Central Banks have spent a lot of time assuring everyone that everything is under control and that they will steer the world back to normalcy with their new monetarist magic while governments go on Keynesian spending programmes to ensure that everything doesn’t grind to a halt. The risk was always going to be inflation: hence the rise in prices of gold and cryptocurrencies since those seem like good hedges against floods of liquidity devaluing currencies quickly. Central Banks have now been quick to assure us that the inflation that has started to creep in is transitory and there is nothing wrong with lending out crates of money at near zero percent. But now a boatload of issues have washed up on shore and they need to be addressed or the transitory issue will turn out to be a more permanent visitor.
A combination of factors have all combined at the same time to create the conditions for longer-term inflationary pressures which could- as all inflationary cycles do, lead to self-fulfilling inflation. These have now started to cause consternation amongst policy makers at both central bank and government levels and both have started to take action. The way they respond to the challenges that have arisen and the effectiveness of such actions will decide whether the market has faith that inflation will pass or stay.
First off the bat is the much talked about but little really well understood supply chain bottlenecks. The easiest way to picture this would be re-starting machinery that has been idle for a while- like a car, for instance. The battery might need re-charging, the tyres reflating, the engine a bit of running in and so on before the car is running smoothly again. The breakdown in the supply chain is like that but more convoluted and the outcome is that delays in shipping times have meant cost escalations at both the transport cost end and price to customer end. Goods being shipped from China to the San Pedro Bay on the Californian coast now take 62 days- double the time it took in January 2020. Ships are now idling at US ports for weeks. The problem is complex: demand is back thanks to income support packages and re-opening but the supply side is failing to keep up because of a shortage of truckers in the US- estimated to be at 80,000 less than before, and warehouse workers as well as infrastructure shortfalls in chassis supply at the ports. Given the bottlenecks created by these shortages- especially in the face of a boom in e-commerce goods coming from China and Asia in the lockdown era, costs have escalated. Container costs themselves are now between US$ 10-15,000- 5 times what they were pre-pandemic. So, it comes as no surprise that goods are in short supply on the shelves- adding to the pricing pressure and panic all round.
Pouring oil on to the fire is…the price of oil. Although OPEC have committed to raising production in incremental steps as demand kicks in they haven’t kept up with the pace of demand growth- fearing returns to lockdowns (not unfounded given that major economies in Europe are again re-entering them) and sudden drop-offs in demand again. There is also the political angle to consider with the US at loggerheads with both Saudi Arabia (OPEC) and Russia (OPEC+) in a post-Trump reset of political equations. With the US President coming down hard on two of the largest oil exporters (and very particularly: their leaders) it isn’t hard to see this as political revenge being extracted by them. The political impact of inflation is being exploited by the Republican Party in the US even as the latest inflation print has just hit 6.2%. The US has secured the aid of some allies (China(!), India, South Korea and Japan) to release some oil stocks from their emergency holdings (technically a swap- a loan, from the US emergency stockpile) in an effort to beat down prices. The US is releasing 50 million barrels, India has released 5 million and China has announced that it will release reserves according to its needs; the market expectation is that over 60 million barrels released in 30 days or less would be negative for oil prices. Oil stockpiles have been rising and with Covid lockdowns and the oil release threat prices fell nearly 10% this week before climbing back up slightly. This is a short term measure at best and it remains to be seen how OPEC+, who meet next on 2nd December, will respond to this.
Wage renegotiations may be playing a role in the inflation rise in the US with many calls for a higher minimum wage, as might be large ticket government spending plans. But these are theoretical drivers of inflation and data is yet to come out about the actual push effect they have had on current price rises. This is why Janet Yellen, former Federal Reserve Chairman and current Treasury Secretary is restating that the US government feels that it is a transitory phenomenon linked to supply constraints even as she simultaneously urges the current Fed chairman Jerome Powell to take the necessary steps to stop inflation from becoming endemic. So, whilst she blames the current situation on a supply-demand mismatch she recognises that the two drivers that the Fed controls- liquidity and rates, are the key to putting brakes on the momentum. The Fed now has additional responsibility to help maintain a low unemployment rate in its mandate so they are caught on the horns of a dilemma.
On the other hand, there are voices like James Galbraith, professor at the University of Texas, who believes this bout of inflation is not a macroeconomic issue of supply and demand; no longer the old monetarist school of thinking and points fingers at oil prices and commodity speculation- both of which are being addressed by states. He firmly believes that the current run rate of inflation will spend itself out if oil prices and commodity speculation are brought under control but also if military spending in the United States is brought lower. An economic lesson of the Vietnam war was that increased military spending brought inflation with it. Galbraith says the US needs to cut and not increase the US military budget rather than cutting spending on infrastructure and welfare.
What matters now almost as much as the nature of the inflationary pressures is the way in which policy makers are seen to be on top of the situation. Whether it is logistical in nature (supply side bottlenecks); driven by ultra-easy monetary policies; due to speculation in commodities or because of global politics played over oil, the convergence of all these factors at once needs a methodical approach to unbundle the issues and deal with them systematically. Or else, we’ll all be hitting the panic button soon.