IMF Survey: Commodity Price Moves and the Global Economic Slowdown
IMF News, March 20, 2008
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- Authors: Thomas Helbling, Valerie Mercer Blackman IMF Research Department March
- Published: March 20, 2008
Rising commodity prices and recent trends
- IMF's commodity price index has risen by a cumulative 10 percent in 2008 after having already increased by about 30 percent between December 2006 and December 2007.
- Oil prices:
- Surged from around $90 a barrel in late January 2008 to over $105 a barrel by mid-March 2008.
- Surpassed their previous record high in constant prices set on December 17, 1979.
- Base metal prices rebounded after falling during the second half of 2007.
- Price spikes in 2008 were influenced by both supply shocks (e.g., wheat, tin) and unexpected large increases for other commodities.
Apparent disconnect between commodity prices and global slowdown
- Observation: Commodity prices remained strong despite intensifying credit market problems and slowing growth in advanced economies.
- Historical pattern: In all recent global downturns, commodity prices declined sharply, suggesting a current disconnect.
- Explanation:
- Emerging and developing economies have accounted for virtually all recent commodity demand growth and have been less affected by slowing growth in advanced economies.
- Financial factors have more recently reinforced price momentum.
- Key dependence: The continued resilience of commodity prices will depend on the extent of spillovers of slowing growth in advanced economies to the rest of the world.
The financial side of commodity markets
- Commodities act as both consumable/production inputs and as financial assets.
- Financial drivers pushed prices up in recent months:
- U.S. dollar depreciation and falling short-term real interest rates increased the attractiveness of commodities as alternative assets.
- Gold surged to record-high real levels.
- High returns and low correlation with other asset classes led to increased use of commodities for portfolio diversification and rising inflows into commodity funds and assets.
- Overall assessment: Financial factors seem to explain a large part of the increase in crude oil prices so far in 2008 and the rising prices of other commodities.
Factors underpinning commodity market tightness and attractiveness
- Rapid growth in emerging economies fuels demand:
- Incoming data underline continued strength from emerging economies.
- These economies have greater commodity intensity and have accounted for virtually all demand growth in recent years.
- Food demand boosted by biofuel production:
- Half of the increase in global corn consumption in 2007 was related to ethanol production.
- The recent U.S. Energy Bill will ensure continued increases in demand from this source.
- Resulting spillovers: higher feed costs, crop substitution, demand substitution, and spillovers to other food commodity prices.
- Sluggish supply response to higher prices:
- Demand has pushed supply up against capacity limits; for oil, demand has caught up with capacity after decades of substantial spare capacity.
- Capacity expansion constrained by escalating costs (geological and technological constraints), sharply higher royalties and taxes, shortages in skilled labor and specialized equipment.
- For biofuels, supply response will likely be gradual; for metals and minerals, infrastructure bottlenecks have hampered rapid capacity expansion.
Impact of high commodity prices
- Inflationary pressures:
- Rising fuel and food prices have boosted headline inflation in many countries.
- The inflation impact of food price increases is of particular concern for emerging and developing economies because the corresponding expenditure shares exceed those of oil-related spending by a substantial margin.
- The impact on headline inflation will persist through much of 2008 even without further increases in underlying commodity prices.
- Risk of higher inflation expectations and second-round effects that could constrain monetary policy amid spillovers from slowing growth in advanced economies.
- Economic demand effects:
- Rising commodity prices increase cost pressures on producers and reduce household purchasing power in commodity-importing countries, amplifying the downdraft from the credit market crisis on consumers in advanced economies.
- At the global level, demand subtractions are unlikely to be fully offset by higher expenditure in commodity-exporting countries despite substantial terms of trade gains.
- Distributional and social effects:
- Rising commodity prices, especially food items, have posed an increasing burden on the poor in emerging and developing economies where food-related expenditure of the poor is much larger as a share of household expenditure than for other income groups.
- Policy responses by some countries have included reducing import barriers, increasing export taxes, and instituting subsidies that reduce price pass-through, sometimes at considerable fiscal cost.
- Policy recommendation where possible: use well-targeted cash transfers as the main instrument to relieve social pressures from rising food prices.
Commodity price prospects and outlook
- With global growth widely expected to decline in 2008-09, commodity demand will likely soften and prices of most commodities should eventually start easing.
- Caveat: Unless there is a substantial global downturn, the extent of easing may be small given current tight balances in some commodity markets.
IMF Survey: Commodity Price Moves and the Global Economic Slowdown — By Thomas Helbling and Valerie Mercer Blackman; IMF Research Department; March 20, 2008.
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References
- https://www.imf.org/en/News/country-focus
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- Managing impact of oil prices
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- Food and biofuels: price of success
- High oil prices challenge policymakers
- Oil boom tests exporters
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- IMF's commodity price index
- Finance & Development
- https://www.imf.org/en/home