Missing Links
I enjoy Anatole Kaletsky’s economic articles, because he’s really, really smart. But sometimes, I think he’s a little too smart, because I think he missed the Big Picture here, even though he identified all the pointers. After looking at the big three changes which will affect the economy (the U.S. economy’s main driver will shift from real estate to exports and manufacturing; Western Europe’s economies will grind to a halt; and Asian economies will slow because of reduced exports to the West), Kaletsky points out:
There is, however, another apparent consequence of the credit crunch that is less understood and is causing consternation and anxiety, especially in China and other developing countries. This is the upsurge in oil, food and commodity prices, many of which have almost doubled since the credit crunch began last August, even though the causal linkage between soaring commodity prices and a collapsing supply of credit remains obscure. If anything, the credit-induced slowdown in global economic growth and consumption since last August should have weakened demand for commodities and therefore pushed down prices. Yet the reality is that commodity prices have recently leapt higher every time the global banking system was hit by some new shock.
As a result, China and other emerging countries, which last year were preparing to boost domestic consumption to compensate for weaker exports to the US, are now more worried about inflation and are raising interest rates to try to slow their domestic growth. This is potentially a very dangerous development for the world economy, which increasingly relies on domestic demand from Asia, the Middle East and Russia. This unexpected policy tightening by emerging nations also explains why stock markets fell far harder in Asia than in America and Europe in the first quarter of this year.
I urge you to read the rest of the piece first, because, like all Kaletsky’s writing, it’s almost impossible to summarize, so concisely is it written.
It seems to me, however, that the commodities’ price increases (other than those driven by a spike in demand, like oil) are no different to the estwhile boom in real estate prices in the West.
The reason? Speculation.
An enormous driver in the price in anything is the influence of people and institutions who are betting on futures. In the case of real estate, it could even be middle-class folks, buying a little more than they can afford (hence the unhealthy trend of high-risk, errrr sub-prime loans). Mostly, however, the market is driven by people who are betting on gluts and shortages—gluts to sell short, and shortages to buy long.
In that regard, real estate is no different from commodities. In England, for example, real estate prices were driven sky-high by the bottleneck applied to development by the dreaded “planning permissions” (which are seldom granted in greenfield areas anymore). So a purchase of a house is almost a guaranteed investment, because of the artificial conditions against growth. If the planning permissions in England were as loose as in, say, north Texas, the market would be as soft as ours.
Similarly, if the Florida or California orange crops are threatened by frost, a late-arriving spring or other weather condition, people will short the market (buying now against an expected higher price later, when the shortage occurs).
Kaletsky is obsessed with finding “linkages” between real estate, commodities and their peripheral industries. The linkage is not a physical one—which is perhaps why he missed it—but a financial (ergo human) one.
The people and institutions who were investing/speculating in real estate have seen their opportunities dwindle and their risks increase as the credit bubble has burst and the crunch set in. (The real estate bubble had to burst, sooner or later—growth in home ownership past 60% can only be achieved, even in a wealthy nation like America, with lax credit standards, and even that market has its limits, as we’ve discovered.) Real estate had taken over from dotcoms as the Next Big Thing, and now commodities seem to have taken over from real estate.
The problem, for these speculators, is that no other immediate investment opportunity was available. Currency markets were and are still highly volatile: the U.S. dollar has fallen just about as far as it can against other currencies, and the Chinese yuan is being propped up by the most dubious accounting practices by the ChiCom government, which can only end in tears. And so, when in doubt, commodities could only be a safe bet, because regardless of all else, Maslow’s hierarchy demands that people gotta eat, drive their cars and heat their homes.
To the speculators, it was irrelevant that soaring grain prices (driven by allied climbs in transportation costs and still-surging demand in China and India) would cause problems in the food chain because aid groups could no longer afford to buy their handouts to poorer countries. The stupid, unnecessary diversion of grains to biofuels simply exacerbated the problem.
This is not a knock against speculators, by the way: speculation is an extraordinarily risky business, and for every success story like George Soros, there are literally thousands of people in the business who went from being millionaires to becoming paupers—sometimes in a matter of hours or days. More to the point: investment capital (the speculators’ bets) provide the cash for industries to grow, and pull economies with them.
Capitalism can be cruel business, but it works out far better for everyone in the long run. Capitalism rewards productivity, and punishes both inefficiencies and subsistence economies.
It’s difficult to explain to a Third World mother holding a starving baby in her arms why this is so (and no, this cannot be solved by Marxism or still more aid money), but in a hundred years’ time, or less, all societies will be better off in total, if the markets are allowed to work.
