Inflation

DANIEL LACALLE is chief economist at hedge fund Tressis and author of “Freedom or Equality,” “Escape from the Central Bank Trap,” and “Life in the Financial Markets.” Daniel Lacalle

Commodities Do Not Cause Inflation

They’re a consequence, not a cause

In this world of monetary insanity, defenders of central banks’ constant easing try every day to convince you that inflation is caused by numerous factors, rather than by currency printing.

Many blame inflation on cost-push factors or even speculation, but ultimately those are all consequences, not causes. Rising prices are always caused by more units of currency being directed toward scarce or tangible assets.

Commodities exchange-traded funds (ETFs) are a clear example. In 2022, investors have been purchasing these products to protect themselves from inflation and to generate real returns. They’re not a cause, they’re a consequence. With increased inflationary concerns, the likelihood of rising interest rates, and elevated geopolitical concerns, commodities-focused funds have seen record inflows in 2022.

“Year to date through Feb. 25, commodities ETFs gathered $8.5 billion of net ETF inflows,” the website WealthManagement.com reads.

This isn’t the full picture, however. Citing a Commodity Futures Trading Commission (CFTC) report, the Centre for Economic Policy Research’s VoxEU.org stated that “the total value of various commodity index-related instruments purchased by institutional investors has increased from an estimated $15 billion in 2003 to at least $200 billion in mid-2008.” The global commodity services market size was estimated at $4 trillion in 2020, according to Market Research.

In 2020, most investors were very underweight in energy and commodities. The surge in socially responsible investment, as well as the recent history of underperformance of commodities relative to bonds and equities, had created an enormous underweight. As concerns about inflation and geopolitical events unraveled, funds reallocated capital from underweight to equal-weight and now—in 2022—to overweight.

This happened at the same time that central banks injected unprecedented quantities of money into the economy. Between 2020 and 2021, assets of the major central banks rose by more than $10 trillion. Furthermore, broad money supply growth rose at a double-digit rate in 2020 and 2021 in the major economies.

Obviously, one or two prices may rise independently because of particular events. A war can cause that, but it can’t cause a generalized and widespread increase in all prices. Commodity and food prices were already rising to multiyear highs even before the Ukraine invasion was a rumor.

Readers may believe that all this is because of trader speculation, but traders’ actions work both ways. Traders don’t create prices; they trade on them. Traders can’t influence the marginal price of a commodity for long if the fundamentals, inflation, and money reality aren’t there. There are numerous reports from the CFTC proving that investing doesn’t affect commodity prices. Between 2013 and 2019, commodity prices weren’t rising. Why? Because broad money growth wasn’t rising above real money demand.

Oil and gas have risen equally everywhere, yet consumer price index (CPI) inflation is vastly different in the euro area or the United States compared to countries where energy imports are much higher, such as Japan or Korea. Why is CPI inflation twice as high in the euro area or the United States relative to those Asian countries? Much higher broad money growth in 2020 and 2021.

The Ukraine war has created another excuse to blame inflation on oil and natural gas. However, it seems that all those who blame commodities on inflationary pressures continue to ignore the massive rise in housing and shelter, health care, and education costs, as well as goods and services where there was evident overcapacity.

Oil and gas will again be used as an excuse for inflation, while low interest rates and massive currency creation remain. But the reality is that when both deflate somehow, the problem of currency debasement will remain.

The increase in broad money has translated into an explosion in all prices, energy-related or not. Some will blame wages, others will blame the Ukraine war, and others will blame the weak recovery. The fact is that currency destruction is at the heart of generalized price rises everywhere. The other reasons given are anecdotes or consequences, not causes.

More units of currency going to scarce assets looking for protection against inflation—this isn’t speculation, but protection from currency debasement.

Some will blame wages; others will blame the Ukraine war; and others will blame the weak recovery. The fact is that currency destruction is at the heart of generalized price rises everywhere.