Today, like all investments and commodities, the price of gold is ultimately driven by supply and demand. Unlike most other commodities, hoarding and disposal play a huge role in gold prices, because most of the gold ever mined still exists in accessible form and is potentially able to come on to the market for the right price. At the end of 2006, it was estimated that all the gold ever mined totaled 158,000 tonnes.
At the end of 2004 central banks and official organizations held 19 percent of all above-ground gold as official gold reserves. Given the huge quantity of gold hoarded , the price of gold is mainly affected by changes in sentiment, rather than changes in annual production. According to the World Gold Council, annual mine production of gold over the last few years has been close to 2,500 tonnes. Most of it go into jewellery or industrial/dental production, and around 500 tonnes goes to retail investors and exchange traded gold funds. This translates to an annual demand for gold to be 1,000 tonnes in excess over mine production which has come from central bank sales and other disposal.
Central banks and the International Monetary Fund play an important role in the gold price. The ten year Washington Agreement on Gold (WAG) signed in September 1999, limited gold sales by its members (Europe, United States, Japan, Australia, Bank for International Settlements and the International Monetary Fund) to less than 500 tonnes a year. European central banks, such as the Bank of England and Swiss National Bank, were key sellers of gold over this period. In 2009, this agreement was extended another five years, but with a smaller annual sales limit of 400 tonnes.
Although central banks do not generally announce gold purchases in advance, some, such as Russia, have expressed interest in growing their gold reserves again as of late 2005. In early 2006, China, which only holds 1.3% of its reserves in gold, announced that it was looking for ways to improve the returns on its official reserves. India has recently purchased over 200 tons of gold which has led to a surge in prices.
- Other factors like war, bank failures, crisis, natural calamities and oil prices also influence gold prices.
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Is there any relationship between inflation and gold?
Gold has been in a bull run throughout the 2000s, fuelled by the easy money policies of central banks of the world, while inflation has remained in a subdued range in the U.S and elsewhere ever since Paul Volker`s decisive leadership reinvigorated the American public`s confidence in the Federal Reserve`s commitment to keeping price pressures under control. The median value of year-end inflation statistics is a meager 3.2% for the past 30 years. That number is above the Federal Reserve`s target, but is not a sign of failure in our opinion, since it is skewed to the higher side by the very high numbers in the 80s.
One can certainly make a logical case, at least at a basic level, that gold is a play against inflation, due to its limited supply, and intrinsic value in many cultures. That is indeed the main basis of the arguments of many people in the financial world.
Gold is a hedge against inflation, and that wise, prudent, sensible people invest in precious metals in order to protect themselves against the out-of-control behavior of government officials. Since central banks are inflating money supply, it is time to stock up on gold which is the only asset in the world that has real value, implicitly implying that it is more resilient to speculative activities, and socialist governments.