Factors influencing the gold price

Today, like all investments and commodities, the price of gold is ultimately driven by supply and demand, including hoarding and dis-hoarding. Unlike most other commodities, the hoarding and dis-hoarding plays a much bigger role in affecting the price, because almost all the gold ever mined still exists and is potentially able to come on to the market at the right price. Given the huge quantity of above-ground hoarded gold, compared to the annual production, the price of gold is mainly affected by changes in sentiment, rather than changes in annual production.

Central banks and the International Monetary Fund play an important role in the gold price. At the end of 2004 central banks and official organisations held 19 percent of all above-ground gold as official gold reserves. The Washington Agreement on Gold (WAG), which dates from September 1999, limits gold sales by its members (Europe, United States, Japan, Australia, Bank for International Settlements and the International Monetary Fund) to less than 400 tonnes a year. European central banks, such as the Bank of England and Swiss National Bank, have been key sellers of gold over this period.

In November 2005, Russia, Argentina and South Africa expressed interest in increasing their gold holdings. Other than Russia, these are not viewed as significant central banks, but any move by Japan, China or South Korea to do the same would be seen as significant.[citation needed] Currently the United States Federal Reserve has 16% of its assets in gold Federal Reserve gold holdings, whereas China holds approximately 1% in gold.

Although central banks do not generally announce gold purchases in advance, some, such as Russia, have expressed interest in growing their gold reserves again as of late 2005. In early 2006, China, which only holds 1.3% of its reserves in gold, announced that it was looking for ways to improve the returns on its official reserves. Many bulls hope that this signals that China might reposition more of its holdings into Gold in line with other Central Banks.

Bank failures

When dollars were fully convertible into gold, both were regarded as money. However, most people preferred to carry around paper banknotes rather than the somewhat heavier and less divisible gold coins. If people feared their bank would fail, a bank run might have been the result. This is what happened in the USA during the Great Depression of the 1930s, leading President Roosevelt to impose a national emergency and to outlaw the holding of gold by US citizens.

Inflation

Paper currencies pose a risk of being inflated, possibly to the point of hyperinflation. Historically, currencies have lost their value in this way over time. In times of inflation, people seek to protect their savings by purchasing liquid, tangible assets that are valued for some other purpose. Gold is in this respect a good candidate, since producing more is far more difficult than issuing new fiat currency, and its value does not rely on any particular government's health.

Low or negative real interest rates

Gold has a long history of being an inflation proof investment. During times of low or negative real interest rates, when significant inflation is present and interest rates are relatively low, investors seek the safe haven of gold to protect their capital. A prime example of this is the period of Stagflation that occurred during the 1970s and which led to an economic bubble forming in precious metals.


War, invasion, looting, crisis

In times of national crisis, people fear that their assets may be seized and that the currency may become worthless. They see gold as a solid asset which will always buy food or transportation. Thus in times of great uncertainty, particularly when war is feared, the demand for gold rises.

Production

According to the World Gold Council, annual mine production of gold over the last few years has been close to 2,500 tonnes. However, the effects of official gold sales (500 tonnes), scrap sales (850 tonnes), and producer hedging activities take the annual gold supply to around 3,500 tonnes.

Demand

About 3,000 tonnes goes into jewelry or industrial/dental production, and around 500 tonnes goes to retail investors and exchange traded gold funds.

Supply and demand

Some investors consider that supply and demand factors are less relevant than with other commodities since most of the gold ever mined is still above ground and therefore potentially available for sale. However, supply and demand do play a role. According to the World Gold Council, gold demand rose 29% in the first half of 2005. The increase came mainly from the launch of a gold exchange-traded fund, but also from jewelry. Gold demand was at an all time record. Demand from the electronics industry is rising by 11% a year, jewelry by 19%, and industrial and dental by 21%.

Conspiracy theories

The Gold Anti-Trust Action Committee was organized in January 1999 to advocate and undertake litigation against illegal collusion to control the price and supply of gold and related financial securities. GATA underwrote the federal anti-trust lawsuit of its consultant, Reginald H. Howe -- Howe vs. Bank for International Settlements et al. -- which was pursued in U.S. District Court in Boston from 2000 to 2002. While the Howe suit was dismissed on a jurisdictional technicality, it became the model for Blanchard Coin and Bullion's anti-trust lawsuit against Barrick Gold and J.P. Morgan Chase & Co., which was filed in U.S. District Court in New Orleans in 2002 and prompted Barrick Gold's decision to stop selling gold in advance for 10 years.