WHAT'S BEHIND THE RISES IN GOLD PRICES

(by Mohamed El-Erian, President of Queens College, Cambridge and Advisor to Allianz and Gramercy)

The purchase of the precious metal reflects the growing interest in alternatives to the dollar financial system.

Something strange has happened to the price of gold in the last year. Reaching one all-time high after another, it seems to have become disconnected from its traditional historical drivers such as interest rates, inflation and the dollar. Furthermore, the stability of growth contrasts with changes in the main geopolitical contexts.

Gold’s ability to weather the elements signals something that transcends economics, politics, and increasingly frequent geopolitical events. It reflects an increasingly stable behavioral trend in China, middle-power countries, and other major players. And that is an important trend.

Gold and other goods

Over the past 12 months, the price of an ounce of gold on international markets has increased from $1,947 to $2,715, an increase of nearly 40%. Interestingly, this price increase has been relatively linear, with any decrease attracting more buyers. This has occurred despite some sharp changes in rate expectations, large swings in U.S. benchmark yields, declining inflation, and currency volatility.

Some might be inclined to exclude gold from the general trend of rising asset prices, where the S&P, for example, is up 35% in the last 12 months. However, this correlation itself is unusual. Perhaps some believe it is all about military conflicts destroying infrastructure, ruining economies and people's lives. However, the price trajectory suggests something more.

Gold and Central Banks

The steady purchases by foreign central banks are a major factor fueling gold’s strength. Such purchases appear to be linked not only to the desire of many to gradually diversify their reserves away from the significant dominance of the dollar, despite American “economic exceptionalism.” There is also interest in exploring possible alternatives to the dollar payment system that has underpinned the international architecture for some 80 years.

Gold and geopolitics

If you ask why this is happening, you usually get an answer that cites a general loss of confidence in America's ability to manage the global order and two specific developments.

You will hear that America has weaponized trade tariffs and financial sanctions and is no longer interested in the cooperative, rules-based multilateral system it championed 80 years ago.

You will also hear about Russia’s ability to continue trading and growing its economy despite some of the country’s banks being kicked out of SWIFT, the international system that governs the vast majority of cross-border payments, in 2022. It did this by creating an alternative trade and payments system that included several other countries. Despite its low efficiency and high costs, this system allowed Russia to bypass the dollar and maintain the basic set of international economic and financial relations.

Then there is the issue of the Middle East conflict, where the United States is widely seen as an inconsistent defender of both basic human rights and the enforcement of international law. This perception has been reinforced by the way the United States has shielded its main ally from backlash against actions widely condemned by the international community.

What is at stake here is not only the weakening of the dollar's dominant role, but also the gradual change in the functioning of the global system. No other currency or payment system is able or willing to displace the dollar from the center of the system, and there is a practical limit to the diversification of reserves. But ever smaller channels are being built to bypass this core, and more and more countries are interested in creating them and are increasingly involved in this process.

What is happening to the price of gold is unusual not only from the perspective of traditional economic and financial phenomena. It also goes beyond strict geopolitical factors, reflecting a broader phenomenon that is gaining momentum.

As it takes root and strengthens, the risks of significant fragmentation of the global system and a weakening of the strength of the dollar and the US financial system increase. In this case, states will gradually lose the ability to influence what is happening. There is still time for the West to intervene and correct this course, but not as much as some hope.