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Veteran Advisor

"New Food Crisis"

http://www.nakedcapitalism.com/2010/10/auerback-you-can-thank-ben-bernanke-for-higher-food-prices.ht...

 

"Speculation in commodities can be exemplified from the following illustration. Money can be “created” by fiat. Because there is already much more capital available in the world than hard commodities, and also because money can effectively be created in a nearly infinite way; speculators, without limits, and with determination, can increase the price of consumable commodities, like food stuffs or energy, much higher than traditional consumers and producers (hedgers) can react. When derivative markets are linked to real commodity markets, this nearly unlimited capital from the financial sector can cause financially driven excessive price volatility. This is because in the derivative markets, a nearly infinite amount of new commodity derivative contracts can be created to satisfy the demand of financial sector speculators armed with fresh capital. However, because there is only a FINITE amount of bona fide actual hedgers (producers and consumers of the actual commodity), any speculative demand that exceeds the real amount of commodities that can be hedged at that time must be sourced from other speculators. However, these speculators will only supply new contracts via price- i.e. a new speculative demand that exceeds hedger supply must be sourced from new speculative supply at ever higher prices."

 

Just a heads up that this is coming as a major source of discussion.

 

Personally, I'm tired of both unreasonable allegations on the part of detractors who don't know diddly and in response, having to make PR type apologies for my "industry."

 

Auerbach gets it about right here, I think. As before it is first and foremost a financial phenomenon.

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12 Replies
Senior Contributor

Re: "New Food Crisis"

This ties in nicely with 1 out of 8 people in this country on food stamps.  I was reading an article the other day that was discussing ETF's and their influence in the stock market.  It claims there are times when ETF's trade way more open contracts on a given stock than the company has even issued.  If memory serves me right, there was a time when index funds owned 150% of the soft wheat produced in 2008.  The longer we keep this zero interest rate policy the longer excessive speculation reigns.  I still have a question about who bails out this excessive speculation when the bubble pops? 

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Senior Contributor

Re: "New Food Crisis"

Don't buy your thesis. The rises in grain have been related to supply/demand. Show me a bubble that wasn't precipitated by a underlying physical trends, that is a bubble with no rational basis in grains in a relatively open market (not open enough IMO). It's not like like quantum physics where a universe can be created by an appearance of a force from nowhere.

 

On the other hand, physical is not tied very closely with futures. You have a basis game to explain, such as up to a $2 convergence problem in Chicago for wheat. Futures can do whatever they please. Cash prices can do something quite different. Futures do not dictate cash price. Buyers of physical do not buy at futures prices.

 

There is not enough of a tie between futures and physical to support your view. I think this continued argument has to do with political leanings using monetary policy to score points regarding a doom and gloom future.

 

 

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Frequent Contributor

Re: "New Food Crisis"

Not sure about food crisis but get ready for the food vs. fuel debate to get heated up again.  Grain ending stocks appear to be tight but that is banking on 4.7 bil bu being used for ethanol.  Will that goal be able to be hit with corn prices at these levels?

 

I don't understand the logic on raising blending % and trying to boost ethanol usage and production at a time when supply is in question.  At the same time we have an abundance of natural gas and nothing is done to increase usage and really give us a push towards energy independence.

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Senior Advisor

Re: "New Food Crisis"

I really cannot understand the concept of energy independence when our energy is ours only in that it is produced in our part of the world. When the  US government leases pumping rights to a domestic or foreign company and that production is sold or traded on the world petro exchanges to the highest bidder, how is that oil any more "ours" than any other barrelof oil in the world?

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Senior Contributor

Government at fault for doing anything, but why is the government not doing anything?

The implication of 'not doing anything' is that the government should intervene. On the other hand, when the government intervenes it's bad, because the government can't do anything right. That's how the current mantra seems to go. If the government does soemthing (gives us something) then they can take it away, both sides of the bargain will be done at absolutely the worst time for somebody, proving that government is bad and supporting each and every conspiracy. Of course, the government is us, collectively acting.

 

There is a free market for gas and oil to a large degree. That fact made 'drill here and drill now' a fallacy as it was presented because oil, like wheat, is easily transported and is part of the global market. We can't have substantially cheaper markets here than the rest of the globe or the petroleum gets exported. Oil is transnational in almost every respect w/o tariffs. Gas has some advantage because it's not as efficently transported because it needs to be compressed. But it has been proven that the free market is not above manipulating prices of NG, and the transport is controlled by 'players'. The gyrations of NG prices have discouraged switching, but switching has occurred.

 

Lots of drilling has occurred for NG, and in new places - like Pennsylvania. I dispute that 'nothing has been done' for NG or oil. But the implication that a solution to prices can be had for a 'local' market like N America is a pipedream. Can't happen, won't happen. That isn't the same as saying that dependency can be lessened.

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Senior Contributor

Re: "New Food Crisis"

If we had Gold and Silver backed money, this wouldn`t be an issue. 60 years ago a silver dime bought a loaf of bread, today a silver dime is also worth a loaf of bread.

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Veteran Advisor

Re: "New Food Crisis"

Hi P,

 

Given your beleie in the free market hypothesis there is probably an endowed chair in economics open to you somewhere.

 

Step back for a moment. How in heaven's name do huge long only index and ETF positions not affect price?

 

The traditional manged funds are a completely different issue. They did increase volatility but the huge difference is that they were willing and able to take either side of a trade. That meets the basic criteria of useful speculation by contributing to liquidity for the necessary public purpose of letting legitimate hedgers lay off risk efficiently.

 

Further, the academic (Princeton study) basis for justification of indices as an investment strategy is totally kaput. The idea was that a commodity basket added stability to a broad portfolio. Today it is "all one market"- all asset classes rise and fall together with as liquidity gets inhaled and exhaled. There is profound systemic risk in that degree of correlation (which you're also seeing among individual stocks).

 

As to gloom and doom, the banking systems of both the US and EU are insolvent, only changing the rules to permit ignoring the market value of bank assets permits us to pretend otherwise. If you think about that you could get kinda gloomy.

 

Best, h

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Veteran Advisor

Re: "New Food Crisis"

Hi Zman,

 

I'd agree, there isn't currently a food crisis. My point really was that this time is different becasue the wailing and lamentations on both food in general and food/fuel will start earlier and be louder. The last time it sorta snuck up on everybody and this time everybody is looking at recent history (producers included).

 

I do think the politics will get much touchier this time and I can't predict what happens but would suggest that being on guard for significant political influences would be wise.

 

It is no secret that I've always regarded the very ambitious ethanol mandate schedule as an accident waiting to happen. Just sayin'

 

Best, h

 

 

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Senior Contributor

Re: "New Food Crisis"

My fundamental belief is that the futures market is not anticipatory - it is a follower, generally speaking. On a strictly daily basis I don't think this relationship is clear. We all know that the  price on the reader board changes in sympathy with moves in futures. But over all, I see no evidence that futures set a direction. And though it may parallel cash grain, futures can be wildly out of line with cash. I don't believe that an infusion of fund maney in any a particular side of the equation, long or short, alters the fundamental direction of grain prices as they relate to physical fundamentals. Wild swings in any given day can occur, but it is always transitory.

 

The key to the whole equation is basis. If grain is physically short the basis will narrow, etc. I think the extent of basis demonstrates the disconnect of futures and cash. Buit I don't see fundamental changes in cash price that are more or less are out of synch with the actual dynamics of physical grain. It doesn't mean there can't be volatility on any given day, but over a few weeks time the relationship of physical events dominates. I'm guessing that speculative influences in the market are more chaotic when markets are fairly flat (or we go parabolic), but current grain supply and demand is extremely dynamic with the huge demands of  developing country's exploding economies and huge increases of corn for ethanol that is keeping us on our toes. Futures are along for the ride, but the physical influences are the anchor. The problem is that futures are disconnected enough that they aren't an efficient hedging tool for producers, and the CME and CFTC don't want to tame them because insiders want to attract big money to their flashy futures game - rather than have a sane futures market that reflects actual grain conditions. It's partly fraud induced by greed IMO, and the CFTC goes along because they are in the same club and ride the merry go round of job opportunities.

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