Russia and Federal Reserve Actions Pushing Gold Prices

Sometimes connections can be drawn between seemingly unrelated issues, such as the actions of the Federal Reserve in the United States and what is happening in Russia and Ukraine. One of the links between these two, which affects what may happen in both arenas, concerns energy. Energy prices and availability also affect the price and availability of precious metals, both directly and indirectly. The AISC (All-In Sustaining Cost) to operate the mines producing precious metals is impacted directly by energy availability and cost. As energy costs rise, so does the base level of support underneath each ounce of gold, silver, or other precious metal produced. While there are limiters to how high interest rates can move, there is no limit to higher energy prices.

We know that anything resembling an invasion or war will destabilize much of Europe and affect world energy prices. Lately, there has been much in the news about possible military incursions by Russia into Ukraine, with 100,000 Russian troops mobilized near the border. Meanwhile, Russian Ambassador Mikhail Ulyanov recently tweeted that there are more than twice as many Ukrainian troops near the Russian border, which the Western media often overlooks. In one sense, it is hard to understand why Russia would want to interrupt the flow of natural gas into Europe, as it is a major source of revenue for them and one of the main reasons they have developed so many pipelines. The United States has been against the completion and use of these pipelines for many years. The current Secretary of State Anthony Blinken referred to Russian gas pipelines as "…harmful Russian activities…in the energy sphere."

Energy analyst Tamay Ozgokmen (PhD, Engineering) recently pointed out that Russia has the capability to provide energy (oil and natural gas) to 5.3 billion people - over half the world's population, with the pipelines currently in use or under construction (see graphic). As this capability comes online, it could place pressure on the US Dollar, which was the primary currency used to trade oil worldwide until recently. Ironically, while seeking to sanction Russia to weaken its economy, American policymakers may have inadvertently strengthened them instead. By forcing Russia and other nations to operate outside the sphere of Dollar-based systems, it has helped speed up the creation of non-Dollar means of trade. Russia has removed most US Treasury securities from their reserves and replaced much of them with gold. Today, the largest energy importer (China) purchases over $400 billion of natural gas from Russia without using Dollars.

This makes it easier to understand why the United States might consider Russian energy projects to be "harmful Russian activities" in light of the risks posed to the dollar's dominance in world trade as the premier "World Reserve Currency." Otherwise, it makes no sense why we would oppose a natural gas project thousands of miles away between sovereign nations on the other side of the world. While I do not believe the dollar is in any imminent danger of becoming irrelevant on the world stage, its usage in world trade has diminished from over 80% to under 60% today. I am not among those who believe it cannot increase again, or that hyperinflation will cause the dollar to head to zero valuation. I believe we are entering a period of domestic stagflation, marked by recessionary conditions and higher-than-normal inflation levels. 

Incidentally, while stagflation is a difficult financial condition to navigate, it has historically also acted as kindling beneath the fire of gold and silver prices. The effects take a few years to play out, but the result is often a 5 to 8-fold increase in metal prices. The leaders of the Federal Reserve have made it plain in the past that they wanted higher inflation, but now claim that they didn't foresee the inflation levels we have today and will be changing course soon to correct it. But they are limited in how much they can raise interest rates this time to combat inflation due to the current high and growing debt levels. For this reason, I believe that higher energy prices may eventually do more to help end inflation than higher interest rates. In the same way, higher interest rates make everything more expensive, so can higher energy costs.

We have taken peculiar steps lately regarding energy policy, which leads me to believe we might be looking to raise energy prices to accomplish much of what used to be accomplished with higher interest rates. We recently sold oil from our strategic reserves, bringing them down to lower than normal levels. We also have stocks of diesel, heating fuel, and propane at the lowest levels in many years (see charts), which will lead to higher prices as supplies tighten. The regional conflicts continue with major energy producers such as Russia and others in the Middle East.

Most of the time, we equate higher energy prices with higher inflation. And this time will be no different - initially. But as energy inflation continues to fan out into every sector due to increased shipping costs, prices will continue to rise everywhere within the economy. Sometimes the cure for high prices is high prices. While marginally higher interest rates will likely occur whether the Federal Reserve raises interest rates four times or eight times, the real rates will still be in negative territory compared to inflation. Higher energy costs, made even higher by a conflict between Russia and Ukraine, might be a tool used to calm the inflation created eventually. Whereas higher interest rates of 10-20% would raise borrowing costs to slow down the economy, 10-20% interest rates are out of the question at current debt levels. Eventually, higher energy prices might accomplish the same thing. While we wait, precious metals will rise.

I will leave you with this quote from an article written in 2020, regarding Americans awakening to their need for precious metals : "When the $15 minimum wage they (the American public) are requesting comes and goes and their living standards are no better, they will begin to understand. When the cash arrives from the next stimulus payment, but fewer goods are available because fewer people are working, they will begin to catch on. When they save their extra Dollars to make that special purchase and discover that the purchase price increases faster than the interest earned on their savings, they will begin to understand." Thanks to the previous actions by the Federal Reserve to create more inflation and the uncertainties caused by surging energy prices, wise Americans everywhere are beginning to understand the importance of owning precious metals.