(Kitco News) - Gold investors shouldn't assume that a more inflation-focused Federal Reserve will derail the precious metal's long-term bull market, according to Axel Merk, founder and CEO of Merk Investments.
While newly appointed Federal Reserve Chair Kevin Warsh has signaled a more hawkish approach to monetary policy, Merk said that any near-term headwinds for gold could ultimately strengthen the market's longer-term foundations by reducing policy-driven uncertainty and shifting investor attention back to America's deteriorating fiscal position.
In his first Federal Reserve press conference on Wednesday, Warsh made fighting inflation a central pillar of his leadership, emphasizing the importance of price stability. The market interpreted his comments as hawkish, with traders pushing expectations for future rate increases higher.
Yet Merk said that investors should not automatically view a hawkish Fed as bearish for gold.
"Everything else equal, Kevin Warsh is a headwind to the price of gold," Merk said. "But I actually think it's going to reduce volatility, which should be seen as a positive."
According to Merk, one of Warsh's most important reforms is his effort to reduce the Fed's reliance on forward guidance and allow financial markets to play a greater role in signaling economic conditions. He said years of excessive communication and policy signaling have distorted markets and amplified volatility.
"The Fed has always done what they had to do, but often with huge delays and much more damage," he said. "Just avoiding the big mistakes reduces volatility."
Along with creating unnecessary market volatility, Merk also pointed out that the Federal Reserve’s economic projections and dot plot have never been accurate forecasting tools.
He added that, for gold investors, less monetary policy uncertainty could have an unexpected benefit.
Instead of obsessing over every Fed statement, dot plot projection, or interest-rate forecast, investors may begin focusing on structural issues that remain firmly supportive of gold, particularly the United States' growing debt burden.
"For the gold bugs, for better or worse, we've got unsustainable deficits," Merk said. "The market should be focused more on the fiscal side."
The comments come as many analysts continue to debate whether higher interest rates and elevated bond yields represent a significant obstacle for gold prices. Conventional wisdom suggests that rising yields increase the opportunity cost of holding a non-yielding asset such as gold.
However, Merk challenged the idea that opportunity costs should dictate an investor's decision to own precious metals.
He noted that gold serves multiple functions within a portfolio, including preserving purchasing power during periods of monetary instability and fiscal deterioration.
"I own gold for a variety of reasons," he said. "It's about preservation of purchasing power."
Merk added that even if Warsh succeeds in restoring credibility to monetary policy and making progress against inflation, the process will take years. He pointed out that former Federal Reserve Chair Paul Volcker, widely credited with breaking the back of inflation in the early 1980s, did not immediately return inflation to desired levels.
"Keep in mind, Paul Volcker didn't get inflation down to two percent," Merk said, noting that meaningful progress only emerged late in Volcker's tenure and into the early Greenspan years.
Beyond Fed policy, Merk noted that some of the recent pressure on gold has stemmed from geopolitical developments, particularly the market's reaction to tensions involving Iran and their impact on oil prices, inflation expectations, and real interest rates.
However, he expects those relationships to normalize over time.
"My guess is that correlation is going to break down," he said, referring to the recent link between gold and oil prices. "I think that's going to be a big positive for gold."
Ultimately, Merk said investors should avoid reducing the case for investing in gold to a simple debate over interest rates.
He explained that a more disciplined and inflation-focused Federal Reserve may remove one source of uncertainty from the market, but it does little to address the longer-term challenges posed by persistent budget deficits, rising government debt, and ongoing geopolitical risks.
Those factors, he argued, remain powerful reasons for investors to maintain exposure to gold regardless of the Fed's policy path.
