From bull to bust: Tracking the plunge in commodity prices, and what it may mean for U.S. inflation

"The committee expects inflation to moderate later this year and next year," Federal Reserve policymakers said in their post-meeting statement on Tuesday.

We've heard that before, but this time the Fed's optimism may be borne out: Commodity prices, which helped stoke the inflation fires over the last year, are continuing to deflate.

The steep slide in oil prices during the last month has gotten the headlines, for obvious reasons. Oil futures, which slipped 59 cents to $118.58 a barrel today, are down 18.4% since peaking on July 3 at $145.29.

But take a look at the accompanying chart. Natural gas has plunged nearly twice as much as oil since July 3, down 35.4%. Corn is down 32% in the same period. Soybeans have tumbled almost 25%.

Other commodities are down less than oil since July 3, but their percentage declines still are measured in double digits. That's the case for wheat, copper and nickel, for instance.

The Reuters/Jefferies CRB index of 19 commodities has slumped 15.9% since July 3. That marks the sharpest pullback since the index dropped 19.2% from May 2006 to October 2006.

If raw-materials prices have peaked for now, that will take pressure off companies to raise finished-goods prices. Note that so-called core inflation indexes suggest many companies actually haven’t been able to pass through much of their cost increases over the last year. A pullback in commodities, if it's sustained, should help keep pass-throughs from happening, particularly in the face of weak consumer spending.

Yes, the real world is more complicated, I recognize. A company that had locked up supplies of raw materials a year ago might still be facing much higher prices if purchase contracts are renewed now. At the current $5.28 a bushel, for example, corn still is up 54% from a year ago.

Even so, month-to-month changes in the consumer price index -- the headlines that scare people when prices are rising -- should face less upward pressure if the commodity bull run has, at least for the moment, exhausted itself. (The longer-term may be another story entirely, if you believe raging bulls like money manager Jim Rogers.)

For now, "All that it will take to help stabilize inflation and then bring it lower is for commodity prices to level out," said Joseph LaVorgna, chief U.S. economist at Deutsche Bank Securities, in a recent report. "Even at a high level, steady commodity prices would eventually produce a moderation in goods inflation . . . because inflation is determined by rates of change, not by relative prices."

Comments

[S Benard]

I'm sure everyone finds the collapse in commodity prices, and especially crude oil, to be a relief. However, if the economy rebounds, we shouldn't expect demand decay to last long either, and prices will also rebound. It is very typical for many commodity prices to reach their lows toward the end of the summer. USDA crop reports hit their highest yield projections for grains about now, deflating prices. Even livestock, as it approaches the slaughter season, tends to show price dips, although this year seems to be the lone exception. Gold demand historically reaches its lowest point each August. Crude oil demand usually falls off significantly as the vacation season in the Northern Hemisphere begins to taper off during August, thus pushing prices lower. If the global economy shows signs of a rebound, commodity prices will follow suit very quickly. Hold onto your wallet, because inflation could surge higher this fall. Perhaps this is why the Fed this week expressed growing concern about inflation, despite the relief in commodity prices over the past several weeks.

[Aly-Khan Satchu]

The headline numbers are certainly startling. I agree that the long term demand structure is still muscular [except near term in the US and Europe] but this rally spiked when the Crude markets in particular started to sense there was a risk of some kind of military action against Iran. Crude has always been the most scientific barometer of geopolitical risks and tensions. In the case of Iran, the crude markets correctly sensed the outcome was impossible to model and hence the sharp run up. However, we have an unprecedented influx of hot money into this space which was also being encouraged by the $ malaise.

Throw all of this into the mix, overshoot, massive dollar depression and it is clear the spring had to recoil. Personally, I think Commodities tend to exhibit FAT TAILS, that we are in one and we could slide below$100 for crude and $800 for Gold on a momentum reversal.

Throw in a rebounding $ and things look set to remain very volatile but with a downwards bias.

Aly-Khan Satchu
www.rich.co.ke

[PNW Trojan]

"If raw-materials prices have peaked for now, that will take pressure off companies to raise finished-goods prices. " THAT, may be YOUR take, but our insurance company (AAA) here in the 'State of WA' jacked up our umbrella policy by 35 percent. Apples are $2 a pound! Has Cheney and Rove taken over EVERYTHING? Is everyone now drinking the bushit kool-aide? Or is this just another way top deny a TOTAL, ABSOLUTE screw-up by Bernie and his gang of thugs, to deny SS and other COL increases to a RATIONAL level?