Five Factors That Influence Gold and Silver Prices

The preceding year and a half had been extraordinary in U.S. history. Never before had a virus led to shelter-in-place orders and an economic shutdown. This “new normal” led many people to reconsider their investments and financial holdings. As readers may have known, gold and other precious-metals prices were affected as well.

In seeking financial stability, many people had turned to precious metals, such as gold and silver. For anyone who had not previously traded these precious metals, it was important to understand generally what influenced their value. Knowing the fundamentals could improve the likelihood of sound decisions when buying gold and silver and lessen the chance of an emotional decision when selling if prices unexpectedly declined.

When published, this article invited readers to explore five influences on gold and silver spot prices.

SUPPLY AND DEMAND

Supply and demand is a fundamental economic principle affecting the entire economy, and gold and silver prices are included in that principle.

Supply and demand can be understood this way: when the supply of an item, here gold and silver, is lower, demand becomes higher. When something is viewed as rare or scarce, consumers generally want it more. In this case, as demand for gold and silver rises, the expected price rises too, unless supply unexpectedly increases.

On the other hand, if worldwide gold and silver supply unexpectedly grew through a large new deposit, ocean-floor drilling, asteroid mining, or similar development, gold’s per-troy-ounce price and silver’s per-ounce price would fall. The same supply principle also applies to platinum and palladium prices.

As of 2019, 197,576 tonnes of gold had been mined. Put differently, that was the estimated amount of gold above ground. Annual new production was approximately 2,500 – 3,000 tonnes and was expected to decline over time.

Even using the upper end of that estimate, annual growth in the gold supply had been 1.5% or less. That restricted level of new supply was expected to support demand for the foreseeable future.

Gold and silver have a finite supply, unlike dollars issued by the Federal Reserve, which can be increased with the push of a button. This article discusses later how Federal Reserve policies affect gold and silver prices, but first it is important to understand supply and demand and the way it influences prices.

At the time of original publication, the article described the following:  

INFLATION

Inflation is another factor that affects gold and silver prices, a primary reason people invested in gold and silver. In simple terms, inflation means that $1 at the article’s publication was worth more than $1 in the future. This could be seen throughout society because goods and services generally increased in price year after year.

For instance, people who grew up in the 1980s may remember paying about twenty-five cents for a pack of gum or baseball cards. At the time this article was published, those items cost $1 – $2, if not more. Milton Friedman was famously quoted as saying, “Inflation is always and everywhere a monetary phenomenon.“

When this article was originally published, inflation had been relatively modest in recent years, averaging in the 2% – 3% range, but it was then rising and was described as having serious long-term adverse effects on wealth. For perspective, the U.S. dollar had lost approximately 96% of its value since the Federal Reserve was established in 1913.

Expressed differently, $1 in 1913 equaled approximately $27 at the time of publication. To further illustrate the point, when gold reached $2,067 in August of 2020, the dollar had lost 99% of its value against gold during the preceding 100 years.

Historically, gold and silver have been viewed as among the more effective ways to hedge changes in inflation, often called “hidden tax.” Because precious metals including gold and silver are scarce and desirable, particularly amid high debt levels and central-bank debt monetization, the article said that acquiring precious metals could help preserve wealth.

A commonly used example of gold as an inflation hedge holds that, in the early 1930s, one ounce of gold could purchase a quality suit and shoes. At the time of publication, an ounce of gold could purchase the same quality suit and shoes. In other words, the article presented gold as retaining value over time and likely continuing to do so.

POLITICAL ISSUES/UNCERTAINTY

During political change, stress, or uncertainty, gold and silver prices have tended to move. Over time, numerous geopolitical events and periods of uncertainty have affected the prices of gold and silver.

When this article was originally published, its most recent example of uncertainty affecting precious-metals prices was Covid-19. Gold and silver prices rose 34% and 69%, respectively, from March 2020 through August 2020. The article attributed much of that increase to virus-related uncertainty and the closure of the U.S. economy.

Over the years, gold and silver prices also rose amid the threat of war and other geopolitical risks. The article noted that prices often spiked as foreign relations with other superpowers, including Russia and China, deteriorated. It also said they had performed well as the threat of war increased, including during the preceding years’ tensions with Iran and North Korea.

Geopolitical events do not affect only gold and silver prices. A few years before publication, South African miners had gone on strike. Because South Africa was the world’s leading platinum producer, holding over 80% of global platinum reserves, that strike created supply constraints and pushed prices higher.

All else equal, periods of global stability can reduce demand for precious metals and may lower prices. Still, the article emphasized that geopolitical conditions and uncertainty represent only one influence on gold and silver prices.

CENTRAL BANKS

Central banks are institutions that manage a nation’s credit and money supply. Every country issuing its own currency has a central bank. In the United States, the central bank is known as the Federal Reserve, a private institution established in 1913.

The Federal Reserve’s foundations were created in 1910 at a private meeting at Jekyll Island. Financial media also commonly refer to the Bank of Japan, the European Central Bank, and the People’s Bank of China.

Because most readers were in the United States, this article focused chiefly on the Federal Reserve. The Federal Reserve has a dual mandate: maintaining price stability and maximizing employment. Meeting that mandate can be difficult, particularly when inflation rises while employment remains below full levels.

Because central banks manage national monetary policy, what they do—or do not do—can materially affect gold and silver values. For example, the Federal Reserve expanded its balance sheet from about $4.2 trillion in March 2020 to nearly $8.5 trillion in October 2021. During that same period, gold and silver prices increased 12.5% and 35%, respectively.

Central-bank monetary policy can influence gold and silver prices, but direct central-bank purchases can influence values as well. Although all currencies were fiat currencies, central-bank gold reserves carried perceived security. At the time this article was written, the United States had the world’s largest gold holdings. While U.S. holdings had remained fairly stable for years, other countries had been adding to their reserves.

At the time of original publication, the article described the following: In the years leading up to publication, China and Russia had reduced U.S. Treasury holdings while increasing gold bullion reserves. It was therefore unsurprising that their central banks ranked among the top 10 holders of gold reserves. China’s official holdings were approximately 2,000 tons, though many people speculated that its actual gold holdings might be double, or more, than officially reported.

Central-bank gold buying can create something of a floor beneath gold prices. When this article was published, most central banks were maintaining or adding to their gold positions, though large gold holdings had also been sold in the past. The best-known example was Gordon Brown’s sale of the United Kingdom’s gold holdings from 1999 – 2002. England’s Gordon Brown became famous, or perhaps infamous, for selling most of England’s gold reserves when gold prices were near a low of $250/oz.

STRENGTH OF THE U.S. DOLLAR

The strength, or weakness, of the U.S. dollar directly affects gold and silver prices, though the movements are not identical. Instead, their relationship is generally inverse.

When the dollar declines, foreign currencies gain value, increasing demand for gold and silver and, in turn, their prices. The article said this pattern applied to other currencies as well: when they fell in value, people looked for alternative investments, and gold and silver often received that interest.

Viewed by itself, the dollar may seem like an unattractive investment, yet its value must be considered against the performance of other currencies. Because many foreign governments were also using loose monetary policies and deficit spending when this article was originally published, the dollar was sometimes described as the cleanest dirty shirt in the laundry. Put another way, every currency has serious shortcomings when examined alone, but in relative terms the dollar appeared less flawed than certain other currencies.

At the time this article was written, the dollar index stood at 94.07, roughly in line with the range in which the dollar had traded during the preceding several years. Although the dollar remained technically the world’s reserve currency at publication, it had lost some of its former appeal over the preceding decades. The dollar index had reached its all-time high of 163 in March of 1985. During that period, gold traded in the $280 range.

CONCLUSION

As this article explained, several factors influence gold and silver prices, but those influences were not presented as reasons investors should avoid these assets. Instead, the original article suggested pursuing precious metals because the conditions behind then-current demand and higher prices were expected to remain in place. It also noted that precious metals often show a low correlation with many traditional investments, offering diversification that could potentially help reduce volatility and improve returns.

When this article was originally published, Atlanta Gold & Coin Buyers stated that its experts understood the factors affecting gold, silver, and other precious-metal prices. The original article also said the company could guide readers through acquiring physical gold and silver, including identifying options suited to their investment needs.