Over the past few years, gold prices have been extremely volitile. Speculative gold trading and brisk activity in the gold futures market hit new highs since the financial crisis of 2008. Even before that catastrophic event, the price of gold had risen steadily since 2002. What is responsible for this trend?
Commodity prices are cyclical in general, but the biggest reason in driving the price of gold to new nominal highs is inflation expectations. Typically, higher inflation expectations mean higher gold prices. However, some contrary economists believe that the United States economy is currently experiencing an aggregate demand shortfall. Consequently, we need higher inflation expectations to get the economy moving again. With U.S. elections just around the corner, what would the impact be on gold prices if Mitt Romney were to win the presidency?
In general, Romney is an anti-inflation politician, which has its origins in comments made during the Republican primary season. This view could be inaccurate. Truth be told, Romney’s final impact on gold is unclear until he announces his candidate for Federal Reserve Chairman.
How the Fed Could Affect Gold Prices and Trading Activity After the Election
Ben Bernanke, the current chairman, is indicating that he will not seek a third term as Chairman of the Board of Governors. Romney has already stated that he would not keep Bernanke as Fed Chairman for a third term. This has already had an impact on gold, which fell between one and two percent on the news of Bernanke’s expected retirement. However, Romney has to decide who will occupy the hot seat in Bernanke’s place.
The consensus view sees a choice between John B. Taylor, the respected monetary economist who is the author of the famous Taylor Rule, and N. Gregory Mankiw, former economic adviser to President George W. Bush. The choice between Taylor and Mankiw sums up the different impacts on the price of gold. Taylor is a well-known “hard money” advocate who recommends raising interest rates immediately.
Mankiw has recently endorsed a new idea known as nominal GDP targeting or NGDP targeting. This monetary regime involves stabilizing the expected path of nominal spending to prevent deviations from the economy’s long-run growth trend. Advocates of NGDP targeting believe that the U.S. economy is in an aggregate demand slump. Scott Sumner, an economist at Bentley University who is the chief proponent of NGDP targeting, believes the Federal Reserve should ramp up its monetary stimulus to get the economy out of its shortfall.
Mankiw may not believe in everything that Sumner advances. However, if Mankiw advocates increasing monetary stimulus, the price of gold will skyrocket. If Taylor gets picked instead of Mankiw, the price of gold will fall. Currently, gold markets look as if they expect Romney to follow through on his anti-inflation rhetoric. It all depends on who he chooses as the most powerful economic policymaker in the world.
Plenty of evidence suggests that the economy does have a shortage in aggregate demand. NGDP targeting proponents have an ongoing debate with other economists over this very issue. Structural impediments also play a role. Many economists believe that structural issues are more important than NGDP. Rhetoric aside, Romney will not deliver the coup de graces unless he chooses Taylor. With Mankiw, all bets are off.