The war in Ukraine sparked a cascade of economic worries. Ukraine is one of the world’s biggest wheat producers, so grain prices skyrocketed. Ukraine is also a major producer of neon, an important component of computer chips, so the war is making the semiconductor shortage even worse. The most significant effect of the war, though, is without a doubt the energy crisis. In December, sanctions on Russian gas are set to kick in, and Europe is scrambling to find alternative sources. Russia is trying to weaponize its reserves, and demanding that Europe pay for gas in rubles.
All of this is rattling the world economy and has many people looking to gold, silver, and other precious metals. So what will the effect of the energy crisis on gold, silver, and other precious metals look like?
Natural gas and coal prices have nearly doubled since the war in Ukraine started. Oil is also up sharply, with crude prices spiking from around $90 a barrel to almost $120 immediately after the Russian invasion.
This will have far-reaching effects, but the most obvious way it affects gold and silver prices is mining costs. Most mining operations use heavy equipment that runs on various energy sources, including electricity, diesel, and natural gas. Higher energy prices mean more expenses for miners.
This can make some mines unprofitable, leading to fewer companies mining. With less active mines, the supply of precious metals tightens. Some miners may try to cover higher expenses by raising prices, while others may store mined metal and wait for prices to go up.
In the first few months of the war, fuel prices went up, but gold and silver prices went down. There are two main reasons for this; one is that it takes time for higher prices to filter through the supply chain. The other is moves by central banks to raise interest rates.
Central banks are raising interest rates to fight the highest inflation rates in decades, and higher interest rates mean more profit on interest-bearing deposits denominated in dollars and other currencies. This caused some investors to move out of commodities like gold and silver, and into cash and bonds.
This helped strengthen the dollar against other currencies and commodities. Since commodities are priced in dollars, this puts downward pressure on the price.
What will happen to gold and silver depends a lot on whether or not attempts to control inflation are successful. Inflation in the US peaked at 9.1% in June. This is the highest rate in 40 years, and the real rate may be even higher. The inflation rate has gone down a bit with the rate hikes, but the energy crisis could throw a wrench in the plans of central bankers.
Higher energy prices are going to make everything more expensive— from food and clothes to electronics and lumber. Especially in Europe, utility bills are putting a squeeze on household incomes. The last time fuel prices were this high was in 2011, and it triggered a wave of riots worldwide, leading to the collapse of multiple governments.
The genuine possibility of political pressure could lead politicians to throw the economy under the bus, so to speak. COVID stimulus was a factor contributing to inflation (although economists disagree about how big of a factor) and politicians may try to stay in power by using more stimulus. Even without stimulus and interest rate hikes, the European Central Bank (ECB) president recently said there will still be a persistent inflationary risk.
If we do see more stimulus, there’s a good possibility even more inflationary risk will be close behind. This could be a big boon for gold and silver markets because spooked investors would likely go running to precious metals. If gold and silver production is already down because of higher energy prices, we could see a surge in demand hitting a supply squeeze in commodities markets— a recipe for major price growth in precious metals.
The most important long-term effects of the energy crisis may be on the currency system. Since Nixon broke with the gold standard in 1973, the world has been working with a floating US dollar as the world reserve currency.
The war in Ukraine is much bigger than just Ukraine— Putin has repeatedly complained about the US dollar’s reserve currency status. Some analysts see the war as a move to undermine the international currency system.
In April of 2022, the IMF president warned that sanctions on Russia would weaken the dollar’s international role. As a result of political tension, the role of the US dollar in international trade is declining.
China and Russia have been cautiously moving toward de-dollarization for years. Some believe China has been hoarding gold in what may be preparation for a return to a gold-backed currency. Russia recently announced the convertibility of the ruble for gold, making it the first country to adopt a gold peg since Switzerland dropped its gold peg in 1999.
One of the main sources of the US dollar’s power is the fact that almost the entire international oil trade uses dollars. Known as the petrodollar system, this means there is a huge amount of demand for dollars guaranteed, making it possible for the US to expand its money supply at will without fear of triggering runaway inflation.
Putin’s move to demand all Russian oil and gas be paid for in rubles is a clear move against this system. China is also looking to undermine this system by chipping away at US influence in Middle Eastern oil-producing nations. More Chinese investment in the Middle East will mean more leverage to negotiate new trade settlement mechanisms.
It can also mean a greater ability to exert influence on OPEC. Venezuela, the biggest holder of proven oil reserves, is already aligned with Russia. Iran, with the 3rd largest reserves, is also in the Russian camp. Russia has the 8th biggest reserves. If China can succeed in convincing oil-rich Gulf countries to break their long-standing alliance with America, it could mean 7 of the 10 biggest oil-producing countries dropping the petrodollar, representing approximately 78% of global reserves and 42% of global production.
If such an event happens at the same time as increasing inflationary pressure due to politically motivated stimulus, it could trigger a loss of confidence in the dollar. This could lead to a “stampede effect,” where nations and investors try to dump dollar-denominated assets as well as hard currency.
To head this off, the US would be forced to do something to shore up confidence in the dollar, and one of the only ways to do this would be a return to a gold standard. Since Russia and China have already been hoarding gold, a return to silver coinage is also a distinct possibility, since silver is relatively abundant compared to gold.
It’s difficult to say how all of this will play out, but what’s certain is that Putin is hell-bent on using energy policy to destroy the US dollar, and China is willing to help out. Even a failed attempt to take on the dollar could result in massive demand for gold and silver, as Russia and China try to get countries to abandon US dollar trade and switch over to precious metal-backed currencies.
There are multiple potential scenarios where gold and silver could see a major surge in demand. Whether new trade blocks opt for gold or bimetallic standards, ongoing trade wars and energy politics could herald a major shift in the world currency system.
Silver can be a valuable component of any investment portfolio for preparing for various future events. It’s clear that the world is changing, but throughout history, silver has consistently served as a trusted store of value. If there is a return to a bimetallic standard in major economies, there could also be substantial upside in investing in silver in the coming years.