Sunday, December 13, 2009

Top 5 Graphs of the week

Top 5 Graphs of the week

It's been a while since the last update, and things have changed since then. I already have a list of other charts and trends in economics I want to discuss. But for this week the focus is on inflation. In particular we look at recent inflation data coming out of the US, EU, and China. We also look at commodity prices, and recent movements in monetary policy. The overall theme is for a resurgence in inflation. This, it seems, is the reality; but the question is to what extent and when?

1. US Inflation
October's data revealed headline inflation in the US to be getting even closer to zero with -0.2% year on year vs -1.3% in September, there has been a clear bottoming out of headline inflation in the US, and it's probably safe to say that the brief period of deflation is out of the way. In the immediate term the positive trend is likely to continue - even if prices stay the same, due to a decrease in the comparator figure. Drilling into core inflation the figure was a respectable 1.7% year on year, vs 1.5% in Sep. This movement was particularly intriguing as core CPI strips away the effect of food and energy prices.

2. EU Inflation
This diverse area recorded positive inflation in the November flash estimate of 0.6%, having flirted briefly with deflation. The drivers of rebounding commodity prices and loose monetary conditions may be enough to underpin inflation in the near term until momentum comes through from broader economic recovery. The message is inflation, but not that much just yet.

3. China Inflation
China has gotten back into inflation. Of all 3 economies looked at here, this is the danger spot for inflation. You have hyper loan growth, hyper GDP growth, hyper money supply growth, relatively low interest rates and selling of the yuan to keep the fix against the USD. In theory this mix should have a very stimulatory effect on inflation in the middle kingdom. To date this has only gradually occurred given the overhang of the commodities bust. But as commodity prices recover - added to the mix - inflation has turned and November's figure was 0.6%, breaking 9 months of negative year on year price changes.

4. Commodities
One of the catalysts and victims of the turmoil that unfolded late last year was commodities. We saw a tremendous crash, whose effects reverberated around the world, plunging commodity dependent economies like Russia into deep recession, and as we've seen on the previous charts, causing wide gyrations in general price levels. But as the boom and bust came, the ever present ability of markets to overshoot, it seems, has played through once again. Having reached a bottom, commodity prices have started a clear recovery since the lows of March. This is driven by a mix of fundamentals (e.g. emerging market demand) and investor psychology.

5. Monetary Policy Rates
It would be incomplete to look at inflation without touching on monetary policy. It should be of no surprise to the reader that central banks made urgent and drastic cuts to policy rates late last year and early this year. The chart below shows rates in selected economies over the past few years. The adroit observer will note that in places like the EU and particularly the US rates were left pretty low for an extended period. For 2009 this is probably necessary, but the impact of rates too low for too long can be far more damaging than gradually tightening perhaps to quickly. The BIS recently released a report that noted a clear link between bank defaults and policy rates being kept too low for an extended period. While economic recovery is very important, and employment is important, failure to increase rates will mean a strong resurgence of inflation and probably contribute to the formation of future asset bubbles.

The overall message is that inflation is here, and the risks are for a significant resurgence of inflation. It's likely that 2010 will see reasonably subdued - but not insignificant - inflation, while China will see an acceleration of inflation, it's probably also likely that commodity prices will head either sideways or gradually upwards. As for central banks - not sure, but hope that they act responsibly!

1. United States Bureau of Labour Statistics
2. Eurostat/ECB
3. Chinese National Bureau of Statistics
4. Thomson Reuters/Jefferies
5. European Central Bank, Bank of England, US Federal Reserve, People's Bank of China, Reserve Bank of Australia

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