Will Gold Prices Rise amid Contracting Business Activity?

Will gold rise in response to the economic decline?

The flash US PMI Composite Output Index decreased from 48.2 in October to 46.3 in November. The rate of decline was among the sharpest since the Great Recession . It was consistent with the economy contracting at an annualized rate of 1%. Importantly, both the services and manufacturing sectors recorded lower output. Not surprisingly, the key factors that weighed on business activity were rising interest rates , tightening financial conditions, inflation , and economic uncertainty.

But there are also positive parts to the report . First, business expectations, or confidence in the outlook for the output in the upcoming months, improved. Second, firms reported reduced supply chain stress. It was the first improvement in the performance of the supply side of the economy since October 2019. However, don’t exaggerate with joy – the supply chains performed better partly thanks to the lower demand. Third, the input price inflation slowed down. The improved supply performance removed part of the inflationary pressure, thanks to which the costs inflation increased at the slowest rate since December 2020. As a consequence, product price inflation also moderated somewhat.

Implications for Gold

What does it all mean for the gold market? Well, the report is fundamentally positive for the gold market . This is because the inflationary pressure is softening while the economic activity is getting worse. Actually, the US economy continues to head into a recession . Softer inflation and a slowdown in economic growth, not to mention the possibility of an outright downturn, would lead to the Fed’s pivot and adoption of a dovish monetary policy .

Having said that, it’s not very likely that gold will react strongly to the PMI report. As the chart below shows, the price of gold was declining in the last few days amid hawkish comments from the Fed officials.

It seems to me that the price of gold will remain dependent on the Fed’s signals and the resulting expectations about the future path of the federal funds rate . Luckily for the gold bulls , we should be close to the end of the current tightening cycle , which should take some downward pressure from the gold prices.

Arkadiusz Sieron, PhD