The deflation scenario has become “a major threat for financial markets” according to Société Générale’s head of global research Patrick Legland.
In a note to clients, Legland explains that low interest rates on sovereign bonds and prices in the commodities markets are “a leading indicator of the threat of deflation.”
The recent fall in commodity prices reflects the fear of another world recession that would not be restricted to peripheral eurozone countries. Whereas inflation was the major threat for emerging economies last summer, since then deflation risk has increased, as shown by the recent Chinese CPI at only 2.2% in June 2012 down from 6.4% in June 2011 (on a yearly basis). This explains the recent call from major political leaders outside Europe to deal with the eurozone problems rapidly. A prolonged recession in the eurozone and a bleak US outlook could continue to drag commodity prices down, which in turn would be very damaging for emerging economies, with the risk of deflation extending to the rest of the world.
Here is a chart showing commodities prices and inflation trends over the last 10 years as they edge lower:
Photo: Société Générale
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