Wednesday, December 15, 2010

Capacity and Inflation

My view yesterday of inflation.

My view? Unless we see a pickup in employment (we may), all the stimulus (fiscal and monetary) will just feed into the rise we are seeing in commodities, not overall price levels. If corporations / individuals don't see a corresponding pickup in profits / income, then all this means is less money for non-core items. The result? A split between headline and core inflation. Just what we have seen thus far...
Capacity utilization strongly (in my opinion) supports this view. While excess capacity has declined (a lot) since the lows, it is still very low relative to historical levels WITH THE EXCEPTION OF MINING (in the U.S. at least - globally levels may be different, though unlikely.

Result? The potential for commodity and core inflation to remain bifurcated going forward.

Source: Federal Reserve


  1. Jake,

    Great work with the charts, but I do want to quibble with your interpretation of why we're seeing a rise in commodity prices. A much simpler explanation of why commodity prices are bullish is the rise of China (and not just China but the developing world). When China's growing, commodity prices rise and when China contracts, commodity prices fall (put up a chart looking at the Shanghai Stock Exchange, the Hang Seng, copper, oil, and ags and you'll see the correlation). This explanation utilizes obvious, clear cut channels to translate Chinese growth into commodity prices, and by the Occam's Razor principle, it's probably the better choice.

  2. Kosta- counterpoint to "When China's growing, commodity prices rise and when China contracts, commodity prices fall"

    When China's growing and demand for commodities rises, they are effectively taking capacity out of the system. When China's shrinking, there is excess mining capacity in the system.

    In other words... our arguments are one in the same.

  3. Jake, I think we agree that Chinese growth fuels inflations. I am objecting to the argument that US stimulus is preferentially feeding into rising commodity prices. IMO, it's hard to deduce a realistic channel by which this stimulus would affect commodity prices but not the broader economy. A better argument is that the stimulus is ineffective but Chinese growth is push commodity prices up.

    Sorry for the tardy reply