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What Influences the Value of Gold?
By Gabriel O Rodriguez MONEY RESEARCH COLLECTIVE
Gold has long been regarded as a symbol of wealth, security, and financial stability. Its price, however, is far from static, influenced by a combination of demand from various sectors, limited supply, geopolitical tensions, and economic conditions like inflation and interest rates.
Understanding what drives the price of gold can provide valuable insight for investors looking to diversify their portfolios or hedge against uncertainty. Read on to learn more about the key factors that influence gold prices — and about why gold is valuable in the first place.
Key factors that influence gold prices
The price of gold is shaped by several interrelated factors, ranging from supply and demand to market instability and broader economic conditions.
Gold demand
Global demand for gold is the basis for its price, with various sources and markets influencing its movement.
Jewelry demand
Jewelry accounts for nearly half of the world’s total demand for gold. India and China lead in this category, where gold is especially popular during weddings, festivals, and other ceremonial events. Fluctuations in consumer sentiment, economic conditions, and seasonal festivities can create predictable peaks and valleys in jewelry demand, impacting gold prices directly.
ETF demand
Unlike physical gold, exchange-traded funds (ETFs) backed by physical gold allow for greater liquidity and accessibility. When these funds accumulate gold to back their holdings, they can reduce available supply, driving prices higher. Conversely, large sell-offs by ETFs can flood the market and weigh on prices.
Industrial applications
While relatively smaller compared to jewelry and investment demand, gold’s industrial uses also contribute to its value. Its superior conductivity and resistance to tarnish make it indispensable in high-end electronics, medical devices, and even aerospace applications. As industries grow or shrink, their need for gold can influence the overall demand.
Gold supply
Gold supply is relatively inelastic, meaning it takes time and significant investment to increase production. The annual increase in global gold supply is minimal—typically only 1-2%. Factors like environmental regulations, depletion of accessible deposits, and operational challenges can further constrain production, which results in higher prices.
The activities of gold mining companies also affect supply. Decisions about production levels, exploration for new deposits, or operational expansions depend on market conditions and profitability. Additionally, geopolitical issues in key mining regions, such as South Africa, Russia, or Peru, can disrupt supply chains and push prices higher.
Geopolitics
Gold’s reputation as a “safe-haven” asset means its value often rises during times of geopolitical unrest. Whether it’s a war, trade dispute, or political instability, investors flock to gold during times of geopolitical conflict, economic downturns, or stock market volatility, boosting prices.
Events like the U.S.-China trade war or the Russo-Ukrainian War have historically led to price surges as gold becomes a refuge from uncertainty. This demand often comes from institutional buyers, individual investors, and even central banks increasing their reserves.
Interest rates
Since gold doesn’t generate income, it competes with interest-bearing assets like bonds or savings accounts. When interest rates are low or negative, gold becomes relatively more attractive, boosting its demand and price. Conversely, rising rates can deter investors from allocating funds to gold, as higher-yielding alternatives become available.
Why is gold valuable?
Gold’s value lies in its rarity, durability, and universal appeal. Unlike other commodities, gold isn’t consumed or used up entirely; instead, it is hoarded and treasured, often passed down through generations.
- Rarity and durability: Gold is rare, with limited reserves found across the globe. Extracting it requires significant investment, time, and effort, contributing to its inherent value. It doesn’t corrode or tarnish, ensuring that its beauty and utility remain intact over time. This adds to its status as a long-term store of value.
- Hedge against uncertainty: Gold serves as a hedge against economic uncertainty, maintaining its purchasing power even when currencies falter, inflation rises, or markets crash. Central banks hold large reserves of gold, underscoring its importance in global financial stability.
- Universal appeal: Unlike stocks, bonds, or real estate, gold isn’t tied to a specific country, economy, or political system. Its value is universally recognized, making it an asset that transcends borders.
Should I invest in gold?
Investing in gold can be a smart move, but it depends on your financial goals and risk tolerance.
Gold works well as a hedge against inflation, preserving purchasing power when currency values decline. It also serves as a safe-haven asset, often outperforming riskier investments during economic or geopolitical turmoil. Moreover, its low correlation with other asset classes like stocks and bonds makes it an excellent tool for balancing a diversified portfolio.
However, gold also has limitations. Unlike stocks or bonds, it doesn’t generate income through dividends or interest, so its value depends entirely on price appreciation. Gold prices can be volatile in the short term, influenced by several factors, and for those investing in physical gold, storage and security can also pose a challenge.
Investors should carefully consider how much of their portfolio they want to allocate to gold — 5-10% is a common recommendation made by financial experts. There are multiple ways to invest in gold, each catering to different preferences and risk tolerances. Options include physical gold (e.g. coins, bars), gold ETFs, and gold mining stocks.