In Part One we looked at Bernanke’s view of the US jobs market. Here we turn to his view of the impact the boom in commodities pricing is having on the US economy, as set out in his Atlanta Georgia speech. Rising commodity prices go directly to the issue of inflation. A year ago, with the US economy poised between inflation and deflation, a number of market pundits would have been relatively happy to see some inflation coming back into the system, since it would at least mean that the US was on track to avoid a downward deflationary spiral. Bernake pointed out that over the six months to end April 2011, the CPI reached 3.5 percent, as against an average of less than 1 percent for the entire preceding two-year period.
While a modest amount of inflation is considerably better than price deflation in the eyes of most economists, the general consensus is that anything over two percent can swiftly get out of hand. Bernanke, however, is fairly relaxed, since so far, given the massive pressure posed by the high unemployment rate in the US (above 9%), there is little sign that inflationary pressures are making themselves felt as an ingrained part of wage negotiations. Business, rather than labour, continues to hold the whip hand here, though some commentators are now pointing out that wages in the US have essentially been flat for more than a decade, which is not a sign of an economy that is making much progress. What fuelled the boom was pure consumer debt, not real wage increases.
According to Bernanke, the bulk of the increase in the US CPI number can be put down to the upward spiral in fuel prices.
“An important implication is that if the prices of energy and other commodities stabilize in ranges near current levels, as futures markets and many forecasters predict, the upward impetus to overall price inflation will wane and the recent increase in inflation will prove transitory. Indeed, the declines in many commodity prices seen over the past few weeks may be an indication that such moderation is occurring."
Fear across the globe
As I write this in mid-July the spot price of gold has gone through $1570 and the markets, after a brief rally which saw the S&P going back through 1320 have dipped once again. Fear, rather than greed, is the dominant driver and Bernanke’s hoped-for reduction in the price of oil is happening, but not in a good way. Talk of a China real estate bust, European sovereign debt worries and US political brinkmanship over the deficit ceiling are proving potent challenges to growth. The June US payroll figures were really dismal and made a lot of commentators gloomy.
The boom in commodity prices has increased the price of many household necessities at a time when wages are stagnant, again making daily life feel like stagflation is taking hold. Bernanke sees all this but points out that it is all part of the rebalancing of the global economy with demand shifting from advanced economies to emerging economies. Demand for oil in advanced economies dropped by 4.5% over the decade from 2000 to 2010, but this was more than compensated for by a 40% increase in oil consumption by emerging economies.
“This dramatic shift in the sources of demand for commodities is not unique to oil. If anything the pattern is even more striking for industrial metals, where double-digit percentage rates of decline in consumption by the advanced economies over the past decade have been overwhelmed by triple-digit percentage increases in consumption by emerging market economies.”
Demand and supply
Improving diets in these economies have driven steep increases in the price of agri-commodities. However, the positive flip side of this run-up in commodity prices has been strong trade, conferring “substantial economic benefits” globally, Bernanke points out. Supply has lagged demand, which inevitably drives up prices, but supply will catch up. Adverse weather patterns that have impacted the production of agricultural commodities will give way to bumper seasons. Markets adjust and high prices get arbitraged out the system. Further volatility and increases in commodity prices might well happen, but Bernanke is hopeful that the worst of the commodity price boom could be behind us:
“… there are good reasons to believe that commodity prices will not continue to rise at the rapid rates we have seen recently. In the short run, unexpected shortfalls in the (global) supplies of key commodities result in sharp price increases, as usual patterns and available supplies are difficult to change quickly. Over longer periods, however, high levels of commodity prices curtail demand as households and firms adjust their spending and production patterns… (while) over time, high prices should elicit meaningful increases in supply…”
Markets adjust themselves and speculation will have already bid up commodity prices to the point where they already reflect much of the future demand levels. So, as he puts it, “it is reasonable to expect the effects of commodity prices on overall inflation to be relatively moderate in the medium term.”
It all sounds very rational and right, except for the fact that this is the same Ben Bernanke who said first that there was no particular problem in the US housing market, and then that it was a problem that could be contained. Oh dear…
Further reading on stagflation, derivatives and asian economies:
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