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Gold Price Drops, Dollar Rallies After Fed Nods at Inflation Risks

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Gold futures declined 4.5%, the largest drop in over 10 months. That took gold down to $1,777.80 a troy ounce, its lowest since early May.

The WSJ Dollar Index, which tracks the currency against a basket of others, advanced 0.3%. That added to its 0.8% gain on Wednesday, which was its biggest one-day gain since March 2020. Against the euro, the dollar rose another 0.5% Thursday, putting at about $1.19 per euro.

Fed Chairman

Jerome Powell

Wednesday said the higher inflation recorded this year should be temporary, but the risks that it would persist couldn’t be ignored. Some members of the rate-setting committee brought forward their expectations of when rates might have to rise.

Higher interest rates in the U.S. make investing in American bonds more attractive to foreigners, and can increase demand for the dollar from overseas. Treasury yields rallied their most in three months after the Fed’s disclosures Wednesday, helping bolster appetite for the dollar. Those higher yields also make gold less attractive as an investment because it produces no income.

“Contrary to popular belief that high inflation leads to high gold prices, gold would only benefit massively if inflation goes above 4%,” said Bernard Dahdah, senior commodities analyst at

Natixis.

“It is no longer the Covid story that is influencing gold, it is the recovery story, and the main concern is the Fed raising rates.”

Many investors have viewed the dollar as likely to continue weakening for much of the past year due to expectations that a broad, global recovery will take hold and boost markets in many countries.

That view was called into question over the first three months of this year when the U.S. launched a large wave of government spending to boost the economy. The U.S. looked likely to race ahead of rivals in terms of growth and inflation, sending Treasury yields and the dollar higher.

Since then, the dollar had resumed weakening as Fed officials said repeatedly that rates wouldn’t change for a long time and any rise in inflation would probably prove to be temporary, according to

David Riley,

chief investment strategist at BlueBay Asset Management.

“One driver of the weaker dollar was the view that no other central bank could be as dovish as the Fed,” Mr. Riley said. “I think that now is a much less safe assumption.”

The Fed stuck to its view that inflation was likely to be transitory at Wednesday’s meeting. But officials said there were more risks that it could remain higher and start to affect consumers’ expectations for inflation. Those higher expectations can feed back into higher actual inflation.

Mr. Powell’s change in tone signaled that the Fed would be less likely to let inflation run above its 2% target for two years or more, according to Mr. Riley. “We think they’ll accommodate 12-18 months of above-target inflation, but no more,” he said. “We have been very cautious about joining the weak dollar consensus.”

In Treasury markets, Mr. Powell’s comments Wednesday sparked a rise in real yields, which offer a gauge of what investors can earn from their bondholdings after compensating for inflation. The yield on 10-year Treasury inflation-protected securities, a proxy for real yields, jumped to minus 0.77% on Wednesday, from minus 0.9%, and rose further to minus 0.76% Thursday, according to

Tradeweb.

The fact that real yields rose further than nominal yields suggests investors now think a rate rise is more likely and that inflation rates will be lower in 10 years’ time.

Write to Paul J. Davies at paul.davies@wsj.com and Will Horner at William.Horner@wsj.com

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