FX Strategist - What will the US elections bring for the US dollar and gold prices?

US elections

On Tuesday 5 November 2024 the US Presidential elections will be held. People in every state across the US vote for a new President and Vice-President. Next to the presidential elections, a total of 468 seats in the US Congress (33 Senate seats and all 435 House seats) are up for election on 5 November 2024. In this note we focus on what different possible outcomes mean for the US dollar based on the views of our macro economists who defined various scenarios for the election outcome and their implications for the US (see more here) and Europe (see more here).

Dollar dynamics

The US dollar has a dual character meaning it has a cyclical nature, while also being the ultimate safe haven currency. The dollar tends to rally when growth is strong and rising faster than inflation if real rates are positive and/or improving and an improving fiscal and current account balance is often also supportive. However, it times of extreme stress coupled with a liquidity crunch, the dollar switches to becoming a safe haven.

In a Democratic Victory the impact on the dollar would be limited

If there is a Democratic Victory (partial or full) we think the implications for the dollar would be limited based on the impact of the drivers mentioned. We expect inflation to come down, but policy rates to decline faster than inflation. As a result real rates will decline as well and this is negative for a currency. We expect growth developments to have a neutral impact if the president is a Democrat. Under the Partial Democratic Victory, we expect a slight deterioration of the fiscal balance which could weigh slightly on the dollar. Overall we think the impact would be relatively limited all else equal.

A Republican Victory would result in a stronger dollar

A Republican Victory brings more complicated dynamics. If the Republicans win the elections, it is likely that the dollar will move in an erratic manner. The volatility is mainly the result of the shifts in sentiment but ultimately, we would expect the dollar to strengthen. Under a full Republican Victory the trade balance could initially improve as result of the trade policies/trade tariffs. In addition, the US would be subject to higher inflation compared to other countries and US interest rates would rise faster than elsewhere. To illustrate, we zoom into the case of EUR/USD. Absent a European carve-out (Soft Trump), a striking feature of the full tariff (Hard Trump) scenario is that it would lead to one of the biggest and most sustained monetary policy divergences between the Fed and the ECB since the launch of the euro in 1999. With the Fed raising rates just as the ECB continues to lower rates, the widening interest rate differential is likely to weigh on the euro, most likely to below parity. Given the upward impact on inflation stemming from a significantly weaker euro, we think the ECB would be mindful of the policy divergence with the Fed and would seek to balance the need to support the economy via lower rates against the need to hedge against upside inflation risks via currency weakness. Related to this, a weaker euro would by itself do some of the easing work for the ECB, as it would (partially) offset the competitiveness hit from higher trade tariffs. This in turn lessens the need to cut rates. Given how iterative the various macro-economic, financial market, and policy interactions are, there is naturally significant uncertainty around the precise policy path central banks would adopt. A weaker euro than we posit here could mean fewer ECB rate cuts, while a more limited FX market reaction could give the ECB more room to lower rates than we describe here. These developments play out in the coming months and years. But later during the presidential term we expect the dollar to weaken and more than offset the initial strength based on developments in the macro-economic picture.

Not only could the dollar be supported by the pricing in of initial positive dynamics the dollar could also strengthen on safe haven demand (for its liquidity) if markets were to turn risk averse or even panic. While if sentiment calms down the non-favourable policies will start to weigh on the dollar again.

What will happen to gold prices

Next to our analysis on the US dollar, we also assess the implications for gold prices. The evolution of the gold market from merely a safe haven and jewellery market to a market where investment decisions play a more crucial role is important. Indeed, since the introduction of gold ETFs (March 2003) gold has developed more into a speculative asset and behaved less as a safe haven asset. As a result, developments in the US dollar, monetary policy and real yields have become dominant drivers over time. Of course, there are still investors buying physical gold for safe haven purpose but the flows into non-physical gold have often been dominant.

What do we expect for gold prices under the different scenarios? If there is a Democratic Victory (partial or full) we think the gold prices could be very modestly supported because we expect a modest decline in or a neutral dollar and some lower real yields. We expect gold prices to stay around USD 2,500 per ounce.

A Republican Victory brings more complicated dynamics as indicated for our dollar view. In the scenario of a full tariff implementation, we expect in the first years of the of the presidential term inflation to increase, the Fed to hike and the dollar to rally because monetary policy divergence and weakness elsewhere. As a result, gold prices will suffer, and gold prices could decline below the 200-day moving average and move towards USD 2,000 per ounce. Afterwards we expect the dollar to weaken and real rates to come down. This will give room for gold prices to rally again and move beyond the highs set earlier in 2024.