Commodity prices have been soaring in recent months. Futures for lumber, copper and steel are rallying day after day, hitting multiyear highs and pushing inflation higher.
March prices for final demand goods advanced 1.7%, with the index for final demand services moving up 0.7%. The final demand index increased 4.2% for the 12 months ended March 31.
Nonetheless, the Federal Reserve doesn't seem to be concerned. In debating the global economy's state in April, Federal Reserve Chairman Jerome Powell talked of bottleneck inflation. That is inflation due to a delayed response of the economy's supply-side to a rapid expansion of the demand side, which creates shortages and pushes prices higher.
Bottleneck inflation is usually temporary as price hikes will gradually temper off as supply catches up with demand.
While it makes sense, this theory cannot explain the multiyear rally in commodity prices. What can explain it is the unusual nature of the Covid-19 recession, whereby household spending on cyclical items like home appliances, home improvements and new homes remained high. These are sectors that are heavy users of materials like copper, plywood and steel. Sales of new U.S. single-family homes jumped 20.7% to a seasonally adjusted annual rate of 1.02 million in March of 2021. It is the highest reading since August of 2006.
That isn't the way it is supposed to be. Cyclical sectors usually decline sharply during recessions, as income and consumer spending drop. But not this time around. Fiscal and monetary spending helped households maintain their purchasing power, increase savings and search for rural homes to escape from city life, which lost its appeal during the pandemic.
Meanwhile, ultra-low interest rates made mortgages more affordable, fuelling demand for new homes and eventually commodities.
Now that the Covid-19 recession is ending and the economy is recovering, cyclical sectors could get the usual boost from rising employment and incomes, which means more new home sales and more demand for commodities.
In short, the boom in commodity prices is the result of fiscal and monetary easing, which supply-side bottlenecks have aided. The trend isn't expected to end anytime soon unless the Federal Reserve reverses these policies, but don't count on it. The Fed has not run out of excuses to keep interest rates near zero, while the federal government has not run out of reasons to keep on spending.
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