What a mess!
In England, as in America, consumers are caught between the hammer of inflation…
“Prices soar at the fastest rate for 17 years,” says a Daily Express headline.
…And the anvil of deflation…
“House prices fall at fastest rate since 1978,” proclaims the Guardian, with the BBC adding that U.K. housing gloom is “the worst in 30 years.”
Meanwhile, over in the financial sector, the Globe and Mail says the financial industry in London “could lose 40,000 jobs.”
But here at Markets and Money headquarters in London – in the building with the golden balls on the roof, just over Blackfriars Bridge, famous as the spot where Italian banker Roberto Calvi hung himself – we can step back and take the long view.
Prices rise. Assets fall. But what really hurts this time is that the price of an hour of Anglo-Saxon labor (which is all most Americans and Englishmen really have) is going down. (More about that later in the week…)
Do Americans care what happens to the Brits? Not particularly. Unfortunately, the two countries are both in the same boat…both had been sailing along so happily in the sloop: the “Anglo-Saxon” Economic Model. Now, they’re taking on water. It’s all hands on the pumps!
That is to say, both Americans and Brits borrowed too heavily. Now, the time has come to pay back…and no one is very happy about it.
Foreclosures in the United States were up in March, as expected. Bloomberg tells us they rose 57% “as homeowners walk away.”
They’re sure not driving away…they can’t afford to!
Oil hit a new record yesterday. At $114 it has never been more expensive. This is another way of saying that Americans and Englishmen have to work longer to buy a gallon. Gasoline is about $2.88 in New York. In old York, it is more like $10 a gallon.
“We’re not producing enough oil,” says Gordon Brown, Britain’s CEO.
In fact, we’re producing more than ever before. We’re producing so much…we may never again be able to produce so much. And still the price is rising. “Russian oil production is peaking,” says our man on the case, Byron King. His source is the Financial Times, reporting:
“Russian oil production has peaked and may never return to current levels, one of the country’s top energy executives has warned, fuelling concerns that the world’s biggest oil producers cannot keep up with rampant Asian demand.
“Leonid Fedun, the 52-year-old vice-president of Lukoil, Russia’s largest independent oil company, told the Financial Times he believed last year’s Russian oil production of about 10m barrels a day was the highest he would see ‘in his lifetime’. Russia is the world’s second biggest oil producer.”
Byron elaborates: “He wears the Red Star, I suppose. So you can trust him, right?”
“Most of the Western Siberia oil fields were discovered in the 1950s, 1960s and 1970s. Those fields are now in terminal, irreversible decline even with all the able assistance of the likes of Schlumberger and Baker Hughes. So maybe there was another reason that Putin stepped down as President? There are no coincidences, comrade. Old Russian saying goes, ‘Quit while you are ahead.’
“The genius behind much of USSR oil production was Nikolai Baibakov, who just died on March 31 at age 97. His post-WWII leadership of the Soviet oil industry led to discoveries that fueled the USSR, and later Russian Federation.
“Sic semper petroleos Russkoye.”
But let’s not get distracted. So what if oil output is falling?
Ah, dear reader, you’re torturing us with questions like that.
Don’t you know that the whole machinery of Western industrial civilization depends on cheap oil? And don’t you know that we now have to compete for every drop – with the communist Chinese, for example. Yes, their demand for the black goo is rising nearly 5% per year. And now that we’re not actually producing more and more each year, this extra demand…combined with monetary inflation…works on the price like a booster rocket – sending it into orbit.
But is this cycle over? Has the price of oil – which has gone from under $40 in 2001 to over $100 in 2008 – run its course? Is the bull market over?
*** “It doesn’t look like the party is over just yet,” says colleague Chris Mayer. “Since January 2001, you can explain the move in the price of oil largely as a function of the increasing money supply. As the amount of money grows, the price of oil rises. In fact, almost 87% of the move in the price of oil can be explained by the increase in money supply….”
As we’ve been saying – and we aren’t the first – inflation is a monetary phenomenon. Inflation that pushed the price or rice to another record high yesterday…and sent gold back up over $930.
But what does this imply about the price of oil going forward?
“Given that we are still in the midst of a credit crisis of sort, is seems unlikely the Fed will tighten money in any way at all,” Chris continues. “That leaves a clear path for the price of oil and commodities to continue to rally in nominal terms…”
Chris goes on to point out that oil is no longer merely a U.S. story. The rest of the world is uses more and more of it too. As a nation gets richer…its people use more and more oil…until it reaches a peak…and then oil consumption levels off. That’s why people in Britain drive Skodas instead of Chevrolets. They have reached a level of energy maturity…in which per capital consumption tends to stagnate below 20 barrels per person per year. U.S. energy consumption has leveled off at 25 barrels per person. Hong Kong, South Korea and Japan all have leveled off at about 15 barrels per person.
But China and India – the world’s two largest countries – “are only beginning to consume oil at any meaningful level,” Chris notes. They’ve got a long way to go – with huge jumps in the quantity of oil used – before they get anywhere near the levels of the developed world.
“The price of oil has room to run yet,” Chris concludes, “in part because of the growth in money supply and in part because of pressing international demand. Second, even if we already saw oil production peak, history says that prices won’t retreat by much over the next several years. And finally, the capital spending boom by the big oil companies is just getting started, which is great news for investors in oil field services companies.”
*** Of course, increases in money supply don’t affect ONLY the oil industry. We mentioned rice – which hit a new record yesterday, too.
If gold goes up in price, hardly anyone cares or notices. Oil, too, is something most people can live without. But food?
All over the world, food prices are causing havoc. Riots have broken out in Haiti, Indonesia, the Philippines, and Cameroon – because basic food staples…rice, wheat, corn, soybeans…have become so expensive.
Why are food prices high?
Normal agricultural cycles, is one reason we gave yesterday.
Another is the increasing worldwide demand.
Here’s a third reason – biofuels. On Monday, Britain passed a law requiring that 2% of fuel come from plants (actually, all of it is believed to come from plants…but oil, gas and coal have had millions of years to compress and ferment.) Since Britain doesn’t produce enough biofuel to meet the quota…she actually has to import the stuff on ships from America. Not only does it take more energy to produce the fuel than it generates…the Brits add the cost of shipping it across the Atlantic. But as we keep saying, there’s no problem so awful that politicians can find a way to make worse.
Markets and Money