Roubini: Commodities Due for a Correction

From crude to copper, from gold to silver, most commodities have been on a tear lately—but is the rise too much, too fast?

So says Dr. Nouriel Roubini, professor of economics at New York University's Stern School of Business and chairman of the RGE Monitor. Best known for his accurate predictions of the current financial crisis back in 2005, Dr. Roubini now argues that the world has set itself up for another bubble in risky assets, like commodities - and when the bubble pops, it won't be pretty.

HAI Associate Editor Lara Crigger caught up with Dr. Roubini at the "Inside Commodities" conference on Nov. 4, where he shared his thoughts on global commodities markets, including why we can't look to China to drive global growth, how $100 oil would tip us back into recession, and what will happen when the commodities bubble finally pops.

Crigger: Here we are at the "Inside Commodities" conference—so which commodities do you think will perform well in 2010?

Roubini: Well, in my view, commodity prices have increased since the beginning of the year too much, too fast, when compared to the improvement in economic fundamentals. Some of that increase is justified. But if the global economy were to have a more anemic, subpar recovery—if instead of a V-shaped recovery, there's going to be a U-shaped recovery—then I actually think demand for commodities would be weak compared to supply, and there could be a correction in commodity prices in 2010.

Take oil prices: They have gone up from $30/barrel to over $80, at a time when demand is back to 2005 levels and oil inventory is at all-time highs. Part of the increase is justified by fundamentals. But part of it is essentially this wall of liquidity chasing assets, and the effect of carry trade on the U.S. dollar, driving further higher these commodity prices.

So these nonfundamental factors can push oil and commodity prices higher, especially if there's going to be an increase in expected inflation. But the fundamentals of supply and demand actually suggest that, from now on, oil and other commodity prices should be lower, rather than higher.

Crigger: Last year, Jim Rogers spoke at this conference and told us that the U.S. was doomed to be a third-world economy forever. What do you think? Can America regain its competitive edge?

Roubini: In many dimensions, the U.S. does look like an emerging market economy, because it's running significant current account deficits, fiscal deficits and that accumulation of private debt that led to a very severe financial crisis. So now we have to get our act together and tighten our belts, both in private savings and public savings—something we're not doing fully. I'm not bearish on the U.S. economy in the medium/long term, as long as we fix the policy mistakes that led to this financial crisis.

Of course, if you were not to do those things, you could have a decline of the U.S. economy. Certainly, the U.S. economic growth now is only 2.75-3%, compared to 6-7 percent in emerging markets. If we don't fix our problems, then the potential growth could be closer to 2% eventually, rather than 2.75%.

If that were to occur, the U.S. would look like Japan and Europe, where there is economic malaise, slow growth, fiscal problems, high unemployment and large imbalances. That would be something that would lead to the relative decline of the U.S. economy in global economic affairs. But that would be a long-term process, not something that would occur overnight. So no, I don't predict that to happen, but it's conditional on us fixing the mess that we created in our economy. It will take a lot of work by the public and private sector.

Crigger: Speaking of emerging markets, do you think they'll continue to drive economic growth in 2010? Or will the fact that their consumers in developed markets are spending less finally catch up with them?

Roubini: I think they'll fare better than advanced economies, which I expect will have anemic and subpar growth. They're not under the same kind of financial leverage of the houses and the banking system that advanced economies had. And now, they can do countercyclical monitoring of fiscal policy to restore their own growth.

But three caveats I would make. The first caveat: China cannot be the main engine of global growth. China's GDP is $3 trillion; the U.S.' GDP is $15 trillion. The GDP of the U.S., Europe and Japan is $40 trillion. In addition, 300 million Americans consume $10 trillion per year in terms of private consumption, while 1.3 billion Chinese consume only $1 trillion. Even India—900 million Indians consume only $600 billion. The total consumption of 2.2 billion Chindians is $1.6 trillion—only 1/6th that of the U.S. It's just not enough.

Two, the model of growth of China, Asia and most emerging markets has been to spend less than your income, run this trade surplus and sell the excess of production over spending to the U.S. and other deficit countries. But that game is over. Now the U.S. has to spend less, consume less, import less. Therefore, exports have fallen sharply in Asia and so on. So unless they can switch their demand from net export to private domestic demand, recovery of growth will not be to the same very high levels that you had in 2004-2007.

Three, I think part of what China is doing is a mistake, because they're already over capacity. They're pushing up growth on the supply side, rather than the demand side. That's going to increase the glut of capacity in China, in Asia and globally. And it will mean that their growth recovery isn't sustainable.

So I'm bullish about emerging markets, especially Asia and parts of Latin America, over advanced economies. But even emerging markets are going to see constraints to their growth, because of their policy response due to the weaker recovery of advanced economies.

Crigger: There's been a lot of talk recently—particularly from China and Russia—about replacing the dollar as the world's reserve currency. Are the dollar's days as a global reserve currency numbered?

Roubini: Not yet. If the U.S. were to continue to run large, twin fiscal and current account deficits forever and kept on monetizing its fiscal deficits—and there's always that problem of inflation—then there's a chance that the U.S. creditors are essentially going to pull the plug on the U.S. dollar. You could have, as a result, a weakening of the U.S. dollar as a reserve currency.

But usually, the decline of a reserve currency is not something that happens overnight. It's something that occurs over a decade or two decades, and so on.

So the dollar weakness—everything else equal—is a concern, but right now it's not yet disorderly. If there were a collapse, something I don't expect, then yes, you could have a situation where the fall of the U.S. dollar as a reserve currency could accelerate. But it's not the most likely scenario.

Crigger: Switching gears, you've said that gold is only useful as an investment in situations of hyperinflation and catastrophic deflation. But what do you think about other precious metals with industrial applications, such as silver and platinum?

Roubini: Precious metals prices are going to depend on supply conditions compared to demand. There is a global economic recovery, and that implies that demand is rising. But like I said, this isn't totally justified by the fundamentals of supply and demand, but also a wall of liquidity chasing assets, less risk aversion, and this massive "mother of all carry trades" that uses the U.S. dollar as a funding currency.

So in my view, some of the increase—even in precious metals—is not justified by fundamentals. The supply looks excessive, and it looks like part of a bubble, a generalized bubble we see across the world.

Crigger: But does gold still have a role to play in currency, either as a de facto or literal currency standard?

Roubini: Well, the central banks are diversifying their foreign reserves, and that's increasing their demand for gold. China's doing it; India's doing it; others are doing it. Gold is going higher in part because of this central bank diversification, and in part because, of course, whenever the dollar weakens, we see an inverse relation within the dollar price of commodities, including gold.

But if you ask me, can gold can go towards $1,300, $1,400, $1,500 or $2,000, like many gold bugs say? Well, there's only two scenarios in which that could happen. First would be a real increase in global inflation, and we don't see that right now. In most emerging markets and advanced economies there is actual deflation, because there's glut of supply rather than demand, workers have no pricing power and they cut wages. So in a situation where there's deflation rather than inflation, why would gold be staying high? It cannot be. It can go up above or below $1,000, but it's going to move around those levels, and it's not going to break toward $1,500.

The other scenario is Armageddon, another depression, where everybody would buy canned food, guns, ammunition and gold bars and run to a cabin in the mountains. That was the risk after Lehman, but that risk has been severely reduced.

So we don't have Armageddon; we don't have inflation, so gold can maybe go slightly higher. But those people who delude themselves that gold can go to $1,500 or $2,000 are just talking nonsense. The fundamentals are not justified, and those people are just talking their books.

Crigger: Is OPEC still effective at managing oil prices? In the 1970s, they were viewed as this mastermind of pricing; but these days, they seem pretty ineffectual.

Roubini: OPEC can manage prices marginally. The only supplier that has excess capacity that can use it to stabilize oil prices is Saudi Arabia. But once oil is above $80 like it is now, ETF demand, options demand, speculative demand, these can easily push it to above $100.

I would say that if there were a reason we had the global recession last year, it wasn't just Lehman or the subprime mortgage problem; it was that when oil went to $145. That was a major, real trade shock negative, and a real disposable-income shock for the U.S., Europe, Japan, China and all the other oil-importing and commodity-importing nations around the world. That kept the world in recession when oil was at $145. Now, I feel that oil at $100 is going to tip the world into a double-dip recession.

Crigger: Why?

Roubini: Because last year, when oil went to $145, half the world, like emerging markets, was growing very fast. But today, with the global economic collapse, we're now barely out of the ground. The economy is on its knees, trying to rise. If oil were to go because of nonfundamental reasons toward $100, then I would say oil at $100 would be like a big hammer beating on the head of the global economy. At current levels, oil prices aren't justified, but they can go higher because of market dynamics and speculation; much higher.

Crigger: You've come out in favor of position limits for commodities—how would that solve this problem?

Roubini: I'm in favor of position limits, because I think this volatility in oil prices is severely damaging the global economy. When oil goes to $145, we have a global recession. When oil goes to $30, nobody invests in new capacity. And these swings in boom and bust in oil prices are extremely damaging to economic growth. It's time to control it. If we don't control it, these booms and busts are going to become more severe, more damaging and more risky.

Crigger: If we put in place position limits, how would that impact futures-based commodities funds? Would that kill them off, as some have said?

Roubini: It might kill them off, but frankly, who cares? I care about the real economy. I care about not having another global recession. If people are speculating on oil, and that pushes oil up to $145 like last year—I'm in favor of limits on that. Who cares about this? Frankly, I couldn't care less.

Comments

[market ace:]

Maybe Roubini got it right on the financial crisis, but now he is just taking advantage of that and shooting off his mouth without much real knowledge of what is happening or going to happen, like the typical econ professor that he is.

Apparently the world moves to fast for him to comprehend with statements like it will take decades to kill the dollar as the world's reserve currency when our gov't is pushing so hard to devalue it and the rest of the world is sick of our deficits amd QE and has the power to kill it whenever they choose.

Does he really think commodity position limits would stop speculation when all that will do is move trading to other foreign markets.

As usual he has no concept of gold as money and hangs his hat only on supply and demand.and even ignores the devaluation of the US dollar, the Chinese demand and the huge shorts held by US banks that need to be unwound.

Roubini has had his day and should now shut up and crawl back in his black hole

Nov 06 05:38 PM

[DL1947:]

It seems that there are a lot of Roubini haters out there , they dont seem to want him to spoil their party . But generally he makes a lot of sense , a lot more than the many of the permabulls who are no more than cheerleaders with no argument better than hey the market is up again ( in US$ that is , not so good when valued in other currencies or against commodities ) ; Wall St and Washington must just love them .

Nov 06 06:44 PM

[Mark Anthony:]

It was a horrible horrible mistake that merely because he wears a black square hat, Dr. Nouriel Roubini should be invited to a commodities conference and sit next to respected commodities investment gurus like Jim Rogers, who actually travels around the world and knows what's going on.

1. Roubini obvious does NOT know any commodity at all. He does not know supply/demand of any of the commodities. He doesn't know any of the numbers of supply and demand of anything.

2. Even worse, Roubini feels he is entitled utter nonsenses on commodities supply/demand, without knowing any number, just because he was invited so he thought was qualified to talk. The professor should simply acknowledge he does not know the numbers or the fundamentals, when he does not know then.

3. Even worse than talking about something he doesn't know, Roubini doesn't even seem to be able to use logic. He was basically telling us that the combined economic scale of India and China, with a combined population almost 8 times that of the USA, consumes less than 1/6 of the USA total, so therefore it is IMPOSSIBLE for China and India's economy to grow further.

Well DAH, professor! Exactly because China and India's per capital consumption is only at 1/48th of the per capital level of the USA, there is a GIGANTIC GIGANTIC ROOM for the economy of both country to grow. The economic scale of Chindia could easily grow to $80 trillion, and America's $16 trillion economy will be reduced by 75%, in real purchase power term.

The only limit to growth is this planet simply do not have enough natural resource to allow both countries to develope to the consumption level any where near America's current consumption level. That's an unbreakable physical limit.

All it says is there will be a huge bull market for commidities and a bear market for the fiat currencies.
seekingalpha.com/autho...

Roubini must learn to say "I don't know" when he does not know.

Nov 06 07:06 PM

[Frederick C...:]

Mark, I think what Roubini is saying is that with Chindia's 1.6 Trillion economy growing at 8% per year you would only get 1.728 Trillion next year and 1.866 Trillion in 2011 and this increase is still just too small an economy to sustain the demand side of the equation as compared to the rise in commodities' prices.

Think about it.

The only thing we really don't know is how big this precious metals bubble could be because gold and silver markets are really small compared to the forex market.

As far as oil is concerned, I totally agree with Roubini that once oil hits 100 and STAYS ABOVE, we are gonna see another dip in recession as the world's households would suddenly face a severe drop in purchasing power.

Nov 06 08:35 PM

[ryanclarke:]

Roubini said : Well, in my view, commodity prices have increased since the beginning of the year too much, too fast, when compared to the improvement in economic fundamentals.


My response is: This is exactly why the improvement in economic fundamentals won't last for much longer. The strength of the U.S. currency from 1982-2000 relative to other currencies ... allowed the U.S. to amass a "cheap oil" infrastruture full of jobs that require "cheap oil" ... with little to none capital investment in the energy sector. Now the U.S. must solve it's "energy problem" in a year ... after having wasted nearly thirty years of research time and development. TIME IS MONEY and the U.S. has wasted too much to keep the game going much longer ... unless one believes big oil will be able to pull a google barrels of oil out of the Gulf of Mexico and Iraq ... in a year.

Nov 06 10:58 PM

[isaac the t...:]

Mark Anthony,
You are either a fool, or severely undereducated, or just too full of yourself to see beyond your own nose. Grow up, would yah?

Nov 06 11:04 PM

[Bill S. Friend:]

The dollar index has dropped 10% in one year. Inflation is not yet a factor. Watch what happens to precious metals when inflation begins. Has the prof been sampling the government Kool-Aid? This is a crisis of confidence They must have asked him to knock it off to avoid a self fulfilling proficy.
Gold above $1300 is imminent.

Nov 06 11:49 PM

[aussiereader4:]

The rest of the world taxed oil and gas to drive efficiency. America open your eyes, you have an auto industry that has just about disappeared as a result of an orgy cheap gas that suddenly became expensive.


On Nov 06 10:58 PM ryanclarke wrote:

> Roubini said : Well, in my view, commodity prices have increased
> since the beginning of the year too much, too fast, when compared
> to the improvement in economic fundamentals.
>
>
> My response is: This is exactly why the improvement in economic fundamentals
> won't last for much longer. The strength of the U.S. currency from
> 1982-2000 relative to other currencies ... allowed the U.S. to amass
> a "cheap oil" infrastruture full of jobs that require "cheap oil"
> ... with little to none capital investment in the energy sector.
> Now the U.S. must solve it's "energy problem" in a year ... after
> having wasted nearly thirty years of research time and development.
> TIME IS MONEY and the U.S. has wasted too much to keep the game going
> much longer ... unless one believes big oil will be able to pull
> a google barrels of oil out of the Gulf of Mexico and Iraq ... in
> a year.

Nov 07 04:49 AM

[pdtor:]

In general I agree with Roubini that commodities are being played, due to the excessive amounts of $$ being floated around. Where do you think the big banks are making their profits? Oil demand does not justify it's present pricing. The pulldown of US markets could expose these weaknesses as it did Nov 08, it could be sudden and severe............and could bring on new bank crises. As for gold, a good friend in all bad weather climates. He does not understand geopolitical realities, what with a possible war with Iran, instability in in Iraq, and Pakistan gold a good hedge. It may see $1500 inn the near future 6-18 months out. But as always look out for Black swans, there seems to be many in the making.

Nov 07 08:32 AM

[Luis de Agu...:]

Actually, the financial crisis interrupted but has not nor will it terminate the commodity price boom that characterizes much of this decade. Work by Wainwright Economics finds a rebounding economy together with hidden but advancing inflation
will push commodity prices up in the coming year, especially farm commodities. Look for the rebound to add eight percent (based on the gold price from a year ago – the dollar decline, really) to their performance.

Luis de Agustin

Nov 07 09:02 AM

[john s. gordon:]

commodity futures prices will continue to grow as long as china continues to gobble up supplies for stockpile, using u.s dollars of which the have ample.
remember the planning horizon for the beijing central planners is 50 yrs. in the u.s.a our planning horizon is no longer than the next election, 12 months @ the most.
> jack

Nov 07 09:20 AM

[philais:]

Uhh... No. Not cheap gas, market priced gas! Low gas taxation compared with our socialist European friends. And, the auto industry has not just about disappeared (Look at all the new foreign plants popping up.) just the American plants, because of bloated outdated labor, retirement and medical costs that the government won't let be repriced down.

While the US population was 226,545,805 in 1980, it is now approaching 316,000,000 in 2010. Yet oil use in the US was around 17 million barrels a day in 1980 or about .075 barrels per person per day is now around 19 million day or around .06 barrels per person per day. tonto.eia.doe.gov/coun... www.usapopulationmap.c... showing that Americans are using less oil per person. Japanese auto makers where the ones that got it right with regards to what Americans wanted (look at the winners in the cash for clunker program) while the US producers got punished.
On Nov 07 04:49 AM aussiereader4 wrote:

> The rest of the world taxed oil and gas to drive efficiency. America
> open your eyes, you have an auto industry that has just about disappeared
> as a result of an orgy cheap gas that suddenly became expensive.
>

Nov 07 02:34 PM

[5142152-337:]

Indeed, Roubini may be in a little over his head regarding the "inner workings" of precious metals. I don' t know, but PMs are a different animal and the vast majority of the "Roubini types" just don't have a good grasp for them. Its a difficult arena without specializing. So, I will just continue to buy PHYSICAL gold and silver...that is until my barber, the cab driver, the cashier at the grocery store, etc are all talking about how they are buying PMs. Then, its time I'll be selling.

Good day!

Nov 07 03:11 PM

[Bill S. Friend:]

There have been several attempts to raise CAFE standards and all have been thwarted by the automotive industry, to their own detriment. The attitude which eminates from michigan has been one of entitlement and ignorance, leaving little room for sympathy. The great legacy and prosperity that once was the envy of the world has been squandered.
In regard to precious metals, I have about 20 years before retirement, and all of my investments have been gutshot. I am planning on a steady course of precious metals to hopefully mitigate the weak dollar policy which provides no benefit to me whatsoever. The USD has lost 97% since 1971 (40 years +/-) so the next 20 will provide a 48.5% headwind to overcome (in a best case scenario) as people begin to realize this fact the attraction of precious metals will increase.

Nov 07 08:43 PM

[bkalahas:]

Mark,
There is a difference between the will/policy to grow and the capacity for growth. What you have been refering to is the capacity for growth in China followed by India. Probably China has better economic policies than India but neither country can grow at a GDP growth rate more than 6-8%, primarily due to state-sponsored growth limits.
Ramanathan

On Nov 06 07:06 PM Mark Anthony wrote:

> It was a horrible horrible mistake that merely because he wears a
> black square hat, Dr. Nouriel Roubini should be invited to a commodities
> conference and sit next to respected commodities investment gurus
> like Jim Rogers, who actually travels around the world and knows
> what's going on.
>
> 1. Roubini obvious does NOT know any commodity at all. He does not
> know supply/demand of any of the commodities. He doesn't know any
> of the numbers of supply and demand of anything.
>
> 2. Even worse, Roubini feels he is entitled utter nonsenses on commodities
> supply/demand, without knowing any number, just because he was invited
> so he thought was qualified to talk. The professor should simply
> acknowledge he does not know the numbers or the fundamentals, when
> he does not know then.
>
> 3. Even worse than talking about something he doesn't know, Roubini
> doesn't even seem to be able to use logic. He was basically telling
> us that the combined economic scale of India and China, with a combined
> population almost 8 times that of the USA, consumes less than 1/6
> of the USA total, so therefore it is IMPOSSIBLE for China and India's
> economy to grow further.
>
> Well DAH, professor! Exactly because China and India's per capital
> consumption is only at 1/48th of the per capital level of the USA,
> there is a GIGANTIC GIGANTIC ROOM for the economy of both country
> to grow. The economic scale of Chindia could easily grow to $80 trillion,
> and America's $16 trillion economy will be reduced by 75%, in real
> purchase power term.
>
> The only limit to growth is this planet simply do not have enough
> natural resource to allow both countries to develope to the consumption
> level any where near America's current consumption level. That's
> an unbreakable physical limit.
>
> All it says is there will be a huge bull market for commidities and
> a bear market for the fiat currencies.
> seekingalpha.com/autho...
>
> Roubini must learn to say "I don't know" when he does not know.

Nov 08 01:32 PM

[rich168:]

GS(now a bank)
is getting FED FUNDS at a cheap rate and putting in on oil, metals, farm produce.

That's carry trade.
Banks are not lending anymore
They are trading.

Nov 09 06:03 AM

[Kinetics63:]

Well said, DL1947!


On Nov 06 06:44 PM DL1947 wrote:

> It seems that there are a lot of Roubini haters out there , they
> dont seem to want him to spoil their party . But generally he makes
> a lot of sense , a lot more than the many of the permabulls who are
> no more than cheerleaders with no argument better than hey the market
> is up again ( in US$ that is , not so good when valued in other currencies
> or against commodities ) ; Wall St and Washington must just love
> them .

Nov 09 11:53 AM

[Mark Anthony:]

The growth in China is more likely 9% for 2009. Don't know what's the number for India, but should be good, too.

The growth in China is NO WAY state-sponsored. China tried state-sponsored economy in the first 30 years of the founding of PRC, it did not work. In the next 30 years China achieved a lot by backing away from state-sponsored economy. The govern executed a series of economic relaxing policies, so outside investments poured in and the economy boomed. It's external investment sponsored growth, NOT state-sponsored growth. You get it totally wrong.

Read how free market economy works and why the money is flowing into China:
seekingalpha.com/autho...


On Nov 08 01:32 PM bkalahas wrote:

>
> Mark,
> There is a difference between the will/policy to grow and the capacity
> for growth. What you have been refering to is the capacity for growth
> in China followed by India. Probably China has better economic policies
> than India but neither country can grow at a GDP growth rate more
> than 6-8%, primarily due to state-sponsored growth limits.
> Ramanathan
>
> On Nov 06 07:06 PM Mark Anthony wrote:

Nov 09 01:59 PM

[User 479479:]

I think Dr. Roubini is right on with all of this.

Nov 13 09:11 AM