Fed distances itself from high oil price

Excellent balanced comment from FT editor – and the conclusion is simply: Scary!

Anyone who does not believe in debasing?

Nice week-end

http://view.ed4.net/v/8P1R88/S3E9NO/EXCYA0X/0GTGP/

Note from the editor

Fed distances itself from high oil price

By Javier Blas The US Federal Reserve has a message for the commodities markets: it was not us and we plan to ignore you. Let me explain. Over the past few days, the US central bank has published a number of research pieces about monetary policy and commodities prices in which it argues that its loose monetary policy is not behind – as some critics claim – the spike in commodities prices. The research also concludes that the Fed should ignore the impact of high commodities prices on inflation – again, something that critics dispute vehemently – and focus instead on core inflation. The research by the Federal Reserve Bank of San Francisco and the Federal Reserve Bank of Chicago shows, in any case, the growing importance that commodities play in monetary policy nowadays. As the Chicago Fed puts it: "The recent run-ups in oil and other commodity prices and their implications for inflation and monetary policy have grabbed the attention of many commentators in the media." Yes indeed, they have: over the past few weeks, oil has hit $125 a barrel, copper a record of more than $10,000 a tonne and corn an all-time high of almost $8 a bushel. Difficult to ignore this stuff, even if the Fed would prefer that the media – and the market – looked elsewhere. The San Francisco Fed, which published the paper on the impact of US monetary policy and commodities prices, says that its analysis does not provide evidence that large-scale asset purchases, better known as quantitative easing, fuelled the rise in commodity prices. "It shows that, despite the fall in long-term interest rates and the depreciation of the dollar, commodity prices fell on average on days of large-scale asset purchases announcements," the research paper concludes. "Some critics argue that Federal Reserve purchases of long-term assets are fuelling this rise by maintaining an excessively expansionary monetary stance. However, daily data indicate that Federal Reserve announcements of large-scale asset purchases tended to lower commodity prices even as long-term interest rates and the value of the dollar declined," the San Francisco Fed's research paper adds. The analysis, however, ignores the impact pre- and post-announcements of large-scale assets purchases. The Fed communicated well its intentions to the market, so it is hardly surprising that investors bought the rumour and sold the news. Hence, the findings of the Fed. Once the San Francisco Fed has felt reassured that the US central bank has nothing to do with high commodities prices, the Chicago Fed has looked at how it should react to them. The Chicago Fed has concluded in a research paper – signed by its own president Charles Evans – that it could ignore them. The study says that "sharp increases and decreases in commodity prices have had little, if any, impact on core inflation", the preferred measure of inflation of the Fed. The bank argues that the share of commodities in the US economy is decreasing and adds that, in the case of oil, the price increases do not need to force the central bank to tighten its monetary policy as oil price "increases tend to slow the economy even without any policy rate increases". The bank further argues that it would need to act only if high commodities prices spill over to core inflation. But it concludes that is an unlikely case: "Assuming there is a generally high degree of central bank credibility, there is no reason for such expectations to develop – in fact, in the post-Volcker period, there have been no signs that they typically do." The Fed has a point here, particularly on the fact that high commodities prices are self-correcting to the economy slowing economic growth. The main problem is that some other central banks – particularly in emerging countries – are taking home the message of the Fed. For them, however, high commodities prices are a problem: the share of raw materials consumption per unit of gross domestic product is higher and the credibility of other central banks is usually less than the Fed.