Expert Commentary

Deflation in a Sea of Money

Sure, at face value commodity prices have been surging, but everything is relative, n’est pas? Commodities adjusted for money supply tells us deflation is still lurking.

Commodity prices have advanced very strongly over the past year and, from an Elliott wave perspective, there is very good evidence to suggest that last year’s low in the CRB index could be a very significant nadir. The jury is still out, but even if the advance from last year is the first wave of a new long-term bull market, we know that second wave retracements can be very deep, especially after what would have been a 12-year bear market. Thus, we’re watching developments closely.

The Quantity Theory of Money suggests that the amount of money in an economy will have an effect on the prices of such things as commodities. More money in an economy will lead to higher prices and vice versa, so the theory goes. Although the theory has many issues, it is a generally held belief that more money leads to higher prices.

Thus, with money supply in countries like the U.S. having exploded higher, the Quantity Theory of Money would suggest that commodity prices should be rising. Indeed, they have been, but to what extent?

The chart below shows the price of Crude Oil adjusted for the level of U.S. M2 money supply on an index basis. The price of oil relative to the amount of money sloshing around has been declining since 2008. Do you remember the panic about “peak oil” back then and everyone thinking that the price would continue to rise? Well, there was a peak – in the price.

Relative to money supply, despite the most powerful money creation in U.S. history, the price of crude oil remains in a downtrend, at least for now. Unless it breaks this downtrend, it is difficult to imagine any sustained price inflation. Indeed, the threat of debt-deflation remains the clear and present danger.


Crude Oil Adjusted For Money Supply- April 2021