Every crowd has a silver lining.” – Phineas Taylor Barnum.
We are all oil experts now. As simple-minded trend-followers watching CNBC sector analysts on Wall Street have spent recent months trampling over each other to issue increasingly facile pronouncements of ever-rising price “targets”, the value-added commentary department for oil was temporarily closed after the Financial Times quoted Tom Bentz, “senior energy analyst” at BNP Paribas, who exclusively revealed on June 7th that,
“It’s still a bull market in oil.”
Presumably mere junior energy analysts would have been unable to issue such piercing insight into the nuanced minutiae of the hydrocarbon complex.
But all of this was then effortlessly transcended last week when Alexei Miller, the objective and otherwise wholly disinterested observer of the oil market who happens to be chairman of Russia’s largest energy company, Gazprom, warned that crude oil prices could reach $250 a barrel within the next 18 months. If it’s not too late, we’d like to pitch our hats into the ring: oil could reach $1,000,000 a barrel by next week. But it probably won’t, given that the developed world seems to be heading inexorably toward recession, and while China is undoubtedly a big oil consumer (c. 7 million barrels per day) it remains significantly smaller than the US with consumption of around 20 million bpd. And if it does, this whole dollar weakness thing will really have spiralled out of control.
Where oil, currencies and rising prices effortlessly merge is in the context of (generally blunt) administrative policies to address inflation. The US has at least bought itself some well-needed breathing room; the mandate of the Federal Reserve is
“to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.”
As Governor Mishkin has put it, because long-term interest rates can remain low only in a stable macro environment, these goals are often referred to as a dual mandate.
The Bank of England claims to have two core purposes – monetary and financial stability. Realistically, however, in the light of what George Soros has suggested is the worst financial crisis since World War II, and given that the Bank’s supervisory role has been largely emasculated by a triumvirate structure that doesn’t work, its primary if not sole focus is effectively a monetary policy to maintain inflationary stability. (In other words, if forced to choose between a high-inflationary rock and a recessionary hard place, the Bank is obligated to favour the recessionary hard place. That said, Gordon Brown’s one remaining legacy of any credibility – an independent central bank – is in danger of being sacrificed, too, on the altar of political expediency. If the Bank of England manages to raise interest rates in the teeth of a domestic housing market collapse and looming recession, its senior movers will be worthy of some kind of medal for attention to duty. Perhaps a Ludwig von Mises Award for the promotion of Sound Money ?)
The European Central Bank has its primary objective as the maintenance of price stability in the Eurozone (that is, inflation below, but close to, the arbitrary-looking figure of 2%). A bundle of other objectives follow in its wake, but price stability prevails.
We will soon see just how robust these mandates are amongst the world’s most important central banks, plus the Bank of England. With residential housing markets sinking fast in the Anglo-Saxon economies, and with banking sectors still reeling from the aftermath of the credit market binge, only truly bold and principled price stability merchants will be willing to hike rates in the cause of low inflation, particularly since the troublesome oil and food price inputs are beyond the power of any central bank to ameliorate. If central bankers feel awkward at this revelation of the paucity of their powers, perhaps they should have been more careful to read the small print of their (absurdly constrained) mandates first.
Central bank governors have, like oil analysts, been trampling over each other over the past week or so to prove their virility in the fight against inflation. Bond markets have reacted as if they meant it. Two year US Treasury yields, for example, rose in response by the most for 12 years. Indeed the pace at which monetary accommodation has become monetary purgation in the eyes of the market is extraordinary. Whatever transpires, the nervy volatility of bond yields points to the sort of end-of-the-cycle jitters that accompany a secular change in fundamental direction, as a great mass of investors wake up, at varying intervals, to what’s happening around them. With the greatest respect to the authority of confused central banker jaw-boning, however, the real story lies not within a bunch of easily rescindable statements, but rather within the Federal Reserve bail-out of Bear Stearns as a going concern, which marked the ‘they shall not pass’ turning point in the defence of ‘too bank-like to fail’ institutions, along with the end of the ‘armageddon’ trade, back in mid-March.
This does, however, leave us with the following problems:
- A bear market for government bonds.
- A bear market for western market equities (outside certain key sectors) given the likely decline looming in consumer spending.
- A bear market for cash (given the corrosive impact of inflation).
More benignly, fund managers with an unconstrained investment mandate and an unconstrained asset universe can hope to steer capital away from the obvious blackspots and toward some specific pockets of promise. But traditional equity (and bond market) index trackers run the very real risk of getting, in the vernacular of fund management, completely hosed.
Originally published at The price of everything and reproduced here with the author’s permission.