Gold hits record high on double-dip fears

NEW YORK — The price of gold hit a record high Wednesday as investors fretted that the U.S. Federal Reserve’s indication it might need to offer more support for the U.S. economy reignited fears of a “double dip” recession.

The metal – considered a safe haven in times of uncertainty – neared US$1,300 an ounce.

The gain came as the Fed on Tuesday raised the specter of deflation -- a drop in the price of goods and services that could spiral into lower wages and discourage Americans from spending because they’re expecting even cheaper prices.

Fears about the D-word and further economic woes also dragged down the U.S. dollar and halted the recent rally in U.S. equities.

“Rather than shoring up support for markets, the potential for renewed quantitative easing appears to have re-aggravated fears that the U.S. recovery may be sputtering and that the potential for a double dip recession may be growing,” said Colin Cieszynski, market analyst with CMC Markets Canada.

At the end of Tuesday’s daylong meeting, the Fed signaled a willingness to provide more support for the struggling U.S. economy, citing worries about very low inflation, with goods and services remaining cheap despite the increased money being pumped into the economy.

The concern is that the low inflation will slip into deflation.

Economists said that deflation doesn’t yet appear a real risk, but added that it is definitely something to be monitored.

“Look at Japan,” said Paul Dales, U.S. economist with Toronto-based Capital Economics. “Once it fell into deflation all of its problems intensified. Once an economy is in that spiral it’s very hard to get out. The best action is to avoid getting into it in the first place.”

Some economists said the Fed’s latest stance is the bigger worry. By saying it may need to take measures to boost the economy only a day after the U.S. recession was declared over by the National Bureau of Economic Research, the monetary policymakers may be spreading unnecessary fears about the health of the recovery, some economists said.

“My concern is that all of this discussion about the need for more action is acting as a negative,” said John Ryding, chief economist and a founding partner at RDQ Economics in New York. “It’s going to continue to undermine the confidence of the public and investors in the purchasing power of the dollar, which we see in the rally in gold prices.”

Also reflecting concerns about the health of the U.S. recovery, the Dow Jones Industrial Average yesterday slipped more than 21 points to 10,739, ending its recent rally, while the U.S. dollar hit its lowest level against the euro since April.

Economists said further weakness on the jobs front – which has been struggling with unemployment at more than 9% for a year – or more evidence that low inflation might be shifting into deflation would probably be enough to persuade the Fed to act with more monetary stimulus, perhaps as soon as November.

But some economists said the best action by Ben Bernanke, U.S. Fed chairman, might be no action.

“The problem is the Fed is looking to address things like the high level of unemployment and mediocre job creation, but those are not problems of monetary policy,” said Mr. Ryding of RDQ. “I think it’s issues like tax rates, government mandates, uncertainty about how the regulatory environment is going to shape up and a general anti-business stance coming from Washington that’s working to restrain the economy. Creating more access to reserves doesn’t change that, it just puts more money in the hands of banks.”

And banks and the rest of the economic system already have plenty of liquidity, with a trillion dollars in excess reserves, long-term interest rates at around 2.5% and short-term interest rates effectively at zero.

Benchmark interest rate, typically the Fed’s most effective monetary policy tool, is already close to zero.

The Fed has indicated that if things do worsen it would most likely buy U.S. Treasuries to boost the money supply in a bid to further bring down borrowing rates for businesses and consumers.

“It’s no silver bullet, but the Fed should throw everything it’s got, including the kitchen sink, in hopes that it does something,” said Mr. Dales of Capital Economics.