Following up on this post from October 2006, when oil was only $58.88 (WTI, daily average) a barrel, consider this excerpt from yesterday's Thomas Net:

The impact of rising transportation costs, driven significantly by high oil prices, is already being seen in capital-intensive manufacturing that carry a high ratio of freight costs to the final sale price. But a new report has determined that higher energy prices are affecting transport costs at such an unprecedented rate that "the cost of moving goods, not the cost of tariffs, is the largest barrier to global trade today."

The CIBC report upon which this article is based focuses on ship transport. One interesting tidbit:

The cost of shipping a standard 40-foot container from East Asia to the US eastern seaboard has already tripled since 2000 and will double again as oil prices head towards $200 per barrel...

The note discusses how the decrease in tradability of goods from China and other low wage countries will tend to release downward pressure on US wages and prices, making the Fed's job of maintaining price stability more difficult. In the abstract, I'd agree with that point, to the extent greater insulation from foreign competitive pressures should give greater pricing power to domestic producers, in a monopolistically competitive setting (see a little math here).

However, as noted in this post, Chinese import prices have been rising, so it's not clear how much downward pressure is being exerted by China now.

What is also of interest to me is the trend in air freight, which was critical to so much of the New Economy just-in-time innovations. In this regard, the trend in declining air freight costs has reversed course over the past few years. And the pace of increase has accelerated with the dollar decline and oil price increase.

 
Figure 1: Log real oil price (blue) and log real import air freight cost index (red) and export air freight cost index (green); series deflated using the CPI-U. NBER-defined recession dates shaded gray. Source: BLS via FREDII, BLS, Import/Export Prices, 13 May 2008 release, and NBER.

Air freight costs are rising for two reasons -- higher oil prices as noted above, and also a weaker dollar (econometrically, it's hard to disentangle the effects, given the short data span available).

If this reversal of air freight cost trends is mirrored by the cost of air freight relative to sea freight, then there are a number of other implications that arise in terms of the gains the US obtains from trade. And indeed it may be that countries close to the US might gain relative to producers far away from the US [1]; think China and Mexico.

Returning to the issue of inflation, to the extent that the euro area has experienced a smaller increase in oil prices in domestic-currency denominated terms, the euro area will will have also experienced a correspondingly smaller increase in transport costs, and hence a smaller increase the degree of insulation of the economy from foreign competition.

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Menzie Chinn

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