The opportunity cost is the cost of the best alternative that must be forgone in order to pursue a certain action. To simplify, it is what you have to give up to get something. For example, the opportunity cost of going to college is the money you would have earned if you had worked instead. Or if you spend the time going to a movie, you cannot spend that time at home reading a book, which is the opportunity cost of going to a movie. Similarly, the opportunity cost of an asset is what you give up by owning it. For example, the opportunity cost of investing in stocks is the yield on risk-free government bonds. Each investment decision entails some opportunity costs and gold is no different here.
Opportunity Costs and Gold
In the case of gold, the opportunity cost is a return that the investors could achieve by purchasing other assets (like stocks or bonds) or bank interest rates that investors could get by leaving money on deposit. This is why there is a strong inverse relationship between gold and real interest rates. Investors simply choose to buy or sell gold by comparing the expected real return on gold to that of other liquid financial assets. The opportunity costs can also explain the inverse relationship between gold and the U.S. dollar. In certain periods investors see gold as the ultimate safe-haven, but sometimes they regard the greenback as equally good or even better insurance. Therefore, the strong faith in the U.S. dollar simply makes gold less attractive compared to the greenback, or increases the opportunity costs of investing in gold.
We encourage you to learn more about gold – not only how it is affected by opportunity costs, but also how to successfully use the shiny metal as an investment and how to profitably trade it. A great way to start is to sign up for our gold newsletter today. It's free and if you don't like it, you can easily unsubscribe.