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Food for thought : how much are speculators driving the food crisis?

on . Posted in Politics & Society

Food Commodities explained to Billy Ray Valentine in Trading Places

"Cotton growers have been among the most vocal critics, having witnessed a baffling surge in prices over a few days in March. In one day, the price of cotton jumped 15 per cent despite reports showing cotton supplies were at near record highs."

Forgive me for this brief tangent from the world of film and pixels, but I've been compelled to pull myself away from an engrossing chat with the Hull Film people and write about something which seems pretty urgent right now.

Like a lot of you, I've been concerned about the news of the rise of food prices around the world - a near doubling in prices of some vital foods like rice and wheat - and the fact that the consequences could lead to an already undernourished majority of the world having access to half as much food as before.
"And we have a herd of market traders, speculators and financial bandits who have turned wild and constructed a world of inequality and horror... This is silent mass murder."
Jean Ziegler, U.N. special rapporteur
What troubled me most, however, was the causes, and how things are escalating so fast. I appreciate that investment in agriculture has shrunk, that close to two billion acres of land has been put aside for Biofools and that a wealthier India and China are eating more meat (the global meat industry consumes enough food to feed the world twice over, and emits more CO2 than the entire car, aviation and transport industry put together). But it seemed like there must be something else heralding such rapid changes in price (a few weeks back the global price of rice skyrocketed 300% in one day). So I formed a theory, searched Google, and found that I'm not alone in this thinking. I should stress I have no economics training, and my understanding of global commodities and futures trading is next to nothing. But I still think it's worth sharing this as it's not getting as much press coverage as you would expect - and would welcome any feedback/criticism you can give.

Basically its long been known that the forces driving first the debt bubble and subsequent sub prime crisis wiping billions off the values of the world's major banks, was the trading of debt on financial markets. Likewise the crazy price of oil - $117 and rising has been pushed up by speculators (people who gamble on the future price of a stock or commodities). Then gold and other precious metals started to rise and also now are at record highs as people invest in these commodities on expectation of bigger returns.

"Dealing in foodstuffs these days gives higher returns than stocks or bonds or real estate. These dealers never actually see the soybeans or sorghum, a bit like the Third World poor, who don't see much of them either... Our pension funds have also been getting into commodity dealing. The security of our monthly cheque may now depend on a family in Burkina Faso paying a week's wages for a bag of rice. " Tom Shields, Sunday Herald

Trading Places still - Louis Winthorpe the third So it seemed a logical conclusion that with all these markets now being overvalued or unstable, that the traders who control the billions invested by the major financial institutions, and currently trying to minimise the losses from the current turmoil, would seek to move their money to a new profitable place. Could this be driving the rise in food prices? And if so, does that mean there are some immediate actions that governments, the WTO and IMF, etc, could take to ensure that we don't see the first increase in famine and childhood malnutrition (which debilitates for life) in 20 years ago. And not have our TV screens filled with pot bellied children struggling for a bowl of rice in a few months?

“I suppose that's just capitalism but it's jolly disappointing. If society looked down on these funds then perhaps it would make a difference.”
Sir Michael Darrington, Chair of Greggs the Bakers

In much of the world 40% to a half of the household income is spent on rice. If the price rises by 300% in one day, as it did a few weeks back, it means that a family can eat three times less rice. Malnutrition seems inevitable, which in children has life-long consequences. The potential for widespread famine is more likely than at any time in the last 20 years. Since 2000, prices of wheat, butter and milk have tripled and prices of rice, maize and poultry have almost doubled - with the majority of those increases happening in the last year. 

Even the Chairman of Greggs the Bakers, Sir Michael Darrington, has spoken out about grossly irresponsible behaviour of the speculators and asking for the public's widespread condemnation of the darkest side of capitalism?

"It is astonishing in the present situation that the international financial institutions and government regulators have done little to control or banish this parasitical and antisocial practice. The myth of the benevolent and ultimately impartial market prevails against all contrary evidence." International Herald Tribune

People once just speculated on stocks. The internet bubble was great fun for day traders and bedroom gamblers with a bit of knowledge wanting to make a fast buck. I did it with QXL a decade ago - I bought £500 of shares, doubled my money, sold all but 2 of them, and then saw them rise tenfold, before falling back.

"The futures market reinforced the consumption trend: with food inflation expected to continue, wheat appeared the safest bet for investors in the years to come--prior to its dramatic surge, wheat had shown less volatility than maize and soybeans."
(60% of wheat market owned by index funds) Forbes.com
The internet bubble burst, and the mortgage / debt bubble picked up. A few years ago this started to fracture, and seeing problems ahead, people moved to oil, which in turn rose four-fold. More recently as the problems with bad bank debt became more apparent (a trillion dollars lost, apparently, probably enough money to feed, house, educate and provide water and health for everyone in the world - at least pick up a third of the bill of Iraq ), traders managing billions of investors' money, shifted to speculating in gold and other precious and semi-precious metals. And now metals have seen their prices so inflated that they are also overvalued, with the last place for the trading addict (and it is like any addiction) is food speculation. Gambling on the price of food, and acting in such a way to push prices up in order to make huge gains in a short period of time. For some institutions this may be the only way to cover up the holes in their finances from the sub-prime crisis.

Trading Places still - Billy Ray and Louis Winthorpe So when Egypt halted its rice exports because of falling stocks, speculators push up the cost of a ton of rice by 300%. India followed by limiting their rice exports heavily and waiting to see how high the price would go. Riots and civil disruption erupted worldwide, with the UN Peacekeeping force shooting at hungry rioters and getting shot at in Haiti (did that one make it to London Lite?). It was, if you may recall, the tripling in the price of rice in Burma, which triggered the monk's protests there last autumn.

Day traders, seeking a quick buck with no sense of consequence (or morality) have created the potential for widespread famine. As Anthoney Costello, director of the UCL institute of Global Health pointed out in frank terms, "the poorest households in the developing world, surviving on tiny fixed incomes, will be hungry right now. In a few months our TV screens will show the pot-bellies of children with kwashiorkor and the emaciated faces of mothers and children ravaged by malnutrition and infection. Many will die unnoticed."

"In a few months our TV screens will show the pot-bellies of children with kwashiorkor and the emaciated faces of mothers and children ravaged by malnutrition and infection. Many will die unnoticed."
Anthoney Costello, UCL 
Intervention by the UN by handing out sacks of rice won't solve the problem - the rice will still be very expensive (as will the wheat, soya, grains, oil, etc), and the hungry will be in the hundreds of millions. It's the speculators and the same lack of regulation which led to the current sub prime crisis, the internet bubble, and the price in oil which needs to be stopped. And even the biggest fans of free trade and global capitalism are arguing massive caution. To quote Paris-based agro-economic think-tank and research body Momagri 

"free trade will not stabilize prices but will increase instability. Indeed, simulations based on the assumption of complete market free trade in 2008 show that large-scale crops and grains will see price volatility rise sharply, while cattle prices will collapse. In addition, unregulated free trade, by increasing the participation of financial speculators, will further intensify price volatility. This was demonstrated by a new groundbreaking indicator that links the percentages of financial speculators to the increasing volatility of agricultural prices.

I don't think they are even caring about social impact... their job is to make money... They're not going to be worried about repercussions somewhere else."
Gary Kaltbaum,
Hedgefund manager
Even the owners of hedgefunds are alarmed by the merciless trading of those whose need for a short buck (perhaps to cover their loses on sub prime) blinds their vision to the suffering they are creating.

Other articles discussing this include this, this in the International Herald and Tribune, and this. For the record I should point out that one article by Brian Durrant in MoneyWeek argues against the claims that speculation is driving the rise in prices, tho he does recognise that activity in food trading has risen from $10bn to $142billion pa in the last decade. He argues it is down to more people eating meat in China and India and the rise of biofuels, and that it is a simple issue of supply and demand, suggesting the answer is greater trade liberalisation:

If the world today were a rational economic place, then regions such as the Gulf, which are energy rich but are food production constrained, would be investing their petrodollars in agriculture. On the other hand, the US is the world's biggest agricultural supplier, but has enormous energy demands. The rational solution would be for Saudi Arabians to buy farms in the mid-West. At the same time America would secure its energy needs in the most efficient manner by sending teams of Texans to Riyadh. But in practice, numerous controls prevent Saudi Arabians buying Mid-West farms and Americans owning Saudi oil wells...

Instead, mutual mistrust is rising. Gulf leaders are considering plans to desalinate sea water to plant wheat in the desert, while at the same time the US and Europe are trying to turn corn into fuel. It's the economics of the madhouse, but alas, these measures make sense in terms of narrow domestic politics. And the consequence of this surge in economic nationalism? Even more food price inflation."

An interesting point, but a digression - as UN Chief Ban Ki Moon told a conference this weekend :

"If not handled properly, this crisis could result in a cascade of others ... and become a multidimensional problem affecting economic growth, social progress and even political security around the world,"

Trading Places - the market looks onUpdate 8pm, Monday :

MoneyWeek pointed out their link above was broken, now corrected.

I also see from the Evening Standard left on my train back to Glasgow that the IMF have spoken out on it today and Brown is holding a summit tomorrow. There is also an interesting piece of analysis in today's Times from which speaks in mysterious terms about the correlation between the announcement of bad news in the markets and the rise of food prices, claiming no-one knows why they are so linked.

"Why, then, has a global collapse in credit created a boom in commodity demand? The short answer is that nobody knows.
Anatole Kaletsky
The Times
More intrigingly he matches the graphs of the rise of the Euro against the Dollar, against the rise in commodity prices, pointing out that the are almost exactly the same shape. My knee-jerk user-generated-economist theory would be that as currency speculators abandon the dollar in the face of sub-prime fallout that big institutions or investors whose wealth is tied to dollars are trying to offset their losses with investment in commodities, a 'safe haven' as people are always going to need to eat. As the dollar falls in value, no real wealth is lost if your billions in dollars of rice or wheat futures is rising by the same amount.

Could this really be a case of the world's poorest literally starving to death to clean up the mess left by some gung-ho and irresponsible banks and traders? 

(I promise film and media talk will soon resume. All images from Trading Places, which is a good introduction to the corrupt world of food commodities trading

Update 9am Thursday

 Business bible Business Week has republished an excellent article from Die Spiegel which acknowledged that "hedge funds and small investors bear some responsibility for global hunger... "The landscape has changed since the influx of large index funds. Fund managers seek to maximize their profits using futures contracts, and prices", says [long term grain trader Greg] Warner, "keep climbing up and up.""

"In mid-2006 Anderson was touting the "extraordinary profitability" of field crops from corn to soybeans. He was convinced that rising worldwide hunger would be synonymous with highly profitable— and dead-certain— investment bargains... These days, though, Anderson avoids the media... buying up rights to all photos of himself on the market."
BusinessWeek

PM Brown has agreed to rethink biofuels after a summit on the question. Jim O'Neill, chief economist at Goldman Sachs, admitted to the  Observer (only just seen this now) that rising demand from emerging countries, such as Brazil, India, China and Russia, explained some, but not all, of the price surge, which has seen the cost of wheat double in 12 months. 'I see so much focus on food, and it seems to be so trendy in the investment world,' he said. 'The underlying dilemma has been created by the wealth of the BRICs [Brazil, Russia, India, China] countries; but, for the past year or so, it's also been a major theme for financial institutions. The markets seem to me to have a bubble-like quality.'

US shops have started to ration rice, and the Latin American countries have grouped together and are looking at creating a distribution network "so we don't" in the words of Venezuala President Hugo Chavez "fall into the hands of intermediaries and speculators, which stop millions from receiving food."

Meanwhile a meeting of US Farmers and the US Commodity Futures Trading Commission, which regulates U.S. commodity markets, in the US led to some heated exchanges on Tuesday - and an agreement not to raise the investment limit on speculation as planned. 

"Sixty per cent of the current [wheat] market is owned by an index fund," said Tom Coyle, of the National Grain and Feed Association. "Clearly that's having an impact on the market."

From the article in the Globe and Mail

"Some producers blamed these large speculators for causing a disconnect between the value of a futures contract, and the underlying value of the asset is supposed to represent.

Cotton growers have been among the most vocal critics, having witnessed a baffling surge in prices over a few days in March. In one day, the price of cotton jumped 15 per cent despite reports showing cotton supplies were at near record highs.

Several cotton industry players urged the CFTC to investigate the price movements, and demanded that the regulator make speculators subject to the same rules as commercial players who buy and sell the actual commodities...

Given the current turmoil, the CFTC said yesterday it was not inclined to move ahead with controversial plans to raise investment limits for speculators. "I believe that before acting, this agency must be certain that additional speculative pressures will not exacerbate the anomalies we are experiencing in these markets," said CFTC acting chairman Walt Lukken. "It is critical that we understand the problem fully so we can get it right and ensure that the cure is not worse than the disease."

 

The History of Futures (from BusinessWeek )

Commodity speculation spread long ago from standard products like oil and gold to anything edible and available for trade on the Chicago Futures Exchange. These days there are futures contracts for everything from wheat to oranges to pork bellies. The futures market is a traditional tool for farmers to sell their harvests ahead of time. In a futures contract, quantities, prices and delivery dates are fixed, sometimes even before crops have been planted. Futures contracts allow farmers and grain wholesalers a measure of protection against adverse weather conditions and excessive price fluctuations. They can also help a farmer plan how much to plant for a given year.

"Since last August, this mechanism has led to a doubling in the price of rice—including the 500,000 tons that the Philippine government plans to buy in early May to address its own shortage. " But now speculators are taking advantage of this mechanism. They can buy futures contracts for wheat, for example, at a low price, betting that the price will go up. If the price of the grain rises by the agreed delivery date, they profit.

Some experts now believe these investors have taken over the market, buying futures at unprecedented levels and driving up short-term prices. Since last August, this mechanism has led to a doubling in the price of rice—including the 500,000 tons that the Philippine government plans to buy in early May to address its own shortage.

Greg Warner has worked in the grain wholesaling business for more than two decades. His office sits a block away from the Chicago Futures Exchange. He's an analyst with the firm AgResource, and he says what is happening now in the wheat market is unprecedented.

"What we normally have is a predictable group of sellers and buyers—mainly farmers and silo operators," he says. But the landscape has changed since the influx of large index funds. Fund managers seek to maximize their profits using futures contracts, and prices, says Warner, "keep climbing up and up."

He's calculated that financial investors now hold the rights to two complete annual harvests of a type of grain traded in Chicago called "soft red winter wheat."

Wagner is stunned by such developments. He sees them as evidence that capitalism is literally consuming itself.