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New York Fed Inflation Gauge and Gold

Commodities / Gold and Silver 2017 Dec 12, 2017 - 05:17 PM GMT

By: Arkadiusz_Sieron

Commodities

The New York Fed created a new inflation gauge. What does it mean for the gold market?

The standard inflation measures are the CPI and the PCEPI. They are useful indicators of changes in consumer prices. However, they omit producer prices, commodity prices, or asset prices. Hence, the central banks’ focus on consumer prices makes them blind to asset prices bubbles and the broad inflation pressure. This was the case of both the Great Depression and the Great Recession: the CPI was stable, so the Fed did not perceived its monetary policy as easy, despite the impressive rise in stock and real estate markets.


Therefore, the Fed has finally decided to see what would happen if it started to include the asset prices in its gauges. And what a surprise – the result is much higher inflation! Who would have thought? The new inflation measure is called the Underlying Inflation Gauge (UIG) and it includes not only consumer prices, but also producer prices, commodity prices and real and financial asset prices. It is, thus, a really broad measure of inflation in the economy.

Importantly, the last reading for annual inflation in October was 2.96 percent, almost a percentage point above the CPI or the Fed’s target rate. As one can see in the chart below, the UIG has been higher than the CPI since about 2013. And it has been higher than the Fed’s 2-percent rate target since 2014. It implies that the U.S. central bank started its tightening cycle too late. The consequences might be very bad for the broad economy, but good for safe havens such as gold.

Chart 1: Gold price (yellow line, left axis, London P.M. Fix, monthly average), the CPI inflation rate (red line, right axis, annual rate in %), and the UIG inflation rate (blue line, right axis, annual rate in %) from January 1995 to October 2017.


OK, the broad inflation, which includes asset prices etc., is higher than consumer price inflation. But what does it mean for the gold market? Well, quite a lot, actually. It shows that inflation is not subdued in the U.S. economy. Hence, the obsessive fear of deflationary pressures and of the extinction of inflation is misguided. It may, thus, lead to too slow normalization of the monetary policy. The FOMC is tightening its stance, but not quickly enough. Staying behind the curve implies the risk of a sudden pickup in inflation in the future. Not looking at asset prices may lead to too expansive monetary policy and the buildup of financial imbalances, including the price bubbles. When the bubble bursts or inflation rears its ugly head, gold – as the ultimate safe haven – should shine.

Thank you.

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Arkadiusz Sieron
Sunshine Profits‘ Market Overview Editor

Disclaimer

All essays, research and information found above represent analyses and opinions of Przemyslaw Radomski, CFA and Sunshine Profits' associates only. As such, it may prove wrong and be a subject to change without notice. Opinions and analyses were based on data available to authors of respective essays at the time of writing. Although the information provided above is based on careful research and sources that are believed to be accurate, Przemyslaw Radomski, CFA and his associates do not guarantee the accuracy or thoroughness of the data or information reported. The opinions published above are neither an offer nor a recommendation to purchase or sell any securities. Mr. Radomski is not a Registered Securities Advisor. By reading Przemyslaw Radomski's, CFA reports you fully agree that he will not be held responsible or liable for any decisions you make regarding any information provided in these reports. Investing, trading and speculation in any financial markets may involve high risk of loss. Przemyslaw Radomski, CFA, Sunshine Profits' employees and affiliates as well as members of their families may have a short or long position in any securities, including those mentioned in any of the reports or essays, and may make additional purchases and/or sales of those securities without notice.

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