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Why does the price of gold decrease during global unrest?

One of my friends asked me why the gold price is dropping when there is a war in the Gulf.


Let me clarify this.

When there is a war in the Middle East, wait, let me use the correct term for "gulf." Actually, the Gulf is not in the Middle East for Nepal; it is in the Middle West as the Gulf lies to the west of Nepal. it causes the price of gold to fall, ultimately decreasing around the globe and in Nepal as well.

The extraction of crude oil decreases, leading to a shortage in the supply which increases the price of crude oil. This, in turn, raises the price of transportation as fuel costs cover the operation of almost all means of transportation. Additionally, the majority of industries use fossil fuels for production, and backup power generators also rely on fossil fuels, causing an increase in the price of goods and services, leading to supply-side inflation.

To control inflation, the central bank of most countries increases interest rates, implementing a tight monetary policy to decrease aggregate demand and the general price level. The increased interest rates make bonds and fixed deposits more attractive, prompting people holding gold to sell it and invest in fixed deposits and bonds. 

The excess supply of gold in the market decreases the price of gold.

Another crucial aspect is the strong nexus between gold and the dollar. During global unrest, the dollar strengthens because the entire world trades gold in dollars. When the dollar becomes expensive, gold also becomes expensive. This global unrest increases liquidity pressure as the value of equities decreases, the price of digital currencies like crypto decreases, stocks start falling, and investors have negative portfolios. To cover the losses, investors need extra cash, leading them to sell their liquid assets such as stocks, bonds, and gold.

Due to the strong nexus between gold and the dollar, gold becomes a lucrative asset for covering losses, prompting investors to sell gold to recover their decreased portfolios, further decreasing the price of gold.

The crowding-out effect can also influence gold prices. This phenomenon occurs when increased government debt/borrowing for deficit financing raises interest rates, discouraging private sector investment. Higher interest rates make holding non-yielding gold more costly, prompting investors to divert capital towards interest-bearing assets.

Last but not least, the rapid extraction of gold from its mines is decreasing the gold reserve of mother earth, so the gradual supply of gold is depleting. People are looking for alternative precious metals such as platinum,  beryllium, lithium, etc. and digital currencies like crypto-currencies, central bank digital currencies, virtual currencies and stable-coins, which are also contributing to the decrease in the price of gold in the near future.

For South Asian economies, the impact is less significant compared to Europe, America, and Africa as gold is not typically seen as an asset but rather purchased as jewelry or a status symbol. Therefore, the decline in the price of gold in South Asian economies like Nepal, India, Pakistan, and Bangladesh is slower than in other countries.

There are a few more reasons that I will discuss next.

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