UBS On-Air: Paul Donovan Daily Audio 'The impact of USD 100 oil'

Good morning, this is Paul Donovan, Chief Economist at UBS Global Wealth Management.

It's 7 o'clock in the morning London time on Monday 9 March.

South Korea has imposed a price cap on domestic petrol prices in the wake of recent oil price

moves.

Brent and West Texas crude oil prices are already over $100 a barrel.

While the G7 is reportedly considering the use of its strategic petroleum reserves,

US reserves are around 60 percent of previous levels, and reserves obviously can only

help for a limited amount of time.

South Korea's early action to cap prices is a reminder that the oil price move is not

automatically an inflation or a growth shock.

It can be a fiscal stimulus.

Effectively, the Korean government is providing a fiscal stimulus to exactly offset the growth

drag of higher energy prices, and in doing so will prevent inflation from coming through.

China, with oil reserves three times those of the United States and a rapid expansion

of its renewable energy program, also has mechanisms that could offset the growth and

inflation shocks.

In time, European countries may also look to use some form of price cap, and the expansion

of renewable energy capacity has the potential to blunt some of the effect of higher oil prices

at least relative to history.

In the United States, price controls seem less likely.

As of Saturday, average retail gasoline prices were up 23 percent from their lows of this

year.

The economic damage of that price level is not too great.

Gasoline prices were above this level in the summer of 2024, for instance.

The perception of inflation is likely to be more significant.

At current levels, gasoline prices are around 12.5 percent higher than they were in January

25.

Food at home, sometimes referred to as grocery prices, are only up 2.2 percent.

However, within that category, it's things like beef prices, up 15 percent since January

25, or coffee prices up 18 percent, that consumers tend to remember.

The national average 6.3 percent rise in electricity prices also disguises some far bigger increases

in some parts of the country.

These prices are what dictate the sense of an affordability crisis.

It's not at this stage enough to change actual consumer behavior, hence the fairly decent

showing in the January retail sales figures.

It is something that will change sentiment, moving it further away from economic reality,

and that has political relevance.

The New York Fed's one-year inflation expectation survey for February is likely to capture some

of this inflation perception, though of course not the recent gasoline price moves.

Inflation expectations will also be overload with political bias.

However, inflation expectations only actually matter if people act on them.

That is to say, if consumers change their consumption behavior or employees successfully

increase their wage demands.

If neither of those things happen, then inflation expectations are just meaningless noise in terms

of the economy.

The attention that is paid to them is probably excessive and the legacy of the economic structures

of half a century ago, which was a time when inflation expectations were very influential

in things like wage setting.

In Germany, the CDU of Chancellor Merz failed to win a state election in Baden-Württemberg

with the Green Party narrowly coming in first place.

The far right alternative for Deutschland increased their support, too.

There is a tendency in global news reporting to increasingly favour negative stories and

to sensationalise bad news creates more clicks and sensationalism sells.

This may create a higher hurdle for incumbent governments as perceptions continue to be more

negative than reality.

German factory orders data and industrial production data for January were both weaker than expected,

factory orders especially so.

However, before embracing the dark side and getting all pessimistic, it's worth noting

that since last January, German factory orders have been revised higher on 11 occasions and

revised lower on only 3.

This does hint at the possibility of a more optimistic revised interpretation of the state

of the German factory sector.

As all for today, have a good day.

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