When the Federal Reserve Bank of Kansas City picked Wyoming’s Grand Teton mountains for their August central banker confab in 1982, they did so in the hope that it would insure the attendance of then Fed Chairman Paul Volcker, a fly-fishing enthusiast.
It worked. The Jackson Hole Economic Symposium has become an important event for central bankers and their academic boosters ever since. Although Volcker passed away in 2019, his name was on everyone’s lips at this summer’s gathering, especially those of current Fed President Jerome Powell.
You see, Volcker is chiefly remembered today for wringing inflation out of the U.S. economy at the end of a stagflationary decade, doing so by raising interest rates above the rate of inflation. The double-digit rates he orchestrated came at the high cost of a brutal recession, but inflation was mostly conquered along the way.
This year, Powell must have found the fresh mountain air invigorating, as he displayed an unaccustomed resolve to master inflation himself. Invoking the memory of Volcker, Powell promised to keep hiking rates. “We will keep at it until we are confident the job is done,” he said.
It was enough to drive the Dow Industrials down a thousand points that same day. It coincided with the estimable Jim Grant, the publisher of Grant’s Interest Rate Observer, proclaiming a turning point, the end of 40 years of falling interest rates.
It was also enough for us to break out a few charts to make it clear to our friends and clients that gold does just fine in a secular trend of rising rates. And to shed some light on the insurmountable challenges to U.S. fiscal policy that ensure the world will turn to gold in place of a troubled dollar.
Let us start with what the Fed has been doing since the Great Recession began at the end of 2007. It has been printing money. A lot of money.
This chart, Fed Assets, displays the assets, mostly government bonds, that the Fed has purchased with money it simply made up with a few keystrokes on a keyboard. That is to say, it bought things with money that didn’t really exist until that moment. Its purchases totaled almost $8 trillion.
That made-up money is the very heart of inflation. Euphemistically called Quantitative Easing (QE), it mostly stovepiped money Wall Street’s way, enriching Fed cronies, widening the wealth gap in America, and inflating the “everything bubble” in stocks, bonds, and real estate.
While most observers debate whether the Fed will raise the Fed funds rate by 50 or 75 basis points at their next meeting in a couple of weeks, flying under the radar is the Fed’s equally or more important promise to roll back some of this outrageous QE money creation before it does any more harm. Quantitative Tightening (QT) begins in earnest in September. That means that the Fed won’t be available to help the U.S. Treasury borrow money to enable Washington’s spending. Indeed, rather than buying more government debt, the Fed promises to lighten its portfolio by $95 billion a month for the foreseeable future.
So, as Washington spends trillions more—the American Rescue Plan, the Infrastructure Bill, the Inflation Reduction Act, and the student loan policy—the government’s need to borrow grows. It doesn’t shrink. It expands. This is reflected in the fact that when Biden came into office, the 10-year rate was just over 1%. Today, it is over 3%. But now a huge buyer of government bonds, the Fed, will not only be missing in action, it will also be unwinding its debt holdings. That shortfall will have to be made up by other buyers. Just who they are is unknown. Who funds the U.S. deficit as China, Russia, and many others have had enough?
QT can prove to be a more formidable driver of higher interest rates than adjustments to the Fed funds rate. It also drives foreign dollar holders to continue replacing their own holdings of dollars, the currency of a clearly financially troubled nation, with gold.
To hasten to the end of this part of the story, here is a chart of secular U.S. interest rate trends using the yield on 10-year Treasury notes. For some 15 years, from 1965 to 1980, U.S. interest rates moved higher. Then, with rates at about 16%, a 40-year reversal of lower rates took over.
The question is, what happened to gold prices during that decade and a half of rising rates, from 1965 to 1980?
That period of rising rates included the government’s repression of gold prices and the stagflation decade of the 1970s. It saw one of the most explosive gold bull markets in history, pictured on the following gold price chart.
Our objective today is simply to dispel any belief that rising rates will keep a lid on gold prices. As you can see, that is not the case. There is much more to the story that we are eager to share in some subsequent posts. But for now, we will leave you with this cliffhanger:
With all the money the Fed has created (revisit our first chart, Fed Assets), it is far too late now to matter whether the Fed raises rates or not. That is because gold wins either way.
Or as a Financial Times headline read just the other day, “A post-dollar world is coming!”
Be ready.
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The opinions, beliefs, and viewpoints expressed in this article do not necessarily reflect the opinions, beliefs, and viewpoints of Red Rock Secured LLC or the official policies of Red Rock Secured LLC. Red Rock Secured LLC is not a financial advisor, is not licensed to provide investment advice and neither provides investment nor financial advice. Red Rock is a product specialist that can help evaluate your precious metals purchase options.
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