March 10, 2020 Last updated March 10th, 2020 143 Reads share

Relationship Between the Dollar, Interest Rates, and the Price of Gold

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How will the purchase price sale of gold perform this quarter? How does the relationship between the value of the dollar and the price of gold correlate?

There is a longstanding and often fluctuating relationship between the value of the US dollar and the price of gold. Changes in the value of either of these items, along with increasing Federal Reserve interest rates will put pressure on the prices of either.

In the short term, there is usually a close relationship in the behavior of the US dollar and the price of gold. The link between them is derived from the fact that all main raw materials are quoted in US dollar prices in international markets – and gold is no exception. 

In many situations, when the dollar appreciates globally, the price of gold tends to fall. Conversely, when the value of the dollar falls, the purchase price sale of precious metals is prone to rise. This implies an inverse correlation between both assets.

The dollar index is constantly rising and falling, directly impacting the gold prices for the holders of other currencies. Low interest rates reduce the opportunity cost of gold, which does not accrue interest, and affect the dollar.

Price and Quotation of the Gold Coin and US Dollars

The explanation of the inverse relationship and price and quotation of the gold coin of 10 us dollars is quite simple. If the dollar strengthens against another currency, this increases the price of gold in terms of the currency that has depreciated. This leads investors, whose local currency is not the dollar, to reduce the demand for the metal.

Here Is a Simplified Example:

Let’s say the ounce of gold is trading at a price of $1,200 and that the exchange rate of the EUR/USD is $1,100 at this time.

At this exchange rate, a eurozone investor will need approximately €1,043 to buy an ounce of gold (1,200/1,100).

Suppose now that a positive event in the United States causes a strong appreciation in the dollar against the single currency and the EUR / USD price falls 5% to $1,092.50. At this new exchange rate, this same person will need around €1,098 (1,200/1,092.50) to acquire an ounce of the raw material.

As we can clearly see, the strengthening of the dollar makes gold more expensive for investors in other currencies. In economics, the law of demand states that when the price of a product goes up, the quantity goes down. Therefore, the higher relative cost of gold reduces its demand on a global scale. When the demand for gold decreases, its price in dollars could follow the same trajectory and eventually fall.

Interest Rates and Gold Price

The second explanation is indirect. The dollar generally rises when the US economy strengthens and the Federal Reserve increases its interest rate to prevent overheating of macroeconomic conditions. The more restrictive monetary stance of the Central Bank causes increases in the yields of treasury bonds, stimulating the attractiveness of these instruments.

Gold, as an active refuge that does not pay interest or dividends, is highly sensitive to rate hikes, which increases the opportunity cost of holding bullion positions. Therefore, when the profitability of the debt increases, market operators cut their exposure to the precious metal and increase their investments in fixed income securities. This causes a fall in the price of gold.

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Jeniffer S

Jeniffer S

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