Trends in the financial markets have accelerated in the last few days. After hesitating slightly at the start of 2018, it is increasingly obvious to investors that reflation is around the corner. That belief is based on widespread growth, a surging oil price, the first positive effects of Donald Trump’s tax reform – with giant US companies promising to repatriate profits – and good news on investment and jobs. It is hard to see how that situation could fail to end the phase of latent deflation in the last few years and support expectations – seen throughout 2017 – of inflation getting back to normal. The impact of rising oil prices alone could significantly change the inflation situation, judging by how sensitive inflation is to movements in oil prices. If crude stabilises at $70 per barrel between now and the summer, inflation could rise by more than half a point in the industrialised world, taking it well above the 2% target that it touched only briefly in February 2017.
So what could prevent a significant increase in interest rates? It is very tempting to change our outlook for 2018. How is the interest-rate environment likely to develop?
Commodity prices tend to be fairly insulated from short-term changes in supply and demand. Given this, as long as the wayward global economy did not call into question the long-term economic outlook its effects on commodity markets was only marginal.
The slide since mid-October should therefore be seen as the bellwether of a marked change in the global outlook in the mid and long term. This is why the recent slide in oil prices is a harbinger of bad news, even though there are obvious benefits for consumers in countries that import oil.
Our forecast for a sharp drop in commodity prices seems to have materialized since the summer. Despite a tense geopolitical situation, the fall in the price of oil has already reached 15% and, helped by sagging consumption, the global oil price tag has contracted by 1 GDP point since the start of the year. Each country has different exposure to this adjustment but, generally speaking, it has been more favorable for developed economies than emerging markets. Regardless, lower oil prices have maintained a stabilizing effect that could provide vital support given the present situation.
Commodity prices: what we would like to see, what hints they are giving
We got off on a good foot this week, with some reassuring news for once: the likely decline in oil prices stemming from progress on negotiations to halt the development of nuclear weapons in Iran. As we are reasonably confident that this week’s agreement will have an impact of at least $10 per barrel, we decided to take a closer look at what is, at first glance, good news for the world economy.
So, why don’t we just take the news at face value?
Is France doing as poorly as everyone says?
Coming on the heels of last week’s dispiriting PMI data, the results of the latest INSEE survey are reassuring. Not only do the results debunk the scenario of a slide back into recession that some were quick to assert after the PMI release, but a detailed analysis even shows that there is reason for hope.
The Gold Selloff as Warning Sign for Impending Deflation
Recent disappointment with a sluggish economy has altered perceptions about the risk of inflation. Since the beginning of March, ten-year inflation expectations in the U.S. bond market have shed 30 basis points, the sharpest decline in the past year. At the same time, plummeting gold prices bear witness to growing doubts about the reflationary policies pursued by central banks. Moreover, current global trends suggest that this sentiment won’t be changing any time soon:
With inflation rates well below 2 percent and still receding, most industrialized countries are inching their way toward deflationary territory. High unemployment and low capacity utilization rates exert strong downward pressure on wages and producer prices, a trend accentuated by softer energy prices.
The rising inflation observed in an increasing number of emerging economies is in fact limited to those with little global influence, primarily India, Russia, Brazil, and Argentina. Asia’s exporters of manufactured goods still show low inflation rates that are much closer to those in the advanced countries.
All these developments should therefore encourage central banks the world over to go further with monetary easing.