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BW Businessworld

Yet Another Inflation?

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Everything I am writing in this column could turn out to be completely off the mark. Indeed, I would fervently pray to be wrong by miles. Yet, I have a deep concern that the world may be looking at yet another oil-commodity-food products inflation in 2011, which may plague us for three to six months. Let me share with you why it may well be so.


The US budget deficit is a good place to start. According to the data from the US Office of Budget and Management, the federal government's budgetary outlay at current prices between 2007 and 2010 was $14.2 trillion. That's a lot of money. And while much of it has genuinely gone into putting the US economy back on the rails after the post-Lehman global crash, the fact is that there is a huge stash of money sloshing around thanks to the federal government's largesse. Ditto the European Community. There is little doubt that the universal and coordinated Keynesian response to the crisis saved the developed world; but it has also created a massive pool of global funds that are seeking returns wherever possible.


During the period, there have been several punts. The first was the sharp spike in crude oil prices peaking at $145 per barrel in July 2008. In all fairness, this was not funded by government bailout money. But the flaring up of crude prices coincided with a general commodity price boom — with food, metals and minerals prices rising in tandem. That price rise subsided by October 2008. By January 2009, crude was down to under $40 per barrel.


That set the stage for a second global bet — this time on emerging market equities. Let's take the BSE Sensex as an example. In mid-February 2009, it was at 8800. A year later, it was at 17500 and rising. After peaking at around 21000 in November 2010, it has started declining. Today, the Sensex stands at around 18400. The pattern is fairly similar for the US equity market. The S&P 500 was at a low of 735 in end-February 2009, having steadily fallen from over 1500 in September 2007. It rebounded — peaking at around 1340 during mid-February 2011.


I believe now it is the turn of oil, commodities and food. As I write this, crude oil prices are at $110 per barrel — way above the $40 levels it had eased off to in January 2009. Prices were rising steadily. Then came the Libyan crisis. While Libya doesn't account for much of global crude output and, arguably, the Saudis can easily open their spigots to calm prices down, it hasn't happened yet.


In any event, I believe that the rise in crude oil prices, if it continues for the next few months, will have less to do with Libya, and much more so with the devastating tsunami in Japan. Why? Because of what the crisis has done to the nuclear power complex in the Fukushima prefecture. It is now acknowledged that three reactors of the Fukushima Daiichi nuclear plant have had explosions and significant radiation leaks. On 15 March, Japanese Prime Minister Naoto Kan not only confirmed the third reactor building explosion, but also acknowledged that the damaged reactors are facing much higher risk of releasing radiation into the atmosphere.


This will inevitably raise concerns about nuclear power not just in seismic hot-spots like Japan but also in many other countries. I suspect that, given the country's tragic history of Hiroshima and Nagasaki, Japan may be politically forced to change its energy mix in favour of using more liquefied natural gas. If this were to happen — or if global speculators believed it to be so — the stage would be set for a serious and sustained spike in both crude oil and natural gas prices.With it could come a correlated rise in all manner of prices. Urea, because it is an obvious upshot of a rise in crude oil and natural gas prices. Foodgrains, because of what might be expected to happen to fertilisers. Metals and minerals, because these generally rise in tandem with hydrocarbon prices. And gold and silver, because these exist to ride such fears.


So, here is the scenario. Waiting in the sidelines are thousands of traders with trillions of dollars of funds itching for a big punt. The triggers have been squeezed, first by good old Muammar Gaddafi and then, more significantly, by the tsunami. This could well be the time for global punters to unwind from equity and have a long crap shoot at commodities. If that were to happen, you can be sure of another terrible bout of inflation, with its attendant economic and political consequences.


I really hope to be wrong on this one. For our sake.


The author is chairman of CERG


Advisory.omkar(dot)goswami(at)cergindia(dot)com



(This story was published in Businessworld Issue Dated 28-03-2011)