Lead-lag relationships among precious metals prices and economic determinants of capital flows: A state-space analysis.

Abstract

Lead-lag relationships among precious-metals prices and their early-warning potential of shifts in exchange rates and inflation is debated. By examining a suite of precious-metals prices by multivariate State-Space analysis, this research goes beyond previous studies that focus upon gold, and avoids ad-hoc lag-length specification that plagues other methods. Precious-metals prices and structural economic variables are selected in accord with economic theory from a reduced-form model that recognizes both stock and flow components of precious-metals markets. Structure of the ARMA equations corresponding to the resulting State-Space models allows for testing lead-lag relationships among the variables. With monthly first-differenced real price and rate data, current prices of gold, silver, and platinum are sensitive to not only the interest-rate component of the cost of carry but also to expected future own-prices. But among these precious metals, only gold prices lead platinum prices, which suggests precious-metals are traded in more separable markets and are less substitutable as assets in a monthly time-frame than commonly perceived and that speculative activity from the gold market spills over into silver before platinum. Precious-metals prices do not lead exchange rates but exchange rates do lead platinum prices which suggests that exchange-rate disequilibria impacts gold and silver more quickly than the less-liquid platinum market. Furthermore, gold prices, with monthly first-differenced data in both nominal and real terms, do not lead interest rates, exchange rates, or inflation, and hypotheses that gold prices exhibit leading relationships to these structural economic variables are rejected. Likewise, the potential of precious-metals prices as early-warning indicators of shifts in economic determinants of capital flows is questioned.