Fed’s cut rate makes gold prices plummet

Gold prices plummeted in aftermarket trading Tuesday after the Federal Reserve lowered its benchmark interest rate by a quarter point to 4.25 percent. The dollar bounced higher.

The Fed's move was widely expected and had largely been priced into the value of the dollar and many commodities; the quarter-point cut disappointed some investors who were hoping for a more aggressive half-point reduction

As Pravda.Ru previously reported Feds may cut interest rate up to 3.5 percent.

In his Investment Outlook piece for Pacific Investment Management Co. [PIMCO]'s November newsletter, bond guru Bill Gross forecasts that the Fed will cut short-term interest rates to 3.5%.

"An increasingly recessionary looking U.S. economy will likely require 1% real short rates and 3.5% fed funds in order to stabilize a potential growth contraction in lending not witnessed since the early 1970s," he writes.

A few weeks ago, Gross said he expects the Fed to cut rates to 3.75% over the next 6-9 months. Bloomberg notes that futures traded on the Chicago Board of Trade put the odds of the Fed's lowering rates to 4.5% at its October 30-31 meeting at 98%.

Today, like all investments and commodities, the price of gold is ultimately driven by supply and demand, including hoarding and dis-hoarding. Unlike most other commodities, the hoarding and dis-hoarding plays a much bigger role in affecting the price, because almost all the gold ever mined still exists and is potentially able to come on to the market at the right price. Given the huge quantity of above-ground hoarded gold, compared to the annual production, the price of gold is mainly affected by changes in sentiment, rather than changes in annual production.

Central banks and the International Monetary Fund play an important role in the gold price. At the end of 2004 central banks and official organisations held 19 percent of all above-ground gold as official gold reserves. The Washington Agreement on Gold (WAG), which dates from September 1999, limits gold sales by its members (Europe, United States, Japan, Australia, Bank for International Settlements and the International Monetary Fund) to less than 400 tonnes a year. European central banks, such as the Bank of England and Swiss National Bank, have been key sellers of gold over this period.

Source: agencies

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