Now it’s golden time

World Bank experts have finally admitted that the risk of stagflation is getting bigger and more real. For gold, however, this is good news.

Better late than never

First they ignore you, then they laugh at you, then they fight with you, and finally you win. Indeed, for several months, experts had ruled out the possibility of stagflation. The possibility I was stressing almost since the beginning of the pandemic-related economic crisis and the subsequent jump in inflation. In the April 2021 Gold Market Overview summary, I wrote:

The US economy is likely to move from an economic recovery to stagflation in the coming months. Even the Fed itself admits that inflation will jump this year. Of course, central banks are trying to convince us that inflation will only be transitory, but it is possible that they underestimate the inflationary risk and overestimate their ability to deal with it.

This is exactly where we are now. After months of saying inflation was temporary and laughing at stagflation warnings, this time is different! In its latest report, Global Economic Prospects, the World Bank admitted that “stagflation risks are rising amid a sharp slowdown in growth”. The institution lowered its global growth forecast from 5.7% in 2021 to 2.9% in 2022, which is significantly lower than the 4.1% forecast in January. What is really disturbing is that, between 2021 and 2024, global growth is expected to have slowed by 2.7 percentage points – more than double the slowdown between 1976 and 1979.

Oops! Houston, we have a problem! Indeed, as World Bank President David Malpass said in the report’s preface, the risk of stagflation is likely now:

Amid the war in Ukraine, rising inflation and rising interest rates, global economic growth is expected to decline in 2022. Several years of above-average inflation and below-average growth are likely, with potentially destabilizing consequences for developing countries. low and medium economy. income savings. It is a phenomenon – stagflation – that the world has not seen since the 1970s (…).

The danger of stagflation is considerable today (…). Moderate growth is likely to persist throughout the decade due to weak investment in most parts of the world. With inflation now reaching multi-decade highs in many countries and supply expected to grow slowly, there is a risk that inflation will remain higher for longer than currently anticipated.

Treasury Secretary Janet Yellen also admitted this month that she was wrong a year ago when she said she predicted inflation would be “a small risk”, “manageable” and “not an issue”. In an interview with CNN, she said:

I was wrong about the path inflation would take. As I mentioned, there were unforeseen and large shocks to the economy that boosted energy and food prices. And supply bottlenecks that affected our economy so much that I didn’t fully understand at the time.
Rumor has it that Yellen has educated herself a bit recently.

implications for gold

What does all this mean for the economy and the gold market? Well, policymakers often don’t admit they were wrong. If they do, it’s only because they know how bad it’s about to get. The fact that the World Bank is openly predicting stagflation is another indication that the economic situation is getting worse.

You see, to combat high inflation in the 1970s, the Fed was forced to raise interest rates so sharply that it triggered a global recession. As the chart below shows, nominal 10-year Treasury yields briefly surpassed 3%, which is a relatively high level in recent times, but is nothing like the levels seen in the 1970s and 1980s. What is particularly disturbing here is that debt levels are much higher today than they were during Great Stagflation, so the Fed’s tightening cycle could potentially be even more damaging now.

Stagflation should be positive for gold bulls. The sample is small because there was only one stagflation in the past, which overlapped with the end of the gold standard and the liberalization of the gold market, but still, a recession should send gold higher. The danger for gold is raising real interest rates, but the current path of monetary tightening is likely already well priced by markets, so only a more aggressive stance than markets now expect could hurt the yellow metal.

As the chart above shows, gold prices continue to trade around the $1,850 level, and it looks like gold is waiting for something to decide which way to go. Next week’s Fed policy meeting could provide a much-needed catalyst – we’ll see!

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