After COVID19 disrupted the economic activity and knocked stock markets in the first quarter of 2020, investors sought gold’s safety as a store of value. Central banks and governments jumped in with all their weaponry to support their failing economies, pumping a humongous amount of money into the markets. US FED started reduced the interest rates to zero and started the Quantitative Easing (QE) by asset purchases program of $120 billion a month.
Now in the second half of 2021, the U.S. is recovering from last year’s pandemic-induced slump, prices are rising and the job market is healing, there have been talks of QE Tapering in the market, which is creating a lot of volatility in prices.
What is Tapering?
Tapering is the reduction of the rate at which a central bank accumulates new assets on its balance sheet under a policy of QE. Tapering is the first step in the process of winding down or withdrawal from a monetary stimulus program that has already been executed.
When central banks pursue an expansionary policy to stimulate an economy in a recession they normally expect and often explicitly promise to prudently reverse their stimulatory policies once the economy recovers. This is because continuing to stimulate an economy with easy money once the recession is over can lead to out-of-control inflation, monetary policy-driven asset price bubbles, and an overheated economy.
The Federal Reserve, Bank of England, European Central Bank, Bank of Switzerland, and Bank of Japan have all at times proposed or attempted to taper or unwind their QE policies, only to subsequently renew and accelerate asset purchases to continue expanding their balance sheets.
Impact of Tapering on financial markets
Part of the reason central banks have found it so difficult or uncomfortable to pull back on their QE, is the recurrence of so-called taper tantrums, whereby financial markets react sharply to the possibility that central bank stimulus might slow. Announcements of impending central bank tapering have typically been met with sharp rises in government bond yields and drops in equity markets as investors react to the prospect of the withdrawal of monetary support for asset prices. This creates a powerful incentive to monetary policymakers to delay or reverse plans to unwind their balance sheets, to avoid harming the interests of their constituents in the financial sector.
Tapering impact on Gold
The Federal Reserve is likely to announce in August or September a strategy for reducing its massive bond-buying program, but won’t start cutting monthly purchases until early next year. This means FED will start Tapering the QE of $120 Billion gradually and reduce to $110 billion, then $100 billion, then $90 billion, and so on. Maybe by the end of the year 2022, we might see QE coming to an end. And we already know, FED will start raising the interest rate from 2023, which means the era of easy liquidity is going to come to an end very shortly now. Tightening of liquidity from the markets is always negative for the gold prices. So we might profit-booking in Gold prices when FED tapering is announced, as the price will discount all the known future news.