Economy Watch: We're In an Inflationary Recession That May Start to Accelerate

A concept that’s key to resource depletion is the higher volatility phase, in which both price and supply start to hit ceilings and floors in accelerated fashion. This tends to appear first during the actual peak supply period, or peak plateau period. The pattern has been seen in previous eras in such things as wood, fish, and whale oil. When the post-peak phase gets underway the price amplitude increases even further, playing havoc with supply and demand. As demand gets killed, and then finally collapses, it causes confusion about supply. But then, as demand returns, any questions about supply are soon answered as demand once again bumps up against the supply ceiling.

Visually, we can think of demand in this phenomenon as being in a kind of contracting triangle. Every time consumption resumes after a previous demand crash, it hits the ceiling at a lower level. This is the point where, if you find yourself living in the age of biomass and wood, you get rescued by coal. For example. This is also the point where, if you are living in the age of oil, it’s less likely you get rescued.

Now, what’s interesting about this pattern in oil is that it appears to have arrived in conjunction with the bursting of an epic sized credit bubble in the West, a quarter century in the making. Leaving aside causality–and yes, there are many who have strong views about causality here–the two forces have now clearly joined. And so what we are dealing with presently is a very nasty ceiling. A unified ceiling, if you will. One made of both interest rates (as an expression of credit availability in a time of depressed economic activity) and energy.

Could this limitation finally resolve the dispute between inflationists and deflationists? I think it could. As I was laying out earlier this winter in Recession vs. Collapse, we are experiencing a deflation that appears to trigger both reflationary policy and reflationary responses in the dollar and commodities–which then leads to more deflation. This is a process that likely began as early as the Summer of 2007. In this deflation-inflation oscillation the metronome ticks first one way, and then the other, causing uproar and loud talk each time among the inflationists, and the deflationists. As I have been suggesting this year, why the need to choose? We have very likely been in an inflationary recession for nearly two years now, with massive deflation in housing and yet stubbornly higher food, energy and health care costs–the latter well above the price levels of just a few years ago. The risk, in my view, is that both trends now accelerate. And, that we experience next something more akin to an inflationary depression.

Graphic: Contracting triangle pattern (typical in technical price analysis).

Photo: clip from the film Being John Malkovich.

Comments

[MinAkkar20:]

Is it implausible to think that playing with money supply might affect prices in some sector and not the other? The Fed goes and increases the money supply 2x, but must understand it can't control where the money goes. Once put into the stream of commerce, it will always increase the prices where money velocity is highest: basic necessities like food and energy. They have attempted to push $$ into real estate by forcing down mortgage rates and providing 8,000 tax credits. This only creates malinvestment, which is the cause of recessions to begin with.

I agree that we are in the higher-volatility phase of oil. But I feel the current price movements are more the result of monetary intervention than fundamentals of resource supply-demand.

Jun 11 07:51 AM

[dano123:]

"Inflationary depression." I don't understand it, but it makes sense.

Jun 11 08:55 AM

[Larry House:]

Your premise is a very real possibility. We have an economy that is very much exposed to Murphy's Law.

Jun 11 10:09 AM

[Steak:]

Ok so I looked at the chart for whale oil:

homepage.mac.com/wolfr...

Now obviously a lot about the price hinges on what deflator you use but I have an observation. One would look at our present day oil and be worried about the double top in price near the peak of whale oil production. But this was during an inflationary boom time that was in between depressions during the 1840's and 1870's.

No answers here, just trying to ponder if this current push higher in oil price will break $100. I have no doubt it will break that level one day, but am really stuck on whether it can happen in the next couple months.

Jun 11 10:25 AM

[Mad Hedge F...:]

I't's a real risk. I chatted with Jeff Rubin last night, former chief economist with CIBC World Markets, who reaffirmed my own hyper-bull case for crude in bucketfuls. He was in San Francisco, admiring our civic planning and mass transit system, as part of a tour to promote his new book “Why Your World is About to Get a Whole Lot Smaller: Oil and the End of Globalization.” We are in the bottom of the ninth inning of the hydrocarbon age. The next super spike will take us to over $100/barrel within 12 months of the beginning of an economic recovery, and much higher after that. The problem is that we are losing 4 million barrels/day through depletion just when demand is increasing. The only offset will be dirty, foul, huge carbon footprint, $100/barrel Canadian tar sands, which will double, to account for 40% of our imports. The biggest increase in consumption is in OPEC itself, where consumption has ballooned to 13 million barrel/day and oil is being wasted on a prodigious scale, compared to only 7 million b/d in China. Gas there costs only 25 cents/gal, utilities in Saudi Arabia pay only three cents/gallon for bunker fuel, and Dubai is blowing 3,000 b/d equivalent running an indoor ski resort. Oil over $100/barrel will bring globalization to a screeching halt. Economies will go local because it will cost too much to transport goods, as we have in the past. No more California avocados in Toronto. More importantly, no more Chinese steel in the US, or any other heavy exports, which will lead to a resurgence in domestic manufacturing and the jobs that come with it. Last year $90 of the $600 cost of Chinese steel went to shipping costs. $10/gal gasoline will take 50 million of our 240 million cars off the road. Even if we replace them with electric cars, we don’t have the power grid to juice them. Chinese exports will collapse, but so will their Treasury purchases, meaning no more bailouts for us. Oops. Subprime neighborhoods will get plowed back into farmland so we can eat. I think Jeff is dead on about oil prices. But as necessity is the mother of invention, some of his predictions about their impact on international trade are a bit extreme for me.

Jun 11 10:41 AM

[TradingHelp...:]

"We're In an Inflationary Recession That May Start to Accelerate" You almost got the headline right. It should read "We're In an Inflationary Recovery That May Start to Accelerate". There is a whole world out there outside of the US. In the UK for example the respected National Institute of Economic and Social Research predicts the UK economy experienced positive MoM GDP in April. China never even went into a recession. Commodity prices are rising strongly. Banks are back in profit. We have seen unprecedented monetary easing and government stimulus. Futures, last Friday, priced in a 59% chance of the Fed having to increase rates by November. Stagflation is not even on the agenda.

Jun 11 11:30 AM

[Donald Ingram:]

Inflation/deflation? Both.
To anyone that has done the grocery shopping lately and then gassed up the car on the way home, to read your mail and find the value assessment for your home diving, then seeing your energy bill for heating/cooling your devalued home - both forces are merrily at work.
As to which gains the upper hand? I surmise that both will run in tandem until the dollar really does take a death dive, then go to hyperinflation (currency event not an economic event) with deflation still acting upon assets at the same time.
Eventually supply and demand will have a pronounced effect but not until the hyperinflationary event has arrived.

Jun 11 11:57 AM

[Davewmart:]

I would suggest that renewables on their own will not fill the gap left by depleting fossil fuel reserves, and that nuclear power is the only thing that can fill the gap.
Fortunately more sophisticated nuclear technologies are possible, which will enable waste to be used as fuel, and increase the burn up from 0.07% to near 100%.
One of the most hopeful of these is Liquid fluoride thorium reactors, which can be build small and in a modular fashion reducing costs.
The main reason it was killed in the 60's was that it is a lousy source of weapon's grade material!
Here is a forum which discusses the technology:
www.energyfromthorium....

This does not mean that declining use of fossil fuels won't lead to anything other than a bumpy ride - we have left it too late to avoid that, with only France being ahead of the game with most of it's electricity provided by nuclear power.

Jun 11 12:24 PM

[Davewmart:]

S/be 'from 0.7% to near 100%'
Apologies

Jun 11 12:25 PM

[Jimbo:]

I hope Michael Young is right in his prediction. I fear he may be wrong.

Jun 11 04:57 PM

[TradingHelp...:]

I hope I am right too. Millions of unemployed do as well.

Jun 11 07:33 PM

[six:]

Are you paying more for a house than you were a few years ago? Don't be a fool- as long as home prices fall we will have DEFLATION. It may take some time to work through to other items but it will. We have every sign of classic deflation- increasing unemployment, falling wages, increased personal savings, falling residental and commercial real estate, increasing bond failures, tax revenue shortfalls... How does LESS PEOPLE WORKING, MAKING LESS MONEY AND SAVING MORE

Jul 16 02:05 PM