The ancient Egyptians performed the first smelting of gold around 3,600 B.C. A thousand years later, gold jewelry appeared after the goldsmiths of ancient Mesopotamia crafted a burial headdress made of lapis, carnelian beads, and leaf-shaped gold pendants.
Since the early days, humans have been fascinated by gold, and the desire to own it has led to great rushes, and even to wars. King Ferdinand of Spain declared in 1511,
“Get gold, humanely if you can, but at all hazards, get gold!”
Today, gold is sought after, not just for investment purposes and to make jewelry, but it is also used in the manufacturing of certain electronic and medical devices. Gold (as of Nov. 2019) was around $1,500 per ounce and up considerably from levels near $300 seen 50 years ago.
What factors drive the price of this precious metal higher over time?
Central Bank Reserves
Central banks hold paper currencies and gold in reserve. As the central banks diversify their monetary reserves—away from the paper currencies that they’ve accumulated and into gold—the price of gold typically rises. Many of the world’s nations have reserves that are composed primarily of gold.
- Investors have long been enamored by gold and the price of the metal has increased substantially over the past 50 years.
- Buying from governments and central banks is one source of demand for the metal.
- Gold sometimes moves opposite to the U.S. dollar because the metal is dollar-denominated, making it easier to buy when the dollar is weaker.
- Investment demand, especially from large ETFs, is another factor underlying the price of gold.
- Supplies are primarily driven by mining production, which has leveled off since 2016.
In fact, Bloomberg reports that global central banks are buying the most gold since the U.S. abandoned the gold standard in 1971. Russia has been the biggest buyer, followed by Turkey and Kazakhstan. In all, governments bought a total of 651 tonnes of gold in 2018, according to Bloomberg.
Value of the U.S. Dollar
The price of gold is generally inversely related to the value of the United States dollar because the metal is dollar-denominated. All else being equal, a stronger U.S. dollar tends to keep the price of gold lower and more controlled, while a weaker U.S. dollar is likely to drive the price of gold higher through increasing demand (because more gold can be purchased when the dollar is weaker).
Major players in worldwide gold mining include China, South Africa, the United States, Australia, Russia, and Peru. The world’s gold production affects the price of gold, another example of supply meeting demand. Gold mine production was roughly 3,500 tonnes in 2018, up from 2,400 in 2010.
However, despite the increase over the ten-year span, gold mining production has not changed significantly since 2016. One reason is that the “easy gold” has already been mined; miners now have to dig deeper to access quality gold reserves. The fact that gold is more challenging to access raises additional problems: miners are exposed to additional hazards, and the environmental impact is heightened. In short, it costs more to get less gold. These add to the costs of gold mine production, sometimes resulting in higher gold prices.
The Bottom Line
We have long been, and will likely continue to be, enamored by gold. Today, the demand for gold, the amount of gold in the central bank reserves, the value of the U.S. dollar, and the desire to hold gold as a hedge against inflation and currency devaluation, all help drive the price of the precious metal.