HSBC says deflation may be good for gold, keeps $1,234 forecast

Otmane El Rhazi from The Bullion Desk.

Widespread deflationary pressures may be good for gold in the long run, HSBC’s James Steel said.

With the world currently experiencing a slew of deflationary pressures, gold prices have been falling – deflation is classically considered negative for bullion, he said in a note on Wednesday

But this may not always be the case if pressures intensify – heavy deflation typically forces central banks into introducing new monetary policy measures and/or negative interest rates.

Sweden recently became one of the latest central banks to react to deflation, introducing a -0.25 percent rate and expanding its quantitative easing programme. Switzerland and Denmark also have negative interest rates.

“Deflation, while ostensibly negative for gold, makes negative interest rates more likely as central banks move to combat falling prices,” Steel said. “Negative rates in turn encourage the holding of some hard assets, such as gold, as investors will be reluctant to have holdings in the non-cash financial system.”

Negative interest rates may also encourage investors to turn to gold as a safe haven, removing any opportunity cost of holding gold as opposed to financial assets, he noted.

The possibility of further central banks acting on deflationary pressures supports HSBC’s “cautiously optimistic” view of gold, with the bank forecasting a trading range of $1,120-1,305 per ounce this year and an average price of $1,234.

Gold is currently up around one percent for the year at $1,194 per ounce, having started 2015 at $1,182, although the metal recently fell below $1,150 to hit a 2015 low of $1,142.90.

“Gold prices however are not entirely hostage to monetary developments. The recent price slump below $1,150 may be encouraging greater demand from price sensitive emerging market buyers, notably, but not exclusively, in India and China,” Steel added.

Low prices are also discouraging recycled scrap supplies, the second-largest source of new supply after mining, he said.

(Editing by Mark Shaw)

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