Ralph Shell @ 12:15 PM, Tuesday February 15 2011
It looks like the Chinese have yet to uncover measures that will engineer an orderly slow down of their economy. A byproduct of the stimulus and the massive increase in liquidity is inflation. The yearly increased in the CPI was 4.9%, up from last month's 4.6% increase but not quite as big as had been anticipated. The PPI came in bigger than the guesses, a 6.6% y/y increase, higher than the expected 6.1% and the previous period's 5.9%.
Government bureaucrats seem to be the same, regardless of the country. The yearly increase in Chinese food prices has exceeded 10%, so to reduce the impact on the inflation numbers, the food percentage in the basket of consumer purchases was reduced by 2%, and the importance given to housing was increased by 4.22%. Will this sleigh of hand fool the Chinese? The problem with food costs is that it is a lagging indicator and with the probability of weather reduced crops in China, more food inflation is likely.
To diffuse the masses' anger caused by high food prices, the Chinese may resort importing large quantities of grains. With tight global supplies of wheat and corn, this is potentially an explosive situation should there be any hint Northern Hemisphere crops are in danger during the growing season.
Later this morning we got the inflation numbers from the UK. As expected they came in above the Bank of England's target rate of 3%. The CPI rose to 4.0%, up from 3.7% in December. The RPI, retail price index, which includes the interest on mortgage payments was up to 5.1%.
The market is getting impatient for Mervyn King, Governor of the Bank of England, to do something about the inflation rate. Inflation, acknowledges King is a problem, and may remain for a length period of time, but he attributes much of the inflation to the increase in the VAT tax from 17.5 to 20%, and the surge in the petrol price to a record £1.27 a liter in January 2011. The VAT tax increase will continue to impact the Feb CPI numbers, and while the future oil price is an unknown, the $17.50 premium of European Brent crude to W. Texas looks too wide.
Though Mervyn King and most of his boys seem unwilling to raise the bank rate, the market is already doing it for him. Currently two year notes are yielding 1.55%, a big premium over the .86 in the US, and 1.44 for the German bunds. The ten year gilts are paying 3.87%, a premium to US ten year notes yielding 3.64%.
How much of a rate increase is priced into the market? Later this week there are a host of other reports coming from Britain as well as speeches by King, a BOE inflation report, and MPC Member Sentance, who wants a rate increase. Since the beginning of Jan 2011, when the specs were short over 20K of pound futures, they wisely accumulated a long position of over 33k contracts. The GBP/USD has traded above the 1.60 handle on numerous occasions during the past seven months, always to falter and sell off. Perhaps it will be different this time but the pair is not positioned to deal with negative news. We chose the sidelines pending news and developments.
Author: Ralph Shell - ForexRazor Analyst - Graduated from a small Ohio liberal arts college. Graduate studies in economics and history at Duke University. Ten years experience trading cash commodities in domestic and export markets. Former commodity analyst with Merrill Lynch in Chicago. Member of and floor trader at the Chicago Board of Trade for 18 years.