Tuesday , 5 March 2024

Low Real Interest Rates Say Gold Bull Still Has Legs! Here's Why

Many agree that the United States’ massive budget deficits and global monetary inflation support the gold bull market. I don’t see this changing in the near future. Still, sentiment is not enough upon which to rely. I need a yardstick and, for me, that yardstick is U.S. real interest rates. [Let me explain why that is the case.] Words: 1600

So says “Mark Motive” (www.planbeconomics.com) in edited excerpts from an article* which Lorimer Wilson, editor of www.munKNEE.com (Your Key to Making Money!), has edited below for length and clarity – see Editor’s Note at the bottom of the page. This paragraph must be included in any article re-posting to avoid copyright infringement.

Motive goes on to say, in part:

Real interest rates represent the inflation-adjusted interest rate on ‘risk-free’ assets, such as US Treasuries. In other words, if a Treasury bond is held to maturity, the real interest rate shows if the bond investor is losing money due to inflation even if the bond posts a profit.

Calculating Real Interest Rates

There are many variations of this measure, but I use 1-year, constant-maturity US Treasury Bill yields as my starting rate and 1-year U.S. food inflation as the adjustment factor.

Using food as a proxy for inflation is insightful for a few reasons:

  1. it’s a good that everyone buys, so it has an impact on most everybody,
  2. agricultural commodity price increases are quickly incorporated into consumer food prices, so it’s quick to mirror real world inflation, and
  3. the food industry is well-developed, so food prices already incorporate savings gained by large-scale production.

By no means is my methodology the only way to calculate real interest rates. Some investors choose to use longer-dated Treasuries and various other measures of inflation, such as the Consumer Price Index (CPI). However, I don’t use the CPI because I believe it has been heavily manipulated over the years and may not be a fair representation of inflation. For example, the goods and weightings used to calculate CPI have been revised over time based on changing quality and the availability of substitutes. This means that CPI is more of a cost of living measure than a pure price measure. That said, regardless of the methodology used, most calculations of real interest rates will vary only in magnitude, not direction.

Why Use Real Interest Rates?

Let’s look at 2011 to illustrate how negative real interest rates affect investors. A 1-year US Treasury Bill purchased on the first trading day of 2011 would have earned about 0.29% if held until maturity. Meanwhile, during 2011, U.S. food prices rose a whopping 4.4%. Using my methodology, someone who placed his savings in a 1-year US Treasury Bill at the beginning of 2011 would have lost 4.11% in purchasing power over the course of the year, despite investing in “safe” US government bonds. This is very bullish for gold.

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Negative real interest rates are a direct result of the Federal Reserve’s official policy to maintain favorable government borrowing costs, [that is to] print money to buy Treasuries at artificially low yields and create inflation to allow the Treasury to pay back the debt in cheaper dollars. This is default by stealth and a direct transfer of wealth from savers to borrowers. The common term for this phenomenon is ‘financial repression’.

[Read “Financial Repression” May Soon Become Our Worst Nightmare! Here’s Why and Financial Repression: How Sneaky Governments Steal Your Money and Stealth Taxation in the Form of Financial Repression is Coming! Here’s Why – and How]

The chart below shows the U.S. real interest rate over the past 60 years. The shaded areas are periods in which gold experienced a bull market. As you can see, these periods occurred when real interest rates were low or negative and highly volatile. By contrast, the gold bear market of the 1980s and 1990s occurred when real interest rates were higher, positive, and relatively steady. (Prior to the late 1960s, the gold price was still heavily influenced by the Bretton Woods system and gold prices were fairly flat.)

[This variance in the price of gold vs. the level of real interest rates is referred to as Gibson’s Paradox and more can be learned about this in articles such as Short-term Interest Rates Are Behind the Price Of Gold – Here’s Proof! and What Do Rising Interest Rates Mean for the Price of Gold?

Source: Plan B Economics


While this does not prove the causality of the relationship, it makes sense intuitively. Gold performs well during periods of negative real interest rates because there are fewer alternatives for investors seeking to preserve capital and purchasing power. If a US Treasury bond provides a negative after-inflation yield, can it still be considered a safe haven? Most sophisticated investors would answer “no,” because it’s a money-loser right out of the gate (and has a lot of downside risk if nominal yields rise).

Additionally, real interest rate volatility implies that investors are uncertain about Treasury prices and future inflation. This could be caused by financial conditions that are strained beyond the realm of the normal business cycle, such as an unresolved global banking crisis or unsustainable debt. We’re facing both of these crises today.

The Big Picture

Even during periods of negative real interest rates, there are times when US Treasuries perform well in comparison to hard assets – usually during short-term periods of financial stress when investors are scrambling. However, under normal conditions, a US Treasury bond can be expected to provide a total return that is close to its coupon rate, which today is below the rate of inflation.

Any investor using real interest rates to gauge the gold bull market must look through short-term fluctuations to see the secular trend and today – while the US is overloaded with debt and the Federal Reserve is printing money without hesitation – the secular trend of negative real interest rates remains intact.


What does this mean for the current gold bull market? One day, the gold bull market will end, but given the current outlook for continued negative and volatile real interest rates, the evidence suggests that day is well in the future.

* http://www.europacmetals.com/commentaries/nnpg416/1.aspx  (To access please copy the URL and paste it into your browser.)

Editor’s Note: The above article has been has edited ([ ]), abridged (…), and reformatted (including the title, some sub-titles and bold/italics emphases) for the sake of clarity and brevity to ensure a fast and easy read. The article’s views and conclusions are unaltered and no personal comments have been included to maintain the integrity of the original article.

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One comment

  1. BUY GOLD. Gold will rise up and up. Gold will reach $8500 an ounce. Unbelievable but true!

    According to the World Gold Council, India and China are currently huge buyers of gold. They are the fastest growing economies. The wealthier they get, the more gold they will buy.

    China’s latest March figures saw their inflation rising unexpectedly which drives up the price of gold. In 2011, gold sales to China shot up 20% on the previous year to 769.8 tonnes. The data suggests China’s new rich are turning to gold to protect their wealth as the government seeks to tame the country’s giddy property prices.

    India is now buying Iranian oil in GOLD – to circumvent the US ban on trading with Iran. India depends heavily on Iran for oil and using gold is a way out. India remained the world’s biggest market for gold last year purchasing 933.4 tonnes of gold. And that is just two nations. I am not talking of other fast growing Asian countries.

    The US has an almost $16 trillion debt which is now over 100% of GDP and rising fast at the staggering rate of about $125-$130 billion per month or about $4.33 billion per day. Shocking again but true.

    The situation in Europe is worsening with Spain a concern now after Greece. Greece, Spain, UK, Portugal, Italy, Ireland are all deeply in debt. The EU firewall is still not high enough to insulate the rest of Europe from the debt contagion. In 2011, demand for gold in Europe surged as investors fretted about the worsening eurozone debt crisis. European investment in coins and bars rose 26 per cent to 375 tonnes, the World Gold Council said, making the region the largest market for physical gold investment products.

    Few saw the recession and crash of 2008 coming. No one saw the collapse of Lehman Brothers, AIG, Bear Stearns – all household names. Watch the current Republican race. Ron Paul advocates a return to the Gold Standard. His views could matter at the Republican convention on 27 August 2012. Obama is a good man but debt under him has grown over 42 percent.

    This space is too small to write more – but be warned. In 1974, gold was $65.30 an ounce and on March 28, 2012 it was $1657.90 an ounce, A GROWTH OF 2438.90 PERCENT. IT WILL NOW JUMP TO OVER $8500 AN OUNCE. On 9 April 2012, CNN and Richard Quest carried a story on the rise of Gold on “Quest means Business”

    The World Bank has cut China’s 2012 growth forecast to 8.2pc. The World Bank`s report said on 12 April 2012 that “The Chinese economy is in the midst of a gradual slowdown,” This is not good news and reinforces my forecast about investors turning to Gold.

    Goldcorp founder and CEO of McEwen Mining Inc, Rob McEwen, went on record on Bloomberg news with a forecast that Gold will reach $5000 per ounce soon. The Canadian based gold icon sees significant gains ahead for gold. McEwen expects gold prices to hit $5,000 per ounce, a 300% increase from current prices. McEwen’s time frame is reasonably short, and sees prices reaching the predicted levels by 2015-2016.
    I am going even further predicting Gold to reach $8500 per ounce very soon due:
    1. to rising inflation in China ,
    2. the depreciating Rupee in India and its stubbornly high inflation,
    3. the dangerous current impasse in North Korea and Iran on the nuclear issue (today North Korea had a failed rocket launch. South Korea says that the North is now preparing for an underground nuclear test in defiance of the world),
    4. the calamitous and worsening situation in Europe with their debt crisis (In Spain alone, unemployment among the youth has reached almost 50% which means one out every two Spanish young have no jobs. Spanish bond yields have almost reached 6pc which is unsustainable. Italy is next),
    5. the alarming US debt of almost $16 trillion USD and growing fast at the galloping rate of about $125-$130 billion per month or about $4.33 billion per day.
    6.Japan is in no better shape with extremely high debt.
    7.Just like the housing bubble burst unexpectedly on the world in 2008, this debt bubble will explode very soon. When that happens, people,
    8.Governments, Central Banks, investors and companies will rush to Gold to protect their savings and balance sheets.

    My forecast of Gold hitting $8500 an ounce may then turn out to be too modest and Gold may zoom even higher than what I am predicting.