By now, we’ve all been feeling the pinch for quite some time. What started as a slow burn of gradually increasing prices has now snowballed into a full-blown cost of living crisis, as runaway inflation rates continue to drive the prices of essential commodities sky high. The IMF found that globally, the cost of living saw a greater increase between January 2021 and June 2022, than it did during the five years before that combined. Pretty scary, right? The key to getting through a crisis is information, so we’re breaking down the impact inflation is having on the basic commodities you use every day.
How does inflation effect commodity prices?
Inflation can affect the prices of many different commodities, but some tend to be more sensitive to inflationary pressure than others. The below are the commodities most typically driven upwards by inflation rates:
The energy sector is usually the one first hit by higher inflation rates, often due to a limited supply of natural resources such as fossil fuels, gases and coal. This can be as a result of a natural disaster, political conflicts or running dry of the resource. A limited supply always pushes prices higher, which makes it more expensive to fill up your tank with diesel, purchase gas for your stove or pay your electricity bill.
When energy costs rise, you can be sure food price hikes will soon follow. This is because it costs the manufacturer more to produce the end product, so they must make up for the losses by driving their prices up. Another nuance to add to this scenario is increased transportation costs, which will impact retail stores as delivery costs for inventory rise. You can now quite clearly see how inflation in one sector has a resulting effect on another.
Industrial metals such as aluminum, chromium, titanium, copper and zinc are used in countless goods from cars to planes, factory machinery and auto parts. An increase in prices for these widely used metals can drive production costs higher and make it more expensive for the end user to purchase. For the above examples, this will result in pricier vehicles, more expensive airfare, costlier car repair services and for anything that is made in a factory, prices will go up to offset the costs of more expensive machinery.
Whether your plan is to rent or buy a home, you can bank on it being a lot more expensive than you had previously budgeted for. Economists believe this can be attributed to the higher costs of building materials, labor and home maintenance which has forced developers, sellers and landlords to increase their prices. Reduced disposable income can also make it more difficult to secure a mortgage as lenders become pickier about who they grant loans to.
The link between inflation rates and the price of commodities is multifaceted and complex, but to simplify the cause-and-effect nature of their relationship to one another, we’ve outlined the contributors below:
1. Production Costs:
Inflation tends to push the cost of producing goods and services higher, often due to the increased cost of raw materials or supply chain shortages. For example, let’s take a look at a factory producing cooking oil. There is a supply chain disruption that pushes the cost of raw oil higher and to top it off, energy costs undergo a sudden increase, forcing the manufacturer to increase their prices. This filters down to the consumer as the retail stores will also have to raise their prices to maintain margins. Manufacturers can aim to keep their costs competitive by improving their production efficiency and workflows.
2. Supply and Demand
Inflation can affect supply and demand dynamics in several ways. If inflation has resulted in a decrease in consumer purchasing power, there can be a lower demand for certain products, especially luxury items, and an oversupply of goods, which will drive commodity prices down. Conversely, if there is increased demand for commodities but there is a limited supply, this will drive commodity prices higher.
3. Currency Exchange Rates
Inflation can go so far as to have an impact on the value of currencies, which naturally affects the prices of commodities. In a country with high inflation rates and low levels of economic development, the price of their currency can deteriorate. This makes it much more expensive for the country to import commodities because of a higher exchange rate, which will push domestic commodity prices higher.
4. Investor Sentiment
Investors are always looking for the next big thing to make money off of, even inflation. Commodity prices rise when investors predict they will retain their value as inflation rates climb.
It cannot be disputed that inflation has pushed the price of basic commodities such as food, energy, fuel and housing much higher in a much shorter time frame than we’ve ever experienced before. Having an understanding of the factors at play can help you make smarter decisions with your finances as we ride out this wave in the coming months and, potentially, years.