The Stagflation Situation

Gold rises as inflation persists

Gold rose 1.4% to US$2,677/oz as the US CPI and PPI indices continued to pickup, inline with market expectations, with the Fed still expected to cut 0.25% this week even as prices heat up, while there were also hints of rising US-Canada trade tensions.

Spectre of stagflation looms over base metals

Stagflation remains a threat, with inflation likely to remain high as global central banks continue rate cuts while GDP growth is expected to decline or remain low in the US, EU and China in 2025, which could be tough on base metals, but still support gold.

Gold stocks edge down on mixed equities even as metal rises

The gold stocks edged down even as the metal price rose, with the GDX near flat, down -0.1 and GDXJ losing just -0.3%, as equities were mixed with the S&P 500 off -0.5%, the Nasdaq up 0.5% and the Russell 2000 down -3.0%.

The Stagflation Situation

Gold rose 1.4% to US$2,677/oz, with December seeing much more stable price action so far than November when there were several aggressive weekly moves driven by geopolitics. This week the key economic data was US inflation, with an increase in both producer and consumer prices, although these gains were inline with expectations. Relatively hot US prices did not dissuade the market from expecting a rate cut from the US Fed at its December 18, 2024 meeting, with the odds of a 25 bps reduction to a 4.25%-4.50% range at 96%.

The headline US CPI inflation rose to 2.8% in November 2024, up about half a percent from lows of 2.3% in September 2024, while core inflation remained at 3.3%, having roughly flattened since August 2024 (Figure 4). The US producer price index rose 0.1% month on month in November 2024, for a second month above zero, after it had been negative in August and September 2024 (Figure 5). The flattening of the core CPI above 3.0% remains an issue for the Fed, as it targets 2.0%, although the expected cut this month would seem to go against reaching this level and could boost prices.

More signs of rising US Canada trade tensions

Potentially rising trade tensions between the US and Canada were in focus this week as the latter announced it could impose taxes on a number of key commodity exports to the US, including oil, uranium and potash. This was in response to indications by the new Trump government in a recent meeting with Canada’s Prime Minister that substantial tariffs hikes are still a possibility for the country, even given the close trade and political ties. These products seem to have been specifically targeted as Canada is the largest exporter to the US for all three, at 52% of oil and petroleum products, 27% of uranium and 77% of potash.

Oil and petroleum products are one of the US’s largest imports, accounting for 6.3% of the total in 2022, making Canadian oil imports a sizeable 3.3% of US total imports. The total value of US uranium imports are also relatively high, at 4.8% of the total US imports 2022, although potash imports are much smaller, at just 0.13% of US imports in 2023. Canada also supplies the majority of US imports of several other key metals, at 99% of gold ore and concentrates, 52% of aluminum, 62% of refined copper and 62% of zinc. Therefore, in terms of the metals sector it seems that Canada may have significant leverage in negotiating trade terms.

It remains to be seen how much of Trump’s claims are a negotiating ploy, setting out an aggressive initial offer with the intention of pulling back to more reasonable terms, or if major tariff hikes will be implemented and provoke trade retaliation from Canada and other countries. It seems likely that US tariffs will increase, but it is not clear by how much and for which products and countries. The metals markets were not been hit much by the election results, having remained quite flat since November 2024, but did see substantial declines in October 2024 (Figure 6). Apparently the market is awaiting actual implementation of the new policies, which won’t start until next year.

Major metals not gaining much on China stimulus announcements

One interesting factor about the decline in many metals in October 2024 and relatively flat performance since has been its concurrence with China’s announcement of stimulus plans. With China such a huge player in most of the major metals markets, it might have been expected that these measures would have given them at least some boost. That this did not happen could be because markets were anticipating something much more aggressive, or expectations that the new measures will take some time to have any major effect.

The country’s government announced an initial monetary stimulus in October 2024, aimed at boosting both the equity and property markets. This included lower interest and mortgage rates and lower bank reserve requirements, allowing them to expand lending. This week China followed up with further stimulus announcements, including fiscal policy measures and an additional loosening of monetary policy.

China is a leader in all the top four metals markets, iron ore, gold, aluminum and copper, in at least one of production, consumption, imports or exports. It accounts for the majority of global iron ore demand, for its use in steel and in turn the country’s huge property and infrastructure market. It also accounts for over 50% of refined copper consumption and is a major player for aluminum.

China no longer heavily reliant on exports

China had historically been more export driven, including for metals, with much of the final demand for its production in other countries, especially the US and Europe. However, this has changed significantly over the past two decades, with China’s exports to GDP falling from a peak 36% in the mid-2000s, to just 20% as of 2023. In 2022 it was ranked near the bottom on this measure for the largest countries by GDP at 21%, less than half the most export reliant major country, Germany, with exports/GDP of 51%, and well below Canada at 34% (Figure 7).

Another similar measure of a country’s export reliance is the current account balance to GDP, with a surplus for a country exporting more than it imports, and a deficit for the reverse. China’s trade is actually relatively well balanced versus other major countries, with a current account surplus of just 1.4% in 2023, compared to a very high peak of 9.9% in 2007 when it was at its most export reliant (Figure 8). This measure also shows Germany as heavily export reliant, with a current account surplus to GDP of 6.2%, while the US and UK have the widest current account deficits to GDP, at 3.3%, and Canada only a slight deficit, at -0.7% of GDP.

Growth for several major economies expected to slow in 2025

The shift in China towards a reliance on domestic demand for growth, and its rise to the world’s second largest economy, also means that metal markets are more geared to the country. This could explain some of the recent weakness in metals prices with the IMF estimating a decline in China’s GDP growth to 4.5% next year (Figure 9). The IMF also expects US growth to contract to 2.2%, and remain sluggish for Germany and Japan, at 0.8% and 1.1%, the other three largest economies (Figure 10).

Growth is expected to slow even as global central banks cut rates, implying a rising global money supply and potential resurgence of inflation. This raises the spectre of stagflation, a period of low GDP growth coupled with high inflation. While rate cuts generally drive up GDP, there can be a long lag time, and growth can remain low even as the expanded money supply drives up prices. There have even been extended periods with high inflation and low growth, with the main precedent from the mid- 1970s to early 1980s, when US GDP was weak but prices surged, and a huge increase in interest rates was eventually required to finally curb inflation (Figure 11).

Global rate cuts could drive inflation back up

Almost all the major central banks are now in a rate cutting cycle that started with the Swiss National Bank early in 2024 and was followed by Canada, the EU, China and the UK by mid-year, and finally the US in September (Figure 12). Only the Bank of Japan has hiked rates this year, but this was up from a negative rate previously, while the Bank of Australia is the only major central bank with rates still on hold since 2023.

Two key liquidity measures show that financial conditions continue to ease, and this can have inflationary effects. The US Financial Conditions Index has dropped to -0.65 in December 2024, its lowest level since June 2021, indicating a considerable improvement in liquidity (Figure 13). The OFR Financial Stress Index has also declined steadily since mid-2022 for the US and other advanced economies, which indicates an improvement in financial conditions (Figure 14).

Overall the potential for global inflation to surprise to the upside in 2025 seems to be rising, and if economic growth does turn out to be sluggish next year, the central banks will be even more likely to continue cutting. If there is a significant lag between the timing of these cuts and their actual boost to economic growth, while the new money continues to drive up prices, a stagflationary scenario could result. We also note that the IMF and other major institutions tend to have an upward bias in their forward year estimates, outside of periods of obvious major crises. This suggest that growth for the major economies could come in even lower than these forecasts.

For the base metals, a period of sluggish growth would likely be a negative overall, with the prices heavily geared to the industrial cycle. We have already seen over the past month and a half base metals prices remaining relatively flat as the market starts to price in just some of the potential for a stagflationary scenario. For gold, which is driven more by monetary factors, a pickup in inflation, which is a possibility if global rate cuts continue, could be a major driver, even if overall GDP growth remained slow, as occurred from the mid-1970s through to the early 1980s.

Large gold producers mostly up and large TSXV gold mixed

The large gold producers mostly rose while large TSXV gold was mixed (Figures 15, 16). For the TSXV gold companies operating domestically, Osisko Development provided an update on bulk sample underground development at Cariboo, Tudor Gold retained legal counsel regarding an issue with Seabridge and Laurion reported drill results from Ishkoday (Figure 17) For the TSXV gold companies operating internationally, Amaroq reported sampling from the Eagle’s Nest target at the Anoritooq licence and Lumina reported that Ecuador had extended its EIPA agreement (Figure 18).