The Energy Report for April 18, 2011


Inflation Nation


China tried to put on the brakes to stop its out of control inflation and some markets are taking pause yet others are acting like it is too little too late. Perhaps the fourth time is the charm? China raised reserve requirements on its banks again and promised more steps to cool inflation and while oil, platinum and palladium seemed to dip, gold and silver a major inflation barometer, seemed less than impressed. The People's Bank of China raised reserve requirements by 50 basis points bringing it to a record 20.5%. This was in response to their skyrocketing inflation rate of 5.38%. Now is it time for the obvious solution for China's inflation problem? Is it time they let their currency float? The New York Times writes that Inflation in China poses a big threat to global trade. The NYT writes that, "Because China is now the world's second largest economy, after the United States, and because the country has been a leading source of global growth during the last two years, money problems here can reverberate from Wal-Mart to Wall Street and the world beyond. High inflation endangers China's status as the low-cost workshop for the world. And if the government's efforts to fight inflation cause the economy to stumble, that will cloud the outlook for international businesses - whether multinationals like General Electric or copper miners in Chile - that have been counting on China for growth." The New York Times goes on to say that, "Inside China, inflation also poses a threat to social stability, a particular worry for Beijing, especially since authoritarian governments in North Africa and the Middle East have become the focus of popular uprisings." Those uprising have of course been a major reason why oil prices have gone higher. As China's economy and demand for oil continues to rise, the threat to supply is still at a very dangerous level. In Libya a stalemate keeps supply from that country uncertain. The Wall Street Journal reports that, "On Sunday, Saudi Oil Minister Ali al-Naimi was quoted by the state-run Kuwait News Agency as saying the global crude market was oversupplied, with Saudi output likely higher in April compared with March. Naimi also said Saudi crude output reached 8.292 million barrels a day last month, down from 9.125 million barrels a day in February. The kingdom has an output capacity of 12.5 million barrels a day. The world's biggest oil exporter had cut production by 500,000 barrels a day--reversing a previous increase decided in response to the Libyan crisis--after meeting tepid demand for the additional output, people familiar with the matter said last week." It seems the new Saudi blend of light crude did not go over well with European refiners probably questioning whether it was truly of the quality that their desired. Also the other reason for the Saudi cut is that they desperately need the money. Last week Bloomberg News reported that Saudi Arabia's breakeven price for oil jumped an estimated 23 percent after the kingdom promised the biggest public-spending increases in three decades, creating a new floor for crude as it trades near a three-year high. More-generous benefits promised by King Abdullah will cost $129 billion over the next several years, according to John Sfakianakis, chief economist at Riyadh-based Banque Saudi Fransi. The outlays will add $15.50 a barrel to the price OPEC's largest producer needs to balance its budget, according to the median estimate of analysts surveyed by Bloomberg News. The Saudi king announced higher subsidies in February and March for housing and benefits to military and religious groups supporting his ban on protests. The perks are meant to prevent the kind of unrest that halted oil output and imperiled Muammar Qaddafi's rule in Libya, holder of Africa's largest crude reserves. The increase gives the Saudis less leeway in playing their traditional role of using spare capacity to temper prices. It seems every time I go on vacation the world goes crazy. Gas prices surged and oil has a correction and some Fed officials seem oblivious to cause and effect of their own policies and yet in China, they are starting to realize that perhaps their currency manipulation is adding to inflation. Last week Janet Yellen Vice Chair of the Board of Governors at the Federal Reserve, speaking to the Economic Club of New York said, "some observers (such as myself) have attributed the recent boom in commodity prices to the highly accommodative stance of U.S. monetary policy, including the marked expansion of the Federal Reserve's balance sheet and the maintenance of the target federal funds rate at exceptionally low levels. Such an interpretation of recent developments naturally leads to the conclusion that the Federal Open Market Committee (FOMC) should move promptly toward firmer monetary conditions. Indeed, some have even raised the specter of a return to the high inflation of the 1970s in arguing for the urgency of monetary policy tightening." She goes on to say, "Increases in energy and food prices are, without doubt, creating significant hardships for many people, both here in the United States and abroad. However, the implications of these increases for how the Federal Reserve should respond in terms of monetary policy must be considered very carefully." Ms Yellen said that she will make the case that recent developments in commodity prices can be explained largely by rising global demand and disruptions to global supply rather than by Federal Reserve policy." Oh yes? How so, Ms Yellen. While I will give her that rising prices have been influenced by rising global demand and disruption of supply, it's also due to the reduction in the value of the dollar and the stimulative nature the Fed policy adds to that demand. If Fed policy is helping the economy then it is also helping commodity demand. Do you get that Ms. Yellen? You cannot have it both ways. Fed policy can't help the economy expand on one hand and not impact demand and price on the other.
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