Inflation About To Step On The Gas: Perfect Storm Brewing?

With natural gas prices soaring, is consumer inflation about to soar too? Yes, of course.

Natural gas is used everywhere: power generation, heating, transportation, agriculture, metal and chemical production.  It is very deeply entwined into the life of all consumers who, for the last 15+ years at least, didn’t have to worry too much about its price affecting their pocketbooks and living standards. 

This is about to change, and radically so - see chart below.

The price for natural gas in Europe has exploded to unprecedented highs, more than tripling in just a few months. Very sharp hikes are already occurring in wholesale electricity prices, and many providers, particularly in the highly privatized and deregulated UK, are going out of business. Politicians are praying for a mild winter, but prayer does not make for good policy.

How will a sudden tripling of natural gas prices affect consumer inflation? We can look at history for a guide. 

Back in 1973 crude oil was used everywhere, just like natural gas today. Believe it or not, natural gas was mostly considered a waste product and commonly “flared” on site (burned near the oil wells).  When the Arab-Israeli conflict escalated into war, oil producers used oil as a weapon against the West and jacked up prices suddenly from $3/bbl to  $10/bbl - see below.

Consumer inflation followed suit, going from 3% to 12%, bringing about a deep recession - see below.

Will 2021-22 be a repeat of 50 years ago? If we judge by what is going on now in the UK (petrol stations shutting down due to supply "imbalances") and China (widespread gas and electricity rationing is  closing factories, reducing shopping hours and resulting in city brownouts), it is already happening. China's power rationing is certainly going to have a very serious global impact on the supply of all consumer goods, from T-shirts to Teslas. Like I said, gas is everywhere..

 

And now there is A LOT of fuel for an inflation  conflagration.  Money supply is simply through the roof, with M3 going from $15 trillion to $20 in 18 months  - see below.

 Is the bond market reacting? Given the constant manipulation by the Fed and ECB it is not easy to see the reaction - but it is happening.  Just look at the 2-year Treasury yield making new 18 month highs.

Oh, and there is that pesky Debt Limit situation going on, too. Yesterday, the Senate rejected the Biden government's plan to, basically, ignore the debt limit until December 2022.

There may be a Perfect Storm brewing out there for financial markets.