What influences the price of gold?

Understanding what drives the price of gold can be confusing due to its interaction with both traditional supply-demand factors and broader economic sentiments.Gold has long been considered a safe-haven asset, especially in times of economic instability, inflation, and geopolitical unrest. As a store of value, its role in portfolios remains strong, and December 2023 reinforced this when gold reached an all-time high. Despite its resilience,

If you’re considering investing in gold, it’s crucial to grasp the various factors that influence  price of gold.

Key Factors Influencing Gold Prices

1. The Value of the U.S. Dollar

Gold is globally recognized and valued, but its price is typically measured in U.S. dollars. As a dollar-denominated asset, the relationship between the two is inverse. When the value of the U.S. dollar falls, the price of gold tends to rise, as investors need more dollars to buy the same amount of gold.

This became evident during 2024, when gold reached record prices as the purchasing power of the dollar waned. Additionally, a weaker dollar relative to other currencies increases international demand for gold, further driving up prices. For example, in late December 2023, the euro’s exchange rate climbed to $1.11 USD, coinciding with the historic high in price of gold .

2. Demand for Gold

Gold’s demand comes from various sectors, each of which impacts its price differently. Here are the major contributors:

• Jewelry Demand: Gold’s use in jewelry remains a steady but relatively low-impact factor on its price. While global demand for gold jewelry exists, it’s often held for long periods, which doesn’t contribute significantly to short-term price fluctuations.
• Gold Exchange-Traded Funds (ETFs): Gold ETFs allow investors to gain exposure to the metal without physically owning it. Increased demand for these ETFs can push up gold prices as they increase buying volume. ETFs provide the stability of owning gold while offering the convenience of stocks.
• Central Bank Purchases: In recent years, central banks have increased their gold reserves. Gold is viewed as a Tier 1 asset, offering both stability and crisis response potential. For instance, after the U.S. sanctioned Russian assets in 2022, many central banks shifted focus to gold to reduce reliance on U.S. Treasurys. Nations like China, Russia, and India have been accumulating gold at a rapid pace, signaling a shift in global gold demand from West to East.
• Industrial Use: Gold also has demand in industrial applications, including electronics and healthcare. As industrial use grows, the demand for gold increases, potentially driving up prices.

3. Gold Production and Supply Constraints

Gold is a finite resource, and the production process is becoming more challenging and expensive. Over the past decade, gold production has plateaued, leading some experts to speculate whether we’ve reached “peak gold.” If production can no longer keep pace with demand, prices may rise.

Though gold can be recycled and reused, much of it remains tied up in long-term holdings like jewelry, making it unavailable for immediate circulation.

4. Interest Rates

Interest rates and gold prices typically have an inverse relationship. When interest rates fall, gold prices tend to rise, as low rates diminish the opportunity cost of holding non-interest-bearing assets like gold.

However, this relationship isn’t always straightforward. For example, despite high interest rates throughout 2023, gold still hit its highest price point. This shows that other economic factors, such as inflation or investor uncertainty, can overpower the typical interest rate-gold dynamic.

5. Geopolitical Tensions

Geopolitical instability often pushes investors towards gold as a safeguard against uncertainty. In times of conflict, demand for gold rises, boosting its price. This was evident in early 2022 during the Russia-Ukraine war and in late 2023 amid the conflict between Hamas and Israel, where gold prices surged.

However, geopolitical events don’t always affect gold prices uniformly. When global conflicts are perceived as benefiting the U.S. economy, gold demand may decline as investors turn to riskier assets like stocks.

Who Determines the Price of Gold?

Multiple forces influence the price of gold, but there isn’t one single entity responsible. However, the London Bullion Market Association (LBMA) plays a key role in publishing price of gold twice daily through the ICE Benchmark Administration (IBA). The IBA consists of a panel of banks and financial experts who set the gold spot price based on current demand and supply conditions.

Major derivative markets, such as COMEX in the U.S. and LBMA in the U.K., also contribute to gold pricing by facilitating futures contracts, which help forecast future gold prices.

In recent years, China has taken a larger role in determining global gold prices. The People’s Bank of China (PBoC) and Chinese private sector entities have purchased vast amounts of gold, which has shifted some influence away from Western markets. In 2023 alone, the PBoC bought a record 735 tons of gold, making China a major player in the gold market.

Volatility of Gold

Gold is often seen as a stable asset, particularly over the long term, making it a popular choice for retirement and savings accounts. However, it can experience short-term volatility, especially during economic downturns. Unlike stocks or bonds, which may see more volatility in turbulent markets, gold tends to move steadily, offering a hedge against inflation and economic instability.

That said, gold does not pay dividends or interest, so the only way to make a profit from it is to sell when prices of gold  rise. Investors typically hold gold as part of a diversified portfolio to balance risk, knowing that while price of gold may temporarily dip, they have historically risen again in the long run.

Conclusion: Is Gold a Good Investment?

Gold’s status as a safe-haven asset makes it a valuable addition to any portfolio, particularly during times of economic uncertainty or inflation. The factors influencing its price—such as the value of the U.S. dollar, central bank buying, and geopolitical events—are diverse and sometimes unpredictable. However, gold has consistently proven its worth as a store of value.

While it’s not a high-yield investment, gold can offer protection and stability, especially for long-term investors. As always, it’s important to stay informed about the forces driving the price of gold and to diversify investments to manage risk effectively.