Prices have risen significantly this year, along with concerns about inflation taking hold.
Nevertheless, interest rates, basis the yield on the 10-year bond have been inching lower over the past few weeks, while the 2-year has been flat since last May.
Have we arrived at a point of departure wherein rates remain ‘lower for longer’ despite rising prices? Or, is the market signaling that the Fed has it right regarding rising costs being transitory? To state the obvious, only time will tell which view is correct.
Over the long sweep of history, there was a broad correlation between the price of copper and interest rates, but that went out the window following the financial crisis of 2008.
Take a look at the attached chart illustrating the relationship of copper with the cost of money using the prime lending rate as a point of reference. As you can see, beginning in the early 1970’s, as the price of copper rose, ostensibly reflecting a growing economy, interest rates also rose to keep inflation in check. The late 1970’s saw record high interest rates to combat runaway inflation, caused in large part by sharply higher oil prices.
In January 1979, the monthly average price of a barrel of crude oil was $14.85. One year later it had more than doubled to $33 per barrel, and continued rising through mid 1981, reaching $38. The combination of record high interest rates, coupled with severe inflation slammed the brakes on economic growth, and brought us into the era of ‘stagflation’.
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Going back to the copper vs prime chart, you can see that after peaking at 21.5% in December 1980, interest rates went into a long term down trend that saw the prime fall to 4.0% by 2003, and remain at that low level for a protracted period of time. Along the way, 2002 was a watershed year, when China surpassed the United States for the first time as the world’s largest consumer of copper and other industrial materials. This was also the starting point of the super cycle in commodities.
From 2004 to 2006, the cost of money doubled as prices sky rocketed, but cracks began to appear in the housing market, the stock market and the economy overall, necessitating a rapid pullback in interest rates. Although the prime rate began falling in 2007, copper continued rising along with prices for other commodities, until the bubble finally burst in 2008.
In April of 2008, the monthly average price of copper on Comex had risen to a record high $3.94, while crude oil climbed to an average of $134 per barrel in June. By December 2008 though, copper had fallen $2.55, or 65% to average $1.39, while crude collapsed to $42 per barrel, down $92, or 69%.
Today, we are once again seeing commodity prices rise, with Spot copper climbing to a record high $4.78 in May, while the prime lending rate has been flat over the past year. Clearly, something will have to give.
So, the question is, how much of the runup in copper and other materials is due to the ‘green energy’ transition, as opposed to central banks once again coming to the rescue of the global economy, and inflating markets?