Month: December 2021

In the middle of November, US President Joe Biden signed his $1.2tn (£894bn) infrastructure bill into law.

Biden has described the bill as a ‘once in a generation’ infrastructure measure. “America is moving again,” he said as he signed the bill, telling the American people that “your life is going to change for the better”.

To say that the bill has been controversial is an understatement. It required some Republicans to vote with the Democrats to get it through Congress, and caused a rift in Joe Biden’s own party that was partly blamed for last month’s election loss.

£894bn is a huge amount of money – to put it in some sort of perspective the market capitalisation (total value) of Marks and Spencer is around £4.6bn. The President is committing to spending the equivalent of 200 times the total value of M&S.

So what is he getting for the money? The main thing is investment in highways, roads and bridges, and money to modernise city transport systems and passenger rail networks, plus money for education and improving broadband speeds.

But dig a little deeper and there appears to be several ‘special interest’ projects receiving significant amounts of money, often – by a curious coincidence – in the constituencies of legislators whose support for the bill was crucial: the ‘pork barrel’ as it has long been termed in the US.

Critics of the bill have plenty of ammunition: one example is America’s ports which are currently struggling with backlogs. But, say the critics, rather than address the problem directly, the bill is simply giving the ports money to invest in green technologies – which may be fine in the long run, but which do little to address America’s immediate needs.

There is, though, a more widespread criticism. Inflation in the US has just reached 6.2% – the fastest rate of growth for three decades – and there are real worries that Biden’s infrastructure spending could throw more fuel on the inflationary fire, increasing the cost of living for most Americans.

The bill calls for spending on energy and material-intensive areas. These are exactly the areas where prices are currently rising rapidly – and with other countries copying Biden’s initiative as they look to recover from the pandemic an inflationary spiral may develop. Supply shortages would seem inevitable as the US Government spends more money to chase energy and materials that are already in short supply.

More importantly, the rising prices will not simply be confined to the US. All countries will be chasing the same supplies, from all over the world. With the oil price forecast to rise perhaps 50% by the middle of next year transport costs will rise significantly, which will inevitably be passed on to the consumer. And as we all know, Governments – whether in the US, the UK or elsewhere – never spend their own money: they only spend ours, in the shape of higher taxes.

As the world’s economies recover from the pandemic, there seems to be one spectre that is haunting them all: the threat of inflation.

In China, factory gate prices are at their highest level for 26 years. Early in November, it was reported that US inflation had risen to 6.2%, rising at its fastest rate for three decades, driven by increases in the cost of food and fuel. That last one could go higher yet: the price of gasoline (petrol) is at a seven-year high, with the Bank of America predicting that the price of oil could rise almost 50% to reach $120 a barrel by the middle of next year. That would obviously drive up the price of petrol, which would increase not just the cost of filling our cars, but also fuel costs for distribution companies.

How bad could it get in the UK? Early in November, consumer price inflation fell back slightly to 3.1%, but the Bank of England expects it to reach 4% by the end of the year. Huw Pill, the Bank’s new chief economist, has spoken of inflation reaching 5% by ‘early next year’.

That’s the official view. Anecdotally, there are more worrying signs. Supermarket price inflation has reached its highest level for more than a year, according to industry figures, with ‘grocery price inflation’ reaching 2.1% in the four weeks to October 31st. Prices were rising fastest in areas such as savoury snacks and crisps, while falling in bacon, fresh vegetables and cat and dog treats.

The supermarkets are blaming the higher cost of energy and commodities – and the one we’ve heard so much about over the last few months, problems and shortages in the supply chain.

This, of course, is an area which impacts us all. The Bank of England can say what it likes, but we have to go to the supermarket and many people doing their weekly shopping will treat the official figure of 3.1% inflation with some scepticism.

We may also be short of some Christmas cheer thanks to inflation, as the hospitality sector wrestles with what it describes as ‘terrifying’ inflation – thanks to supply chain problems and labour shortages – running in the 14-18% range. Less than good news for the traditional office Christmas party…

Central bankers – on both sides of the Atlantic – do say that inflation will be ‘a temporary phenomenon’. The Chancellor re-iterated those views in his recent Budget speech, stating that he had written to the Bank of England stressing the need to keep inflation in its ‘target range.’

That’s why Huw Pill described the Bank’s recent discussion on interest rates as a ‘live’ one. Most experts had been expecting a rise in rates to curb inflationary pressures: in the event the Bank left rates at their record low of 0.1%, at least for the time being.

But – as the old saying goes – it’s an ill-wind that blows no good. As we noted above, prices of bacon and pet treats are falling. If you’re fond of a bacon sandwich and you own a cat and a dog the world may not look such a bad place after all…

We do not expect that many of our clients follow the market for natural gas on a daily – let alone hourly – basis. Had they done so, they would have seen some wild fluctuations in the price of wholesale gas in recent months, as conflicting stories about gas supplies have come out of Russia.

While clients may not follow gas prices, most will be aware that Russia supplies a significant amount of Europe’s gas: it is the biggest supplier to Europe, accounting for roughly 40% of all EU gas (In contrast Russia supplies just 1% of Britain’s gas.).

Clearly if you control 40% of any market – especially one as important as gas with winter approaching – you are in a position of strength. There were real fears that Russian leader Vladimir Putin was looking to exploit this in early November when gas flows in the Yamal-Europe pipeline between Russia and Germany started flowing eastwards (back towards Poland) rather than west to Germany.

As most readers will know – and as many will have seen reflected in their own domestic bills – the price of energy has risen rapidly lately. Why then has Russia not capitalised on this by supplying increasing amounts of gas to Europe? It has always portrayed itself as a reliable gas supplier to Europe, but some analysts believe Russia now sees the record prices – and Europe’s fears of a very cold winter – as an opportunity to pressure Europe into approving the controversial Nord Stream 2 pipeline.

This pipeline is expected to double gas supplies to Germany but – along with Nord Stream 1 – has proved highly controversial, with the US unhappy about increasing Russian influence in Europe, and the Ukraine (which is currently seeing a build-up of Russian troops on its border) angry at being bypassed by the pipeline. As has been repeatedly pointed out, the pipeline is more important to Germany than it is to Russia, which could just as easily sell its gas to China or other Asian countries.

So could Russia simply turn off Europe’s gas supplies? The theoretical answer is ‘yes’. At the moment – at least in the short term – the practical answer is ‘no’: Russia needs to sell its gas and it has a ready-made market in Europe.

Who knows, though, what the future may hold? This time last year, rumours were circulating about Vladimir Putin’s health, with stories that he might be suffering from Parkinson’s and that his family wanted him to step down. If Putin was replaced, then it is entirely possible that a new Russian leader would see China and the emerging Asian economies as a better long-term bet than Europe.

The German economy in particular would be hugely vulnerable to this – and it is the German economy that drives Europe. Whoever is in the Kremlin, Europe’s reliance on Russian gas is a simple fact of life. This is a story that we will hear again and again…