Two types of inflation?
Assets Covered: Gold, Coil Steel
In case you haven’t heard, inflation is a thing again. Lumber, copper and nearly every agriculture commodity have all ripped higher this year. Good times for farmers and miners.
Everyone is aware of Friedman’s comment that “Inflation is always and everywhere a monetary phenomenon in the sense that it is and can be produced only by a more rapid increase in the quantity of money than in output.” That may be the case — and the monetary/fiscal policy impact warrants a much longer discussion, which covered in this week’s QuickHit here — but we’re actually seeing a couple types of inflation at the moment: one based on backlog/restocking and another based on the expectation of core goods price rises.
With restocking in the wake of Covid, supply constraints are the most acute inflationary pressure today. Supply chains slowed dramatically during the early days of Covid, both in the transportation process (ports, vessels, planes) and the manufacturing process (sawmills, slaughterhouses, etc). As US markets restock, Asia-US ocean freight rates are rising 75–100% as contracts renew. And sawmills in the southern US, for example, are running at 93% capacity while the fees paid for unsawn trees are at their lowest since 2011. Some of this rise is intensified through speculation (this is normal), but we believe that we’ll see much of the current rate of price rises alleviated in Q3.
The second type of inflation is core goods price rises. This could be through a demand pull, a semi-permanent currency devaluation, or semi-permanent supply constraint (or other reasons). While those reasons are certainly possible, we don’t see an abrupt and enduring reason for any of them.
A few charts to note:
Gold has been unloved so far in this rally. As we see other commodities begin to turn in Q3, we expect gold to perk up for a brief period.
Gold Futures (GC1) (CL1) — Forecasts until September 2021CI Futures generated this chart. Book a demo to see it live in action.
Steel has risen >40% since January. We expect steel’s rise to slow in June as prices settle around new levels.
US Midwest Domestic Hot-Rolled Coil Steel (CRU) Index Futures (HR1) — Forecasts until September 2021CI Futures generated this chart. Book a demo to see it live in action.
A more medium-term concern is deflation. Part of this will come next year when we see the base effects from this year’s rapid rise. A year from now, we’ll see lots of headlines from less experienced analysts and journalists decrying deflation, but it’ll likely simply be base effects. The larger concern is demand erosion due to demographic changes.
Populations are declining in Europe, Japan, Korea and now — possibly — China. With that, many of the long-term consumption drivers are deteriorating. Also, demand in many of these places is not returning on a sustainable basis. We see some countries only partially opening because of demographic concerns about (and political pressures from) aged communities. Unless there are prolonged supply constraints or enduring devaluation of major currencies, we just don’t see this as a long-term trend.
Another major risk here worth noting is currency debasement. If the Fed and US Treasury, especially, intentionally debase the US dollar, this could hurt emerging markets and middle-income countries through secondary impacts of commodity price inflation. And with that, we could see major unrest and dramatic political changes.
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This CI Newsletter is originally published at https://www.completeintel.com/2021/04/29/two-types-of-inflation/.
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