Minutes from December FOMC Meeting and Gold
As everybody knows, in December the FOMCvoted unanimously to raise interest rates for the fourth time in 2018. We have analyzed the implications of that hike for gold in two editions of the Gold News Monitor (here and here).
However, yesterday, the Fed published the minutes of its latest monetary policy meeting. The document shows that despite the apparent unanimity, the tensions were growing, as a “few” officials were actually arguing for the central bank to pause:
In their consideration of monetary policy at this meeting, participants generally judged that the economy was evolving about as anticipated, with real economic activity rising at a strong rate, labor market conditions continuing to strengthen, and inflation near the Committee's objective. Based on their current assessments, most participants expressed the view that it would be appropriate for the Committee to raise the target range for the federal funds rate 25 basis points at this meeting. A few participants, however, favored no change in the target range at this meeting, judging that the absence of signs of upward inflation pressure afforded the Committee some latitude to wait and see how the data would develop amid the recent rise in financial market volatility and increased uncertainty about the global economic growth outlook (emphasis added)
Another dovish signal was the addition of the word “some” to the post-meeting statement. As we have already analyzed in December, the Committee said last time that “some further gradual increases” in the federal funds rate will be appropriate. The minutes confirm our explanation, saying that the FOMC added the word “some” to indicate that “the Committee judged that a relatively limited amount of additional tightening would likely be appropriate”.
In other words, the Fed become more dovish, or, in the Fedspeak, patient:
many participants expressed the view that, especially in an environment of muted inflation pressures, the Committee could afford to be patient about further policy firming. A number of participants noted that, before making further changes to the stance of policy, it was important for the Committee to assess factors such as how the risks that had become more pronounced in recent months might unfold and to what extent they would affect economic activity, and the effects of past actions to remove policy accommodation, which were likely still working their way through the economy (emphasis added)
This is good news for the gold bulls. However, has the Fed’s stance changed permanently? What were the reasons behind the decision to hit more dovish tons?
Mystery Behind Dovish Turn and Gold
You see, the Fed’s softer tone is not so obvious. After all, the economy remains strong – and the FOMC admitted it:
In their discussion of the economic situation and the outlook, meeting participants agreed that information received since the FOMC met in November indicated that the labor market had continued to strengthen and that economic activity had been rising at a strong rate.
To reiterate, the FOMC wrote it explicitly that “the economy had been evolving about as they had anticipated at the previous meeting”. The labor market conditions “had remained strong, whileinflation was expected to “remain near the Committee's symmetric 2 percent objective on a sustained basis.” And risks to the outlook remained “roughly balanced”.
In other words, nothing changed, but – despite all these talks about being data dependent – the Fed become more dovish. Why? There are two possible explanations. First, the US central bank got scared by Trump. We hope that this is not case, but we cannot exclude it. However, if President exerted some pressure on Powell, we would probably see it much earlier. Anyway, any weakening of the central bank’s independence should be positive for the gold market, as it would imply more inflationary policy – and gold is seen as an inflation hedge.
Second, as Greenspan, Bernanke and Yellen before him, Powell also capitulated to the Wall Street. Why do we think so? Well, the US stock prices fell 8 percent in the period between November and December FOMC meetings. Hence,
agreed that financial markets had been volatile and financial conditions had tightened over the intermeeting period, as equity prices declined, corporate credit spreads widened, and the Treasury yield curve continued to flatten.
What is important, it was the only bad development happening in the economy (together with some slowdown in the growth of foreign economies). Actually, the FOMC members acknowledged the divergence between the strong economic fundamentals and turmoil in the financial markets:
In assessing the economic outlook, participants noted the contrast between the strength of incoming data on economic activity and the concerns about downside risks evident in financial markets and in reports from business contacts.
When forced to choose, the Fed decided that signals from financial markets are more important than from the real economy. Just see that paragraph:
After taking into account incoming economic data, information from business contacts, and the tightening of financial conditions, participants generally revised down their individual assessments of the appropriate path for monetary policy and indicated either no material change or only a modest downward revision in their assessment of the economic outlook
This is what we call Powell put. At the beginning of his term, Powell seemed to be determined to end with the Fed’s reaction function which does not allow for substantial market correction. But we see that he lost the battle. His victory was the hike in December, despite the dissenters. We mean that Powell probably convinced these “few” participants who opted for a pause to a hike, but only in exchange for slower tightening cycle in 2019.
Implications for Gold
What does it all mean for the yellow metal? Well, the minutes from the December FOMC meeting showed a dovish tilt among the Committee. The Fed signaled that it could be more patient, which was later reiterated by Powell during his Friday’s speech at the American Economic Association and Allied Social Science Association annual meeting in Atlanta, as well as by other FOMC members.
More dovish Fed should support the gold prices.Yesterday, they increased, indeed, as one can see in the chart below.
Chart 1: Gold prices from January 7 to January 9, 2019.
However, when financial markets calm down, the Fed may again become more hawkish. Given the current very bullish sentiment towards gold, the correction is not unlikely after some time. The beginning of the year is usually good for the bullion, but that rally does not last long, it often ends in March. We believe that eventually economic fundamentals will outweigh the financial volatility. When the dark clouds over the outlook clear up, the Fed may surprise markets on a hawkish side (they price in no interest rate hikes this year, which may not realize, actually). Gold investors should be prepared and always look through the current volatility.
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