Thanksgiving is a time to appreciate the food on our tables, but that probably isn’t stopping a lot of people from grumbling about how expensive the turkey and all the fixings have become.
According to Statistics Canada, food prices are up 2.5% over the past year, but that may be underestimating the impact of inflation. New research from Dalhousie University’s Agri-Food Analytics Lab, quoted by BNN Bloomberg, shows that food inflation in Canada is closer to 5%, well above the normal 1-2%.
Among food categories, meat prices stand out as rising the most, with Stats Canada noting a 10% increase for these products over the past six months. Nearly half of Canadians, 49%, say they have reduced their purchases of Alberta meat, while a majority of consumers acknowledge cutting back on it since the start of the year. The higher number of vegetarians may be due to economic reasons as much as concerns over animal cruelty.
As for what is causing food prices to tick higher, the study by Agri-Food Analytics Lab cites unfavorable weather patterns in the northern hemisphere, i.e., droughts and storms, and logistical challenges owing to the covid-19 pandemic.
Corporate Knights expounds on the covid factor, mentioning several contributors to higher prices on grocery store shelves. These include labor shortages in both Canada and the US, rising freight costs, border waits, last year’s temporary closures of meat processing plants, and higher demand for food, as a revival of home cooking puts pressure on the prices of meat and feed grains such as soybeans and corn.
In fact climate change was affecting food production long before supply-chain problems due to covid.
A 2019 report by Environment Canada showed that Canada is warming at twice the global rate. Wildfires in California and British Columbia have damaged fruit and vegetable harvests. Droughts in the Prairies have led to smaller harvests of feed grains and produce, and water scarcity has forced famers to reduce the size of their herds, causing meat prices to spike. Tornadoes in Ontario and Quebec, and more active than normal hurricane seasons in the Atlantic, have also impacted the food supply chain, writes Corporate Knights.
In Manitoba this past summer, a severe drought drove up the price of feed grain, hay prices and costs for transporting feed, squeezing already tight margins.
“It’s terrible. Our pastures and field are withering. We don’t have enough feed for our cattle so we’re forced to buy it. But as hay and feed grain prices rise, it costs more and more to keep the cattle. It’s devastating,” says Ian Robson, a Manitoba farmer quoted on the National Farmers Union website.
The problem is exacerbated by the fact that cattle prices are falling due to farmers being forced to sell off part of their beef herds, meaning they will have to pay more and more for inputs, to keep cattle that are selling for less and less.
Scientists say that record heat waves lasting longer than a week, such as the “heat dome” that enveloped residents of western Canada and the United States this past summer, will be two to seven times more likely — creating the conditions that spark wildfires, cause water shortages, and increase the frequency of weather events like hurricanes and tornadoes that often ravage farmland and disrupt supply chains around the world, forcing food prices to rise year after year.
By June, drought had already scorched much of the US West, prompting California farmers to leave fields fallow and triggering water and energy rationing in several states.
In mid-September, the Southwestern United States reported precipitation at the lowest 20-month level since 1895. The drought in California and the “Four Corners” states of Arizona, Utah, Colorado and New Mexico started in early 2020 and has led to unprecedented water shortages in reservoirs across the region, while fueling devastating wildfires.
A report by the National Oceanic and Atmospheric Administration (NOAA) found that the unusually high temperatures coinciding with the Southwest’s historic, worst in a century dry spell, are symptomatic of climate change and have intensified the drought.
Quoting from the report, Reuters said, Above-normal heat helps dry up surface and soil moisture and reduces snowfall in winter, which in turn diminishes dry-season surface water storage from snow-melt runoff…
Low snowpack and parched soil can also create a “land-atmosphere feedback” that deepens a drought by helping raise ground temperatures while leaving less moisture available to evaporate for future precipitation…
Extremely high temperatures also sharply boost demand for water, further straining depleted reservoirs and rivers.
According to BNN Bloomberg, heat-related drops in crop yields affecting the supply of food could be with us for decades:
Yields of staple crops could decline by almost a third by 2050 unless emissions are drastically reduced in the next decade, according to a Chatham House report published [in September], while farmers will need to grow nearly 50 per cent more food to meet rising global demand during the same timeline.
It isn’t only retail food shoppers that are feeling the pinch of rising prices. Inflation is just as much a factor at the bottom of the food supply chain, the world of farmers and ranchers, as at the top, the shelves of brand-name grocery stores where most of us peruse items for our weekly shop.
One of the most important inputs that farmers rely on for growing food is fertilizer. Higher fertilizer prices must often be passed onto the end user, the buyer of fruits and vegetables, for the grower to preserve his profit margin. This is precisely what we see happening right now.
Recently the Green Markets North American Fertilizer Index hit a record high, rising 7.9% to US$996.32 per ton, and blasting past its 2008 peak. According to BNN Bloomberg, the fertilizer market has been smoked this year due to extreme weather, plant shutdowns and rising energy costs — in particular natural gas, the main feedstock for nitrogen fertilizer.
Nitrogen, which gets added to the soil to help plants grow, is also on a tear, with some US farmers saying it’s almost doubled in price since last spring. Several farmers are reportedly relying on other crops like winter wheat which consumes less nitrogen.
Green Markets says expensive fertilizer could push US corn farmers’ cost of production costs 16% higher.
The higher the cost of farming inputs, the more farmers will have to charge the consumer to make up for those payments. On a personal note, I see this happening on my hay farm. The price of custom fertilizer has doubled from about $500/t to $1,000/t, forcing hay farmers like myself to either absorb the higher cost, or make some tough decisions — like using less fertilizer or none at all, which obviously affects your grass yield. I also raise beef cattle, so the increased cost of fertilizer forces me to consider whether I can afford to carry my full herd. The price of herbicides has also gone up, so now I need to decide whether to spend a lot of money on weed control. When you factor in unpredictable weather conditions during growing season, such as dry spells, extreme wet and forest fires, it seems to be the start of an extremely vicious cycle that threatens to both drive farmers into bankruptcy, and ratchet up the price of food, all the way up the supply chain from farm to table.
According to the Food and Agriculture Organization’s global food index, food prices are already at a decade high, and increased fertilizer costs could lead to persistent food inflation well into 2022.
Beyond the headlines blaming covid, a deeper understanding of food inflation requires an appreciation for how the rising prices of farm inputs like fertilizer, feed grains, hay, etc., get passed on up the food chain and eventually end up as higher grocery bills. Food inflation in Canada is close to 5% and we can see this reflected in the higher costs of a number of grocery items.
Leading the price increases, in September fresh or frozen chicken gained 10.3%, pork was up 9.5%, seafood was 6.2% more expensive and butter was 6.3% more dear. Surprisingly, the prices of fresh vegetables were down 3.2%.
Statistics Canada says the cost of food rose 3.9% year over year in September compared to 2.7% in August. The agency notes the country’s annual rate of inflation reached its highest level since 2003, with the consumer price index (CPI) up 4.4% in September compared to a 4.1% year over year increase in August.
US inflation is even higher at 5.4%. The CPI increased 0.4% in September, with food and rent accounting for more than half of the rise. Food prices reportedly jumped 0.9% last month after increasing 0.4% in August, with the largest rise in food prices since April driven by a surge in the cost of meat.
Among US farm inputs, feed purchases, representing the highest percentage of farm production expenses, are this year outpacing 2020’s, according to the US Department of Agriculture graph below.
As for whether food inflation, and other kinds of inflation, are transitory, there is increasing evidence that rising prices are becoming stickier than previously thought.
Reuters reported on Thursday that industry leaders around the world believe prices are only going higher, with shortages of workers, fuel, container ships, semiconductors and building materials, as examples, keeping companies scrambling to keep a lid on costs.
“We expect inflation to be higher next year than this year,” the article quotes Graeme Pitkethly, finance chief at consumer products giant Unilever.
Some of the problems leading to higher prices are structural, including labor shortages, due to older employees leaving and fewer entering the workforce.
To this I would add climate change, which pre-dates covid-19 supply chain gum-ups. A planet that continues to warm (there is nothing we can do to stop the Earth’s natural climate cycles, the Earth will keep warming until it isn’t) will do more to raise the prices of crucial farm inputs like fertilizer, herbicides, feed grains and diesel fuel, than a bunch of refrigerated containers waiting for a cargo ship berth could ever do.
At minimum supply disruptions are likely to last until 2022 and there is every chance that next year’s growing season will see the same drought conditions as 2021’s, meaning no reprieve on the prices of many grocery items.
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Business As Usual Despite Omicron
Investors hoping that Friday’s release of the November…
“Business As Usual” Despite Omicron?
By Jane Foley, head of FX strategy at Rabobank
Investors hoping that Friday’s release of the November US labor market would be a simple tick-box exercise for the Fed’s move towards policy normalisation were likely disappointed. The headline non-farm payrolls report at 210K was only about half what the market had expected it to be, though the shock of this number was lessened by talk of a potentially unreliable seasonal adjustment in addition to a strong set of data from the household survey. The latter showed a sharp drop in the unemployment rate to just 4.2% in November. For many this will have been sufficient for the Fed to continue preparing to announce a hastening in the pace of tapering of its bond buying program at the December 14/15 FOMC meeting. After a volatile fortnight on the back of fears of a more hawkish Fed, the Nasdaq closed down 1.92% on Friday. While Asian stocks this morning mostly followed US stocks lower, futures are showing signs of resilience.
Despite the confusion surrounding the economic implications from the Omicron variant, Fed Chair Powell and other FOMC members had suggested a ‘business as usual’ approach to policy last week by suggesting that a hastening in the pace of QE tapering very much remained on the cards. The fact that the market consensus for this week’s US November CPI inflation release stands at a eye-watering 6.7% y/y will be seen by some as an endorsement of the Fed’s hawkish tone.
That said, the IMF has warned of growth risks stemming from Omicron and other central banks seem prepared to take a more cautious approach. The BoE’s Chief hawk Saunders, who voted for a rate hike in November, suggested on Friday that he would like more information on Omicron before deciding how to vote on policy next week. The UK money market has backed away from fully pricing in a BoE rate hike for December, though a February move is still on the cards. Both the BoC and the RBA are due to meet this week and steady policy is expected from both. Omicron is likely to provide the RBA with further reason to extend its already dovish position. That said, the strong rise in Canadian employment in November is feeding speculation that the BoC could bring forward rate hikes, with April being touted by commentators as a possible start date for policy tightening.
There have been various headlines in recent days in a slew of countries about additional restrictions being put in place in an effort to slow the transmission of Covid. Over the weekend police in Belgian used water cannon and tear-gas to disperse violent protests against fresh restrictions. Germany last week announced social curbs on the unvaccinated while Greece introduced fines on the over-60s who refuse to be jabbed.
As evidenced by the protests, none of this sits comfortably in liberal democracies with some premiers, such as UK PM Johnson, likely very nervous of a backlash from any further fresh restriction. Omicron has now been detected in seventeen EU countries and US data suggest that Omicron has spread to around one–third of US states, though Delta remains the dominant variant. Encouraging there have been several press reports indicating that while Omicron may increase the risk of transmission, the symptoms may be milder. This view was endorsed by US infectious disease official Fauci over the weekend who commented that “thus far it does not look like there’s a great degree of severity to it.” That said, S. Africa is preparing its hospitals for more admission, though its low vaccine rollout rate will be a factor.
Bitcoin took a tumble over the weekend as profit-taking picked up momentum. Gold found support on the fall back in longer term bond yields and oil prices picked up some support after Saudi Arabia raised prices for crude sold to Asia and the US. No real progress appears to have been made on reviving the nuclear deal between the US and Iran.
President’s Biden and Putin will speak via video call on Tuesday amid mounting tensions over Ukraine. This follows reports from US Secretary of State that there was evidence that Russia had made plans for a ‘large scale’ attack on Ukraine. It is expected the Biden will reaffirm US support for the sovereignty and territorial integrity of Ukraine. Bloomberg news have reported that over the weekend there was a ‘testy exchange’ between US Secretary of State Blinken and Russian Foreign Minister Lavrov over Ukraine with the former recapping events in 2014 when more than 100 people participating in a peaceful protests were killed.
Evergrande is back in the headlines this morning following a statement from the Chinese property developers on Friday saying that creditors had demanded USD260 million and that it could not guarantee enough funds. Chinese government officials summoned Evergrande’s Chair and the PBoC has stepped up its criticism of the company accusing it of ‘poor management’ and pursing ‘blind expansion’. Reports in Chinese state media that Beijing will cut banks’ reserve requirement ratio ‘in a timely way’ lent a little support to mainland Chinese blue chips overnight
A decidedly weak -6.9% m/m print for October Germany factory orders this morning is a sharp reminder of the headwinds facing the Eurozone’s largest economy. Tomorrow, German ZEW survey data is also expected to soften. Key UK data this week includes monthly GDP data and production numbers for October. In addition to the November CPI inflation data, the US calendar also includes the December Michigan confidence survey. Ahead of next weeks Fed, ECB, BoE and BoJ policy meetings little additional direction can be expected from central bankers leaving more room for investors to seek clues from this week’s BoC and RBA policy meetings.
Toward the Final Transition
A Book Review of Grand Transitions: How the Modern World Was Made, by Vaclav Smil.1
Over the last two decades, Vaclav Smil has produced a series of outstanding…
- A Book Review of Grand Transitions: How the Modern World Was Made, by Vaclav Smil.1
Smil’s most recent book, Grand Transitions, brings together his main concerns and interests. The subject of the book is the popular one of the nature of modernity and the modern world, the ways in which they differ from the greater part of the historic human past, and the process by which the old world of traditional society gave way to the one we now inhabit:, the modern. The work deftly combines two ways of addressing these:, by identifying and quantifying the novel or contrasting features of modernity as compared to the traditional, and by setting out and quantifying the processes that brought these into being. This also makes possible the subject matter of the final part of the book, which is an argument about what the future may hold. Revealingly, this last part is done more in terms of negatives—arguments about what will almost certainly NOT happen rather than extrapolations or forecasts of what WILL happen. The reason for this is the (correct) argument that we can be much more certain about what is impossible or highly unlikely than about what is possible. It would be easy for such an expansive survey to become ill-defined and sprawling but Smil avoids this with because of his clear conceptual framework and the argument that flows from it, something that draws upon his previous work.
The key concept is that of a transition. This is not original to Smil, of course, but is widely employed in discussions of modernity. The way it works is to identify in a major area of human life—such as demography, politics, or economics—the dominant features of the traditional world that we can see persisting across the centuries and variations of geography and culture and compare and contrast them to the persistent and dominant features of the contemporary world. The next step is to identify and describe the way one changed into the other over the last two to three centuries (never more than that), and so to define the nature of the transition from the one to the other. What this makes possible is a quantitative approach that also examines qualitative questions. The issue that is not easily addressed—either in Smil’s work or others like it—is that of causation, of what it was that caused the transitions. Smil’s own approach is resolutely empirical, and he explicitly argues against the use of theoretical models (especially those involving advanced and complex mathematics) and elaborate abstract theory. He takes the view that attempts to identify causes for observable major changes are almost always bound to fail because of methodological challenges but, above all, because of the central role of contingency and randomness in the historical human story. The reason for this is the nature of complex systems (examples being with both human societies and natural ecosystems being examples of that) and the difficulty of directly linking outcomes to preceding states in such a system, along with the notorious problem of high dependence upon random initial conditions and strong path dependency. What one can do—and he does expertly—is to present a careful account of the shifts and processes, as accurately as possible given the limitations of evidence. This modest approach is refreshing and welcome when we contrast it to the elevated claims to insight and knowledge that we find elsewhere.
Smil identifies four key transitions—the ‘”grand transitions”’ of his title. These are: demographic, agriculture and diet, energy, and economic. For many, the most familiar for many is the demographic, the transition from a world of high birth rates and high mortality levels—particularly among children—to one of low birth rates (often below replacement level) and low death rates. The transition involves a time period when for some time the birth rate remains high while the death rate falls with a dramatic rise in population as a result until the birth rate declines. This transition has been completed in many parts of the world but is still in process in others. All the indications are that it will have happened everywhere by the middle part of this century. One aspect of this transition that is now becoming apparent is an ageing of the population, with an unprecedentedly high proportion of the population being elderly. The second—agriculture and diet—is marked by the movement from a world of subsistence where food production was often precarious, to one where a combination of economic integration and technological innovations (such as artificial fertilizers and pesticides) plus innovation in both varieties of crops and farming methods has produced a level of food supply that our ancestors would have seen as abundant. Smil emphasizes how this is not simply a matter of more food of the traditional kind being produced and consumed as there has also been a dramatic transition in diets with a move towards much greater variety and, generally, much higher intakes of fats and refined carbohydrates and meat (as opposed to grain products). This has pled to the novel situation of health problems caused by overeating rather than starvation and malnutrition.
The last two are separate in Smil’s account but reading the relevant chapters reveals that for him economic and energy transitions are so interconnected that it could make sense to see them as a single phenomenon. The economic one is the well-known path in which we have gone from a world where living standards were low for the overwhelming majority and very stable over the long term despite periodic fluctuations to one where they rise steadily. The energy transition is the movement from a world where the primary source of energy is human and animal muscle power—augmented where possible by wind and water—to one where these are enormously added to by energy derived from fossil fuels and, more recently, nuclear and renewable sources. The two transitions are connected because of the way that the great increase in productivity (and, hence, living standards) since the early nineteenth century is clearly in large part connected to the increasing employment of these new sources of energy—notably but not only in the form of electricity.
All this raises several questions. There are four transitions for Smil, but could we also argue that there are others? The obvious candidate is innovation with a transition from a world where innovation was rare, slow to be adopted and diffused, and systematically restrained and discouraged by both overt power and social institutions, to one where it is omnipresent, rapid, and generally lauded (at least officially). This clearly plays a part in all the other transitions. I suspect that the reason why Smil does not add this is because it is much more difficult to measure (given that, for various reasons, patents are for various reasons not a reliable measure and, in any case, only exist for the period since the other transitions were under way). Another question is this: the four transitions are clearly interconnected but might we argue that one is foundational and driving all the rest? The best candidate for that is the energy transition, but even there it is not clear how that can be seen to have caused the demographic one. Smil shows that the evidence does not support the common belief that it is the economic transition that drives the demographic one if anything the opposite is true. Alternatively, and more in line with Smil’s own approach, might we argue that the four transitions are so interdependent that none of them could take place singularly and that all four had to happen together or not at all?. This would emphasizse the degree to which we are dealing with a complex phenomenon that can be measured and described but which resists analysis, much less prediction.
That in turn brings us to the final part of Smil’s work, which summarizes much of his previous writings, and looks at where we are now and what is the likely future of these transitions is. One central point, —which is why he uses the term ‘”transitions”—is that, in his view, it is overwhelmingly unlikely that the processes that have produced these transitions will continue indefinitely or even for much longer. Instead of an open-ended process, what we will have is a movement from one stable state to another, a step change and hence a transition (as opposed to e.g. a ‘”take-off”’). The way this can be put mathematically is that we are not looking at exponential curves in the various indicators but logarithmic ones (S curves). The argument Smil makes—here and elsewhere—is that the transition is almost complete and that therefore we are therefore approaching the top of the logarithmic curve where it rapidly flattens out. For example, this implies for example that we are coming to the end of an era of economic growth and arriving at the steady state predicted by inter alia Adam Smith and John Stuart Mill. Another implication is that population growth will fall dramatically and be succeeded by decline until there is a new steady state, while yet another is that both the impact and rate of innovation will decline. If true, aAll of this has far-reaching implications if true. So much of our political thinking, for example—in all parts of the spectrum—is built around the presumption of continued growth that it will be a radical disruption if this does stop. It will make sense, in that case, to return to the thinking—and maybe even the practice—of thinkers from earlier periods who did not have that foundational presumption, or at least to update them.
One thing Smil argues very forcibly is that we will not see either a continued growth in energy usage or a major switch to renewable energy. He reiterates the argument he has made elsewhere that this is extremely unlikely because of the fundamental problem of energy density. The great advantage of fossil fuels is that they contain large quantities of energy in lightweight and compact form, so they have a high density, which in turn means they can do a lot of work. By contrast, renewable energy sources—particularly solar power and wind power—are diffuse, which means they have much less usable energy. They are fine for producing electricity (allowing for intermittency) but it is difficult to impossible to employ them for things such as transport, or industrial heating (including processes such as steel making and cement production). The problems with all the alternatives suggested are both technical and economic—there is the common problem of technologies that are technically feasible but hopelessly uneconomic. The consequence is that we can look forward to not only a stagnation of energy usage but a significant decline, due to the declining EROEI ratio of existing sources (EROEI = Energy Return Over Energy Invested, the ratio between the amount of energy gained and the energy that has to be expended used to get it). This has very obvious and extensive implications, which most people have not started to consider.
One point that Smil spends a lot of time exploring is the question of whether the final stage of the transitions will be a move to greater “‘dematerialization”’ brought about by the combination of greater wealth and increased difficulties with energy supply. The argument is that the pattern of the economic transition is for increasing productivity in which resources are used ever more intensively to produce ever larger amounts of physical output. As with all processes, this faces diminishing marginal returns and, eventually, what is increasingly produced are not physical products that require inputs of raw material and energy but immaterial ones where the only major input is time. These are not subject to the limits that restrict the continued growth in the production of physical products and services. All of this is very similar to the speculations of J. S. Mill in his consideration of the steady state towards the end of his Political Economy and again raises all kinds of fascinating questions as to the implications for our current economic, social, and political arrangements. Smil himself is too cautious and respectful of the limits of his evidence to come to a firm answer although he clearly thinks that this route of dematerialization of economic life is probable.
This book is a great starting point for anyone interested in exploring finding out about Smil’s work and thought for the first time—even though it is his latest work—because it is in some ways a summation of the main themes and arguments he has explored over the years. It is also a wonderful read for anyone interested in the question of what exactly the difference is between the traditional world and the modern world and how we got from one to the other, with a wealth of solidly grounded information—Smil’s work of synthesis saves much time in going to the original or, alternatively, points to where to go to look further. It is also a work of great interest for people interested in political thought, or philosophy, or cultural analysis inasmuch as it presents us with a clear challenge: if we are indeed coming to the close of a three- hundred- year period of transition from one steady state to another, how will that affect the way we live and order our affairs, and how must our thinking change?
*Dr. Stephen Davies is the Head of Education at the IEA. Previously he was program officer at the Institute for Humane Studies (IHS) at George Mason University in Virginia. He joined IHS from the UK where he was Senior Lecturer in the Department of History and Economic History at Manchester Metropolitan University. He has also been a Visiting Scholar at the Social Philosophy and Policy Center at Bowling Green State University, Ohio. A historian, he graduated from St Andrews University in Scotland in 1976 and gained his PhD from the same institution in 1984. He has authored several books, including Empiricism and History (Palgrave Macmillan, 2003) and was co-editor with Nigel Ashford of The Dictionary of Conservative and Libertarian Thought (Routledge, 1991).
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Inflation – Will It Or Won’t It?
Inflation – Will It Or Won’t It?
Authored by Bill Blain via MorningPorridge.com,
“Inflation is like toothpaste – once you got it out,…
Inflation – Will It Or Won’t It?
“Inflation is like toothpaste – once you got it out, you can’t get it back in again.”
Forget everything you think you know about inflation. It is not solely a consequence of “monetary phenomena”, but largely about the behaviour of crowds. That’s why it’s so dangerous to growth and markets.
After a torrid week for markets as Big Tech got spanked, and bonds rallied on a risk-off move following the mixed employment data, there is a distinct feeling of uncertainty and more pain to come in the December markets. Bond yields falling as inflation fears multiply is a very mixed message… but hey-ho, these are the markets we live in..
Aside from the pandemic, politics, geopolitics and all the other bad stuff that riles markets, the inflation threat has been the most threatening known unknown that will make markets nervous through 2021. Inflation is nailed on to remain incendiary and volatile through the coming year – adding more angst to markets as participants ponder the consequences. It’s a massive threat to markets, society and economic growth – whether it is real or not!
The big news was Jerome Powell, Fed chair, finally admitting the post Covid inflation we’ve seen building over the past 18 months is anything but “transitory”. That’s come as something of a surprise to many analysts who went with the central bankers dismissing inflation as a likely short-lived issue, a mere post-pandemic hurdle that would swiftly be passed-by. Over coming weeks sentiment is likely to shift towards worrying about new long-term inflation scenarios as the inflation numbers remain stubbornly high. It’s difficult to imagine an inflationary scenario that’s positive.
Inflation is currently running a shocking 5-6% across the Western Economies – for how much longer, or how much higher is a “how long is a piece of string question.” We don’t know. Many economists still expect it will fall. Inflation is now in a spiral of supply chain hick-ups, wages, earnings and contradictory expectations. Inflation may ease tomorrow. It may not. We just don’t know how the consequences will play out.
For instance; one aspect of the unexpected consequences of inflation are fears stagflation will boost rising pandemic populism, leading to protectionism and the end of globalisation – a less connected global economy is likely to prove inflationary, especially in terms of increased tariffs.
What is most frightening is how little financial professionals – from central bankers, investors and traders – really understand about what inflation is and how it emerges. Much of the market simply accepts the monetarist argument inflation is “everywhere a monetary phenomenon” as an irrefutable truth that can’t be denied.
Monetarist traditionalists assume you can address inflation by addressing just one aspect of it – the supply of money. Oh dear… Markets are so much more subtle than simple monetarist imperatives. The next time some “expert” tells you inflation is all the fault of Governments borrowing to much, ask them to explain why. What a vast number of market participants don’t get is inflation doesn’t follow rules – it follows sentiment.
Government’s and central banks have been stuffing the global economy with liquidity for the last decade, but its only in the last few months the Pandemic shock has crystalised real inflation. Why…? Because inflation suddenly became a real fear after it remerged due to supply chain shocks.
Let me coin a new mantra on inflation: “Inflation is everywhere what people fear it might become…”
Conventional wisdom assumes inflation can be mitigated inflation by cutting liquidity; central banks raising interest rates (tightening), while Governments can raise taxes and cut spending programmes (austerity). These monetary arguments are theoretically logical, and can be backed up by historical data – but they are loaded because if you tell the crowd inflation is coming, they will probably believe it.
Financial markets work because participants are constantly evaluating every nuance of information to determine future prices. Prices are but a reflection of the market putting together everyone’s perception like some enormous voting machine. Inflation is just a particularly important part of the economic picture influencing the market vote at present. Should we let us panic us?
Maybe not – we’ve just undergone a period of unmatched and sustained global monetary creation though the past 12 years – since 2009. Stock prices have tripled – posting massively higher gains than the relatively lacklustre economic growth we saw over the same period. It’s financial asset inflation pure and simple. It’s happened because stocks look relatively cheap to ultra-low interest rates, and central banks have been pumping liquidity into the financial system (in the hope of creating economic activity) via QE.
The result is massive financial asset inflation on a cause and effect basis: make money cheap and financial assets will rise.
(Conversely, that’s why everyone predicts a stock market crash when rates (the price of money) rise!)
But long-term Financial Asset Inflation since 2009 has created a whole series of massively destabilising consequences. The rich have become phenomenally richer – buoyed by soaring stock prices. (These are likely to be the same people telling us government borrowing and spending is bad…) Expectations markets will only keep going higher have sucked in legions of retail investor convinced they’ll also get rich (only if they stay lucky). The results of chronic inequality, political blindness and insane financial optimism make for a hopeless unbalanced and unfocused economy.
The real value of the global economy is not the market cap of an electric car company worth trillions, but the number of electric cars being produced and sold. (These are very different metrics – one is perceived future value, the other real value.)
Inflation in the real economy is not just cause and effect. It’s a constantly evolving perception and expectations led threat. It changes as the votes with the markets change and the behaviours of economic participants change.
The supply chain crisis as the global economy reopened triggered a host of consequences around the globe. What’s happened has been complex, and spawned a host of unforeseen knock on effects. The coronavirus, and successive lockdowns are still throwing new shocks into the system – as a result the system is becoming increasingly chaotic and impossible to predict as the threat board keeps changing.
This is roughly how its worked:
Economies around the globe shuttered themselves through lockdowns and working from home.
Goods become scarce – from construction lumber to microchips at both micro and macro level, from local shortages to national level.
Prices of scarce goods rocket – often temporarily till new supply leavens shortages.
However, workers perceive higher prices and demand higher wages to compensate – triggering wage inflation.
Prices become elastic to the upside and sticky to adjust downwards.
Companies raise margins and prices to meet wage demands, fuelling further wage demands and declining demand.
The intricate balances between demand and supply become increasingly chaotic, and more so when new Covid lockdowns raise new supply chain threats.
Throw in an energy inflation spike and you create a recipe for disaster.
The key thing is not that inflation is simply due to the consequences of too low interest rates (the monetary phenomenon) or rising government indebtedness (pumping money into the economy), but is due to the expectations of crowds towards perceptions of rising costs.
In crisis human behaviour tends to become increasingly difficult and fractious to predict. The unpredictable behaviour of crowds makes Central Bankers policy choices fraught. Traditional inflation responses like austerity, raising taxes, tighter monetary policy, are as likely to cause market instability and generate increased expectations to push inflation as to ease it.
The time to cut liquidity; the amount of money sloshing around the financial system was long-time ago. That money – that’s fuelled financial asset inflation – is now pouring into the real economy in terms of buying real assets like property, pushing up real inflation.
Its complex. And likely to remain so..
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