It’s me again. Inflation.

Once again, no one will have known afterwards. How could prices have risen after central banks had made inflation their sacred goal? No one could have possibly foreseen that..

The more commodity prices rise, the more audible the first sounds of the usual laments. The search for the culprits is not likely to be long in coming. Something between commodity ETFs and speculators will be dug up. For once, the otherwise popular short sellers are not suitable as scapegoats during a price increase.

Interactions are ignored
It can’t be due to the miraculous increase in money, because it is known to be well-intentioned. This was recently proven by the chairwoman of the EU Commission, who actually said in front of running cameras that interest rates are kept low so that families can also afford home ownership. That is a remarkably one-dimensional, almost childish way of looking at things. But such simple definitions of a single variable as the decisive factor for processes in complex systems have also been found in other areas for years.

No one wants to or can talk about the many possible interactions of artificially low interest rates in combination with countless interventions in the bond market. Yet the shift in the incentive system resulting from these actions alone would provide sufficient material.

Some go even further and declare plausible relationships that have been observed over centuries to be obsolete. This is always a serious warning sign. Any investor who has ever heard the phrase “this time it’s different” knows this.

Reversed course after three months
So much for the economist in December 2020, when he thought we were at the beginning of a “deflationary age” due to the apparently mind-blowing changes in human behavior and new technologies. Not much has happened since then, yet the old models now seem to be in demand again after all.

“admittedly, some factors are working against an even higher price increase. But in the end, the European Central Bank faces a question of conscience: its answer hurts at least one – savers or businesses.”

There is never anything wrong with a change of heart, even if less than three months have passed between the burial and resurrection of the inflation thesis. Hopefully, this time, careful consideration was also given to whether the theory, which is now current again, will also hold up for a long time. Presumably, however, people’s behavior has simply changed fundamentally once again and the influence of new technologies has crawled back into the cave.

Deflation looks different
Commodity prices themselves do not care about such academic machinations. In recent months, the prices of most commodities have risen significantly. In the big picture, however, very little has happened yet. While the nominal prices of some commodities have already marked new highs, the real price of the CRB Commodity Spot Index is moving upwards from its low at the turn of the millennium, with large fluctuations. Deflation looks different.

Real prices for agricultural raw materials and livestock also fell sharply up to the turn of the millennium. Adjusted for inflation, they fell by more than 60% between 1970 and 2000. Like the broad commodity market, real prices for agricultural raw materials bottomed out around the turn of the millennium. They did not fall below this level even in the market slump of spring 2020.

Such a graph can certainly make one worry. Not because of what has already happened, but because of the potential that an inflationary movement like that of the 1970s can unleash. At that time, there was a widespread wave of price increases, but it did not get out of control. If the real prices of agricultural commodities were only to reach the levels of the mid-1970s, this would be almost a fourfold increase from current levels.

Such a development would lead to serious problems not only for people in the emerging markets. This is especially true for countries that are currently driving their currencies against the wall, because the trajectories shown above are U.S. dollar prices. If, to make matters worse, a highly gifted central bank chief with the support of politicians halves his currency against the dollar, things will get even worse.

Commodity prices: Illusionary
One of the fallacies in assessing commodity prices is the assumption that they move neatly and process changes in monetary and economic variables step by step. The opposite is true, because commodity prices are marginal prices. The tighter the supply, the more dynamically prices rise. A slight change in inventory may have no effect at all, or only a marginal and short-term effect on price. However, if the shelf empties quickly, the price takes several stair steps at once.

Due to export restrictions, shortages in countries that do not produce enough themselves can quickly take on proportions that threaten their very existence. Unlike in the case of money, it is not possible in such cases to calm the situation through central bank measures of any kind. Foreseeable “planning” interventions are more likely to make the situation worse.

In media and political circles, many still manage to talk about inflation being too low and real estate prices rising at the same time. Hiding asset prices from inflation calculations is a dubious practice. But prices can rise even if no one reports on them. Even if the currently observed surge in the price of building materials is not reflected in the usual statistical basket of goods, it is already leaving its mark on the reality of citizens.

It therefore makes more sense to look at what is happening right now than to look at sophisticated theories for the best possible explanation of the past. There is, for example, a significant rise in commodity prices, from agricultural commodities to metals. It will become clear how little influence a central bank really has on the development of the prices of necessary goods in the long term. Noticeable inflation will probably not be long in coming. It is likely to be sporty.

DepthTrade Outlook

Look for inflation protection when putting together your investments. While bonds are still considered generally “safe” by many salespeople, remember that over the past one hundred years, the real price losses of bonds have been on par with stocks or commodities.

Ben Schaack Send an email

Mr. Schaack is a financial analyst, specializing in the commodity, foreign exchange, and crypto markets - with more than 10 years of experience. Besides his business analytics studies, Mr. Schaack works as a journalist - covering finance, economy, and geopolitics. His special interests are focused on inflation hedging and exponential (compound interest) growth. He posts and discusses relevant news on his Twitter account.
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