Inflation Is About to Get Much Worse
Well, this is gonna get ugly…
I landed back in Prague this week after a nearly three-week business trip, and when I turned on my phone in the taxi ride home, one of the first headlines that popped up told me that inflation is about to ratchet even higher.
The news: The European Union is looking to impose a blanket ban on Russian oil.
It’s one of the great miscalculations in world history—Russia invading Ukraine and starting a senseless war.
The impacts of that boneheaded move are now racing through the global economy.
Russia is (was) a key supplier of oil and natural gas (particularly to Europe), and is the top wheat exporter globally. Ukraine is (was) the breadbasket of Europe, its rich soil—so-called Black Earth—produces nearly 10% of the world’s wheat supply.
The war has disrupted Ukrainian wheat farming, while global anger at Russia’s aggression has resulted in all sort of bans and sanctions.
Banning Russian oil purchases across the EU—assuming it comes to pass—isn’t just an EU issue. It’s a global issue.
The EU represents about 15% of daily oil demand globally. Banning Russian oil would mean the EU must replace that with oil from other countries…which increases demand on oil from those countries…which raises prices for oil globally.
I see a lot of misconceptions about oil in the U.S.—the idea that the U.S. is energy independent (not true) and, thus, oil price movements at home result from policies instituted by whichever president sits in the White House (also not true).
The reality is that oil is a global commodity. No matter where it’s produced, its price is influenced by global events.
Right now, world demand for oil is about 101 million barrels per day. And the world is paying $105 to $111 per barrel, depending on where that barrel comes from. For discussion’s sake, let’s just say oil is averaging about $108 per barrel right now.
If world demand increases by one barrel, and if that extra barrel costs $125 to produce, then all oil rises to about $125 on average. That’s called the “marginal cost” of oil—the idea that oil, globally, is priced “at the margin.”
The other way to look at it: As global supply declines relative to demand, that too raises the price. It’s the same concept, just in reverse.
Europe banning Russian oil is effectively a supply shrinkage, yet demand globally continues to grow. Europe will be looking to other countries to replace the oil it’s not buying from Russia, which is basically the same as increased competition for declining supplies.
You can see how that’s going to have an impact.
Oil prices globally are going to rise from here. And Americans are going to feel that in their wallet.
Gasoline prices will continue to go up, and so will natural gas prices, since Europe will also increasingly import natural gas from all over the world to replace declining supplies it was buying from Russia. (Russia has also banned natural gas exports to certain EU nations.)
As you likely know, oil and natural gas go into hundreds, if not thousands of products. Paint. Fingernail polish. Plastics in everything from shopping bags to car parts. Shoes and clothing. Toothbrushes. Smartphones. Fertilizer. Fuel for cars, trucks, airplanes, tractors, etc.
The entire list would take up this column and another one.
The takeaway is simply that rising oil prices ricochet through everyday expenses in scores of ways.
Europe’s Russian oil ban, thus, would have a direct impact on the costs you and I pay in our life.
And it’s only going to get worse from here.
How much worse?
Wish I knew for sure. But I will not be surprised when official inflation in the U.S. tops 10%, despite the Federal Reserve’s efforts to stanch inflation with interest rate hikes. There are simply too many outside forces pushing inflation higher.
Next stop: Probably a recession.
Good time to own commodities, gold, energy companies…and non-discretionary consumer stocks, because no matter what happens in the economy, people won’t stop drinking beer, smoking marijuana, buying prescription drugs, or shopping at low-cost supermarkets for food.
More on all of that soon…