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Commodities Plunge to 13-year Low

August 7, 2015, 7:11 AM Arkadiusz Sieroń , PhD

At the end of July, commodities plunged to a 13-year low. What does it mean for the global economy and the gold market?

July was a terrible month for commodities. Last month, the S&P GSCI Total Return Index, which tracks a basket of commodities, fell 14 percent, the worst monthly loss since November 2008. Bloomberg’s commodity price index fell from 101.60 to 91.78, the lowest point in 13 years (excluding further declines in August), while the CRB commodity index fell to its lowest levels in over six years. In this light, the 6 percent decline in the price of gold bullion does not look so bad.

What is behind the falling commodity prices? There are a few factors. First, soft global economic growth, especially in China, reduced demand for commodities. Second, there is a supply glut (e.g. in oil market), due to the elevated production during the commodity boom. Third, an appreciation of the greenback explains why commodity prices are down in terms of the U.S. dollar. Fourth, the expectations of the Fed’s interest rate hike led speculators to shift out of commodities (high rates discourage carrying inventories, while increasing the incentive to extract today rather than tomorrow).

What are the implications of falling commodity prices? It is a more complicated issue, however, we can say for sure that the latest declines will not help commodity-exporting countries. Many emerging economies, especially from South America, are in serious trouble, because they are heavily dependent on commodity exports. According to the IMF, Russia is expected to be in recession this year, with the GDP falling by 3.4 percent. Canada has been in recession for five months now, while Australia is experiencing the worst dynamics of growth and wages since the 1991 recession. Moreover, the plunge in commodity prices may lead to some corporate defaults and problems in the high-yield bond market. On the other hand, lower prices will help commodity-importing countries and consumers all over the world.

Summing up, the commodities plunged significantly in July. Commodity prices have been falling due to weak economic growth and expectations of the Fed’s hike. Gold also declined, but less than commodities in general, which confirmed its role as a monetary asset. Although expectations of the Fed’s hike are also detrimental to gold, soft economic growth could quite easily morph into a recession. In such a recessionary environment (when the Fed would give up on tightening), gold would perform much better than today.

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Arkadiusz Sieron
Sunshine Profits‘ Gold News Monitor and Market Overview Editor

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