The New York Times / July 20, 2008 Op-Ed Contributors Futures Imperfect By DWIGHT R. SANDERS and SCOTT H. IRWIN
AS costs for energy and food rise, the impact that speculators have on commodity prices is being debated by politicians and the public. The recent volatility in crude oil prices — increasing to nearly $150 per barrel and then falling to below $130 — has only heightened these concerns. It is commonly asserted that speculative buying in futures markets has created a "bubble," in which market prices far exceed fundamental values. As a result, members of Congress are proposing to limit speculation in commodity futures markets by, among other things, requiring bigger margins (increasing the initial "good faith" deposits required to trade futures contracts). The history of United States futures markets is riddled with confrontations between politicians and speculators. Just after World War II, soaring grain futures prices, especially for wheat, attracted political attention. President Harry Truman proclaimed that "the cost of living in this country must not be a football to be kicked about by gamblers," and ordered the Commodity Exchange Authority (precursor to the federal body that oversees futures markets, the Commodity Futures Trading Commission) to require futures exchanges to raise margins on all speculative positions to the extraordinary level of 33 percent. In a statement hauntingly similar to those emanating from the halls of Congress today, Truman declared, "If the grain exchanges refuse, the government may find it necessary to limit the amount of trading." >From 1972 to 1975, United States and international commodity markets experienced rapid price increases, setting records across a broad range of markets. The increases were widely attributed to speculators and the growing futures industry, and public and political pressure to curb speculation resulted in regulatory proposals and an increase in futures margin requirements. These changes were accompanied by even more drastic measures, like federal price controls and a prohibition of soybean exports, aimed at lowering commodity prices. The boldest move against commodity futures speculators came in 1958, when trade in onion futures was banned by Congress. The ban, which remains in place, was the result of the widespread belief that speculative activity created excessive price variation. Again, in language very similar to that heard today, a Congressional report stated that "speculative activity in the futures markets causes such severe and unwarranted fluctuations in the price of cash onions as to require complete prohibition of onion futures trading in order to assure the orderly flow of onions in interstate commerce." Efforts to rein in supposedly damaging speculation have run the gamut from requiring futures exchanges to raise margins to an outright ban on trading. But there is no historical evidence that politically inspired increases in futures margins — or other attempts to limit futures trade — have been effective at lowering overall prices. The only consistently documented impact of higher margin requirements has been a decline in futures trading volume. Current legislative proposals might similarly curtail speculation by reducing the volume of trade, but it is unlikely that they would cure the "problem" of high prices. The measures, however, are likely to hurt the ability of futures markets to accommodate businesses that need to manage price risks. For instance, a gold-mining company that wants to lock in a price for next year's production relies on speculative buying to take the other side of the trade when they sell futures contracts. The statistics floated in the news media and at Congressional hearings tend to view speculation in a vacuum, focusing on absolute position size and activity. Every futures trade entails two parties: a buyer and a seller. An objective analysis of futures market activity must consider the balance between speculators and commodity firms hedging market risks. It's important to ask, "Who is doing all of the selling?" According to the Commodity Futures Trading Commission, from January 2006 to last month, speculative buying in soybeans, including by the commodity index funds that are often cited as culprits for the higher prices, increased by almost 150,000 contracts; but selling by commodity firms involved in the production and processing of soybeans increased by an even greater amount — nearly 180,000 contracts. The speculative buying in soybean futures is far from excessive; in fact, it doesn't even "balance" the selling done by commodity firms. Based on such data, it seems unlikely that speculators are dominating commodity futures markets. If speculation is driving prices above fundamental economic values, it is not obvious in the level of speculation relative to hedging. And there are additional reasons to doubt that speculation has led to bubbles in commodity futures prices. First, recent price increases do not neatly fit a bubble explanation. For example, livestock and meat futures markets did not experience price increases until recently, yet the concentration of speculative buying has been among the highest in these markets for some time. It is difficult to see why speculative buying would have an impact on some markets and not on others. Second, there are very high prices for commodities without futures markets, like edible beans, and in futures markets that are not included in popular commodity index funds, like rice. Third, commodity inventories should build when a bubble is present, when in fact inventories for most commodities have remained stable or fallen sharply over the last two years. Over all, there is limited evidence that anything other than economic fundamentals is driving the recent run-up in commodity prices. The main driving factors in the energy markets include strong demand from China, India and other developing nations, a lack of growth in crude oil production and United States monetary policy. In the grain markets, driving factors are, in addition to monetary policy and demand from developing nations, the diversion of row crops to biofuel production and unfavorable weather that has hurt harvests. The complex interplay of these factors and how they affect commodity prices is often difficult to grasp immediately, and speculators are a convenient scapegoat for the public's frustration with rising prices. That's unfortunate because curbing speculation — and hobbling the ability of businesses that rely on futures markets to reduce their risk — is counterproductive. Regulation of commodity futures markets is at an important crossroads. Have we learned from our mistakes, or will we repeat them? Dwight R. Sanders is an associate professor of agribusiness economics at Southern Illinois University. Scott H. Irwin is a professor of agricultural and consumer economics at the University of Illinois. Copyright 2008 The New York Times Company -- Jim Devine / "Segui il tuo corso, e lascia dir le genti." (Go your own way and let people talk.) -- Karl, paraphrasing Dante. _______________________________________________ pen-l mailing list [email protected] https://lists.csuchico.edu/mailman/listinfo/pen-l
