Monday, May 5, 2008

Commodity futures serve a purpose

In light of recent price increases in several commodities, in particular food items, commodity future markets seem to have been highlighted as major culprits, to the point that some governments are closing these markets (example: India). This is a very bad idea, as these markets serve a useful purpose: hedging against market fluctuations. This means that prices would have been even higher if it were not for future markets.

Indeed, these markets allow anyone to buy commodities to be delivered in the future in order to guarantee some supply. Without such a market, supplies become more volatile, and so become prices as well. Also, one can read into the futures prices what the supply situation is expected to be. The current increase in commodity price increases were fully predicted, and if policy makers had followed them, they could have prevented some of the current adverse consequences.

It is wrong to think that speculators somehow remove commodities from the markets. They only deal with promises of delivery. The actual goods are untouched (and may even not exist yet) until delivered. It is not like there are huge piles of corn and rice accumulating in Chicago.

But after shutting these markets down, we face even more uncertain times.

1 comment:

Patrick R. Sullivan said...

As Thomas Sowell has pointed out, speculation is inherent in economic activity. Someone will have to do it.

It's merely division of labor and specialization when a professional class of speculator relieves the (say) farmer of the burden.