June’s CPI Spike Upends PhiSYx’s Oversold Rally, The Only CPI Chart that Matters, Why Inflation’s Trajectory Will Persist

The principal methods by which governments inflate are: (1) huge governmental spending, particularly deficit spending; (2) monetizing the public debt; (3) pegging or forcing down interest rates; (4) ordering wage boosts; and (5) encouraging private credit expansion. The Truman caliphate has resorted to all these methods. The principal methods by which governments pretend to “fight” inflation are by price fixing and wage fixing, usually accompanied by allocations, rationing, and subsidies.—Henry Hazlitt

In this issue

June’s CPI Spike Upends PhiSYx’s Oversold Rally, The Only CPI Chart that Matters, Why Inflation’s Trajectory Will Persist

-The Only CPI Chart That Matters: BSP Debt Monetization vis-à-vis CPI

-Why Inflation’s Trajectory Will Persist

-Price Fixing Pumps Sends SM Group Share of the PhiSYx to a Record 30.43%!

-US-China “Trade War” is ON

The Only CPI Chart That Matters: BSP Debt Monetization vis-à-vis CPI

 

The oversold rally in the Phisix had been upended virtually by the National Government’s report on June’s CPI. 

And practically absent in all of the media's narrative has been the most critical factor in driving up CPI. And that is what makes everything fun!

The financing of demand, an elementary ingredient of economics, has been ignored or dismissed in popular discussions purportedly about the economy.

Yet, a tight correlation has developed between the BSP’s debt monetization and CPI since 2015. A record BSP’s net claims on National Government has coincided with multi-year high CPI.

Everything but the kitchen sink, yes, save for BSP’s financing of the NG’s spending, has been mentioned. Oil, excise taxes, and mostly supply-side factors. Though these factors contribute to or aggravate the present conditions, supply will have to function concomitantly with demand.

Take the sugar industry.  Because of magnified demand and higher compensations, many of the sector's workers have migrated or transferred to the public sector’s “build, build and build industries”. [See Bullseye! Crowding Out Effect in Motion: Sugar Farmers Move to the Construction Industry! Excise Taxes: Will Sardine Manufacturing Be the Next Coca-Cola? March 5, 2018]

The depletion of labor or manpower in the sugar industry has contributed significantly to the reduction of the sector’s output.  [See Wow. Partly Through the Crowding Out, 9 Of 12 Sugar Refineries Stop Operations June 27, 2018]

So while demand for materials, equipment, and other auxiliary inputs increase for the “build, build and build” industries, which have consequently raised their prices, the reduction in output in the sugar industry, have also caused price pressures due to supply constraints.

The question is: how has demand for the build, build and build projects been financed? The most important chart of inflation provides the answer.

Prices thus rise in sectors affiliated with and within the “build, build and build industries” and in the sugar industry. And price increases in these sectors spread to the other parts of the economy for virtually the same phenomena: the distortive impacts of the crowding out syndrome. And such compounds on the contortions brought about by the credit-financed race to build supply in the bubble areas of the domestic economy

Cause and effect.

That said, because inflation bashing has become chic, a confused politician has thus called for an investigation of sugar prices.

Why Inflation’s Trajectory Will Persist

And intensification of price pressures should be expected soon.

There were numerous price increases announced last week: LPG prices, fuel prices, Meralco’s July electricity bills, and minimum fares for Jeepneys (+12.5%)

And that’s not all. Throwing gasoline into the inflation fire measures had also been declared.

To alleviate poverty, various welfare safety nets were activated. The government ratified a feeding program for undernourished kids. The Department of Social Welfare and Development (DSWD) launched a mobile crisis intervention unit designed to “bring crisis services” “within the reach of poverty-stricken families”.

Since these measures will contribute to the expansion of the National Government’s fiscal deficits, it would need to be financed by higher taxes, debt or more BSP’s monetization. Guess, among these alternatives, which will be preferred?

Calls for increases in minimum wages have amplified. A nationwide minimum wage hike could probably be announced, sometime soon, if not during the President’s Duterte’s SONA

The ruckus over street inflation has taken hold as one of the de rigueur political issues.

The political opposition has used inflation as a staging point to assail the administration. Various political personalities have likewise demanded solutions from the National Government like suspending the TRAIN law, increasing interest rates or any measures to curtail advancing price pressures.

The government’s CPI numbers of 5.2% and 5.7% appear to be understated substantially for political denunciation of inflation to crescendo or to garner media's front page treatment. 

And as the National Government becomes more desperate to solve its inflation dilemma, I spelled out a fifth option: manipulate statistics [See Why Interest Rates Will Rise: 1Q Fiscal Deficit Blowout Financed by BSP’s Debt Monetization (QE) and Spiking Public Debt!  May 6, 2018]

From Reuters: “Finance Secretary Carlos Dominguez said he would consider removing tobacco from the basket of commodities used in calculating inflation, which has a weighting of 0.9 percent in the consumer price index versus food’s 35.5 percent.  The proposal needs to be discussed as it involves a change in methodology, Philippine Statistics Authority head Lisa Grace Bersales told Reuters.

You see, it is happening!

In the meantime, BSP Governor Nestor Espenilla Jr. has admitted that the surge in the CPI signified a “setback”. Thus, the BSP has “hinted at a more aggressive action to contain the accelerating pace of domestic price increases”.

Having been dependent on the elixir of easy money, the BSP won’t make any aggressive action unless forced to by the markets.

And it has even been worst today, given the economy’s growing dependence on the acceleration of public expenditures which will have to be funded by debt or by the BSP. A real tightening will vacuum liquidity off the financial system which would starve credit finance to the spend, spend and spend and to the race to build supply bubbles.

That ain’t gonna happen.

Any act of tightening by the BSP will be a pantomime.

And you know why current developments have been fun? Because with the absence of public discussion of the BSP’s debt monetization, such eludes scrutiny.

More of its usage will occur in the absence of scrutiny.

Ergo, whatever superficial tightening measures imposed, a corresponding easing will be applied. At the day’s end, there can be no weaning away, unless current sting will accelerate to push interest rates significantly higher and the peso substantially lower.

A tightening would mean to end the economy’s chronic addiction to inflation. The pangs from a withdrawal syndrome from such policy reversal would not be permitted. 

Until the markets and the economy pushes back, the path dependence on the unsustainable policy of inflation will persist.

Price Fixing Pumps Sends SM Group Share of the PhiSYx to a Record 30.43%!

These dynamics have been evident in the stock markets.

The stock market has been used as a prop to signal developmental progress and prosperity. However, instead of allowing the markets to function as an efficient resource allocator, engineered pumps and price fixing has caused tremendous imbalances within the capital sector.

Mark the close pumps were responsible for 106.49 points or +1.48%. The PSYEi 30 closed the week down by a measly .1%. Without those pumps, the index would have been lower.

For the week, because the SM group (SMPH +1.95%, SM +.46% and BDO +2.39%) pushed essentially the index higher, while the top Ayala Group (ALI -3.17%, AC -2.39% and BPI -1.13%) members pulled it lower. As such, the market cap share of the SM Group soared to a fresh record of 30.43%.

So yes, the PhiSYx continues to become captured by the SM group and juxtaposed to it, mounting concentration risks.

It is fun until isn’t.

US-China “Trade War” is ON

As a final thought, the US-China “trade war” officially started at noon of July 6th Friday.

The “trade war” (“the biggest trade war in economic history”-China) involves the imposition of 25% tariff on US$ 34 billion worth of each other’s goods and is likely to spur considerable disruptions on the global supply and distribution chain networks. And as the leading source of various supply inputs, the impact of the trade walls won’t be limited to China but would instead spillover to the region.  Even more, such economic stalemate would magnify the fragility from China’s debt financed economy.

And such economic spat won’t be confined to trade, cross-border investments and capital flows will most likely be directly or indirectly affected which should exacerbate on the region’s offshore dollar liquidity strains.

That said, it would be interesting to see if the ongoing economic impasse would likewise affect global central banking’s collaborative efforts. If so, the region’s monetary policies could become more fragmented thereby exacerbating the region's financial fragility.  

And an escalation of an economic standoff amplifies the risk of spillovers to the geopolitical arena.

As the 19th century American author Henry George (1839-1897) magnificently described,

Free trade consists simply in letting people buy and sell as they want to buy and sell. It is protection that requires force, for it consists in preventing people from doing what they want to do. Protective tariffs are asmuch applications of force as are blockading squadrons, and their object is the same—to prevent trade. The difference between the two is that blockading squadrons are a means whereby nations seek to prevent their enemies from trading; protective tariffs are a means whereby nations attempt to prevent their own people from trading. What protection teaches us, is to do to ourselves in time of peace what enemies seek to do to us in time of war.

Can the stock market price fixing and sustained inflation remedy the dislocations in the production structure caused by protectionism?

We are living in interesting times indeed.

Wow. Partly Through the Crowding Out, 9 Of 12 Sugar Refineries Stop Operations

Last March, I explained the effects of the movements of laborers from the sugar industry to “build, build, and build” [see emailBullseye! Crowding Out Effect in Motion: Sugar Farmers Move to the Construction Industry! Excise Taxes: Will Sardine Manufacturing Be the Next Coca-Cola? March 5, 2018]

Aside from the crowding out, this anecdote provides two other incisive perspectives. The first is the conflict of economic policies. The SRA is tacitly competing with the public agencies engaged in Build, Build and Build. Or, the crowding out syndrome applies even to government agencies.

The most important is that the National Government (NG) now determines the direction of the economy!

Yet, such crowding out dynamic will have very nasty effects.

Unless landowners mechanize sugar farming to replace the loss of farm labor, the industry’s output will diminish. HIGHER prices of sugar or on agricultural products affected by the worker migration will ensue.

From the Inquirer: 9 of 12 sugar refineries stop operations, says SRA (June 27, 2018) [bold added]

Nine of the country’s 12 sugar refineries have stopped operations earlier than usual this crop year due to the 15 percent drop in cane production.

Sugar Regulatory Administration (SRA) chief Hermenegildo Serafica said that as of this week, only three refineries have remained operational – Central Azucarera Don Pedro, Inc. in Luzon, Busco Sugar Milling Company Inc. in the Visayas and Lopez Sugar Corp. in Mindanao.

Usually, sugar refineries suspend operations by July or August when the crop season ends. But with the decline in cane output to 2.064 million metric tons (MT) from 2.437 million MT last year, companies had been forced to close earlier.

Firms that stopped operations are URC-Carsumco, Luisita Sugar Refinery, Biscom Inc., First Farmers Holding Corp., URC-Ursumco, URC-Sonedco, Victorias Milling Co., Hideco Sugar Milling Co., Davao Sugar Central Co Inc.

Due to lower output, sugar prices have risen.

The wholesale price of raw sugar surged by 42 percent to P2,148 per 50-kilogram bag (LKg) last week from P1,507.71 per LKg at the start of the year, while retail prices have risen by 10.48 percent to P52.72 a kilo from P47.56 a kilo.

The sugar industry’s dilemma has been caused by many factors. And a significant ingredient has been the crowding-out syndrome.

Needless to say, transfers, as a result of public policies, don’t result in value-added or productive growth.

Government Intervention Equals Soaring Sugar Prices

In our earlier post Food Crisis Watch: Sugar On Fire- Writing On The Wall? we attributed the current runaway prices in world sugar partly to adverse weather (in India) which has affected supply, growing world demand, and most importantly, the unintended effects from government policies (e.g. export bans).

The Wall Street Journal gives a US perspective on the current sugar pricing dynamics... (all bold highlights mine-our comment below)

``Some of America's biggest food companies say the U.S. could "virtually run out of sugar" if the Obama administration doesn't ease import restrictions amid soaring prices for the key commodity.

``In a letter to Agriculture Secretary Thomas Vilsack, the big brands -- including Kraft Foods Inc., General Mills Inc., Hershey Co. and Mars Inc. -- bluntly raised the prospect of a severe shortage of sugar used in chocolate bars, breakfast cereal, cookies, chewing gum and thousands of other products.

``The companies threatened to jack up consumer prices and lay off workers if the Agriculture Department doesn't allow them to import more tariff-free sugar. Current import quotas limit the amount of tariff-free sugar the food companies can import in a given year, except from Mexico, suppressing supplies from major producers such as Brazil.

``While agricultural economists scoff at the notion of an America bereft of sugar, the food companies warn in their letter to Mr. Vilsack that, without freer access to cheaper imported sugar, "consumers will pay higher prices, food manufacturing jobs will be at risk and trading patterns will be distorted."

``Officials of many food companies -- several of which are enjoying rising profits this year despite the recession -- declined to comment on how much they might raise prices if they don't get their way in Washington.

``The letter is the latest salvo fired in a long-simmering dispute between U.S. food companies and the sugar industry over federal policy that artificially inflates the domestic price of U.S.-produced sugar in order to support the incomes of politically savvy sugar-beet farmers on the Northern Plains and cane-sugar farmers in the South. Most years, the price food companies pay for U.S. sugar is twice the world level.

``Ron Lucchesi, head of procurement for Gonnella Frozen Products in Chicago, which signed the letter, said current U.S. sugar policy distorts pricing. Though sugar accounts for only 0.5% of total costs at Gonnella, soaring sugar prices are "part of the equation" that already has led the company to raise prices for kaiser rolls, hamburgers and hot dogs, all of which include sugar.

``The issue is coming to a boil again because sugar prices, both in the U.S. and globally, have soared to unusually high levels for more than a year and show little sign of easing any time soon. Prices of sugar futures contracts have risen 95% so far this year, hitting a 28-year high in recent days. On Wednesday, raw-sugar futures jumped 4.8% to 22.97 cents a pound at the Intercontinental Exchange.

``Prices are up because the world is consuming more sugar than farmers are producing. One big factor: The world's largest sugar producer, Brazil, is diverting huge amounts of its cane crop to making ethanol fuel. Likewise, the food industry has complained bitterly in recent years about the U.S. ethanol industry's ravenous appetite for corn, which helped push up prices for that key ingredient too.

``More than half of Brazil's sugar-cane crop is processed into ethanol while about one-third of the U.S. corn crop is made into the alternative fuel. An erratic monsoon season in India also has led sugar analysts to reduce their production forecasts for the world's second-largest sugar producer.

``At the same time, U.S. sugar supplies are tight. In its monthly report on global farm markets released Wednesday, the Agriculture Department said it expects U.S. sugar supplies by September 2010 to drop 43% from this fall."

Some insights from the article:

-Import quotas limits sugar imports (hence limit supply)

-Import quotas signify as subsidy to the sugar industry.

-Limited supply against greater demand equals high prices.

-Consumers ultimately pay for higher prices from which the sugar industry benefits.

Hence subsidy is a form of taxation where to quote Murray Rothbard, ``Subsidy has always meant that one set of people has been taxed and the funds transferred to another group: that Peter has been taxed to pay Paul."

Ergo, consumers are taxed and the funds/rent go to the sugar industry.

-Moreover, ethanol "clean air" mandates (another set of subsidies) have been shifting the supply and demand patterns as agri feedstocks (US corn and Brazil's sugar) for biofuel based energy now compete with food.

-End result: shortages and skyrocketing prices. In short, runaway sugar prices is a prologue to similar patterns in agricultural produce.

Lesson: To quote Milton Friedman ``If you put the federal government in charge of the Sahara Desert, in 5 years there'd be a shortage of sand!”

Food Crisis Watch: Sugar On Fire- Writing On The Wall?

Sugar prices have been on fire.

According to the Economist, ``THE price of sugar is higher than at any point in 27 years, having risen much more than prices of other food in recent months. The cause appears to be a huge drop in sugar production in India, the world's second-largest producer. In the 2007-08 season India's output was 28.6m tonnes of sugar, but this year production is estimated to fall to 16m tonnes. Indian farmers planted less sugarcane last year after sugar prices fell, partly in response to a ban on exports. A weak monsoon also threatens this year's production. Indians are also the biggest consumers of the sweet stuff: in 2008, they used 24.3m tonnes, nearly 15% of global demand. A decline in Indian production means that it will import more, driving up international prices. India's government has lifted its export ban, but production is unlikely to meet demand before 2011."

So the unintended effects from government policies to curb exports and weather appears to be the "seen" culprit.

But as you would probably notice, the Economist food price index have likewise been creeping higher but at a much subdued clip relative to sugar prices.

I would add that sugar's accelerated price movement came about as stock markets globally surged. This implies of some correlation-loose monetary environment plus fiscal policies may have likely been principal factors too.

Nonetheless here is Jim Roger's take on sugar.(emphasis added)

``Sugar –even though it is at a 28 year highs, you would probably know it is down 70% from its all time high. So sugar is still very depressed on any kind of historic basis and I suspect it will go higher. The last time we had a bull market in sugar in 70s, if you would remember there was no biofuel - that is a huge new element of demand now and most of Asia was not involved in the sugar market in any big way back in the 70s. But now Asia is prospering and there are 3 billion people trying to have a better life and most people when they get more prosperous, use more sweets. So you have big elements of demand in sugar now that you did not have in the last bull market. I wouldn’t sell sugar, I don’t know if it is going to go up in the next week or the next month but I am certainly expecting sugar to go much higher during the course of the bull market over the next several years.

It won't be just sugar though...

Jim Rogers anew, ``food inventories are at the lowest they have been in decades – not lowest in months or years but in decades. There is a very good chance that we are going very serious explosions in the price of food because we may have no food at any price if we continue to have weather problems. Yes you are having some monsoon problems in India but the rest of the world still hasn’t had bad weather. If we start having serious weather problems around the world as we have had many times in history, the price of food is going to skyrocket because there are no inventories and there is no productive capacity."

Ergo, The price spike in sugar could be the proverbial "shot across the bow".

As we noted in Chart: Global Food Price Inflation

``Many factors that gives rise to these disparities, aside from monetary and fiscal policies (taxes, tariffs, subsidies, etc...), there are considerations of the conditions of infrastructure, capital structure, logistics/distribution, markets, arable lands, water, soil fertility, technology, productivity, economic structure and etc.

``Our concern is given the present "benign state of inflation", some developing countries have already been experiencing high food prices, what more if inflation gets a deeper traction globally? Could this be an ominous sign of food crisis perhaps?"