Food Prices, The Dollar, and Inflation

Food Prices, The Dollar, and Inflation

The US Dollar Index has moved lower in the wake of the Presidential election. The Dollar rallied early on election night as the vote tally showed President Trump with a sizeable lead in several key states. The dollar index began heading lower as the President’s lead started to deteriorate and the probability of a Biden win increased. 

To be certain, the dollar has been primarily in a downtrend since May. Currently the dollar index is off its September low, yet those lows are now back in sight as the index continues to decline.

Dollar Impact on Grains

A weaker US Dollar historically has been supportive of commodity prices. Most global commodities are priced in dollars. A weakening US dollar means that US exports, including commodity exports, become more competitive. See our note from June 24, 2020: Dollar Weakness : Think Grains.  

Investors often view commodities as an “inflation hedge.” While it is true that a weaker Dollar has historically been supportive for commodity prices, a weaker Dollar does not necessarily mean higher inflation for every commodity. For example, food prices are up nearly 4% year over year compared to headline inflation of 1.4% Indeed, the GSCI Grains Index is up 9.5% YTD but crude oil futures prices are down over 30% YTD.[1] Higher grain prices may be pushing up food costs while lower energy prices are helping keep overall headline inflation low.

Chart Created by Teucrium Using Bloomberg Finance LP on 11/09/2020

US Consumer Price Index vs. US Food Inflation

Year over Year Rate Recorded Monthly 01/31/2015 – 09/30/2020

To be certain, the threat of wide-spread inflation does exist. In fact, many market participants have been anticipating higher inflation for years. Yet, nearly 12 years after the Federal Reserve began QE[2], inflation has failed to materialize. 

The lack of inflation thus far can be explained by pointing out that, by-in-large, production, has kept pace with demand. For inflation to truly take hold we need an environment where we have “too much money chasing too few goods.” Up until this point we’ve had, arguably “too much money chasing plenty of goods.”

Given the likelihood that the US printing presses will continue to run hot, economic output (production) is the critical inflation variable.

It remains to be seen if newly printed Dollars will result in higher production. The ultimate outcome will likely depend on Fiscal spending priorities. Theoretically, increased government spending on infrastructure would result in higher economic output, whereas increased spending on social programs or implementing Universal Basic Income, would not.[3] Presumably, a Republican controlled Senate will play the part of the “fiscal hawk” (an endangered species) and put the kibosh on the more radical “print and spend” policies. 

Even if inflation fails to fully materialize the way some are expecting, we believe food prices, and in-particular grains, will continue to benefit from a weaker dollar. 

Critical Currency Pairs

Market participants often look to the US Dollar Index (DXY)[4] as a “big picture” barometer for dollar strength/weakness. However, when conducting a detailed analysis on the grain markets it is more important to look at direct currency pairs. 

In the soybean market for example, the relationship between the US Dollar and the Brazilian REAL can have major market implications.  China, the world’s largest soybean importer, sources the vast majority of their soybeans from the US and Brazil, all of which are priced in Dollars. As the US dollar depreciates against the Brazilian REAL the price of US soybeans declines relative to price of Brazilian soybeans. This makes US soybeans more attractive to Chinese buyers.

Since the election the dollar index is off 1.4%, however, versus the Brazilian Real the dollar has given up over 6.50%. The Dollar weakening against the Real is certainly helping provide support to Soybean futures prices which have advanced nearly 4% since election day.[5] 

The US Dollar and Russian Ruble is another currency cross for consideration. This pair has important implications for wheat markets. The US and Russia are both major global wheat exporters. A weaker Dollar versus the Ruble is seen as supportive for US wheat demand, and therefore supportive for US prices. 

The US Dollar has lost 2.4% versus the Ruble since the election.[6]

Both the REAL and the RUBLE have gained on the USD over the last year. Recently however, both currencies have failed to make new highs against the Dollar. Chart watchers will take this cue and watch to see if recent Dollar weakness results in a new longer lasting down trend. 

Chart Created by Teucrium Using Bloomberg Finance LP on 11/10/2020

USD/BRL & USD/RUB 1 Year Chart 11/06/2019 – 11/06/2020

Conclusion

Thanks to monetary policy, the US Dollar is likely to continue its downtrend regardless of which party occupies the White House. The Federal Reserve will remain accommodative (keeping rates low and implementing QE) for the foreseeable future. Any agreement on fiscal stimulus spending from Washington would likely create additional pressure on the Dollar as well.

Importantly, monetary policy alone is likely to perpetuate a lower dollar trend. This should be supportive for commodity prices. Direct currency pairs such as the USD/BRL or USD/RUB have significant implications for global trade and grain prices. Continued dollar weakness versus the Brazilian REAL and Russian Ruble should act as a tailwind for US grain prices. 

[1] Performance measured through 11/06/2020

[2] QE – Quantitative Easing, whereby the Federal Reserve purchases financial securities, typically debt instruments.

[3] Increasingly it appears that the US will embrace “Modern Monetary Theory” (MMT). MMT the Federal Reserve deposits money directly into the treasury to be spent by congress. This direct approach to stimulus circumvents the bank intermediaries that play a large role in QE. Whether or not congress would decide to fund infrastructure, increase spending on social programs, or experiment with “universal basic income” remains to be seem. 

[4] The Dollar Index (DXY) is comprised of x number of currencies of varies weights. The Euro represents the largest weight of x. For more information visit www.theice.com/products/194/US-Dollar-Index-Futures

[5] Closing prices on 11/03/2020 – 11/06/2020

[6] Closing price on 11/03/2020 – 11/06/2020