Odds and Ends
How about a series of rants on small topics this week, since we have had trouble putting together a really good topic for the week?
Inflation – inflation is coming back, someday, maybe not for a few months, maybe not for a couple of years. But, it will be coming back. This is an old debate that is pertinent again.
If you believe that Milton Friedman had his head screwed on straight, “inflation is always and everywhere a monetary phenomenon” works for you. Or if you believe Herb Stein – “inflation is too much money chasing too few goods” you’ll understand. Creating a huge increase in money without an offsetting increase in the amount of stuff people produce will incur the wrath of the inflation gods. Here in the good old USA, we have recently gotten back to the level of GDP (stuff) we enjoyed in the last months of 2007 before the financial crisis and attendant recession wrought a 19 or 20 month recession. Since late 2007, we have increased the amount of money in our monetary system by almost 37%. That makes it over one-third more money chasing no more goods. Ergo, inflation is coming.
Let’s just replay some comments we’ve made before: From August last year – “One of the big reasons we’ve had lower inflation (disinflation) over most of the last twenty-plus years is that American producers of all sorts of products have had to compete with imports made in places with much lower labor costs. The lower labor inputs mean that about 70% of the value of the US built car is US manufactured. The remainder is parts delivered from Mexico, Korea, or elsewhere. Most of the electronics we readily consume are manufactured in Asia, especially Taiwan. The areas where we have seen a lot of inflation in the past twenty years are in goods that don’t compete with foreign sourced goods or services. Healthcare costs and education costs are almost 100% American, so those are much higher than twenty years ago, small household appliances or apparel aren’t.”
As domestic costs continue to rise and foreign sourced prices start to rise due to a lower dollar and higher foreign costs, we will stop benefitting from the pressure foreign-sourced goods apply to US prices. Then, if housing costs begin to rise again, we’ll really be in trouble. Housing-related costs add up to almost 40% of CPI. Those have been under pressure from the bursting of the housing bubble. That is now more than 5 years ago. The downward pressure seems to be abating, though that could be just temporary. Rental costs have begun to rise, presaging higher overall housing costs. Ergo, inflation is coming.
Don’t wait for the government statistics to back this up, it is written in the statistics already.
Oil – oil is an old rant so all we have to do this week is update you on what the current situation looks like. There is no shortage of oil in the world. In fact, though demand has made a comeback in the last two years from the recession-induced declines in 2008 and 2009, we can report that supply has more than made up the difference. World-wide oil production continues to set records as more production from Iraq, Canadian oil sands, off-shore Australia and Brazil, more than make up for the declines almost everywhere else. Higher production in Central Asia and the Caucasus, the South China Sea and other relatively new finds is on an upward trajectory. Despite the protestations of the ‘end of the world’ crowd, we keep finding enough oil to allow for continued growth.
So, why has oil traded nearer $100 a barrel than the $70 level that has pertained over most of the last year? The obvious answer is trouble in the Middle East. Sure, Egypt has gone from being a minor oil exporter into being an oil importer in the last twenty years. But, the real issue remains Saudi Arabia and the Gulf Emirates and their political and economic futures. With the pro-democracy movement taking-off in Egypt, what is stopping it from sweeping across the whole Middle East? The short answer is Islam.
Risks of supply disruption, either from production stoppages or interrupting transport (closing the Suez Canal), is to blame. It is interesting to note that West Texas Intermediate (WTI) and Brent Crude have for years and years traded only a few bucks apart. Most of that difference has been attributed to transportation costs to bring either WTI to Europe or North Sea oil to New York. Now, they trade almost $15 apart. Why? Because most Middle East crude goes to Asia and Europe and the alternative to Arab light is Brent, not WTI. If we could peek at the market for Arab light, we’d guess that it has gone up a lot too, but probably not as much as Brent.
Speaking of Egypt – why is the US running around trying to tell the Egyptian president to step down? Can you imagine the spectacle of tens of thousands of protesters clambering for Obama’s resignation and Arab leaders likewise clambering for his removal? What we have here is an indigenous protest movement of Egyptians trying to oust their kind-of elected leader. To paraphrase Ben Franklin – “we can all hang together or we can hang separately.” What these people are doing is strictly speaking insurrection. While one can argue that Mubarak may not be ‘legally’ the president of Egypt, two wrongs do not make a right. But, as with our golden rule among nations a couple weeks ago, we now author a similar golden rule for leaders – do not clamber about others unless you want to be clambered about in return.
This is a true snafu for the US State Department as they initially backed Mubarak, then backed the protesters, while they could have counseled both sides for calm, democratic methods of relieving Egypt of its leader, and minimal bloodshed. Supporting a people’s right to protest and speak their minds is one thing, inciting rebellion is quite another. There is no winning proposition for the US in the path. State and the administration have gone down a twisting road that leads nowhere. Rather we have alienated both sides to some degree and spread mistrust instead. We are not a reliable ally if we switch to the protesters at the first hint of their success. We are not a reliable supporter if we waver in our support at the first signs of bloodshed. We are betwixt and between.
And, why do all this out in public? Don’t we have an ambassador in Cairo? Couldn’t we just whisper in Mubarak’s ear? No. What we have is a bunch of politicians who want sound-bites for their next campaign. Some things are just too important to leave to politicians. Diplomacy is one of them. Politics is another.
The trade deficit widened in December to $40.6 billion from $38.3 billion in November. For all of 2010, the trade gap rose 32.8% over 2009. We think the chances for the US exporting its way out of trouble have shrunk to minimal from very, very small. Oil was a major culprit in the December change as both the price and volume of imports were higher.
Consumer sentiment rose in December to 75.1 from 74.2 in late January. This is the highest reading of the index since last spring. A strong showing by consumers over Christmas and continued good spending indicates that further improvement in sentiment is likely. A better job market was noted by survey participants as one major reason for their shinier outlook. Purchases of big-ticket items like cars and appliances are at a three year high and likely to get better.
Are you about as surprised as we were that the week turned-out to be pretty good? Sure, Friday was good with Mubarak stepping down and global markets breathing a sigh of relief, but the rest of the week seemed so directionless. The Dow was up for eight straight days, but not up very much and nearly every day saw markets down for at least part of the day. Remember we broke through 12000 on the Dow and 1300 on the S&P 500 just last week and now we’re 2% higher. Wow. (Note that is wow without an exclamation point, a little wow.)
Stocks were generally higher across the developed world with most exchanges in Europe, Japan and the US higher. The developing world was not so lucky. Besides the shenanigans in Egypt, China raised interest rates and several nations raised reserve requirements on banks to slow their economies and fight inflation. About half of the emerging markets we follow closely were down on the week. Many of the materials-intensive markets, those that were benefitting from the risks to raw materials in the Middle East, reacted badly to the lowering of the risk over there.
The general tenor of the global economy is stronger with fewer signs of weakness and more signs that growth might get out of hand. We’ve gone from the risks being biased toward too little growth to too much being the risk now.
Bonds have reacted badly to the swing in risks from too little to too much. Across most developed markets rates rose last week, hampering their bond markets. At the same time, many emerging market bonds were stronger, again as the risk perception retreated. In the US, Treasuries were mixed as longer-dated bonds actually rose and the middle of the yield curve fell. Most other high grade segments, mortgages, corporate and munis, showed similar trends. The only real strength was seen in high yield as that market followed stocks higher.
US Real estate securities were strong this past week, even with some weakness in many leading banking companies. The same was not true for foreign real estate markets.
Commodity markets were also in turmoil as the bid came-off from many energy commodities. Oddly, just as precious metals were drooping during most of the recent crisis, they modestly rallied with the reduction in risks. Weird.
On this date in 1859, the Oregon Territory became the state of Oregon plus the Washington Territory. If all of the Oregon Territory had been admitted as one big state, it would have included all of current Washington, Idaho and hunks of Montana and Wyoming as well. In area, it would have been third, behind Alaska and Texas and a top ten in population. The US had ceded part of the territory above the 46th parallel to Great Britain in 1946, but the settlers in what would be Washington petitioned to be returned to the US and Britain agreed to this in 1853.
The US claim was largely based on the Lewis & Clark Expedition of 1804-1806. These explorers were supposed to be surveying the newly acquired Louisiana Purchase, but went all the way to the Pacific to establish a US claim to the territory known among the Northwest Indians at Oregon.
Nothing much happened between 1806 and 1846 when the territory was established (and not much has happened since). Statehood in 1859 came quickly as the California gold rush accelerated movement west and increased the value of areas on the Pacific side of the continent.
So, if you have no one to celebrate Valentine’s Day with, you can celebrate Oregon’s birthday instead.
Have a great week.
Karl Schroeder RFC, CSA
Investment Advisor Representative
Schroeder Financial Services, Inc.