The good times are back. Credit spreads are narrowing, risky assets are recovering and commodity prices are bouncing back up. Even London house prices have posted a couple of months of positive returns. Those fearful of a repeat of the Great Depression have now been silenced by gigantic monetary and fiscal policy responses. Policy seems to be working and liquidity is coming back into the system. More importantly, the fastest acceleration in global money supply since the Asian crisis is also helping to repair asset values.
But last year’s drop in economic activity was not just about a shortage of liquidity. The largest rise yet in global commodity prices and the most pronounced credit collapse in history occurred in the same quarter, in that precise order, for a reason. During the previous decade, investment capital failed to go into commodities to facilitate productive capacity expansion and went instead into other sectors such as property. In our view, the world was just growing too fast, given the constrained global resource base, and something had to give.
