There has been enough speculation and debate about whether US and UK are in recession or not. It does not matter whether we call it a economic slowdown or wait for a committee to call it a recession but every economist must realise that there are 2 separate aspects of the global economic situation that need to be dealt with.
- The first one is the obvious credit turmoil that has left the big banks writing down more than USD 200B worth of assets.
- The second one is the less obvious global inflation or the bull run on commodities.
For the past 9 months, the Fed has tried to put a lid on the credit crises by cutting interest rates and providing emergency funding to banks. Interest rates were cut in line with market expectations to restore confidence, but after the collapse of Bear, the Fed realised that the rate cuts were only delaying the whistle from blowing off. The emergency funding made available to the banks is what was needed to bring down CDS spreads and improve liquidity in the credit markets.
The credit liquidity situation has improved, however a bigger problem has been rising in the backyard. The commodities market has had a good run for the past couple of years. The returns on commodities have been so good that institutional investments have increased their investments in commodities almost fivefold in the past few years. In a nutshell, commodities prices were increasing up to 2007. As the credit crises started in June 2007, many investors switched their investments from credit products to commodities and equities (note that NYSE and S&P were at their highest in Sept 2007 which was well into the credit crises). In addition, the Fed started cutting rates in hope of increasing spending from the average consumer. The combined result of the two was a higher demand for commodities both at the investment and the consumer end. A depreciating USD further fuelled an increase in prices as these are quoted in USD.
These factors resulted in the following change in commodity prices on a YTD(year to date) basis:
The overall impact of the events in the past 1 year has been a drastic increase in the commodity prices that effect consumers all across the world. While both the Fed and BOE(which cut rates recently) are trying to get a hold on the credit crises and improve the housing market, they are paying little attention to the impact it has had on the prices of goods that effect every single consumer(not just homeowners) all across the world.
The question that needs to be answered is how far will this commodity bull run continue and will it become a bubble heading for a burst. And if so, what impact will it have on the global economic situation in the current slowdown. While the credit crises primarily impacted banks, institutional investors and potential homeowners in the US and UK, a commodity bubble will impact economies across the world. Those who believe in the decoupling of emerging markets from the west will have to answer.
The credit liquidity situation has improved, however a bigger problem has been rising in the backyard. The commodities market has had a good run for the past couple of years. The returns on commodities have been so good that institutional investments have increased their investments in commodities almost fivefold in the past few years. In a nutshell, commodities prices were increasing up to 2007. As the credit crises started in June 2007, many investors switched their investments from credit products to commodities and equities (note that NYSE and S&P were at their highest in Sept 2007 which was well into the credit crises). In addition, the Fed started cutting rates in hope of increasing spending from the average consumer. The combined result of the two was a higher demand for commodities both at the investment and the consumer end. A depreciating USD further fuelled an increase in prices as these are quoted in USD.
These factors resulted in the following change in commodity prices on a YTD(year to date) basis:
- Brent Crude Oil 71% increase
- Corn 66% increase
- Cotton 50% increase
- Soyabean 90% increase
- Wheat 76% increase
- Sugar 18% increase
The overall impact of the events in the past 1 year has been a drastic increase in the commodity prices that effect consumers all across the world. While both the Fed and BOE(which cut rates recently) are trying to get a hold on the credit crises and improve the housing market, they are paying little attention to the impact it has had on the prices of goods that effect every single consumer(not just homeowners) all across the world.
The question that needs to be answered is how far will this commodity bull run continue and will it become a bubble heading for a burst. And if so, what impact will it have on the global economic situation in the current slowdown. While the credit crises primarily impacted banks, institutional investors and potential homeowners in the US and UK, a commodity bubble will impact economies across the world. Those who believe in the decoupling of emerging markets from the west will have to answer.
