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When? Tuesday, May 16, 2023. Where? The United States of America. Who? Republicans and Democrats. What? Negotiating debt ceiling. This is a summary of the latest events affecting the global economy, in particular gold prices. Now let’s come down to the details.
Setting
To understand what’s been going on with the market and world economy, we need to get to the bottom of how the U.S. government’s finances work. Like any other government, the U.S. collects money from taxes and is supposed to spend funds to maintain the economy. However, both collecting and spending have their limits, and to make up for this difference, the government borrows money to comply with its obligations. Plain and simple, the more it borrows, the bigger the debt is. Here is another trick – debts are paid back with interest, making the government borrow money to cover these expenses. This cannot go on forever; one must draw the line somewhere – and this line is called the debt ceiling that the U.S. hit on January 19, 2023.
Why is this an issue? You may want to sit down for this – the current U.S. debt ceiling is a shocking 31.4 trillion US dollars. When submitting it in figures, it looks more like a phone number. Though, we doubt it could be that long. To cope with the issue, Joe Biden and Republican House of Representatives Speaker Kevin McCarthy met on Tuesday, May 16, 2023. The only solution is… to increase that limit. The Congress must approve the procedure. However, the Republican Party controlling the House of Representatives refuses to raise the debt limit, demanding the Democrats commit that the spending will be reduced. While both parties are playing the chicken game, the U.S. edges closer to running out of time and money.
Consequences
The lack of progress on the debt limit deal sent gold prices down. In this environment, the price of yellow metal failed to hold above the $2000 mark and hit a low of $1,985 per troy ounce. The critical factor affecting the price of gold is the U.S. dollar. Take a look at the XAUUSD vs DXY chart, and you’ll see what we are talking about. The strength of the USD against other currencies leaves out the demand for gold.
The dollar strengthened at the beginning of the week due to an increased demand for the currency. This seems odd given the recent news, but historically the debt ceiling has been raised 78 times since 1960, so the market’s optimism may not be in vain.
However, these are only assumptions; no one knows 100% how things will unfold. No deal scenario will cause a recession in the U.S. and become a problem for the world economy. The U.S. government will stop paying government employees, and bondholders worldwide will not receive interest on their securities for a period of time, which will significantly impact the financial markets.
Regarding precious metals, especially gold, they will become the focus of interest for many investors as, in times of market meltdown, dollars and stocks give way to traditional safe-haven assets. Anyway, rule #1 that every investor should stick to is to do their own research before any trade.
