David Jones may want to blame Julia Gillard, Barack Obama may want to blame Republican austerity nutters and the EU may want to blame rampant ratings agencies, but what we all really need to get things going again is more simple: cheap oil.
Last night’s market action delivered slightly cheaper crude, down 2% or so on Ben Bernanke’s QE recalcitrance, but it remains stuck above $90 a barrel:
The effects of this are clear. For the US, last night’s producer price index (which is a guide to the input prices being paid by the productive parts of an economy and hence is a leading indicator for consumer price inflation) showed its first decline for over a year:
And look at where much of the decline came from: energy. Obviously an ongoing fall in oil prices would have a significant dampening effect on US inflation and would free the Fed to unleash more stimulus. And that’s before we add in the further positive of impacts on consumer spending.
The same pincer is at work in Europe, where the price of Brent remains much more elevated on Libyan supply concerns:
As Ambrose Evans Pritchard notes today, there are alarming signs that economic weakness is shifting to core European countries yet the ECB is still tightening on inflation concerns:
“Real M1 deposits in Italy have fallen at an annual rate of 7pc over the last six months, faster than during the build-up to the great recession in 2008,” said Simon Ward from Henderson Global Investors.
Such a dramatic contraction of M1 cash and overnight deposits typically heralds a slump six to 12 months later. Italy’s economy is already vulnerable – industrial output fell 0.6pc in May, and the forward looking PMI surveys have dropped below the recession line.
“What is disturbing is that the numbers in the core eurozone have started to deteriorate sharply as well. Central banks normally back-pedal or reverse policy when M1 starts to fall, so it is amazing that the European Central Bank went ahead with a rate rise this month,” Mr Ward said.
In Australia, as elsewhere, a myriad of factors are suppressing demand, however it is difficult to ignore the historic correlation between petrol prices and consumer confidence:
So, is there any prospect of a weaker oil price?
The immediate outlook is not great. I argued a month ago that the base price for oil in current global growth settings was $90, with roughly $25 of that the result of the MENA crisis. So far, that assessment has proved well founded:
The above chart marks the key moments in the MENA (Middle East and North African) crisis. As you can see, each key event was accompanied by varying degrees of increased risk premium in the oil price. If we take a starting point of $88 in mid December when Tunisia sparked the revolution and a finishing point in early April, when the Libyan war was in its early stages and supply anxiety reached a peak at a price of $113, we get some notion of the risk premium currently built into the price: $25.
Of course, this is guesswork to the extent that the MENA crisis cannot be isolated from other factors acting upon the price. But it does give us at least a guide to how significant the risk premium is, if we accept that expected global growth rates were roughly consistent through the period.
Previously, I have also argued that in a market dogged by perceptions of supply constraints, spare capacity determines price as much as does immediate supply, as the following chart bears out:
The latest IEA figures for OPEC spare capacity (June) showed another fall to 4.46MB. But, it must be noted, that includes over 1.8MB of Libyan crude that is offline for current supply and spare capacity. In short, the MENA crisis continues to exert a major influence over Western economic prospects.
So, is there any prospect of an upside surprise via a quick end to the Libyan war and should we looking to bring that about? A report in the FT today offers some hope:
Western Libyan rebels pushing towards Tripoli plan to attack a pivotal city within a week, a top commander said, speaking hours before his forces lost ground captured last week from loyalist forces.
Col Moktar Lakder appealed for Nato helicopter support for his piecemeal army’s proposed assault on the town of Gharyan, saying it was short of some weapons and faced trouble rooting out Col Muammer Gaddafi’s forces from civilian areas.
…Col Lakder, one of the spearheads of the almost five month-long Nafusa mountain region uprising against the Libyan leader, said in an interview on Wednesday he expected to try to capture Gharyan in “maybe one week, maybe five days”, but could press on much faster with Nato air support.
He said: “If Nato gave me these helicopters, I could be in Tripoli within three days. We need them for freedom.”
Sadly, however, the report also contains some less sanguine assessments of the rebels capability:
Some western diplomats see the Nafusa fighters as benefiting from better discipline, more favourable terrain and closer proximity to strategic road pressure points, although sceptics say the rebels could find it tough to move from their upland stronghold and through Gaddafi loyalist areas in the plains below.
…Supplies to the Nafusa region have to be brought in on long road journeys from neighbouring Tunisia, although there is also an aircraft that comes from Benghazi and – in the absence of an airfield – lands on the main highway linking the mountain towns.
The rebel army itself is a mix of regime defectors and volunteer fighters, many of them professional people, who have no military experience and are heavily reliant on seized regime material and improvised weapons such as rocket launchers made from water pipes.
I see plenty of reasons for why the West could be throwing more weight behind the rebels, not least being a rationale of humanitarian intervention. But even if we did, after the experiences of the last few years, this mix of tribal misfits, inexperienced troops, tribal loyalties and filthy rich overlords should offer severe pause if counting on a swift and clean outcome.
Looks like our economic leaders are on their own for the time being.