Tag: budget deficit

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Gold Plunges

Key Points

  • Gold is trading at $4,230 per ounce, having breached primary support at $4,400.

Gold breached primary support between $4,400 and $4,600 per ounce, triggering further stop-loss selling.

Spot Gold

There are two primary reasons for the current sell-off:

  1. Gulf states are expected to liquidate reserves, including gold bullion, to support their finances as oil export revenues are curtailed.
  2. Long-term interest rates are rising in anticipation of an inflation spike caused by high energy prices from the Iranian blockade. High interest rates make bonds more attractive and reduce demand for gold.

Bullion sales will likely cause a temporary increase in supply, driving down gold prices until reserves are exhausted or Iran’s blockade of Gulf shipping ends. Demand is likely to increase thereafter as reserves are replenished.

Long-term Treasury yields are rising. Breakout of the 10-year yield above 4.3% indicates another test of resistance between 4.8% and 5.0%.

10-Year Treasury Yield

However, rising inflation and long-term interest rates will likely have less influence on gold demand because the two forces tend to offset each other. High inflation increases demand for gold as an inflation hedge, while high interest rates increase the opportunity cost of holding gold and suppress demand.

Our long-term bullish outlook for gold is based on the belief that precariously high US debt levels will eventually force the Fed to suppress long-term interest rates.

US federal debt jumped to $38.5 trillion at the end of 2025.

Federal Debt

The ratio of federal debt to nominal GDP is at an unsustainable 122.5%.

Federal Debt to Nominal GDP (%)

Moreover, the fiscal deficit will likely exceed $2 trillion for the current fiscal year. The deficit for the 5 months to February 2026 is at $1 trillion, but the next few months are about to blow a big hole in the budget.

Federal Deficit

First, the US Supreme Court has ruled that tariffs implemented by the Trump administration exceed the President’s constitutional powers, and most of the $144 billion in Customs Duties collected will need to be refunded.

Second, the newly renamed Department of War is about to present Congress with a $200 billion bill for the US war on Iran, so far. The war is only three weeks old, and the final bill will likely be a lot higher.

Third, rising energy prices threaten to crash the stock market. A crash would substantially reduce capital gains, a major component of Individual Income Tax revenue.

Finally, rising interest rates will further widen the ballooning deficit, with accelerating government debt-to-GDP ratios raising risk premia, which in turn drive interest rates even higher.

The Federal Reserve would be forced to prioritise the faltering US Treasury over the Dollar, thereby sacrificing its mandate to maintain price stability. Long-anticipated fiscal dominance would mean the Fed suppresses long-term yields to improve the Treasury’s ability to service its debt. The resulting sharp rise in inflation would undermine the Dollar and boost demand for gold and other inflation hedges.

Conclusion

We expect gold to test support at $4,000 per ounce.

However, our long-term outlook for gold remains bullish, with ballooning budget deficits and fiscal dominance likely to cause a steep rise in inflation and erode the purchasing power of the Dollar.

 

Acknowledgments

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President Trump should look in the mirror

President Trump has repeatedly attacked the Fed and his recent appointee Jerome Powell for raising interest rates. In an interview with the Wall Street Journal, the President made clear his displeasure, stating that he sees the FOMC as the biggest risk to the US economy “because I think interest rates are being raised too quickly”.

What the President fails to grasp is that his actions, increasing the budget deficit when the economy is thriving, are the real threat. Alan Kohler recently displayed a chart that sums up the Fed’s predicament.

Unemployment and the Budget Deficit

The budget deficit is normally raised when unemployment is high (the scale of the deficit  is inverted on the above chart to make it easier to compare) in order to stimulate the economy. When unemployment falls then the deficit is lowered to prevent the economy from over-heating and to curb inflation.

At present unemployment is at record lows but Trump’s tax cuts have increased the deficit. The Fed is left with no choice but to steadily increase interest rates in order to prevent inflation from getting out of hand.

Real GDP growth came in at a robust 3.0% for the third quarter, while weekly hours worked are rising.

Real GDP and estimated Weekly Hours Worked

It’s the Fed’s job to remove the punch-bowl before the party gets out of hand.

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Where are the Budget alternatives? | | MacroBusiness

Hats off to Leith van Onselen for his perceptive comments on Australia’s current budget stoush:

The point is, it’s fine to oppose Budget savings if you can provide an alternative plan to cut expenditure and/or raise taxes. But simply opposing measures without providing alternatives, as has been done by the opposition parties, ignores the very real structural pressures facing the Budget from falling commodity prices and an ageing population….

Some low hanging fruit that could be targeted by the opposition parties as alternatives to budgetary reform could include closing Australia’s more egregious tax expenditures – including overly generous superannuation concessions (which mostly benefit the wealthy), quarantining negative gearing so that losses from an asset can only be claimed against income from that same asset, removing the capital gains discount on investments, and removing tax concessions on company cars – as well as abolishing Abbott’s paid parental leave scheme.

Reforms to these areas alone would save many billions of dollars and improve equity in the process.

Read more at Where are the Budget alternatives? | | MacroBusiness.

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In the Real World the Trade Deficit Is More Important Than the Budget Deficit | CEPR

Dean Baker writes:

….the trade deficit is a direct measure of the amount of demand that is going overseas rather than being spent here. This represents income generated in the United States that is not creating demand in the United States. By definition, this lost demand must be made up by other borrowing, either by the public sector (i.e. budget deficits) or the private sector. Currently the trade deficit is running at an annual rate of around $480 billion (@ 3.0 percent of GDP), which means that the sum of net borrowing in the public and private sector must be equal to $480 billion.

Read more at In the Real World the Trade Deficit Is More Important Than the Budget Deficit | Beat the Press.

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What a good economy should look like | Warren Mosler

Warren Mosler, from a talk in Chianciano, Italy, on January 11, 2014 entitled Oltre L’Euro: La Sinistra. La Crisi. L’Alternativa.

What a good economy should look like

I just want to say a quick word about what a good economy is because it’s been so long since we’ve had a good economy. You’ve got to be at least as old as I am to remember it. In a good economy business competes for people. There is a shortage of people to work for business. Everybody wants to hire you. They’ll train you, whatever it takes. They hire students before they get out of school. You can change jobs if you want to because other companies are always trying to hire you. That’s the way the economy is supposed to be but that’s all turned around. For one reason, which I’ll keep coming back to, the budget deficit is too small. As soon as they started tightening up on budget deficits many years ago, we transformed from a good economy where the people were the most important thing to what I call this ‘crime against humanity’ that we have today……

So what you do is you target full employment, because that’s the kind of economy everybody wants to live in. And the right size deficit is whatever deficit corresponds to full employment…….

Read more at Beyond The Euro: The Left. The Crisis. The Alternative | New Economic Perspectives.

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Canada’s Budget-Cut Veteran Has Warning for U.S. – Real Time Economics – WSJ

By Paul Vieira

Speaking at an event sponsored by the American Enterprise Institute, a conservative-leaning think tank, [former Canadian Prime Minister Paul Martin] said whoever wins November’s election must address the U.S.’s burgeoning deficit the very next day because the economy is at risk of reaching a “tipping point.”

…….Mr. Martin does have pedigree on the subject. He was Canada’s finance minister in the mid-1990s when the-then Liberal government made deep spending cuts that tamed a spiraling deficit and restored market confidence in [the] country. By fiscal 1998, Canada had returned to a budget surplus — its first in nearly three decades.

via Canada’s Budget-Cut Veteran Has Warning for U.S. – Real Time Economics – WSJ.

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The Wages of Economic Ignorance – Robert Skidelsky – Project Syndicate

Despite austerity, the forecast of this year’s UK structural deficit has increased from 6.5% to 8% – requiring an extra £22 billion ($34.6 billion) in cuts a year. Prime Minister David Cameron and Chancellor George Osborne blame the eurozone crisis; in fact, their own economic illiteracy is to blame. Unfortunately for all of us, the explanation bears repeating nowadays. Depressions, recessions, contractions – call them what you will – occur because the private-sector spends less than it did previously. This means that its income falls, because spending by one firm or household is income for another.

In this situation, government deficits rise naturally, as tax revenues decline and spending on unemployment insurance and other benefits rises. These “automatic stabilizers” plug part of the private-sector spending gap. But if the government starts reducing its own deficit before private-sector spending recovers, the net result will be a further decline in total spending, and hence in total income, causing the government’s deficit to widen, rather than narrow. True, if governments stop spending altogether, deficits will eventually fall to zero. People will starve to death in the interim, but the budget will be balanced.

via The Wages of Economic Ignorance – Robert Skidelsky – Project Syndicate.

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Things That Make You Go Hmmm… – Outside the Box Investment Newsletter – John Mauldin

Italy is running a primary surplus. The only thing sending her over the edge is the simple fact that the Italian government cannot borrow at low-enough rates. At 4% (where rates were a year ago), they can gradually begin to adjust their debt ratios and still finance their borrowing – it will not be easy, but they, unlike their spendthrift cousins in the Aegean, have one of the highest savings rates in the OECD…..

via Things That Make You Go Hmmm… – Outside the Box Investment Newsletter – John Mauldin.

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Moody’s Downgrades South Africa

Moody’s rating agency changed its credit rating outlook from stable to negative for South Africa Wednesday, expressing concerns that politicians overseeing the continent’s largest economy won’t be able to stick to strict fiscal policies.

Moody’s has said it fears commitment to low budget deficits could be undermined by pressure from factions of the governing African National Congress party, its labor movement supporters and a population facing high rates of poverty and unemployment. The agency also said a debate driven by the party’s popular youth leader over whether mines should be nationalized is scaring investors.

via Moody’s Downgrades South Africa.

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