Autumn 09's Inflation Time-Bomb
It's not only the energy markets that threaten the 'low inflation' data now encouraging bondholders to keep buying...
THE PUBLISHED INFLATION DATA are surprisingly unsophisticated in so far as they compare current prices with a snapshot a year earlier.
Just over a year ago, oil was every hedge fund manager's favorite speculation. In summer 2008 a barrel got to well over $140, before falling sharply back.
That summer's high oil price had the effect of cancelling out the deflation which was occurring elsewhere in the economy, as the first phase of the credit crunch started to bite. It helped keep inflation up.
But by summer 2009, after hitting a trough of $30, the price was back down around $65 representing an annual fall in the oil price of over 50%. Now it was keeping the inflation figures down. Oil would continue to be below the price of 12 month previous throughout the period from January '09 to September '09.
Now - in the fall of 2009 - prices are more or less where they were a year ago, but 12 months ago they were falling fast, while now they are rising. So for the first time in over a year the effect of oil prices in the inflation figures, in October/November 2009, will be up again. And by January, even if prices don't continue to rise from here, the low prices of winter 2008/9 will form the base. Oil will again be at twice the price it was a year earlier. This will have a marked impact on inflation data.
It's not only the energy markets that threaten the "low inflation" data currently encouraging bondholders to continue buying government debt paying little more than 3.0% per year. There are well over two billion Chinese and Indians who used to make the unwelcome but necessary market adjustments on the demand side when world grain prices rose:
Some 30% of the world's population went hungry.
Until the current decade, that was an important part of how world demand came into line with dips in world food production, before big price rises would cause Westerners to feel the sharp pain of a world food shortage. But this has now changed, and permanently.
The wealth and dollar reserves of the Asian countries are now large, and their people are not going to go hungry in future (and quite right, too). Instead they will be competing on world markets, and the price of grains will start to show the very sharp spikes associated with unreliable supply and a newly inelastic demand in critical commodities.
You may remember the food riots of early 2008, and how they seem to have disappeared. Well, that occurred after a small dip in world grain production in 2007. Fortunately, by its end, 2008 had turned into a bumper year for the global food harvest and a serious crisis was averted. That bumper harvest brought global food prices down again - but for how long?
Rice gives us a hint of the nature of price movements we should learn to expect. From a stable base it spiked viciously upwards (by 300% and more) as it sucked in speculative money during the 2008 panic. But when it fell back as panic subsided, it still remained twice the original base level. It is from here that the next upwards spike seems to be starting.
In a similar pattern sugar has already started to cool off a bit, but pepper is in the earlier stages. At the end of August '09 it rose 17% in a week on news of a poor crop arising from adverse weather in South East Asia.
Unlike camcorders, food is not a discretionary purchase and under the harsh law of marginal utility - together with the new inelasticity of Asian demand - even modest food shortages will cause sharp price spikes, and maybe more riots, which indeed started to appear in Asia in September 2009, with tragic consequences.
When necessities are in short supply people behave in the opposite way to normal. Instead of reducing demand they tend to panic and stockpile food for safety, perversely increasing demand on those higher prices...
This excerpt comes from a presentation made last month at the CLSA Investors' Forum in Tokyo, Hong Kong and Singapore. Other speakers included Marc Faber, Robert Fisk, Niall Ferguson and Jim Rogers. You can receive the full report - Towards Hyperinflation - for free today, plus a complimentary gram of gold, stored securely in Zurich, Switzerland. Simply register with BullionVault here...