Commodity prices show a strong correlation with large-scale asset purchases, evidence that contradicts Federal Reserve Bank of San Francisco research published earlier this week that indicated quantitative easing has not caused commodity price increases.
The San Francisco Fed report concluded that "commodity prices fell on average on days of LSAP announcements"; using the price change from one day is unlikely to capture wider macro-economic trends. Bloomberg Brief found that widening the time horizon from the start of QE1 through today paints a different picture.
The chart shows a strong correlation -- R^2 of 90 percent -- between cumulative Fed Treasury purchases associated with the first and second rounds of quantitative easing and the Thomson Reuters Jefferies CRB Index.
During the first round of quantitative easing from March 25, 2009 through Oct. 29 of that year, the Fed purchased $300 billion of Treasuries, and the CRB index rose 22 percent. From Oct. 29, 2009 to August 2010, the period between the two rounds of easing, commodity prices fell by nearly 3 percent. From Aug. 17, 2010, when the Fed renewed its Treasury purchase program -- 10 days before Bernanke indicated the Fed would likely implement another round of quantitative easing -- and yesterday, the CRB index has risen about 33 percent with the Fed purchasing an additional $544 billion in treasury assets.
This is strong evidence that while the relationship between daily price changes in commodities and Fed purchase announcements was insignificant, the longer-term relationship is much stronger. It also suggests that in June when the second round of asset purchases is scheduled to end, upwards pressure on commodity prices may be reduced. That may alleviate inflationary pressure in countries like Brazil, whose economies are highly sensitive to commodity prices.
By the same token, when the Fed begins to unwind its balance sheet, that may place downward pressure on commodity prices. As the central bank removes liquidity from the system and prepares for higher long-term interest rates, it will increase the cost of carry for holding commodities.
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