Supply Shocks and Inflation of the Russian Gas Cutoff Symbolizes New Era

Inflation is the result of demand growing faster than supply. Central banks can deal with the demand side. The problem is that the world shocks the recurrent supply of one of the most likely years to come.

Characterized by chronically weak demand and a seemingly limitless supply of capital, labor and raw materials result in persistently low inflation and interest rates.

Those conditions have since been flipped. Demand is robust, especially in the US, where fiscal and monetary support have been particularly generous. Advanced economies report shortages of labor, and Covid-19 followed by snarl supply chains, most recently in China.

Meanwhile, Russia’s invasion of Ukraine has triggered widespread shortages of commodities, in particular food and energy. On Wednesday, Russia said it would deliver halted gas to Poland and Bulgaria, pushing up European gas prices. The same day, Indonesia said a ban on the export of crude palm oil to domestic cooking-oil prices.

Maybe this is a run of a year or so. Or maybe it is a prelude to an era in which geopolitical tensions, protectionist policies and natural disasters are repeatedly stressing the world’s supply networks. Central banks, which spent the last decade fighting off deflationary headwinds, might spend the next battling inflationary headwinds.

Inflation, in the long run, is what monetary policy makers want. But the ease of achieving a target rate depends on the inflation of how much the environment adds or subtracts to cost pressures. Inflation surged in the 1970s because central banks failed to curb excessive demand and allowed prices and wages to feed themselves. But their job was made up of repeated supply shocks that pushed up costs.

The most notable shock was the Arab oil embargo in 1973. Food prices were also driven by rising costs of energy and fertilizer and crop failures in Australia, Canada, the US and the Soviet Union. Productivity growth slowed as energy-intensive processes flooded the young and inexperienced workers into the labor market.

Today, the problem is not with the actual supply of physical commodities, but with the physical, legal and market mechanisms of interference with one another, including war and sanctions, which have strangled Ukrainian and Russian exports. gas.

Zoltan Pozsar, a strategist at Credit Suisse, estimates that for Russia, it will take an additional four months and more than 80 “very large crude carriers,” 10 % more than the global fleet now has. He writes: “More expensive ships. More expensive cargo. More expensive transit fees. Much longer transit routes. More risks of piracy. More to pay for insurance. More price-volatile cargo. More margin calls. More need for term bank credit. ”

Food prices are up in the US, with industry executives attributing higher costs to labor, freight and ingredients.


Photo:

Frederic J. Brown / Agence France-Presse / Getty Images

Mr. Pozsar draws parallels to the financial system, which similarly relies on an infrastructure of private banks to price and move money, currencies and credit. If that infrastructure fails, funds can become inaccessible, interest rates skyrocket and currencies crash. Central banks can use this money to buy their own unlimited capacity. Last resort of any equivalent lender, but Mr. Pozsar ventures (implausibly, in my view) that some countries’ military forces serve the purpose of keeping sea lanes open.

When shifting demand and supply fundamentals drive up a price, markets eventually fix the problem. The World Bank noted in a report released this week that higher oil prices in the 1970s brought new supply from Alaska’s Prudhoe Bay and the North Sea. In response to high food prices, Argentina and Brazil went from virtually no soybeans to 17% and 50%, respectively, of the global output, it said. Conservation trims demand, such as higher fuel standards and lower thermostat settings. And technology devises alternatives.

Fertilizer prices have reached record highs, with far-reaching benefits for farmers, agricultural yields and food prices. Behind the causes of WSJ’s Patrick Thomas is the surgeon and what it could mean for your wallet. Photo: Ryan Trefes

But governments today are often doing the opposite, according to the World Bank. Their “policies have so far taken the form of tax cuts and fuel subsidies, especially for gasoline….

The World Bank, in a 2019 report, noted that governments are also looking for high-cost, low-amplifying price swings in both directions. In 2010-11, such policies contributed to a jump in wheat and maize prices that tipped the 8.3 million people into a fiscal.

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China is doing something similar now, according to a new report by Chad Bown and Yilin Wang of the Peterson Institute for International Economics. They say China has restricted exports of fertilizer and steel, driving up prices for consumers in other countries. Domestic conditions and whipsawing global markets in response to rising pork tariffs. “The trouble with China is that it will continue to act like a small country,” they wrote. “Its policies can be beggar-thy-neighbor,” solving “a domestic problem along with its cost to people elsewhere.”

Even if these short-term disruptions soon recede, there are more and more opportunities for ample opportunities in the coming years. Between Russia, China and the West, tariffs, sanctions and export controls are likely to become more frequent in the Cold War sets. Climate presents another set of ongoing risks: Extreme weather can disrupt supply chains and electrical grids, while net-zero mandates can cut-off legacy power systems and renewable energy systems for spur bidding wars.

These need not be kept from a dedicated central bank. But they make the job harder, and the results are a lot less pleasant for the public.

Write to Greg Ip at greg.ip@wsj.com

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