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2008 Hike in Commodity Prices

When commodity prices rise or fall, comentators use well tried phrases - demand is outstripping supply or the other way around - bumper or poor harvests - exchange rate changes, are the most common.

 

The fact is that we are far too close to events to know why things are happening. But most of us (visitors to this web site) are not neutral, we want the poor to do better. With commodity prices reaching upwards to record nominal levels, it would appear to be the right moment to rejoice. Gloom and doom had threatened after the 2008 price hike and then collapse but here we are with prices recovering and reaching higher. There are some who rightly ask if this situation is not overdue.

 

The number of visitors to this web site increased in line with the commodity bubble. The bubble is now not growing any more and it is subsiding although so far only marginally. Leading some to claim it will start growing again.

SOFT COMMODITIES IN CRISIS

 

With commodity prices reaching upwards to record nominal levels, it would appear to be the right moment to rejoice. Gloom and doom had threatened after the 2008 price collapse but here we are with prices recovering and reaching to dizzy heights and now fallimng again to nearer historical long term trends. There are some who rightly ask is this situation not overdue. We have spent decades bemoning the fcat that commodity values were mostly stagnant in nominal terms and thus declining in real terms. Now at last the process appears to be in reverse together with exchange rates in asia that are not continually plummeting against the value of the dollar.

 

Why the price bubble ?

That is the million dollar question. It was not bad weather. It was not a collapse of production. China and India cannot bring about such a price hike with increased consumption. In all likelihood, it is a wall of money seeking refuge in soft commodities. The sums involved were so huge that they dwarf normal life in commodities. By parking money in physical commodities, investors earn more than from the money market and feel that risk is far lower. The good thing is that they have to unwind their positions when the new harvests come and that stops the spiral from becoming crazy. This has indeed now happened.

Is there cause for concern ?

One may ask - if prices are so good - why worry. Why not jump up and down with glee. After all, soft commodities have long been underrated with falling real prices. This time it is not just traders but farm gate prices have also benefited. In real terms, prices are no where near their highs in the 1970s. If only, and it is possible that there is an element of truth, they would stay high.

But if all soft commodity prices are up, it is a bubble and the trouble with bubbles is that they burst. It is impossible to tell truth from fiction, real or fictitious value. Rather, we know it is not real but we feel it should be because it appears to be paying respect at last to commodities on which we depend.

Farmers have benefitted from the commodity price hike, as have traders. They may as well enjoy the windfall. The speculators are making billions of dollars so we need not lose sleep for them. However, the rise in food prices will have been painfull for the urban poor and the landless rural populations.

 

The current fall in prices is painfull for farmers since their input prices have not necessarily fallen to the same degree.

 

What will happen?

Anyone who knows for sure could become very rich. However, it is very likely that we are in for a bit of profit taking by the speculators and then a price collapse. How far prices collapse is the interesting question, since it is only then that we will know if there has been an improvement for commodity producers even if it is only likely to be an improvement in nominal terms.

That amounts to throwing every explanation into the ring includingthe kitchen sink and it is obvious they have no idea as to what is happening. Well, international organisations reflect governments and it is not surprising they dont know what is happening. It may not be surprising, but it is alarming. The global community has set up FAO and IFAD to know about such things and even more to do something about them.

Also alarming is the fact that it is not an impossible of even very difficult question. It does require access to a great deal of data, some field data gathering and analysis. Surely not beyond the resources available to these mighty international institutions.

We dont even mention the World Bank because they have always been very weak on commodity prices and yet probably could undertake the task at hand well.


A lot of people follow commodity prices. There are some who analyse cycles, five years, ten years, El Ninio etc. There are even more charters who trace commodity price movements over time. There are patterns taht exist for years and they can change but will probably conform to a new pattern.
 
 
In 2008 there was a break from normal patterns. The hike in prices took most prices to points only reached at peaks in cyclical movements. But 2008 was in line with El Ninio and cycles. Prices collapsed and that was not a surprise, but many of us expected the fall to be deeper and for longer.
 
 
As it is, prices have risen again, often exceeding the 2008 hike. The patterns are broken and there is no way to disguise that. Some people will be sattisfied that they have broken and farmers are earning decent sums and will be content to leave it at that desperately hoping that a new situation has come about where the real value in soft commodities is at last valued and we are headed for a recovery in real terms.
 
 
In 2008, the price hike appeared to some to have been a traders hike. Farm gate prices rose after a time lag and not to the extent of trading prices. There was no food shortage that we can see in 2008 only a price hike that ended in collapse. In the lats few months there has been a new hike but this time the higher prices are reflected in physicals and farmers are getting far better rates.
 
 
For farmers, Christmas has come early. The bonanza will reduce debts, pay for marriages and otehr eclebrations and essential consumer goods. For their sake, we hope the higher prices last as long as possible. For their countries, export earnings are far higher and it is relief.
 
 
The idealistic will sit back and expect that a more just situation has finally come about without any real idea of what has brought it about. Platitudes are being used freely that China and India are consuming more and imports are indeed up into the two. They cant claim that it is climate change or El Ninio without a lot of very uncomfortable questions to answer.
 
 
The situation will not wait for us to understand it. What is going to happen will happen before we have become adjusted to the current situation. There are already signs of a weakening in prices. It will not take much to bring the edifice down around us.
 
 
The difference between nominal and real prices was being traced by us using a crude 3% rate of annual depreciation of value based on the difference between industrial and agricultural prices for coconut oil. It is only in the way of an illustration of what the result would have been and we make no claim to statistical accuracy. A lot of other factors need to be analysed including exchange rate changes and inflation rates in producing and consuming countries.
 
 
The above price series started in 1969 and it can be seen that even a price hike in 2008 and one in 2010 do not begin to recover loses in real prices over the past 40 years. So, in answer to the question, could prices go higher, the answer must be that they should be much higher and cannot revert to the pre-2008 pattern entirely.
 
 
Prices are not expected to us to fall to pre-2008 levels, but equally we have no reason to expect that they will remain at the current high levels. How far they will fall and what the new average prices will be is an interesting question. Even more interesting is how far they will go up again once it is due in accordance with long term cycles.
 
The normal cycle has been traced by us and is as above. It is basically a 5 year cycle corresponding to El Ninio. As can be seen, the 2010 price hike breaks the routine. It does not correspond to patterns and is not explicable by any unusual weather conditions. The 2010 peak comes just two years after the one in 2008. The normal pattern leads to peaks every five years although it is never possible to tell how high a peak is going to be.
 
Yet, it is entirely plausible that changes in global supply, demand and wealth are bringing about a re-balance in global prices.