided so far.

 On the other hand, United States (US) President Donald Trump has demanded lower interest rates ever since Jerome Powell led the Fed, starting a battle with the former Fed Chair that ended on the worst terms. And while President Trump refrained from attacking Warsh, he has recently threatened to halt trade with countries that run trade surpluses with the US unless the Fed cuts the benchmark rate. Even further, President Trump called FOMC members clowns, adding that Chair Warsh is trying to “do the right thing.”

So, what will Warsh do? Fight inflation or please Trump?

Chair Kevin Warsh is between a rock and a hard place. If he supports and delivers a rate hike, he would not only face drama with Trump, but also a steeper economic contraction if Trump proceeds with trade limitations.

If, on the contrary, Warsh holds rates unchanged, he will lose all credibility. Markets will start believing that taking care of Trump is above taking care of the economy.

And what could happen to Gold?  We are looking at two potential scenarios: a rate hike or a hold. The odds for a hold are low, but not zero. Should the Fed decide to take that path, the US Dollar is likely to collapse.

XAU/USD Technical Outlook:

The XAU/USD pair, which currently trades below the $4,300 mark, could jump towards the $4,500 level before the dust settles. Further gains toward the aforementioned $4,700 peak seem quite unlikely in the risk-averse scenario, considering the pair is primarily bearish.

The daily chart shows XAU/USD trading below all its moving averages, with the 20-day and 100-day Simple Moving Averages (SMAs) gaining downward momentum and capping advances at $4,450 and $4,330, respectively. Technical indicators, in the meantime, paused their slides but remain within negative levels, far from suggesting bearish exhaustion.

If the Fed actually announces an interest rate hike, Gold is likely to fall, although the slide may be contained as the market has priced in such a move. Still, a decline toward  the $4,200 threshold is possible, while once below the latter, the route is likely to extend toward the $4,000 mark.