Stagflation may be next nightmare

Bloomberg

refid:11822659 ilişkili resim dosyası

As if General Motors did not have enough to worry about, a 60 percent jump in gasoline prices this year may cause inflation to soar and throw another roadblock in the way of recovery.

It’s "one thing that we have to keep our eye on," said Mike DiGiovanni, executive director of global market and industry analysis for GM, which filed for bankruptcy last week.

It isn’t only GM’s sales that might suffer. Higher energy costs helped trigger a 20 percent rise in a Standard & Poor’s index of 24 commodities during May, the biggest monthly percentage gain since September 1990. The increases threaten a burst of inflation that could sap demand just as the U.S. economy is starting to right itself after the biggest contraction in five decades.

"You could end up with something like a stagflation scenario," said David Hensley of JPMorgan Chase. "There’s a risk the recovery might be stifled."

Gasoline was up to an average $2.59 a gallon in the U.S. last week from $2.05 on May 1. A 50-cent-a- gallon markup removes about $70 billion from consumers’ annual spending power, says James Hamilton, a professor of economics at the University of California, San Diego. Prices still remain short of the $4.11 record set on July 15, which helped push annual inflation that month to 5.6 percent.

At United Technologies Corp., it’s copper that gets attention. The metal has climbed 59 percent this year on the New York Mercantile Exchange to $2.28 a pound as of June 5. Gregory Hayes, senior vice president, said on May 14 that UTC is keeping tabs on price movements because its Otis elevator and Carrier air conditioner divisions buy 75 million to 80 million pounds of copper per year. At that rate, the increase so far this year would cost UTC about $65 million, about triple Carrier’s $22 million operating income for the quarter ended March 31.

The S&P GSCI Total Return index, which tracks metals and agricultural commodities as well as energy, has surged 39 percent since touching an almost seven-year low on Feb. 18.

Concerns about higher inflation are reflected in the widening difference between rates on 10-year notes and Treasury Inflation Protected Securities. The spread on June 5 was close to a nine-month high at 2.01 percentage points after the government reported payrolls declined in May by 345,000, the smallest decrease since September.

Spurring the commodity rally are signs of a recovery worldwide, particularly in China, the world’s biggest consumer of iron ore, rubber, copper and zinc; more interest from investors; and an 11 percent drop over the last three months in the dollar, the currency in which most commodities are priced. Stockpiling by China and supply constraints have also played a role.



China’s growing appetite

Macarthur Coal, the world’s biggest exporter of pulverized coal used in steelmaking, is seeing new demand this year from China, said Shane Stephan, chief development officer in Brisbane, Australia. "We historically have never sold coal into China at all."

If the advances in raw materials were being driven mainly by U.S. demand, there would be less worry that inflation might stymie growth. That’s not what’s happening this time.

What’s pushing up commodities instead is growth elsewhere, particularly in Asia, Hamilton said. India’s economy grew at a 5.8 percent annual pace in the first quarter. Chinese manufacturing picked up in May.

Investors have also helped fuel the price surge. More than $6 billion has poured into commodity-industry funds so far this year, swelling assets under management by more than 21 percent, according to EPFR Global, which tracks global fund flows. "Investors are strongly attracted to commodity and energy plays this year," said Brad Durham, managing director at EPFR.