The Threat Of Supply Shock
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Inflation pressures should abate with slowing growth unless there’s a supply shock.
“Spare ribs?”
I nod.
“That’s a classic,” exclaims my dentist cheerfully as he reaches for the tweezers to show me my extracted tooth.
“You’ve actually hit the nerve too, so normally people who do this are in agony.” So it could have been worse… but then he spoils it “but you’ll need root canal.” Oh good.
“Spare ribs, pork scratching, crusty nutty bread and toffee are the leading offenders,” he adds. Now we know. It’s a little late to salvage my broken molar but a small piece of advice worth passing on I thought, for any dear readers with sensitive teeth and little dental insurance.
A dentist should a good profession to be in right now. Pretty recession proof. People will always be breaking teeth and if the pain is sufficient, the cash will be found to fix the problem. Not all businesses can boast that sort of hold over their customers when times get hard.
A US recession and slower global growth generally mean inflation pressures ease up reckons economist Nouriel Roubini. Unless there is a shock. A supply side shock. If that happens then we are looking at stagflation. Stagnant growth with inflation.
Supply side shocks look like they could come from a number of directions. But how would it look at street level? Well, we expect the usual round-up of suspects.
Credit rationing: as the banks have seen vast swathes of their capital evaporate and are now strapped for cash. The disappearing UK mortgage market continued yesterday when Abbey pulled their entire buy-to-let range and increased their fixed rates, says the Fleet Street Daily. UK banks alone are short £37bn JP Morgan said yesterday, as RBS announces a deeply discounted £12bn rights issue and starts selling assets. Interesting that it upped its dividend 10% a couple of months ago. The next interim dividend will be paid as shares in lieu of cash.
Food rationing maybe, on account of shortages of basics staples such as rice. An issue that’s not only a problem for the developing world, as the New York Sun reports food rationing in the US too. Or another commodity… Sky high petrol prices is an obvious candidate as each day the oil prices seems to add a buck or more. It hit $120 late on Tuesday amid further dollar weakness. The euro broke through $.160 for the first time helped by the usual hawkish line from the European Central Bank and strong demand from Asian buyers.
Petrol prices have hit an unheard of $4 a gallon, says Red Hot Penny Shares editor Tom Bulford on a recent visit to Florida’s Disneyland. Still half the price we pay here and he notes even amidst a housing slump there is little sense of any possible shock coming to the affluent US car-centric way of life.
My oil trader friend came for dinner tonight. He predicted recession when we met pre-credit crunch in June last year. Now he sees oil hitting $200 at some point in the next five years.
At what point does it register as a really big problem? I wonder.
“When people stop driving their cars.”
**** So how exactly did UBS lose $38bn in subprime?
Well “one striking fact emerges,” reports the FT from the bank’s own post-mortem.
“Senior executives had no idea of the bank’s vast exposure to the complex mortgage-related derivatives.”
Ah.
Just as senior Barings banking executives more than a decade ago had no idea of the risk attaching to futures and options contracts. A mistake than enabled “star” trader Nick Leeson to bet the farm and lose at a Singapore financial casino thousands of miles away from the banks City HQ.
Other factors cited are statistical indicators that rely on historical events. “They are vulnerable to new-out-of-model,” reports the FT. That sounds like one of those Black Swans (a very rare event). And the thing about Black Swans is that those very rare events seem to happen a lot more frequently than people give credit for.
Regards,
Rob Mackrill
The Daily Reckoning
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