Do we know where we are going in terms of inflation and house prices?

The credit crunch has posed lots of questions for economic statistics but the Covid-19 epidemic is proving an even harsher episode. Let me illustrate with an example from my home country the UK this morning.

The all items CPI annual rate is 1.5%, down from 1.7% in February…….The all items CPI is 108.6, unchanged from last month.

So the March figures as we had been expecting exhibited signs of a a downwards trend. But in terms of an economic signal one of the features required is timeliness and through no fault of those compiling these numbers the world has changed in the meantime. But we do learn some things as we note this.

The CPI all goods index annual rate is 0.6%, down from 1.0% last month…..The CPI all goods index is 105.7, down from 105.8 in February.

The existing world economic slow down was providing disinflationary pressure for goods and we are also able to note that domestic inflationary pressure was higher.

The CPI all services index annual rate is 2.5%, unchanged from last month.

So if it is not too painful to use a football analogy at a time like this the inflation story was one of two halves.

Although as ever the picture is complex as I note this.

The all items RPI annual rate is 2.6%, up from 2.5% last month.

Not only has the RPI risen but the gap between it and CPI is back up to 1.1%. Of this some 0.4% relates to the housing market and the way that CPI has somehow managed to forget that owner occupied housing exists for around two decades now. Some episode of amnesia that! Also in a rather curious development the RPI had been lower due to different weighting of products ( partly due to CPI omitting owner-occupied housing) which pretty much washed out this month giving us a 0.3% shift on the month.

Of course the RPI is unpopular with the UK establishment because it gives higher numbers and in truth is much more trusted by the wider population for that reason.

But let me give you an irony for my work from a different release.

UK average house prices increased by 1.1% over the year to February 2020, down from 1.5% in January 2020.

I have argued house prices should be in consumer inflation measures as they are in the RPI albeit via a depreciation system. But we are about to see them fall and if we had trade going on I would be expecting some large falls. Apologies to the central bankers who read my blog if I have just made your heart race. Via this factor we could see the RPI go negative again like it did in 2009 although of course the mortgage rate cuts which also helped back then are pretty much maxxed out now.

If we switch to the widely ignored measure that HM Treasury is so desperately pushing we will see changes here as well.

Private rental prices paid by tenants in the UK rose by 1.4% in the 12 months to March 2020, unchanged since February 2020…..Private rental prices grew by 1.4% in England, 1.2% in Wales and by 0.6% in Scotland in the 12 months to March 2020…..London private rental prices rose by 1.2% in the 12 months to March 2020.

Rises in rents are from the past. I have been told of examples of rents being cut to keep tenants. Of course that is only anecdotal evidence but if we look at the timeliness issue at a time like this it is all we have. Returning to the conceptual issue the whole CPIH and Imputed Rents effort may yet implode as we mull this announcement.

Cancelled

The comparison of private rental measures between the Office for National Statistics and private sector data will be published in the Index of Private Housing Rental Prices bulletin released on 22 April 2020.

Oh well! As Fleetwood Mac would say.

Oil Prices

We can look at a clear disinflationary trend via the inflation data and to be fair our official statisticians are awake.

U.S. crude oil futures turned negative for the first time in history, falling to minus $37.63 a
barrel as traders sold heavily because of rapidly filling storage space at a key delivery point.
Brent crude, the international benchmark, also slumped, but that contract is not as weak
because more storage is available worldwide. The May U.S. WTI contract fell to settle at a
discount of $37.63 a barrel after touching an all-time low of -$40.32 a barrel. Brent was down
to $25.57 a barrel. (uk.reuters.com 19 April 2020)

Actually Brent Crude futures for June are now US $18 so more is on its way than they thought but it is a fast moving situation. If we look at diesel prices we see that falls were already being noted as per litre prices had gone £1.33, £1.28 and £1.24 so far this year. As of Monday that was £1.16 which of course is well before the recent plunge in oil prices. This feeds in to the inflation data in two ways.

A 1 pence change on average in the cost of a litre of motor fuel contributes approximately 0.02 percentage points to the 1-month change in the CPIH.

Also in another way because the annual comparison will be affected by this.

When considering the price of petrol between March and April 2020, it may be useful to note
that the average price of petrol rose by 3.8 pence per litre between March and April 2019, to
stand at 124.1 pence per litre as measured in the CPIH.

If we switch to the producer price series we see that the Russo/Saudi oil price turf war was already having an impact.

The annual rate of inflation for materials and fuels purchased by manufacturers (input prices) fell by 2.9% in March 2020, down from negative 0.2% in February 2020. This is the lowest the rate has been since October 2019 and the sixth time in the last eight months that the rate has been negative.

The monthly rate for materials and fuels purchased was negative 3.6% in March 2020, down from negative 0.9% in February 2020. This is the lowest the rate has been since January 2015.

Roughly they will be recording about half the fall we are seeing now.

Comment

These times are providing lots of challenges for economic statistics. For example if we stay with oil above then it is welcome that consumers will see lower prices but it is also true we are using less of it so the weights are wrong ( too high). As to this next bit I hardly know where to start.

Air fares have shown variable movements in April which can depend on the position of Easter.

I could of course simply look at the skies over Battersea which are rather empty these days. I could go on by looking at the way foreign holidays are in the RPI and so on. There will of course be elements which are booming for example off-licence alcohol sales. DIY is booming if the tweet I received yesterday saying paint for garden fences had sold out is any guide. So you get the drift.

Returning to other issues the UK remains prone to inflation as this suggests.

“It’s right that retailers charge a fair price for fuel that reflects the price of the raw product, and in theory petrol prices could fall below £1 per litre if the lower wholesale costs were reflected at the pumps – but at the same time people are driving very few miles so they’re selling vastly lower quantities of petrol and diesel at the moment. This means many will be at pains to trim their prices any further.” ( RAC)

We learnt last week that some areas are seeing a fair bit of it as the new HDP ( Higher Demand Products) inflation measure recorded 4.4% in just 4 weeks.

So there are plenty of challenges. Let me give you an example from house prices where volumes will be so low can we calculate an index at all? Regular readers may recall I have pointed this out when wild swings have been recorded in Kensington and Chelsea but based on only 2 sales that month. What could go wrong?

Also we are in strange times. After all someone maybe have borrowed at negative interest-rates this week to buy oil at negative prices and then maybe lost money. If so let us hope they get some solace from some glam-rock from the 70s which is rather sweet.

Does anyone know the way?
Did we hear someone say
“We just haven’t got a clue what to do!”
Does anyone know the way?
There’s got to be a way
To Block Buster!

 

 

Welcome to the oil price shock of 2020

Today is one where we are mulling how something which in isolation is good news has led to so much financial market distress overnight and this morning. So much so that for once comparisons with 2008 and the credit crunch have some credibility.

And I felt a rush like a rolling bolt of thunder
Spinning my head around and taking my body under
Oh, what a night ( The Four Seasons)

Just as people were getting ready for markets to be impacted by the lock down of Lombardy and other regions in Italy there was a Mexican stand-off in the oil market. This came on top of what seemed at the time large falls on Friday where depending on which oil benchmark you looked at the fall was either 9% or 10%.Then there was this.

DUBAI, March 8 (Reuters) – Saudi Arabia, the world’s top oil exporter, plans to raise its crude oil production significantly above 10 million barrels per day (bpd) in April, after the collapse of the OPEC supply cut agreement with Russia, two sources told Reuters on Sunday.

State oil giant Aramco will boost its crude output after the current OPEC+ cut deal expires at the end of March, the sources said.

Whilst they are playing a game of who blinks first the oil price has collapsed. From Platts Oil

New York — Crude futures tumbled roughly 30% on the open Sunday evening, following news that Saudi Aramco cut its Official Selling Prices for April delivery. ICE front-month Brent fell $14.25 on the open to $31.02/b, before climbing back to trade around $35.22/b at 2238 GMT. NYMEX front-month crude futures fell $11.28 to $30/b on the open, before rising to trade at around $32.00/b.

The Real Economy

Let us get straight to the positive impact of this because in the madness so many are missing it.

We find that a 10 percent increase in global oil inflation increases, on average, domestic inflation by about 0.4
percentage point on impact, with the effect vanishing after two years and being similar between advanced and developing economies. We also find that the effect is asymmetric, with positive oil price shocks having a larger effect than negative ones. ( IMF 2017 Working Paper )

There is plenty of food for thought in the reduced relative impact of lower oil prices for those who believe they are passed on with less enthusiasm and sometimes not passed on at all. But if the IMF are right we will see a reduction in inflation of around 0.6% should oil prices remain here.

As to the impact on economic growth the literature has got rather confused as this from the Bank of Spain in 2016 shows.

Although our findings point to a negative influence from oil price increases on economic growth, this phenomenon is far from being stable and has gone through different phases over time. Further research is necessary to fathom this complex relationship.

Let me give you an example of how it will work which is via higher real wages. Of course central bankers do not want to tell us that because they are trying to raise inflation and are hoping people will not spot that lower real wages will likely be a consequence. To be fair to the IMF it does manage to give us a good laugh.

The impact of oil price shocks, however,
has declined over time due in large part to a better conduct of monetary policy.

That does give us the next link in the story but before we get there let me give you two major problems right now which have links. The first is that the oil price Mexican stand-off has a silent player which is the US shale oil industry. As I have pointed out before it runs on a cash flow business model which has just seen likely future flows of cash drop by a third.

Now we get to the second impact which is on credit markets. Here is WordOil on this and remember this is from Thursday.

NEW YORK (Bloomberg) –Troubled oil and gas companies may have a hard time persuading their bankers to keep extending credit as the outlook darkens for energy, potentially leading to more bankruptcies in the already-beleaguered sector.

Lenders evaluate the value of oil reserves used as collateral for bank loans twice a year, a process that’s not likely to go well amid weak commodity prices, falling demand, shuttered capital markets and fears of coronavirus dampening global growth. Banks may cut their lending to cash-starved energy companies by 10% to 20% this spring, according to investors and analysts.

That will all have got a lot worse on Friday and accelerated today. I think you can all see the problem for the shale oil producers but the issue is now so large it will pose a risk to some of those who have lent them the money.

US oil/junk bonds: busts to show folly of last reboot ( FT Energy )

I am not sure where the FT is going with this bit though.

There will be no shortage of capital standing ready to recapitalise the energy sector….

Perhaps they have a pair of glasses like the ones worn by Zaphod Beeblebrox in The Hitch Hikers Guide to the Galaxy. Meanwhile back in the real world there was this before the latest falls.

More than one-third of high-yield energy debt is trading at distressed levels. Oil and gas producers with bonds trading with double-digit yields include California Resources Corp., Range Resources Corp., Southwestern Energy Co., Antero Resources Corp., Comstock Resources Inc., Extraction Oil & Gas Inc. and Oasis Petroleum Inc. ( World Oil)

Central Banks

As the oil price news arrived central bankers will have been getting text messages to come into work early. Let me explain why. Firstly we know that some credit markets were already stressed and that the US Federal Reserve had been fiddling while Rome burns as people sang along with Aloe Blacc.

I need a dollar, dollar a dollar is what I need
hey hey
Well I need a dollar, dollar a dollar is what I need
hey hey
And I said I need dollar dollar, a dollar is what I need.

Whoever decided to taper the fortnightly Repo operations to US $20 billion had enough issues when US $70 billion was requested on Thursday, now I guess he or she is not answering the phone. Anyway the role of a central bank in a crisis like this is to be lender of last resort and splash the cash. At the same time it should be doing emergency investigations to discover the true state of affairs in terms of solvency.

This is because some funds and maybe even banks must have been hit hard by this and may go under. Anyone long oil has obvious problems and if that is combined with oil lending it must look dreadful. If anyone has geared positions we could be facing another Long-Term Capital Management. Meanwhile in unrelated news has anyone mentioned the derivatives book of Deutsche Bank lately?

The spectre of more interest-rate cuts hangs over us like a sword of damocles. I type that because I think they will make things worse rather than better and central banks would be better employed with the liquidity issues above. They are much less glamorous but are certainly more effective in this type of crisis. Frankly I think further interest-rate cuts will only make things worse.

Comment

I have covered a lot of ground today but let me move onto home turf. We can also look at things via bond yields and it feels like ages ago that I marked your cards when it was only last Thursday! Anyway we have been on this case for years.

Treasury 10-Year Note Yield Slides Below 0.5% for First Time ( @DiMartinoBooth)

Yes it was only early last week that we noted a record low as it went below 1%. Meanwhile that was last night and this is now.

Overnight the US 10-year traded 0.33%, under 0.44% now. The longbond traded down to 0.70% overnight. The bond futures were up over 12 points. Now trading 0.85%. Note how “gappy” this chart is. Liquidity is an issue. ( @biancoresearch )

This really matters and not in the way you may be thinking. The obvious move is that if you are long bonds you have again done really well and congratulations. Also there is basically no yield these days as for example, my home country the UK has seen a negative Gilt yield this morning around the two-year maturity.

But the real hammer on the nail will not be in price ( interest-rates) it will be in quantity as some places will be unable to lend today. Some of it will be predictable ( oil) but in these situations there is usually something as well from left field. So let me end this part Hill Street Blues style.

Let’s be careful out there

Podcast

I have not mentioned stock markets today but I was on the case of bank shares in my weekly podcast. Because at these yields and interest-rates they lack a business model.

 

 

 

Both China and the world economy are being impacted by the Corona Virus

The weekend just gone was one where an epidemic began to have more economic consequences. In a world where there appears to be a Trump Tweet for pretty much everything this one from Friday is not going so well.

China has been working very hard to contain the Coronavirus. The United States greatly appreciates their efforts and transparency. It will all work out well. In particular, on behalf of the American People, I want to thank President Xi!

The media has revved itself up about the Corona virus and is in some cases treating it like a television series I remember from my childhood called Survivors.

 It concerns the plight of a group of people who have survived an apocalyptic plague pandemic, which was accidentally released by a Chinese scientist and quickly spread across the world via air travel. Referred to as “The Death”, the plague kills approximately 4,999 out of every 5,000 human beings on the planet within a matter of weeks of being released. ( Wiki)

Fortunately we are a long way away from that situation although it must be awful for those affected. Let us switch our emphasis to the economic affects as we live up to the description of economics as the dismal science.

China

More and more cities are in lock down and this morning there has been this announcement.

SHANGHAI (Reuters) – The Shanghai government has said companies in the city are not allowed to resume operations before Feb. 9, an official at the municipality announced at a press conference on Monday.

The measure is applicable to government and private companies but is not applicable to utilities and some other firms such as medical equipment companies and pharmaceutical companies, the official said.

China’s cabinet has announced it will extend the Lunar New Year holidays to Feb. 2, to strengthen the prevention and control of the new coronavirus, state broadcaster CCTV reported early on Monday.

This will mean a lot of economic disruption as highlighted here by the Financial Times.

the manufacturing hub of Suzhou has postponed the return to work of millions of migrant labourers for up to a week. Suzhou is one of the world’s largest manufacturing hubs where companies such as iPhone contractor Foxconn, Johnson & Johnson and Samsung Electronics have factories.

One can see a situation where supply chains will be interrupted and presumably inventories will rise until there is not more room to store them. This may add to what has been something of a Perfect Storm for manufacturing over the past year or so.

According to the FT there is another area which has been hit hard.

Railway transport on Saturday, the first day of the lunar new year, fell about 42 per cent compared with the same day last year, according to the transportation ministry. Passenger flights were down by roughly 42 per cent and overall transportation across the country declined about 29 per cent.

If Chinese travel forms are anything like those of the western capitalist imperialists with their rather thin margins it may not be long before some are in trouble which may be why we have seen this being announced.

Companies would receive support “through measures such as encouraging appropriate lowering of loan interest rates, improving arrangements for loan renewal policies and increasing medium-term and credit loans”, the China Banking Regulatory Commission said.

We get an idea of the feared impact on the travel industry worldwide via the @RANSquawk update on share price moves today.

Air France (AF FP) -4.6%

Kering (KER FP) -4.6%

easyJet (EZJ LN) -4.0%

LVMH (MC FP) -3.5%

Ryanair (RYA LN) -3.0%

Airbus (AIR FP) -2.5%

So the initial impact is on manufacturing and consumption especially travel. That will be hitting a Chinese economy that was already slowing with reported economic growth falling to 6.1% at the end of last year.

The World

It may not be the best time for the FT to run with this.

Signs of a global recovery in manufacturing are starting to show

For example should the announcement below come to pass you would think it would have to affect trade between Germany and China.

GERMAN FOREIGN MINISTER MAAS SAYS WE ARE CONSIDERING EVACUATING GERMAN CITIZENS FROM CHINESE REGION AFFECTED BY CORONAVIRUS  ( @DeltaOne )

That is certainly the picture being picked up by the price of crude oil which has been falling the past few days.

The coronavirus could cut into demand by around 260,000 bpd and reduce oil prices by about $3 per barrel, according to a report from Goldman Sachs. However, in the days following the publication of that estimate, oil prices fell by even more than $3. ( OilPrice.com ).

In fact the price of a barrel of Brent Crude Oil has fallen to US $58 as I type this as it tries to factor in lower travel demand and manufacturing. It would be even lower if the disastrous intervention by the West in Libya had not meant its output was so unreliable. Also the medical diagnosis of Dr. Copper is clear as we see it at US $2.63 this morning as opposed to the US $2.87 of as recently as the 16th of this month.

Bond Markets

These have been given yet another leg up as lower growth prospects mean they are more attractive. Although of course that theme is troubled these days as for example in Germany you do not get any yield and instead have to pay! As its bond market rallies we see that its benchmark ten-year yield has fallen to -0.37%. In my home country the UK the situation is also complex as it looks as though we are setting for a Bank of England interest-rate cut later this week as the Gilt market rallies and the ten-year yield falls to 0.53%. But I think it is really following other markets and perhaps trying to price the prospect of lower inflation as oil and commodity prices fall.

Stock Markets

These attract media attention much more.

FTSE 100 ‘in panic mode’ as coronavirus fears push it into red ( City-AM )

Actually it is down a bit over 2% and for context is above 7400 as I type this. so it is an odd type of panic that leaves it not far from the highs. Of course, equity market falls are persona non grata in the era of QE so let us remind ourselves that with the Nikkei 225 index falling 2% in Japan the Tokyo Whale will have had its buying boots on. Thus the Bank of Japan will have edged ever nearer to owning 100% of the exchange traded fund indices it buys.

Comment

We see a form of domino theory here.There are clear impacts on the travel and manufacturing sectors of China in particular. This will reduce economic growth although there will be an offset from the medical sector which will be at a maximum. Those who rely on Chinese economic output will be the first affected and once we move beyond airlines it is hard not to think of the South China Territory otherwise known as Australia. Lower iron ore demand for instance.

World manufacturing supply chains will be affected and as we have already noted this is another problem for that sector. If we look at a specific example all sorts of things may or may not happen to the planned Tesla gigafactory in Shanghai. Meanwhile central banking Ivory Towers are being instructed to research whether QE and lower interest-rates can battle the Corona virus.

Podcast

Good to see UK wage growth well above house price growth

Today brings the UK inflation picture into focus and for a while now it has been an improved one as the annual rates of consumer, producer and house price inflation have fallen. Some of this has been due to the fact that the UK Pound £ has been rising since early August which means that our consumer inflation reading should head towards that of the Euro area. As ever currency markets can be volatile as yesterdays drop of around 2 cents versus the US Dollar showed but we are around 12 cents higher than the lows of early August. The latter perspective was rather missing from the media reporting of this as “tanks” ( Reuters) and “tanking” ( Robin Wigglesworth of the FT) but for our purposes today the impact of the currency has and will be to push inflation lower.

The Oil Price

This is not as good for inflation prospects as it has been edging higher. Although it has lost a few cents today the price of a barrel of Brent Crude Oil is at just below US $66 has been rising since it was US $58 in early October. Whilst the US $70+ of the post Aramco attack soon subsided we then saw a gradual climb in the oil price. So it is around US $8 higher than this time last year.

If we look wider then other commodity prices have been rising too. For example the Thomson Reuters core commodity index was 167 in August but is 185 now. Switching to something which is getting a lot of media attention which is the impact of the swine fever epidemic in China ( and now elsewhere ) on pork prices it is not as clear cut as you might think. Yes the Thomson Reuters Lean Hogs index is 10% higher than a year ago but at 1.92 it is well below the year’a high of 2.31 seen in early April

Consumer Inflation

It was a case of steady as she goes this month.

The Consumer Prices Index (CPI) 12-month rate was 1.5% in November 2019, unchanged from October 2019.

This does not mean that there were no changes within it which included some bad news for chocoholics.

Food and non-alcoholic beverages, where prices overall rose by 0.8% between October and November 2019 compared with a smaller rise of 0.1% a year ago, especially for sugar, jam, syrups, chocolate and confectionery (which rose by 1.8% this year, compared with a rise of 0.1% last year). Within this group, boxes and cartons of chocolates, and chocolate covered ice cream bars drove the upward movement; and • Recreation and culture, where prices overall rose between October and November 2019 by more than between the same two months a year ago.

On the other side of the coin there was a downwards push from restaurants and hotels as well as from alcoholic beverages and tobacco due to this.

The 3.4% average price rise from October to November 2018 for tobacco products reflected an increase in duty on such products announced in the Budget last year.

Tucked away in the detail was something which confirms the current pattern I think.

The CPI all goods index annual rate is 0.6%, up from 0.5% last month……..The CPI all services index annual rate is 2.5%, down from 2.6% last month.

The higher Pound £ has helped pull good inflation lower but the “inflation nation” problem remains with services.

The pattern for the Retail Prices Index was slightly worse this month.

The all items RPI annual rate is 2.2%, up from 2.1% last month.

The goods/services inflation dichotomy is not as pronounced but is there too.

Housing Inflation ( Owner- Occupiers)

This is a story of many facets so let me open with some good news.

UK average house prices increased by 0.7% over the year to October 2019 to £233,000; this is the lowest growth since September 2012.

This is good because with UK wages rising at over 3% per annum we are finally seeing house prices become more affordable via wages growth. Also you night think that it would be pulling consumer inflation lower but the answer to that is yes for the RPI ( via the arcane method of using depreciation but it is there) but no and no for the measure the Bank of England targets ( CPI) and the one that our statistical office and regulators describes as shown below.

The Consumer Prices Index including owner occupiers’ housing costs (CPIH).

Those are weasel words because they use the concept of Rental Equivalence to claim that homeowners pay themselves rent when they do not. Even worse they have trouble measuring rents in the first place. Let me illustrate that by starting with the official numbers.

Private rental prices paid by tenants in the UK rose by 1.4% in the 12 months to November 2019, up from 1.3% in October 2019.

Those who believe that rents respond to wage growth and mostly real wages will already be wondering about how as wage growth has improved rental inflation has fallen? Well not everyone things that as this from HomeLet this morning suggests.

Newly agreed rents have continued to fall across most of the UK on a monthly basis despite above-inflation annual rises, HomeLet reveals.

Figures from the tenancy referencing firm show that average rents on new tenancies fell 0.6% on a monthly basis between October and November, with just Wales and the north-east of England registering a 1.1% and 0.4% increase respectively.

Both the north-west and east of England registered the biggest monthly falls at 0.8%.

Rents were, however, up 3.2% annually to £947 per month.

This is at more than double the 1.5% inflation rate for November.

As you can see in spite of a weak November they have annual rental inflation at more than double the official rate. This adds to the Zoopla numbers I noted on October 16th which had rental inflation 0.7% higher than the official reading at the time.

So there is doubt about the official numbers and part of it relates to an issue I have raised again with the Economic Affairs Committee of the House of Lords. This is that the rental index is not really November’s.

“The short answer is that the rental index is lagged and that lag may not be stable.I have asked ONS for the detail on the lag some while ago and they have yet to respond.”

Those are the words of the former Government statistician Arthur Barnett. As you can see we may well be getting the inflation data for 2018 rather than 2019.

The Outlook

We get a guide to this from the producer price data.

The headline rate of output inflation for goods leaving the factory gate was 0.5% on the year to November 2019, down from 0.8% in October 2019……..The growth rate of prices for materials and fuels used in the manufacturing process was negative 2.7% on the year to November 2019, up from negative 5.0% in October 2019.

So the outlook for the new few months is good but not as good as it was as we see that input price inflation is less negative now. We also see the driving force behind goods price inflation being so low via the low level of output price inflation.

Comment

In many respects the UK inflation position is pretty good. The fact that consumer inflation is now lower helps real wage growth to be positive. Also the fall in house price inflation means we have improved affordability. These will both be boosting the economy in what are difficult times. The overall trajectory looks lower too if we add in these elements described by the Bank of England.

CPI inflation remained at 1.7% in September and is expected to decline to around 1¼% by the spring, owing to the temporary effect of falls in regulated energy and water prices.

However as I have described above these are bad times for the Office for National Statistics and the UK Statistics Authority. Not only are they using imaginary numbers for 17% of their headline index ( CPIH) the claims that these are based on some sort of reality ( actual rental inflation) is not only dubious it may well be based on last year data.

The Investing Channel

 

What is the economic impact of an oil price shock?

The economic news event of the weekend was the attack on the Saudi oil production facilities. It looks as though Houthi rebels and Iran were involved but forgive me if I am careful about such things along the lines of this from the Who.

Then I’ll get on my knees and pray
We don’t get fooled again

As you can imagine there was a lot of attention on the London oil price opening last night and no doubt fear amongst those who were short the oil price. Their fears were confirmed as we saw an initial flurry of stop loss trading which can the price of a barrel of Brent Crude Oil go above US $71 which was some US $11 higher. It then fell back to more like US $68 quite quickly. For those unaware this is a familiar pattern in such circumstances as some will have lost so much money they have to close their position and everybody knows that. It is a cruel and harsh world although of course you need to know the nature of the beast before you play.

Thus the first impact was some severe punishment for sections of the oil trading market. The rumour was that a lot of quant funds were short of oil and we will have to wait and see if there is a blow-up here. If we move on we see that the oil price has been falling this morning leaving the price of a barrel of Brent Crude at US $65.50 or up over 8%.So let us start by looking at the winners from a higher oil price.

Winners

A clear group of winners and presumably the group who have taken the edge off the higher oil price are the shale oil wildcatters in the United States and elsewhere.

“Since the last in-depth review five years ago, the United States has reshaped energy markets both domestically and around the world,” the IEA’s Executive Director, Fatih Birol, said at the presentation of the report on Friday, accompanied by U.S. Secretary of Energy Rick Perry. ( oilprice.com )

If we continue with this analysis here is some more detail.

U.S. crude oil exports have soared since the ban was lifted at the end of 2015, to reach 3.159 million bpd on average in June 2019, according to the latest available EIA crude export detail.

As you can see the impact of the shale oil era had one underlying effect last night and this morning via the way that Saudi production is not as important as it was. But also there is the economic model of the shale oil industry which I have pointed out before is more of a cash flow model than a profit one. So I would have expected them to rush to hedge their production last night and this morning. As it happens these levels are ones which would be profitable for them as their costs are often around US $50 per barrel. However they will not be making as much as you might think as they would have impacted more on the WTI ( West Texas Intermediate ) benchmark which is about US $5 lower than the Brent benchmark.

Other companies in the production business will also be winners and we see an example of that as the British Petroleum share price is up 4% at 523 pence today.

Next comes the countries who are net oil producers. We have looked at the US already and the position for Saudi Arabia is mixed as it is getting a higher price but has lower production. Russia is a clear winner as its economy depends so much on its oil production.

Exports of mineral products (consisting mainly of oil and natural gas) accounted for 59.2% of total Russian exports in 2016 (Rosstat, 2017).

There is quite a list of winners in the Middle East including ironically Iran assuming it will be allowed to sell its oil. Then places like Kazahkstan as well as Canada and to some extent Australia. There is also Norway where according to Norskpetroleum it represents some 16% of GDP and 40% of exports as well as this.

The government’s total net cash flow from the petroleum industry is estimated to NOK 251 billion in 2018 and NOK 263 billion in 2019

Thus I am a little unclear how Oxford Economics are reporting that Norway would lose from a higher oil price.

There are quite a few African countries which produce oil and Libya comes to mind as do Ghana and Nigeria ( assuming the output of the latter can avoid the problems there).

Another group of winners would be world central banks especially the ECB after its moves on Thursday. The reason for this is that they have been trying to raise the inflation rate for some time now and either mostly or entirely failing as Mario Draghi pointed out on Friday..

The reference to levels sufficiently close to but below 2% signals that we want to see projected inflation to significantly increase from the current realised and projected inflation figures which are well below the levels that we consider to be in line with our aim.

Should this transpire then we will no doubt see a shift away from core and the new “super core” measures of inflation which for newer readers basically ignore what are really important.

Losers

These are the net oil importers which are most of us. In terms of economic effect the standard view has been this from FXCM.

Data analysed by the Federal Reserve shows that a 10 percent increase in the price of oil is associated with about a 1.4 percent drop in the level of U.S. real GDP.

The 10% depends on the actual price but that has been a standard with the Euro area thinking there would be the same effect on it from a US $5 move. Of course these days the US would see more offset from the shale industry and I think worldwide the advance of renewable energy would help at the margins. But a higher oil price leads to a net loss overall as the importers are assumed to fall by more than the exporters rise. Geographically one thinks of China, Japan and India.

The effect on inflation is unambiguously bad and let me offer a critique of the central banking view above. The impact of inflation on real wages will make workers and consumers worse and not better off reminding us that central bankers have long since decoupled from reality.

Comment

There are a couple of perspectives here. The first is that in any warlike situation the truth is the first casualty. This leads to a situation where we do not know how long Saudi oil output will be reduced for, which means that we do not know how long there will be an upwards push on the oil price. Next comes a situation where looking ahead there will be fears that attacks like this could happen again. That is in some way illogical as defences will no doubt be improved but is part of human nature especially as we now know how concentrated the production facilities are in Saudi Arabia.

Another perspective is provided by the fact that the oil price is back to where it was in May and some of July.

Oh and central bankers used to respond to this sort of thing with interest-rate increases whereas later this week we are expecting an interest-rate cut from the US Federal Reserve. How times change…..

Podcast

Thank you to those of you who have supported this as the listener numbers on Soundcloud on Saturday alone exceeded any previous week..

 

Are we on the road to a US $100 oil price?

As Easter ends – and one which was simply glorious in London – those of us reacquainting ourselves with financial markets will see one particular change. That is the price of crude oil as the Financial Times explains.

Crude rose to a five-month high on Tuesday, as Washington’s decision to end sanctions waivers on Iranian oil imports buoyed oil markets for a second day.  Brent, the international oil benchmark, rose 0.8 per cent to $74.64 in early European trading, adding to gains on Monday to reach its highest level since early November. West Texas Intermediate, the US marker, increased 0.9 per cent to $66.13.

If we look for some more detail on the likely causes we see this.

The moves came after the Trump administration announced the end of waivers from US sanctions granted to India, China, Japan, South Korea and Turkey. Oil prices jumped despite the White House insisting that it had worked with Saudi Arabia and the United Arab Emirates to ensure sufficient supply to offset the loss of Iranian exports. Goldman Sachs said the timing of the sanctions tightening was “much more sudden” than expected, but it played down the longer-term impact on the market.

 

So we see that President Trump has been involved and that seems to be something of a volte face from the time when the Donald told us this on the 25th of February.

Oil prices getting too high. OPEC, please relax and take it easy. World cannot take a price hike – fragile! ( @realDonaldTrunp)

After that tweet the oil price was around ten dollars lower than now. If we look back to November 7th last year then the Donald was playing a very different tune to now.

“I gave some countries a break on the oil,” Trump said during a lengthy, wide-ranging press conference the day after Republicans lost control of the House of Representatives in the midterm elections. “I did it a little bit because they really asked for some help, but I really did it because I don’t want to drive oil prices up to $100 a barrel or $150 a barrel, because I’m driving them down.”

“If you look at oil prices they’ve come down very substantially over the last couple of months,” Trump said. “That’s because of me. Because you have a monopoly called OPEC, and I don’t like that monopoly.” ( CNBC)

If we stay with this issue we see that he has seemingly switched quite quickly from exerting a downwards influence on the oil price to an upwards one. As he is bothered about the US economy right now sooner or later it will occur to him that higher oil prices help some of it but hinder more.

Shale Oil

Back on February 19th Reuters summarised the parts of the US economy which benefit from a higher oil price.

U.S. oil output from seven major shale formations is expected to rise 84,000 barrels per day (bpd) in March to a record of about 8.4 million bpd, the U.S. Energy Information Administration said in a monthly report on Tuesday……..A shale revolution has helped boost the United States to the position of world’s biggest crude oil producer, ahead of Saudi Arabia and Russia. Overall crude production has climbed to a weekly record of 11.9 million bpd.

Thus the US is a major producer and the old era has moved on to some extent as the old era producers as I suppose shown by the Dallas TV series in the past has been reduced in importance by the shale oil wildcatters. They operate differently as I have pointed out before that they are financed with cheap money provided by the QE era and have something of a cash flow model and can operate with a base around US $50. So right now they will be doing rather well.

Also it is not only oil these days.

Meanwhile, U.S. natural gas output was projected to increase to a record 77.9 billion cubic feet per day (bcfd) in March. That would be up more than 0.8 bcfd over the February forecast and mark the 14th consecutive monthly increase.

Gas production was about 65.5 bcfd in March last year.

Reinforcing my view that this area has a different business model to the ordinary was this from Reuters earlier this month.

Spot prices at the Waha hub fell to minus $3.38 per million British thermal units for Wednesday from minus 2 cents for Tuesday, according to data from the Intercontinental Exchange (ICE). That easily beat the prior all-time next-day low of minus $1.99 for March 29.

Prices have been negative in the real-time or next-day market since March 22, meaning drillers have had to pay those with pipeline capacity to take the gas.

So we have negative gas prices to go with negative interest-rates, bond yields and profits for companies listing on the stock exchange as we mull what will go negative next?

Economic Impact on Texas

Back in 2015 Dr Ray Perlman looked at the impact of a lower oil price ( below US $50) would have on Texas.

To put the situation in perspective, based on the current situation, I am projecting that oil prices will likely lead to a loss of 150,000-175,000 Texas jobs next year when all factors and multiplier effects are considered.  Overall job growth in the state would be diminished, but not eliminated.  Texas gained over 400,000 jobs last year, and I am estimating that the rate of growth will slow to something in the 200,000-225,000 per year range.

Moving wider a higher oil price benefits US GDP directly via next exports and economic output or GDP and the reverse from a lower one. We do get something if a J-Curve style effect as the adverse impact on consumers via real wages and business budgets will come in with a lag.

The World

The situation here is covered to some extent by this from the Financial Times.

In currency markets, the Norwegian krone and Canadian dollar both rose against the US dollar as currencies of oil-exporting countries gained.

There is a deeper impact in the Middle East as for example there has been a lot of doubt about the finances of Saudi Arabia for example. This led to the recent Aramco bond issue ( US $12 billion) which can be seen as finance for the country although ironically dollars are now flowing into Saudi as fast as it pumps its oil out.

The stereotype these days for the other side of the coin is India and the Economic Times pretty much explained why a week ago.

A late surge in oil prices is expected to increase India’s oil import bill to its five-year high. As per estimates, India could close 2018-19 with crude import bill shooting to $115 billion, a growth of 30 per cent over 2017-18’s $88 billion.

This adds to India’s import bill and reduces GDP although it also adds to inflationary pressure and also perhaps pressure on the Reserve Bank of India which has cut interest-rates twice this year already. The European example is France which according to the EIA imports some 55 million tonnes of oil and net around 43 billion cubic meters of natural gas. It does offset this to some extent by exporting electricity from its heavy investment in nuclear power and that is around 64 Terawatt hours.

The nuclear link is clear for energy importers as I note plans in the news for India to build another 12.

Comment

There are many ways of looking at this so let’s start with central banks. As I have hinted at with India they used to respond to a higher oil price with higher interest-rates to combat inflation but now mostly respond to expected lower aggregate demand and GDP with interest-rate cuts. They rarely get challenged on this U-Turn as we listen to Kylie.

I’m spinning around
Move outta my way
I know you’re feeling me
‘Cause you like it like this
I’m breaking it down
I’m not the same
I know you’re feeling me
‘Cause you like it like this

Next comes the way we have become less oil energy dependent. One way that has happened has been through higher efficiency such as LED light bulbs replacing incandescent ones. Another has been the growth of alternative sources for electricity production as right now in my home country the UK it is solar (10%) wind (15%) biomass (8%) and nukes (18%) helping out. I do not know what the wind will do but solar will of course rise although its problems are highlighted by the fact it falls back to zero at night as we continue to lack any real storage capacity. Also such moves have driven prices higher.

As to what’s next? Well I think that there is some hope on two counts. Firstly President Trump will want the oil price lower for the US economy and the 2020 election. So he may grow tired of pressurising Iran and on the other side of the coin the military/industrial complex may be able to persuade Saudi Arabia to up its output. Also we know what the headlines below usually mean.

Podcast

Good to see UK wages rising much faster than house prices at last

Today feels like spring has sprung and I hope it is doing the same for you, or at least those of you also in the Northern Hemisphere. The economic situation looks that way too at least initially as China has reported annual GDP growth of 6.4% for the first quarter of 2019. However the industrial production data has gone in terms of annual rates 5.8%,5.9%,5.4%,5.7%, 5.3% and now 8.7% in March which is the highest rate for four and a half years. Or as C+C Music Factory put it.

Things that make you go, hmm
Things that make you go, hmm
Things that make you go, hmm, hey
Things that make you go, hmm, hmm, hmm

In the UK we await the latest inflation data and we do so after another in a sequence of better wage growth figures. In its Minutes from the 20th of March the Bank of England looked at prospects like this.

Twelve-month CPI inflation had risen slightly in February to 1.9%, in line with Bank staff’s expectations
immediately prior to the release, and slightly above the February Inflation Report forecast. The near-term path
for CPI inflation was expected to be a touch higher than at the time of the Committee’s previous meeting,
though remaining close to the 2% target over the coming months. This partly reflected a 6% increase in sterling
spot oil prices, and the announcement by Ofgem on 7 February of an increase in the caps for standard variable
and pre-payment tariffs, from April, which had been somewhat larger than expected.

I do like the idea of claiming you got things right just before the release, oh dear! Also it is not their fault but the price cap for domestic energy rather backfired and frankly looks a bit of a mess. It will impact on the figures we will get in a month.

Prospects

Let us open with the oil prices mentioned by the Bank of England as the price of a barrel of Brent Crude Oil has reached US $72 this morning. So a higher oil price has arrived although we need context as it was here this time last year. The rise has been taking place since it nearly touched US $50 pre-Christmas. Putting this into context we see that petrol prices rose by around 2 pence per litre in March and diesel by around 1.5. So this will be compared with this from last year.

When considering the price of petrol between February and March 2019, it may be useful to note that the average price of petrol fell by 1.6 pence per litre between February and March 2018, to stand at 119.2 pence per litre as measured in the CPIH.

Just for context the price now is a penny or so higher but the monthly picture is of past falls now being replaced by a rise. Also just in case you had wondered about the impact here it is.

A 1 pence change on average in the cost of a litre of motor fuel contributes approximately 0.02 percentage points to the 1-month change in the CPIH.

If we now switch to the US Dollar exchange rate ( as the vast majority of commodities are priced in dollars) we see several different patterns. Recently not much has changed as I think traders just yawn at Brexit news although we have seen a rise since it dipped below US $1.25 in the middle of December. Although if we look back we are around 9% lower than a year ago because if I recall correctly that was the period when Bank of England Governor Mark Carney was busy U-Turning and talking down the pound.

So in summary we can expect some upwards nudges on producer prices which will in subsequent months feed onto the consumer price data. Added to that is if we look East a potential impact from what has been happening in China to pig farming.

Chinese pork prices are expected to jump more than 70 percent from the previous year in the second half of 2019, an agriculture ministry official said on Wednesday………China, which accounts for about half of global pork output, is struggling to contain an outbreak of deadly African swine fever, which has spread rapidly through the country’s hog herd.

That is likely to have an impact here as China offers higher prices for alternative sources of supply. So bad news for us in inflation terms but good news for pig farmers.

Today’s Data

I would like to start with something very welcome and indeed something we have been waiting for on here for ages.

Average house prices in the UK increased by 0.6% in the year to February 2019, down from 1.7% in January 2019 . This is the lowest annual rate since September 2012 when it was 0.4%. Over the past two years, there has been a slowdown in UK house price growth, driven mainly by a slowdown in the south and east of England.

This means that if we look at yesterday’s wage growth data then any continuation of this will mean that real wages in housing terms are rising at around 3% per annum. There is a very long way to go but at least we are on our way.

The driving force is this and on behalf of three of my friends in particular let me welcome it.

The lowest annual growth was in London, where prices fell by 3.8% over the year to February 2019, down from a decrease of 2.2% in January 2019. This was followed by the South East where prices fell 1.8% over the year.

As they try to make their way in the Battersea area prices are way out of reach of even what would be regarded as good salaries such that they are looking at a 25% shared appreciation deal as the peak. Hopefully if we get some more falls they will be able to average down by raising  to 50% and so on but that is as Paul Simon would say.

Everybody loves the sound of a train in the distance
Everybody thinks it’s true

One development which raises a wry smile is that house price inflation is now below rental inflation.

Private rental prices paid by tenants in the UK rose by 1.2% in the 12 months to March 2019, up from 1.1% in February 2019……..London private rental prices rose by 0.5% in the 12 months to March 2019, up from 0.2% in February 2019.

What that tells us is not as clear as you might think because the numbers are lagged. Our statisticians keep the exact lag a secret but I believe it to be around nine months. So whilst we would expect rents to be pulled higher by the better nominal and real wage data the official rental series will not be showing that until the end of the year

Comment

The development of real wages in housing terms is very welcome. Of course the Bank of England will be in a tizzy about wealth effects but like so often they are mostly for the few who actually sell or look to add to their mortgage as opposed to the many who might like to buy but are presently priced out. Also existing owners have in general had a long good run. Those who can think back as far as last Thursday might like to mull how house price targeting would be going right now?

Moving to consumer inflation then not a lot happened with the only move of note being RPI inflation nudging down to 2.4%. The effects I described above were in there but an erratic item popped up and the emphasis is mine.

Within this group, the largest downward effect came from games, toys and hobbies, particularly computer games

If a new game or two comes in we will swing the other way.

Looking further up the line I have to confess this was a surprise with the higher oil price in play.

The growth rate of prices for materials and fuels used in the manufacturing process was 3.7% on the year to March 2019, down from 4.0% in February 2019.

So again a swing the other way seems likely to be in play for this month.

Meanwhile,what does the ordinary person think? It is not the best of news for either the Bank of England or our official statisticians.

Question 1: Asked to give the current rate of inflation, respondents gave a median answer of 2.9%, compared to 3.1% in November.

Question 2a: Median expectations of the rate of inflation over the coming year were 3.2%, remaining the same as in November.

The fall in the price of crude oil is a welcome development for UK inflation

One of the problems of official statistics is that we have to wait to get them. Of course numbers have to be collected, collated and checked and in the case of inflation data it does not take that long. After all we receive October’s data today. But yesterday saw some ch-ch-changes which will impact heavily on future producer price trends as you can see below.

Oil traders’ worries over record supplies arriving in Asia just as the outlook for its key growth economies weakens have pulled down global crude benchmarks by a quarter since early October. Ship-tracking data shows a record of more than 22 million barrels per day (bpd) of crude oil hitting Asia’s main markets in November, up around 15 percent since January 2017, and an increase of nearly 5 percent since the start of this year.

Not only is supply higher but there are issues over likely demand.

China, Asia’s biggest economy, may see its first fall in car sales on record in 2018 as consumption is stifled amid a trade war between Washington and Beijing.

In Japan, the economy contracted in the third quarter, hit by natural disasters but also by a decline in exports amid the rising protectionism that is starting to take its toll on global trade.

And in India, a plunging rupee has resulted in surging import costs, including for oil, stifling purchases in one of Asia’s biggest emerging markets. India’s car sales are also set to register a fall this year.

You may note along the way that this is a bad year for the car industry as we add India to the list of countries with lower demand. But as we now look forwards supply seems to be higher partly because the restrictions on Iran are nor as severe as expected and demand lower. Does that add up to the around 7% fall in crude oil benchmarks yesterday? Well it does if we allow for the fact that it seems the market has been manipulated again.

Hedge funds and other speculative money have swiftly changed from the long to the short side.

When the bank trading desks mostly withdrew from punting this market it would seem all they did was replace others. Of course OPEC is the official rigger of this market but its effort last weekend did not cut any mustard. So we advance with Brent Crude Oil around US $66 per barrel and before we move on let us take a moment for some humour.

As recently as September and October, leading oil traders and analysts were forecasting oil prices of $90 or even $100 a barrel by year-end.

Leading or lagging?

The UK Pound £

This can be and indeed often is a powerful influence except right now as the film Snatch put it, “All bets are off!” This is because it will be bounced around in the short-term ( and who knows about the long-term) by what we might call Brexit Bingo Bongo. Personally I think the deal was done weeks and maybe months ago and that in Yes Prime Minister style the Armistice celebrations gave a perfect opportunity to settle how it would be presented to us plebs. For those who have not seen Yes Prime Minister its point was such meetings are perfect because everybody thinks you are doing something else. The issue was whether it could be got through Parliament which for now is unknown hence the likely volatility.

Producer Prices

These are the official guide to what is coming down the inflation pipeline.

The headline rate of output inflation for goods leaving the factory gate was 3.3% on the year to October 2018, up from 3.1% in September 2018. The growth rate of prices for materials and fuels used in the manufacturing process slowed to 10.0% on the year to October 2018, from 10.5% in September 2018.

Except if we now bring in what we discussed above you can see the issue at play.

Petroleum and crude oil provided the largest contribution to both the annual and monthly rates of inflation for output and input inflation respectively.

They bounce the input number around and also impact on the output series.

The monthly rate of output inflation was 0.3%, with the largest upward contribution from petroleum products (0.14 percentage points). The monthly growth for petroleum products rose by 0.5 percentage points to 2.0% in October 2018.

Actually the impact is higher than that because if we look at another influence which is chemical and pharmaceutical products they too are influenced by energy costs and the price of oil. So next month will see quite a swing the other way if oil price remain where they are. We have had a 2018 where oil prices have been well above their 2017 equivalent whereas now they are not far from level ( ~3% higher).

Inflation now

We saw a series of the same old song.

The all items CPI annual rate is 2.4%, unchanged from last month……..The all items RPI annual rate is 3.3%, unchanged from last month.

This was helped by something especially welcome to all but central bankers who of course do not partake in any non-core activities.

Food prices remain little changed since the start of 2018 and fell by 0.1% between September and October 2018 compared with a rise of 0.5% between the same
two months a year ago.

Happy days in particular if you are a fan of yoghurt and cheese. The other factor was something which an inflation geek like me will be zeroing in on.

Clothing and footwear, where prices fell between September and October 2018 but rose between
the same two months a year ago.

There is an issue of timing as we are in the Taylor Swift zone of “trouble,trouble,trouble” on that front but this area is a big issue in the inflation measurement debate. Let me look at this from a new perspective presented by Sarah O’Connor of the FT.

Online fast-fashion brands have enjoyed success catering to what Boohoo calls the “aspirational thrift” of young millennials. They sell clothes that are often made close to home so that they can be produced more quickly in response to customer trends. “Our recent evidence hearing raised alarm bells about the fast-growing online-only retail sector,” said Mary Creagh, the committee’s chair. “Low-quality £5 dresses aimed at young people are said to be made by workers on illegally low wages and are discarded almost instantly, causing mountains of non-recycled waste to pile up.”

This is a direct view on the area of fast and often disposable fashion which is one of the problem areas of UK inflation measurement. There are issues here of poverty wages and recycling. But the inability of our official statisticians to keep up with this area is a large component of the gap between CPI and RPI, otherwise known as the “formula effect”.

Comment

The fall in the price of crude oil is a very welcome development for the trajectory of UK inflation. Should it be sustained then we may yet see UK inflation fall back to its target of 2% per annum. For example the price of fuel at the pump is some 10 pence per litre higher than a year ago for petrol and 14 pence per litre higher than a year ago for diesel, so the drop is not in the price yet. That may rule out an influence for November’s figures but we could see an impact in December. Other prices will be influenced too although probably not domestic energy costs which for other reasons only seem to go up. But as we looked at yesterday the development would be good for real wages where we scrabble for every decimal point.

Meanwhile I have left the “most comprehensive” measure of inflation to last which is what it deserves. This is because the CPIH measure ignores a well understood and real price – what you pay for a house – which is rising at an annual rate of 3.5% and replaces it with Imputed Rents which are never paid to get this.

The OOH component annual rate is 1.1%, up from 1.0% last month.

But I do not need to go on because the body that has pushed for this which is Her Majesty’s Treasury which plans to save a fortune by using it may be having second thoughts if it’s media output is any guide.

 

What is the economic impact of a US $100 price for crude oil?

The last few days have seen something of an explosion in mentions of a one hundred-dollar price for crude oil. Usually they mean the price for Brent Crude Oil which went above US $86 per barrel last week and is now around US $84. This means that we have seen a 50% rally over the past year for it. Some care  is needed as the other main benchmark called West Texas Intermediate is around ten dollars lower at around US $74 per barrel. The last time we saw the spread between these two indices widening then it looked like the bank trading desks and especially the Vampire Squid were to blame and it went as wide as twenty dollars. For those wondering what the Russians get then the Urals benchmark is around 4 or 5 dollars lower than Brent but what always amazes me is the price that Canada get. The price of Western Canada Select is US $25.20 although it was as high as US $58 in the summer. Whatever the cause it is a very odd price for a type of oil that is relatively expensive to produce.

Economic effects

The Far East

The Financial Times took a look at some research on the impact here.

According to Citi’s Johanna Chua, Asian countries suffer the most when oil prices rise because, aside from Malaysia, most are net oil importers. Singapore runs a sizable 6.5 per cent oil and gas deficit, followed closely by Pakistan, Thailand, Sri Lanka and Taiwan. Indonesia and Vietnam manage slightly smaller deficits of roughly 1 per cent.

Given this exposure, many of these economies see the largest inflation swings when oil prices rise…….Sri Lanka, the Philippines and Vietnam lead the pack, with Thailand, India and Taiwan rounding out the top six:

They do not say it but we are of course aware that especially these days inflation rises can have a strong economic impact via their impact on real wages. Of course if an economy is vulnerable higher oil prices can push it over the edge and it has hit Pakistan.From the International Monetary Fund or IMF.

The fast rise in international oil prices, normalization of US monetary policy, and tightening financial conditions for emerging markets are adding to this difficult picture. In this environment, economic growth will likely slow significantly, and inflation will rise.

Some of the impact of the IMF arriving again in Lahore feels eye-watering.

The team welcomes the policy measures implemented since last December. These include 18 percent cumulative depreciation of the rupee, interest rate increases of cumulatively 275 bps, fiscal consolidation through the budget supplement proposed by the minister of finance, a large increase in gas tariffs closer to cost recovery levels, and the proposed increase in electricity tariffs. These measures are necessary steps that go in the right direction.

Whether the population in what is a poor country think this is in the right direction is a moot point but as a cricket fan let me wish the administration of Imran Khan well. Sadly just as I type this the price of oil has just risen another 8.5% via this morning’s devaluation.

What the research above seems to have skipped over to my mind is the impact on China as according to WTEx it was 18.6% of the world’s oil imports totaling US $162 billion last year. Its own production is in decline according to OilPrice.com.

Crude oil production alone fell by an annual 4 percent to 191.51 million tons — or about 3.85 million bpd in 2017 — to the lowest in nine years, due to maturing fields and few viable new discoveries at home.

So we are left wondering how strong a factor the higher oil price was in the monetary easing in China last weekend?

First World

The FT gives us a familiar list of those it expects to be impacted.

For Bank of America Merrill Lynch’s Ethan Harris, Japan, Europe and the UK are “clear losers,” with growth there coming under pressure by 0.2 to 0.5 percentage points next year. Not only do all three import their oil, but also, households in Europe and the UK save little, leaving them with smaller nest eggs to buffer price increases.

I am not sure about the latter point but much of this is familiar with Japan being a big energy importer and Europe not a lot different.The UK became a net importer a while back although there have been some changes recently. What I mean by that is that according to the official data we are importing less and producing slightly more. Firstly that is not quite the picture on North Sea Oil we are sometimes told which did fall but seems currently stable whereas we are using less (-7.4% in the latest quarter). Perhaps it is the impact of a growing share of renewables in electricity production which is 20% or just under 7 Gigawatts as I type this.

Inflation

The IMF researched the impact of a higher oil price last year.

A 10 percent increase in global oil inflation increases, on average, domestic inflation by about 0.4 percentage at impact. The effect is short-lasting—vanishing two years after the shock—, similar between advanced and developing economies and tends to be larger for positive oil price shocks than for negative ones.

I am sure that nobody is surprised that there is more enthusiasm for raising than there is for cutting prices! If we translate that into what we have seen over the past 12 months then the IMF would expect to see a rise in inflation of 2% due to this. More accurately we should say up to as not all prices have risen as much as Brent Crude.

The Winners

There are obvious winners here such as Saudi Arabia and several other Gulf States, Russia, Canada, Brazil and Mexico. Some African countries such as Ghana and Nigeria will benefit and the Norwegian sovereign wealth fund will have to invest even more money. But as it is American foreign policy which has driven the reduction in supply mostly via pressure and embargoes on Iran it is rude to point this out?

Crude oil production in the U.S. shale patch will hit 7.59 million bpd next month, the Energy Information Administration said in its latest Drilling Productivity Report. This is 79,000 bpd more than this month’s estimated production. ( OilPrice.com )

I have written before that due to their high debts this industry is driven by cash flows which currently are pouring in.Is it a coincidence that US foreign policy is so beneficial for them? Or if we go deeper the role of QE and low interest-rates in the shale oil business model.

Comment

Some mathematical economists may be sure there is no impact as overall this is a zero sum game. Also for central bankers the oil price is non-core but in reality it does have an impact as oil producers spend less than oil importers on average.

 If oil prices head above US$100 a barrel, it could shave 0.2 percentage points from global economic growth next year – but this hinges crucially on the US dollar, according to Bank of America Merrill Lynch. ( Straits Times)

I think it might be more than that but the issue is never simple. Also they are right to point out that the US Dollar has strengthened when the convention is for it to fall with an oil price rise. Continuing my theme above is it rude to point out that the US military industrial complex is likely to be a major beneficiary from the extra cash flowing into the Gulf?

There is a catch here which is that so far we have seen “experts” promise us US $200 oil and US $20 oil and we have seen neither? So perhaps we should be looking at the economic effect of an oil price fall.Meanwhile one likely winner from the oil price rises has managed via extreme incompetence to be a loser.

VENEZUELA INFLATION TO REACH 10 MILLION PERCENT IN 2019: IMF ( @lemasabachthani )

 

 

 

 

 

 

 

What is the trend for inflation?

The issue of inflation is one which regularly makes the headlines in the financial media. However the credit crunch era has seen several clear changes in the inflation environment. The first is the way that wage and price inflation broke past relationships. There used to be something of a cosy relationship where for example in my country the UK it was assumed that if inflation was 2% then wage growth would be around 4%. Actually if you look at the numbers pre credit crunch that relationship had already weakened as real wage growth was more like 1% than 2% but at least there was some. Whereas now we see many situations where real wage growth is at best small and others where there has not been any. For example the “lost decade” in Japan which of course is now more than two of them can in many respects be measured by (negative) real wage growth. Even record unemployment levels have failed to do much about this so far although the media have regularly told us it has.

At first inflation dipped after the credit crunch but was then boosted as many countries raised indirect taxes ( VAT in the UK) to help deal with ballooning fiscal deficits.. There was also the really rather odd commodity price boom that made it look like all the monetary easing was stoking the inflationary fires. I still think the bank trading desks which were much larger back then were able to play us through that phase. But once that was over it became plain that whilst via house prices for example we had asset price inflation we had weaker consumer price inflation which around 2016 became no inflation for the latter and for a time we had disinflation. This was the time when the “Deflation Nutters” became a little like Chicken Licken and told us the economic world would end. Whereas that was in play only in Greece and for the rest of us things changed as easily as an oil price rise. Also recorded consumer inflation would not have been so low if house and asset prices were in the measures as opposed to being ignored?

What about now?

The United States is in some ways a generic guide mostly because it uses the reserve currency the US Dollar. Whilst there have been challenges to its role such as oil price in Yuan it is still the main player in commodities markets. Yesterday we were updated by  on what is on its way.

The Producer Price Index for final demand rose 0.3 percent in June, seasonally adjusted, the U.S. Bureau of Labor Statistics reported today. Final demand prices advanced 0.5 percent in May and 0.1 percent in April.  On an unadjusted basis, the final demand index moved up 3.4
percent for the 12 months ended in June, the largest 12-month increase since climbing 3.7 percent in November 2011.

As we look at the factors at play we see the price of oil yet again as it looks like being an expensive summer for American drivers.

Over 40 percent of the advance in the index for final demand services is attributable
to a 21.8-percent jump in the index for fuels and lubricants retailing.

There was also maybe a surprise considering the state of the motor industry.

A major factor in the June increase in prices for final demand goods was the index
for motor vehicles, which moved up 0.4 percent.

We can look even further down the chain to what is called intermediate demand.

For the 12 months ended in June, the index for
processed goods for intermediate demand increased 6.8 percent, the largest 12-month rise since
jumping 7.2 percent in November 2011.

As you can see this is moving in tandem with the headline but do not be too alarmed by the doubling in the rate as these numbers fade as they go through the system as they get diluted for example by indirect taxes and the like. Peering further we see a hint of a possible dip and as ever the price of oil is a major player.

For the 12 months ended in June, the index for unprocessed goods for
intermediate demand increased 5.8 percent…..Most of the June decline in the index for unprocessed goods for intermediate demand can be traced to a 9.5-percent drop in prices for crude petroleum.

Such numbers which we call input inflation in the UK are heavily influenced by the oil price and in our case around 70% of changes are the Pound £ and the oil price. As the currency is not a factor for the US so much of this is oil price moves. That is of course awkward for central bankers who consider it to be non core.If you ever are unsure of the definition of non-core factors then a safe rule of thumb is that it is made up of things vital to life.

Commodity Prices

We find that if we look at commodity prices the pressure has recently abated. Yesterday;s falls took the CRB Index to 435 which compares to the 452 of a month ago and is pretty much at the level at which it started 2018 ( 434). The factor that has been pulling the index lower has been the decline in metals prices. The index for metals peaked at 985 in late  April as opposed to the 895 of yesterday.

OilPrice.com highlighted this yesterday.

Two weeks ago, Hootan Yazhari, head of frontier markets equity research at Bank of America Merrill Lynch,said Trump’s push to disrupt Iranian oil production could cause oil prices to hit $90 per barrel by the end of the second quarter of next year. Others have forecasted even higher prices, breaching the $100 plus per barrel price point.

Unfortunately for them whilst they may turn out to be right there are presentational issues it informing people of that on a day when events are reported like this by the BBC.

Brent crude dropped 6.9% – the biggest decline in more than two years – to end at $73.40 a barrel for the global benchmark………Wednesday’s sell-off started after the announcement by Libya’s National Oil Corp that it would reopen four export terminals that had been closed since late June, shutting most of the country’s oil output.

Comment

We see that the move towards higher inflation has this month shown signs of peaking and maybe reversing. Of course some of this is based on a one day move in the oil price but there are possible reasons to think that this signified something deeper. From Platts.

Russia and Saudi Arabia raised their oil production by a combined 500,000 b/d, and OPEC crude output hit a four-month high of 31.87 million b/d in June, reflecting agreement on easing output cuts, the IEA said Thursday.

Another factor is the Donald as President Trump is in play in so many areas here via the impact of his trade policies which have clearly impacted metals prices for example.Also his threats to Iran pushed the oil price the other way.

For those of us who do not use the US Dollar as a currency there is another effect driven by the fact that it has been strong recently which will tend to raise inflation. This will be received in different ways as for example there may have been a celebratory glass of sake at the Bank of Japan as the Yen weakened through 112 versus the US Dollar but others will (rightly) by much less keen. This is because returning to the theme of my opening paragraph wage growth has plainly shifted lower worldwide which means that those who panicked about deflation actually saw reflation as real wages did better.

As a final point it is hard not to have a wry smile at yesterday’s topic which was asset price inflation on the march in Ireland. So much of this is a matter of perspective.