Preparing for the next inflationary push

Peter Warburton - 09 August 2017

At our “Year of the Stag” seminar on 27 June, we set out the arguments for a global stagflationary outlook and warned against reading too much into the relapse of the oil price. We argued that the restraining influences over global inflation – including globalisation – are weakening while the permissive influences – including populism – are gaining ground. Given the opportunity, inflation will spread quickly and become very difficult to bring under control.

The rebound of the crude oil price in 2016 sounded the starting pistol for inflation, but the hard running will be done by extreme, sustained monetary accommodation, traditional labour market dynamics, political responses to aching disappointment over living standards in western societies and the inevitable supply disruptions that come our way in a fragile world.  We concluded that: “to base a medium-term view inflation view on the relapsing oil price is like staring at the starting pistol while the athletes tear around the track.”

There are many more important developments that will shape the medium-term global inflation outlook than the price of crude oil. Yet oil price movements are significant to the extent that they reflect both the nominal demand for crude oil and its derived products and the complex supply dynamics of the oil sector – including disruptive geopolitical and meteorological events. Against the predictions of many market commentators a month ago, the crude oil market has tightened as inventories have depleted and Saudi Arabia has deliberately cut its oil exports to the US.

Global oil consumption continues to increase by around 1.5m barrels a day. The output of legacy oilfields is eroding by 5 per cent to 10 per cent a year. There are numerous wild cards, including the pace of ramp-up of US shale oil production, the scope for Libyan and Iraqi output to recover further and the opposite risks to output in Venezuela and Nigeria. However, there is an underlying tightening of the crude oil market, relative to 2 years ago, that appears well-founded. And Wall Street’s patience with the oil-drillers is wearing thin: there is a new-found imperative on US shale companies to improve profitability. Prepare for the next inflationary push. 

Figure 1

Data source: FRED and Thomson Reuters Datastream

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