Whats driving gold?

Against the widespread belief that gold had peaked, the precious metal continued its 11-year bull run in 2011. Despite record high mine production; considerable purchases by central banks and slight decline in gold recycling maintained the upward pressure on gold. Data released by SBP shows that demand from Pakistan has also surged as Pakistan imported gold worth $2,883,000 in FY11 compared to $102,000 in FY10. The latest report released by the World Gold Council on gold demand trend, shows a minute increase in total gold demand in 2011. The breakup of the numbers shows that the demand for gold investment increased by 5 percent in 2011, and the overall growth remained sluggish because of the slowdown in jewelry and technology segments. In 2011, the average price of gold remained 28 percent higher than in 2010, outperforming the emerging market equities (-8%), U.S equities (-3%), European equities (-5%) and commodities (+3). However, the diversification benefit of gold was questioned in 2011. Although gold is considered to have a strong negative correlation with equities in down markets; it displayed a positive correlation at certain instances, in recent times. The report talks about the different dynamics of gold demand in India and China, which combined account for half of the worlds demand for the yellow metal. In 2011 the demand for gold in India fell by 7 percent; this slowdown was led by the tight monetary policy, large depreciation of Indian rupee and huge capital outflows which resulted in highly volatile gold prices and slowdown in demand- particularly in the second half. The slowdown, however, is deemed to be temporary as the domestic drivers of demand in India are independent of external forces. Unlike India, China saw a rise in both jewelry and investment demand, and despite monetary tightening China was able to deal with the economic pressures due to its large reserves base adjustable exchange rates and political decisiveness. The price felt further pressure due to record net official buying by central banks of emerging markets which made purchases to diversify the risk they have by holding the assets that have questionable creditworthiness. In addition as both the reserve currencies are having big issues central banks are increasing their gold positions. Going forward, prices are expected to rise and investment in gold bars and coins is expected to surge as low interest rates in developed economies and high inflation in emerging economies like India and China is expected to prevail. Finally, the spike in golds demand draws strength from US Federal Reserves statement that discount rates could be expected to remain low till 2014.