Speculation And The Frenzy in Food Markets
The fight over financial regulation affects global food prices
PAUL JAY, SENIOR EDITOR, TRNN: Welcome to The Real News Network. I’m Paul Jay in Washington. Perhaps nothing’s more important to human well-being than the price of food. In recent years there’s been great volatility in food prices, including a dramatic rise in the period June 2007 to June 2008, when the global food price index nearly doubled. The global commodity price collapsed almost equally sharply, [so] that by December 2008 the prices were back to the levels of the previous year. The United Nations found that sharp increases in 2008 led to malnourishment for 130 million additional people. In the second half of 2010, prices once again began to rise rapidly. As of December 2010, the index was 136 percent higher than in January 2002. In the second half of 2010, food prices rose sharply again, nearly doubling in the case of wheat, and increasing by more than 60 percent in the case of maize. For example, in India, retail prices of some important food items have risen more than 50 percent in the past two years, causing great hardship in a country where just under half the population was already malnourished. Is this the result of what people call normal supply and demand? Or is the problem of price increases and volatility the product of speculation? Now joining us to talk about what’s the cause of the rise in the price of food and what public policy there should be to deal with it, coming now from New Delhi, is Jayati Ghosh. She’s a professor of economics at JNU university in New Delhi. She’s also executive secretary of International Development Economics Associates. And from Amherst, Massachusetts, Dr. Robert Pollin. He’s a professor of economics there and codirector of the Political Economic Research Institute, PERI. Thank you both for joining us.
ROBERT POLLIN, PROF. ECONOMICS, PERI CODIRECTOR: Thank you, Paul, for having me.
JAY: Jayati, let’s start with you. First of all, why don’t you just describe where we are right now in terms of rising food prices? And then we’ll get into what’s causing it.
JAYATI GHOSH, PROF. ECONOMICS, JAWAHARLAL NEHRU UNIVERSITY: Well, right now in the world economy we are back to where we were in the middle of 2008; that is to say, we have food prices globally that are higher than they were at the peak of what was then called the global food crisis. We’ve had in the last six months, as you mentioned, a very massive increase in the price of most essential food commodities. And the FAO [Food and Agriculture Organization of the United Nations] Food Price Index is now higher than it’s ever been historically.
JAY: Okay. Bob, describe what debate about this–how the debate is going on. There are people that say that the normal market mechanisms–and again, let’s put quotations around the word "normal’–but that this problem is exacerbated by speculation, derivatives trading. And then some people say, no, this really is just supply and demand. Can–explain to us what the debate is, and then what’s your opinion of it.
POLLIN: The debate is–number one, Jayati laid out where the data are. We know that the price of food has gone up astronomically, has gone up, rising at historically rapid rates. So we have to find some cause that is associated with this unique increase. In other words, you can’t have normal forces causing something that is so extraordinarily abnormal. So what would be some of the possibilities? One possibility is that you have this huge imbalance between demand and supply, that is, that you have this gigantic increase in demand relative to the capacity of all the farmers in the world to supply food.
JAY: One of the things that’s said is that there has been, in fact, a collapse of the Russian wheat market, that demand has gone way up in China and to some extent India for maize, and the role of biofuels and corn. So does this explain it?
POLLIN: Well, I think I should defer to Jayati, because she’s probably done the best research on this.
JAY: Go ahead, Jayati.
GHOSH: Well, you know, there is, if you like, an underlying medium-term imbalance between demand and supply, especially that supply is not growing fast enough to meet what would even be, shall we say, a normal increase in demand, given growth in some economies. But that really is simply not enough to explain the kind of thing that we have observed. Biofuels is another very important issue, because it’s true that biofuels now accounts for one-third of the US maize output, of 40 percent of the US maize output, and about one-third of the European Union’s maize production. But even so, we are getting very, very dramatic increases in price that are simply not explained by fundamentals. If you take the price of wheat, for example, it went up between June and December, it doubled in price, whereas the global wheat supply fell by maybe 3 percent and global demand for wheat has barely changed. So we really are not getting changes in price that are justified by the actual changes in the demand-supply balance.
JAY: So, Bob, if this is speculation, explain to us what the mechanism is. This has to do with the futures market, but let’s start from people that really don’t know even what the futures market is. So start with the basics, Bob, how this speculation might operate.
POLLIN: Okay. So, first of all, as Jayati said, you have these huge swings that are clearly unrelated to any shifts in demand–there may well be shifts, there are shifts in demand and supply, but those are fairly gradual. Even the increase in demand for biofuels is, you know, a few percentage points a year, which is a lot. So something big has to be moving these markets to the extraordinary degree that they are. So what–the other thing that has happened is that global commodities, food being one major one, but oil and other minerals as well, have in recent years become a major object for speculative financial markets, that is, the same people that wanted to make a lot of money investing in stocks and bonds, and that crashed in 2001. And then they moved into real estate, and we know what happened with the subprime and then the overall real estate bubble that crashed in 2007 and 2008. We then had this migration into the commodities markets, the markets for food, oil, other minerals, as a new place to invest, where you could see potentially very, very rapid increases in prices that would enable an investor to make a lot of money. And that is exactly what has happened, because the markets became deregulated in the late 1990s and early 2000s, that you had the major investment banks, such as Goldman Sachs, J.P. Morgan, and so forth, and their clients using these markets, which have been around for a long time, but using them for a new purpose. The purpose is to create a new gambling casino for them to dominate the markets and push prices up and make money off of that increase in price.
JAY: Jayati, some people argue, including people like Paul Krugman, who actually–who usually isn’t someone to critique–to be shy about critiquing speculation, he’s saying that if there isn’t physical hoarding of food, you can’t have this kind of gambling affect the price of food, that if you buy a future on, you know, corn or whatever and you think a year from now the price will be higher, that the spot markets, the actual day-to-day market, catches up to that, and that there’s no point–you can’t actually manipulate the price unless somehow you’re physically putting corn somewhere. What do you make of that argument?
GHOSH: Well, you know, that used to be true, that used to be the case, that in fact to speculate in grain, you had to hold grain. And that was why, essentially, the speculators in grain were those who were commodity dealers. That was the old story. What happened in the last decade is that you have this kind of transition whereby you have a futures commodity in which financial agents who have no interest in holding the actual physical commodity are able to play this market. And that’s because they are essentially rolling over contracts and constantly purchasing newer contracts, that is a crucial change in the market in the last decade.
JAY: I mean, one would think, Bob, that if you know there’s a future market, and the futures six months from now are higher than what the market is right now, you would–I mean, it goes to–the logic would say you’d try to hold on to what you’ve got for six months and sell it when it’s higher. Is that the logic of this?
POLLIN: Well, except that, as Jayati said, the people that have come to dominate the market are people who are not really calculating on the basis of when any physical commodity is coming due. They are basically moving the market in order to move the market. And if they’re big enough, if they’re so much bigger than all the other traders, they have the capacity to move the market to the degrees that we have seen that are just unprecedented. And so when they move the futures market, that pushes the spot market up–the futures market is driving the spot market prices. And that’s why you have, you know, the new form, much greater form of speculation becoming the predominant force in the futures market, which is then pulling the spot market along with it.
JAY: Well, what do you make of Krugman’s argument that says you can’t do that with food, that you actually have to hoard it or you can’t move the price?
POLLIN: I think it’s wrong.
GHOSH: Well, that’s simply not true, and we have evidence of that in 2008. In fact, what happened in 2008 is a classic example, where the food price went up by–almost doubled in the period between January and June, and then fell back to almost the previous level in the next six months, and yet there was hardly any major movement in terms of actual turnover of the physical commodity.
JAY: Okay. So let’s move to the next phase, then. So if speculation, and especially this kind of modern derivatives speculation, is moving the price of food, Bob, what’s the beginning of a public policy to deal with it?
POLLIN: Well, you know, a lot of the action takes place, in terms of trading, here in the United States. So the real action in terms of dealing with it has to do with regulations here in the United States. Though the impact is global, and in fact the most severe impacts are not in the United States, the policy implementation needs to start here. And, in fact, we have had some success–and you and I talked about it a few months ago–we have had some success in moving the policy debate in the United States, because around the debate on financial regulations in general, the issue of the speculation in commodities market became an increasingly important issue, and in large part because of people who were concerned about the control of food prices globally and also oil prices. And so today you have this debate going on because the Congress and the Obama administration put in place this new financial regulatory regime, the Dodd-Frank law, which actually has some pretty strong features in terms of regulation. But the issue that’s taking place right now is implementation of the Dodd-Frank law at the level of regulations, the regulatory agency. And the particular regulatory agency is called the Commodities Futures Trading Association. They are the ones that are going to regulate and put in place the specific laws. The laws that were passed are too vague. And so what the fight over now is what specific things are going to be put in place that will actually have teeth to actually inhibit the kinds of excessive speculation that is driving up food prices and making people go hungry. That’s the issue.
JAY: Jayati, so what do you make of what kind of reforms they’re fighting over in the United States, to start with, what other possible kinds of reforms on this speculation you’d like to see? But also speak about–even without this kind of future market speculation, the whole character of the food supply is all about speculation, isn’t it, even though it gets exacerbated by this Wall Street gambling kind of speculation?
GHOSH: Well, yes and no. Prices of food and other primary commodities have always been volatile, because that’s–it’s the nature of the supply to be volatile. You have a bad crop harvest somewhere, you have sudden increase in demand somewhere, you have a flood somewhere else, and that changes the supply and demand equation. So primary commodities have always had this issue that, you know, the price can be very volatile. What we’ve added to this is this additional volatility, which is not anymore driven so much by real economic factors. It’s driven sometimes by rumor. A lot of the big increase in wheat in the last six months was because of the Russian grain failure and then the Russian ban on exports, which didn’t actually affect aggregate global supply, because other countries actually supplied more wheat, but it created this perception that there was going to be a shortfall, and so there was a massive increase in speculation in wheat. So what speculation is doing is massively magnifying an existing volatility. Now, there are other policies that we need [in order] to deal with the food problem, to deal with food price volatility, and to ensure that there’s enough food for half of the world’s population that still desperately needs to avoid being hungry. So those–there’s a whole bunch of other set of policies which we need to put in place. But we can’t even begin to think of stabilizing food prices as long as we allow this kind of financial activity, which is massively adding to the existing volatility.
JAY: Now, Bob says that a lot of this problem starts in the United States, I guess because of the size of the American finance sector and how much of global financial speculation moves through US finance markets.
GHOSH: It’s not just that, Paul. It’s because the Chicago Board of Trade–I mean, Chicago’s where most primary commodities in the world are traded and where–it’s one of the major markets. And Chicago and London together will determine about 80 percent of the way that prices are set for most of the important primary commodities.
JAY: So, Bob, if people listening to this want to make some demands on their politicians about how to reform this to some extent, what specifically should they be looking at in terms of what’s moving through Congress, and what should they be demanding?
POLLIN: Well, the real action is no longer in Congress, and that’s why it’s a little more complicated, but people should pay attention. The real action is now at the Commodities Futures Trading Commission. So for people that have never heard of the Commodities Futures Trading Commission, the first thing is to check out and follow what they’re doing. They’re having very important debates taking place right now. They’re going to get–these issues are going to get settled over the next few months. And here are the issues. The Dodd-Frank law is–as I said, it’s–there are some strong features, but they’re very general. So the Dodd-Frank law says, number one, these huge speculative markets that have been operating essentially unregulated–they’re so-called over-the-counter markets, which means unregulated markets, which means do whatever you want markets. So the Dodd-Frank law says, we’re going to move all the action onto regulated exchanges. And that’s very important, because once they move onto regulated exchanges, number one, all the traders have to disclose what they’re doing. So first and foremost you have some transparency in the markets; you can track what’s happening. Okay, that’s number one. Number two, once you move into the exchanges, you have some standards that everyone who’s trading has to adhere to. If you are going to organize an exchange, you have to put up a lot of money to be able to do that, and when you put up a lot of money–and it’s called a capital requirement–that means that the people that are organizing the exchanges are going to have an incentive to dampen down speculation, because if there’s too much speculation, the market goes bust and they lose money. That’s very important. Number two, the traders also are forced under this exchange situation to also put up money, their own cash. That’s called a margin requirement. And a margin requirement, again, puts them at more risk, and that therefore discourages them from doing excessive speculation. Number three, and maybe most important–and this is being debated right now at the Commodities Futures Trading Commission–is so-called position limits. A position limit says there is a limit as to how much you–any one trader can buy. Now, if you set serious position limits, that means that whoever it is–Goldman Sachs, J.P. Morgan–who is trying to control the market simply cannot do it, because they have a limited amount that they themselves are able to buy at any time. So this is a very important debate going on. If you follow the financial press, such as The Financial Times or the Wall Street Journal, you will see that this is taking place in a serious way. And it’s very important for the regulators to stick to the law that was passed. The spirit of the law, of the Dodd-Frank law, says there must be position limits. So that means there must be real position limits, not phony ones that are so high that they don’t affect any traders. And finally, there is a very important feature in all of this. Unfortunately, the Dodd-Frank law allows for exemptions from the law: whatever the law is, if they decide they want to exempt you, you’re exempt. We can’t allow for exemptions, because, obviously, once you allow for exemptions, then anybody can be exempt. In fact, what happened 12 years ago was precisely–before the deregulation was formally put in place, was the Commodities Futures Trading Commission started exempting. In fact, the first big exemption was a firm called Enron. Enron was allowed to trade over-the-counter on their own because they made an argument that, well, they were doing electronic trading, so that’s different. Well, of course it’s not different, but they were allowed to operate over-the-counter. And that was what crashed the electricity market in California, that’s what ruined Arthur Andersen as a Big Five accounting firm, that’s what crashed Enron. So you’ve got to have serious regulations and you have to have the regulations apply across the board to everyone. I don’t think–I firmly don’t think that it’s a foregone conclusion that the regulations in the United States will be weak. The regulations in the United States were reasonably good for a generation. And a lot of people are focused on it and concerned. And even one or two of the commissioners on the Commodities Futures Trading Commission, the people that actually are going to make the decision, are listening to people like us that are concerned about this. So–and the Dodd-Frank law was actually strengthened over time in the process of debate precisely through pressure by people who cared about excessive speculation and high prices in food and oil. So we need to keep fighting over it. There are a lot of things we can do to mobilize. And the basic tools that we’re dealing with are fairly simple–they’re already on the books. It’s a matter of getting them to find strongly and making sure they’re implemented.
JAY: So I guess people in India and all the other countries around the world so affected by US policy are hoping that this fight for stronger regulation will succeed. On the other hand, you need your own policy, don’t you?
GHOSH: I think that’s a critical thing. The developing countries, the problem is that, you know, we get so buffeted by these global forces, but all in the adverse direction. So when global prices were going up, food prices in all developing countries went up. When global prices fell, did our prices fall? No, our prices stayed high. And now that they’re going up again, once again we have major food price increases. So you have seen the impact of that already, the political impact in the Arab world, in Tunisia, in Egypt, and elsewhere. In India we’ve had something like 50 percent food price increase just in the last three years. And this has become a huge social and political problem as well, quite apart from the extensive hunger and major malnutrition that it causes. Basically, developing countries have got to de-link from that global market and to ensure their own food supplies as far as possible, through their own production, through regional arrangements, through other means, because the global market is now simply too unstable.
JAY: Thank you both very much for joining us.
POLLIN: Thank you.
JAY: This is just the beginning of a discussion on this topic. I hope you both join us again, and we’ll dig into this further.
JAY: Thank you for joining us on The Real News Network.
End of Transcript
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