Shock Q4 figure have a small silver lining . . .

January 25th, 2011

It’s worse than we thought guv !

Today’s revelation that the UK economy contracted -0.5% in Q4 2010 was a sobering moment. Although not entirely suprising, as I discussed some months ago here and here. Quite apart from further highlighting the ongoing utter uselessness of macroeconomic forecasting which estimated a range of growth of between +0.1 and +0.6, I can see one positive outcome.

Interest rates are not going to go up any time soon. I never bought into the big Weimar-style inflation threat. If there’s so much cheap money around, why’s my bank offering me an overdraft at 10% when the base rate is 0.5%?

The rise in our inflation is not to do with QE, but principally stems from a market-driven decline in the value of the pound (thank God we have a floating currency), the additional rising cost of internationally priced, fungible commodities and our Politicians raising VAT – of which only the first we can control with interest rates.

And once those increases in prices have fed through, where do they think the inflationary wage spiral is going to come from?

With 2.5 million unemployed and many others underemployed, there are a lot of people looking for work out there, ready to work for much less.

On balance, I’m still more worried by deflation than inflation. And inflation hawks still have a lot to prove before they win the argument for large interest rate rises.

Andrew Sentance of the MPC will be feeling a little less confident now.

Oil price outlook for 2011 – from $90 to . . . ?

January 5th, 2011

Oil prices – now at $90 a barrel – rose in 2010 by 15% and by over 8% in December. So as I explained today on Al-Jazeera TV, I’m not surprised that Faith Birol, Chief Economist of the IEA  is worried about the impact of oil prices on the (largely OECD) recovery. That’s because for now, oil is still the indispensable economic input, so you can’t cut it back, just spend more on it and  curtail expenditure and investment in other areas.  Put simply, higher oil prices are a problem in non-producing countries because they manage to dampen agregate economic activity  whilst being simultaneously inflationary.

OPEC is always walking a tightrope between the higher oil prices demands of its producers and finding a price low enough to suit mostly Western consumers without turning them away. Would that they know where precisely that balance was and even more, reach it !

And for all that, it’s not like they even agree amongst themselves – at the last OPEC meeting in December, the Saudi Oil Minister, Al Naimi, said he favoured an oil price of “$70 and $80 a barrel” whilst his neighbouring Kuwaiti confrere, Sheikh Ahmad al-Abdullah al-Sabah, today said he considered oil at $80 to $100 a barrel to be fair price. Is that just because it’s gone up in the meantime?

Anyone who asserts they know what the oil price is going to do is foolish in the extreme. But we can sketch out scenarios of what might happen. The first point is that OPEC are not scheduled to meet again to discuss quotas until June 2011. That may well change. The second is that some analysts believe that the US Summer driving season just might lift the price of oil to $120. And the third influence that outweighs everything else are extreme events like;

i) A Mideast War – involving Iran trying to close down the Straits of Hormuz in response to a US and/or Israeli attack

ii) A trade dispute between the USA and China – forcing China to revalue its currency upwards and thus effecitvely make oil cheaper (because it’s priced in dollars) and massively increase Chinese demand for the black stuff

iii) Tensions going hot between the 2 Koreas

iv) Some sort of collapse of the Euro – leading to mass selling of Euros and a retreat to quality – commodities like oil and gold

Hopefully, none of these will happen. But the risk is there and higher oil prices will come with them or even some inkling of their possibility.

One way or another, we do seem to have reached a new trading range – where $80 is the new $70 – as a recent note from Lombard Street Research made clear. Maybe next year OPEC leaders will be saying a fair price is more like $110 a barrel . . . Plus ca change !