If a casual observer of the commodities markets didn’t know better, right now, they would have to conclude that those markets were set up purely so that the participants can make money when times are bad. After all, in less than a years time, the commodities traded there, agricultural and energy commodities such as wheat and crude oil, have risen in price an average of 27%. Of course, what those markets are supposed to do is set the price of those and other commodities in regional and world markets, at the fair market price, based on the laws of supply and demand. And when times are good, commodities markets do a pretty good job of doing just that. But, when times are bad, and especially when times are uncertain, commodities prices fluctuate greatly and so traders in those markets have the possibility of making huge profits, and therein lies the rub.
Right now times are uncertain, bad economic statistics are in the news everyday, and so many more than the usual numbers of investors have poured into the commodities markets and have turned them into a boom market, that is, a boom for anyone who produces things that are traded there. One statistic is that in the year 2000, the average amount of money being invested in the oil futures market (“futures” is the another name for investment in commodities) was about $9 billion, today that number is up to $250 billion. What this means is that investors think that oil prices will only go up, and so they are willing to risk big to cash in.
The net effect of this is two-fold. One, oil (and so fuel) prices have to go up accordingly. The reason for this is mostly NOT “the rising world demand” that you hear about from politicians, even though there is a bit of truth in that, but the rising demand by buyers in the commodities markets. In other words, if you have a lot of buyers (investors) bidding what’s being sold, and only so much oil production to invest in, it becomes a seller’s market. Oil companies reap huge profits, some investors win big, some lose big, and everyone else gets screwed at the gas pump.
Aside from the obvious unfairness of this present situation, because oil and food are such a large part of the overall economic picture, both in the US and in the world, the long term implications of this are dire. As the economy gets worse, rising prices only make the outlook bleaker, and the swings of the economy (in this case downward) worse. This is because it is consumer’s dollars spent on things other than food and gas that keeps other parts of the economy going. If that isn’t happening, or not happening as much, then people get laid off, and the economy stumbles more than it would of, based on the other causes (in this case a mortgage mess, and the resulting credit crunch).
Eventually, prices will fall in the commodities markets because things will get so bad, out in the real world, that demand for the products made from commodities, gas and bread, will fall to such an extent that those markets will have to contract, if not collapse. This may happen tomorrow, or in a year from now, depending on the economic news and how that sways investor confidence in the rising price of oil and other commodities. In the mean time, we’re all just along for the ride.
Because of rising food costs, record numbers of working people are going to food banks for the first time, and straining those already strained safety nets. People slightly higher up the economic scale, are canceling their summer vacation plans because of high fuel prices, and the overall US economy is shedding jobs much faster than it’s creating them. If that sounds bad, how about food riots? That hasn’t happened since the great depression, but in India, the Indian Parliament has suspended trading of agricultural commodities in order to do something to get food into the hands of its people. Critics say that that may not help, but the irony is that, by and large, there is just as much oil and grain out there, as there was three months ago, but it is only the high prices, because of the excessive commodities market speculation, that is keeping limiting demand.
Is there anything that can be done? In the case of oil, the US government has the ability to effect the markets by releasing oil stored in our “strategic oil reserves”, and some people are calling on the federal government to do just that. If the government did so, the most effective way to shake up the commodities markets would be to not announce it ahead of time, but simply to do it. This would have the effect of causing some investors to lose big and so, maybe, scare them out of those markets for awhile. Commodities have always had a reputation as risky investments, and it is only the continuing perception of rising prices that keeps money flowing into these markets. In fact, you can think of it as an “investment bubble” the same way that a large part of the mortgage crisis was built on the mindless expectation of ever increasing home prices.
In the big picture, what all of this points to is a much larger problem in our economy, that is, too much capitol and not enough places for it to go to get a good return. Much of the dollars that are pouring into commodities markets, worldwide, are coming out of the backside of the stock markets, that is “ the derivatives markets” (of which commodities futures is technically a small part). These are another part of the securities industry that looks attractive, when times are good, but turns very unattractive when things get uncertain. Worldwide, derivatives markets have over $500 trillion invested in them, that’s over ten times as much as the value of all stock worldwide, so even a small shift in the outlook in these markets can have a huge economic impact. Some people have called derivatives the “shadow market”, and Billionaire investor Warren Buffet calls derivatives “financial weapons of mass destruction”. They exist because of the market deregulation that has been happening since the middle 1980’s. It’s one more example of the “financial innovation” that has kept the stock market growing big for the last 15 years or so. But just like the mortgage crisis that was created out of these instruments of financial innovation, the effects of these markets can also have unintended consequences for a faltering economy.
In the old days of simple stocks and bonds, there were only so many places to put your money, namely, those two things, or a bank. Most people liked banks, especially after the great depression, and the collapse of the markets that was created by too much investment and not enough real return. But since the 1980’s, supply side economists have asserted that all true economic good comes from the creation of capitol to fuel the growth of the economy. And so, more capitol, pulled mostly from the backs of working people’s wages (which have been flat since the early 1970’s), has required more places to put it, hence “financial innovation” – more kinds of securities and more ways to invest in them.
This is something that Wall Street has been happy about, as it’s fueled a spectacular growth in their operations and profits, “more capitol for everyone”. The trouble with more capitol is that it demands more investments with return. At some point in the cycle, excess capitol can’t do what it’s supposed to, create more jobs and better jobs, because of constraints in the number of people who can be employed, or how much they can actually consume, so instead it goes on a buying spree and creates speculative bubbles as it tries to buy up everything in sight. First it was housing, through real estate investment, and now it’s anything that’s left – things in the commodities market, things on which we, and the overall economy, all depend.
What we are seeing has been described by some economic observers as unprecedented, that is, the mindless escalation of prices in a contracting economy. It is up to the public and our leaders to understand that if this continues, we are not in for a soft landing, but a very hard one. This is because the overall effect of this will be to grossly exaggerate the simple downturn that conservative financial people (mostly Wall Street insiders) claim it is, that is, a downturn that would be over in a few more quarters.
Aside from excess capitol making life hard for everyone, the real underlying structural problem with the US economy is that consumers don’t have enough wages to keep the economy going. This, as I mentioned before, is the result of the stagnant growth of wages, over the last 30 years, relative to the overall growth of the economy and the growth of capitol. In other words, if people had more money to spend, a little more disposable income at the margins, they wouldn’t have had to run up massive credit card debt (from Wall Street banks, thank you) or refinance their houses over and over again, to be able to maintain their spending. Some rich conservative financial types suggest that it is consumer’s excessive spending that has been the cause of all this grief, but how could the economy have grown to the heights it has without that spending? You can’t have it both ways, and now it may be time to pay the piper, the piper of easy credit along the rocky road of stagnant wages and excess, and therefore economically unproductive, and now predatory, capitol. In the end, even the money types will not be not immune, they will lose also, but it probably won’t be weight, or the roof over their heads.
