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JGBs: Commodities – A Headwind • Inflation concerns will mount if the oil price rises above USD 100/bbl. • In December, the domestic CGPI rose 1.2% y/y, its third consecutive monthly advance and its biggest gain since November 2008. Following the rise in raw material prices, intermediate goods prices have started to move up. • It will be some time before final Japanese inflation moves into positive territory. However, price declines are drawing to a close; increases in raw material prices will tend to spread to other goods. • Investors will note the halt in price declines in H2 this year, which will prove to be a persistent headwind for the bond market. Higher oil price should lead to inflation concerns Amongst international commodity prices, investors should probably focus on crude oil. The WTI futures price has risen to USD 92/bbl for the first time since 2008, breaking through the USD 90 level, a 50% retracement of the plunge in prices following the Lehman shock. In his congressional testimony on 7 January, Fed chairman Bernanke noted that economic growth would be impeded should petrol prices rise excessively. US retail gasoline prices have risen above USD 3 per gallon for the first time since October 2008. Inflation worries rapidly took centre stage when the gasoline price rose above USD 4 in the summer of 2008, pushing the Fed chairman to pause temporarily in his drive to cut Fed funds rates. Inflation concerns will increasingly mount if the oil price rises above the USD 100 mark. Input costs for corporations are rising Investors should pay heed to the wide range of surging commodity prices that include not just oil but precious metals and grains. Price increases are not only the result of expectations of tighter demand conditions due to the bubble-like economic growth in emerging economies. Industrialised nations, the US in particular, are also responsible because of the asset substitution effect generated by their monetary easing and currency depreciation. In other words, it is probable that the surge in commodity prices will be both broad in range and prolonged in duration. 20 15 10 5 0 -5 -10 Chart 1: Japan’s Domestic CGPI (% y/y) Intermediate goods Final goods -15 05 06 07 08 09 10 11 Source: BNP Paribas Raw materials (RHS) Will commodity price surges spread to final inflation? The December flash estimate of the corporate goods price index (CGPI) released by the BoJ on 14 January showed that the domestic CGPI rose 1.2% y/y, its third consecutive monthly advance and its biggest gain since November 2008. Following the rise in raw material prices, intermediate goods prices have started to move up. However, final goods prices continue to fall in year-on-year terms. Declining trend in CPI is drawing to a close Corporate pricing power is decidedly weak. This is particularly true for manufacturers, who face weak final demand and intense competition from abroad. That said, amongst commodities, even grain prices are advancing. These increases are the result of 1) growing demand in emerging economies, such as China, and 2) supply constraints caused by a series of unseasonable weather events, including droughts in Russia/Latin America and floods in Australia. Investors should note that higher raw material input costs for food easily translate into higher final goods prices. The base year for the Japanese CPI will be changed this August. We expect this to result in approximately a 0.5pp downward revision to the year-on-year change in the core CPI. In other words, it will be some time before final Japanese inflation moves into positive territory. That said, price declines are drawing to a close; increases in raw material prices will tend to spread to other goods. Investors will note the halt in price declines in H2 this year, which will prove to be a persistent headwind for the bond market. 60 45 30 15 0 -15 -30 -45 Koji Shimamoto 20 January 2011 Market Mover, Non-Objective Research Section 48 www.GlobalMarkets.bnpparibas.com
Global Inflation Watch Eurozone HICP: Upward Revisions Chart 1: GSCI & CPI Food The past few months have seen an acceleration in the upward trend in oil and other commodity prices, in particular soft commodities. A number of idiosyncratic factors have contributed to these trends including adverse weather conditions, supply disruptions and threats of protectionism. But the increase has been primarily due to fundamental factors including slack monetary policy and the closing of the output gap at the global level (for more on this see “Global Inflation: Ready To Takeoff?”). The risks to global inflation are high. In the eurozone, these trends have been compounded by greater-than-expected strength in the economic recovery in Germany and higher taxes in a number of countries which are undergoing a significant fiscal adjustment. Source: Reuters EcoWin Pro, BNP Paribas Chart 2: German Output Gap & Core HICP Inflation In particular, following a collapse in activity in 2009, the German economy has been a significant beneficiary of the rebound in world economic activity. Growth is likely to be higher than we previously thought (we revised up our GDP growth forecast for 2011 from 2.7% to 3.5%) and more balanced, thanks to a greater contribution from domestic demand. Over time, this recovery will put upward pressure on domestically-generated inflation. As a result of the above-mentioned factors, we have revised up our forecasts for inflation in the eurozone. We now expect headline inflation to average 2.2% in 2011 (from 1.8% previously) and 1.6% in 2012 (from 1.3%). In the short term, the main contributors to these revisions are food and energy prices. Pressure on core prices should remain limited to those components for which food and energy are an important input, such as restaurants and transport services. But core inflation, forecast to average 0.9% and 1.1% in 2011 and 2012 respectively, is still expected to remain contained. Source: Reuters EcoWin Pro, BNP Paribas Chart 3: Core HICP – Periphery vs. Core The continued low level of core inflation is predicated mainly on wage growth remaining subdued by high unemployment and tighter fiscal policies. Recent trends in wages support this view. Note that the outlook differs significantly between countries. In particular, beyond a temporary boost from higher taxes, we believe risks of deflation are still high in the eurozone’s periphery as a result of the ongoing adjustment in fiscal and external imbalances. Source: Reuters EcoWin Pro, BNP Paribas Luigi Speranza/Eoin O’Callaghan 20 January 2011 Market Mover 49 www.GlobalMarkets.bnpparibas.com
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Page 67 and 68: than an unrelenting rise in prices
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