Here is an interesting reader question from last week:

Mish,
Oil is set to hit $100 a barrel.
Gold is set to hit $800 an ounce.
Other commodities are periodically breaking all time highs.
Is this deflation?

My Reply:

No, of course not.
Then again the price of oil has little or nothing to do with inflation, at least in any measurable sense.

The above sentence may seem shocking to many, but before we proceed we must agree on a definition of inflation. The definition of inflation that I am using is this: Inflation is an increase in money supply and credit.

For further discussion of that definition, please see Which Comes First: The Cart or the Horse? And with the horse in front of the cart where it belongs, let’s look at oil prices.

Ten Possible Factors Behind Oil’s Rise

  • Oil can rise because of peak oil
  • Oil can rise because of supply disruptions
  • Oil can rise because sentiment is favorable to oil speculation
  • Oil can rise because of increasing demand from other countries
  • Oil can rise because of geopolitics
  • Oil can rise because of war
  • Oil can rise because of weather related phenomenon
  • Oil can rise because of shortages in other energy sources
  • Oil can rise because of monetary printing in countries outside the US that fuel malinvestments requiring oil
  • Oil can rise because of monetary printing or expansion of credit in the US

Of those 10 points, only the last one pertains to US inflation. If someone can tell me to what extent oil is rising because of monetary printing or expansion of credit in the US, then we can talk about oil in terms of inflation. Since this cannot be done, it is impossible to measure the price rise in oil caused by inflation. The cause/result effect here is very important. One must put the horse in front of the cart to talk about inflation in any meaningful sense.

The same applies to copper, grains, and other commodities. For example: Grain shortages in Australia, drought, pestilence, hurricanes, and bad governmental policies in ethanol do not constitute inflation either. Nor can the Fed do anything about any of those.

However, that does not stop the Fed (and everyone else) from talking about the price of oil and grains as if the rise is due to or even sillier yet, going to cause inflation. Nor does it stop the Fed from talking about a whole lot of other things that cannot properly be measured either, such as capacity utilization and the CPI.

The one thing the Fed should discuss is the only thing the Fed does not discuss: An increase in money supply and credit.

In effect, the Fed puts the cart in front of the horse then completely ignores the horse. This is on purpose. It’s in the Fed’s best interest if people do now know what inflation is. The sad result is we have a monetary policy that discusses everything under the sun but money.

Mike Shedlock / Mish
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