While we count down the days left in the year, there’s one big date left for gold investors and indeed for all the financial markets: The 15th December. Here’s the background.
Back in August, Trump raised tariffs on $250bn worth of goods from China to 30% from 25% effective 15 October, and to 15% from 10% on the remaining $300bn worth of goods, effective 15 December. But a few days before the October deadline, Trump announced that he was suspending the increase as the US and China had tentatively agreed on the “first phase” of a trade deal, with China agreeing to buy up to $50bn in American farm products and to accept more US financial services in return.
This “Phase One” agreement was supposed to be a limited agreement that would allow both sides to claim victory while soothing financial markets.
But China started making additional demands, such as for the rollback of some existing tariffs, and that tentative “Phase One” agreement was never signed.
Now the question is what will happen on 15th December: will Trump go ahead with that tariff increase? Last week the talk from the administration was that he was likely to postpone the December round of tariff increases even if the two sides hadn’t reached a “Phase One” agreement. But the scuttlebutt this week is that he will indeed go ahead.
Trump said that a trade deal is “dependent on whether I want to make it…” “In some ways it is better to wait until after the election…and we’ll see whether the deal is going to be right,” he said. (“The election” of course being the Presidential election next November).
If Trump does postpone the tariff increase, it would cool the temperature around the trade talks. The gesture may help to offset the impact of the “Hong Kong Human Rights and Democracy Act of 2019,” a bill that Congress enacted which China feels is an interference in its domestic affairs and a thumb in its eye while the two sides are trying to work out this trade issue.
With both sides calmer, an agreement would be easier to reach. On the other hand, if he goes ahead and ups the tariffs, it will signal a new level of tensions in the trade war and probably elicit reciprocal actions by China.
The point for us is that trade uncertainty has been one of the major factors boosting the gold price for the last two years. We can see this by comparing the price of gold with the Baker, Bloom & Davis US trade policy uncertainty index (left). This is a weekly index based on references to policy uncertainty in newspapers and other news sources. As you can see, the two have had a fairly close relationship since Trump started these trade wars back in January 2018, when he first imposed tariffs on solar panels and washing machines.
The graph on the previous page suggests that gold is now seriously overvalued – that trade policy uncertainty has fallen by much more than the price of gold has. But this may be because of the frequently contradictory statements that Administration officials make.
On the other hand, there’s also evidence that the market hasn’t fully grasped the likelihood of no agreement. PredictIt.org, an online betting site that enables punters to bet on all sorts of things, runs a market in whether Trump and China’s President Xi will meet in person before 31 December.
That is in effect a bet on the two sides signing some sort of trade agreement by the end of the year. The price of the contract can be considered the odds of that happening. It last traded at 7 cents, i.e. only a 7% chance that the two would meet. That’s pretty low. According to the graph above, gold is undervalued.
Why does trade uncertainty affect gold?
Two reasons, at least. The economic reason is that as the global trading system breaks down, trade falls, manufacturing output falls and overall economic activity slows. Inflation drops and bond yields decline. Central banks cut interest rates, or markets expect them to cut in the future. All this reduces the opportunity cost of holding gold, a key factor in determining its price. In addition, there’s the psychological reason: increased uncertainty about the future in general tends to push up the price of gold, the ultimate safe-haven investment.
That means 15 December is a crucial day for the gold market, as well as other financial markets.
What do I think will happen then? Up to now I’ve thought that with Trump facing so many fights at the same time, he’d want an easy and quick victory somewhere.
But recently he’s been booed at several sporting events in the US and mocked by his peers at the NATO conference. He can’t stand being ridiculed. I now think he’s likely to dig in his heels, just to prove he’s tough. I expect him to go ahead and allow the tariffs to be increased, sending the gold price higher.
But of course his behavior is unpredictable; much depends on who the last person to talk to him is, and it’s not going to be me. As Humphrey Bogart said in The African Queen, “you pay your money, you take your choice.”