March 1, 2022
Oil broke above $100 today (trading as high as $106). No surprise, the last time oil was here was 2014, a few months into the last Ukraine/ Russia conflict.
What's different this time? The global economy is running about a percentage point hotter than it was in 2014. And today global demand is outstripping supply for six straight quarters.
Back in 2014, a large increase in global oil production was driven by a surprisingly strong and growing U.S. shale industry. So, back then at $110 oil, supply was growing. Today, it's shrinking, driven by global anti-oil policy.
Bottom line: While the price looks familiar, the supply/demand dynamic has been flipped on its head. We should expect much higher prices.
That brings us to the mid-March Fed meeting. What's the most scrutinized data point for the Fed? Inflation expectations. And what feeds into inflation expectations, like no other? Gas prices.
So the Fed will be facing another gut punch to the price pressure problem, while also facing uncertainty about economic shocks that could come from the growing conflict in eastern Europe. We have a higher prices and potential slowing growth scenario.
What will the Fed NOT do, in this environment? Surprise markets. The market is already pricing in a quarter point rate hike– which will officially end the pandemic induced "emergency policies." Jay Powell will testify before Congress tomorrow and Thursday, and will likely set the table for this outcome.
But the Fed's job to tame inflation will likely get a lot harder (if that's possible). Tonight, Biden's State of the Union will be a platform to pitch Build Back Better to the country, rebranded as an "economic relief" package (addressing rising "costs").
As I said in my Feb 24th note, the day Russia invaded Ukraine: "if economic disruptions unfold, we can be sure that the democrat-led Congress will quickly resurrect the 'Build Back Better' plan to be rubber-stamped." Adding a few trillion dollars in new fiscal spending as the medicine for the hottest inflation we've seen in forty years. Hmm.