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Banks should end 'secretive' trade in food commodities
13th September, 2011
Financial speculation in key commodities, like wheat and maize, is being linked to recent volatile food prices but attempts to regulate are being delayed by lobbying from the banking sector. Tom Levitt reports
Speculators have swamped the food commodities sector over the last five years causing increasingly volatile prices for key staples like wheat and maize, according to a new report by the World Development Movement (WDM).
Commodities markets were primarily meant to help producers and buyers find a fair market price for the product through so-called futures contracts.
For example a buyer of wheat, such as a bread manufacturer, could protect itself against wheat prices going up in future years by buying a corn futures contact to guarantee itself a stable price. This is known as hedging.
However, over the last decade there has been a surge in interest in buying and selling these futures contracts from people with no interest or connection to agriculture or the food sector. These investors are known as speculators.
Speculators do not have any commercial interest in the commodity they are trading - unlike bread manufacturer they are not looking to take delivery of any wheat any time soon. Their only ambition is to make a profit from the changing prices over the lifetime of these food futures contracts.
Speculators swamp market
In the last five years financial speculators have more than doubled their investment in the food commodity sector from $65 billion in 2006 to $126 billion in 2011, say WDM.
In some markets, such as wheat, they now control more than 60 per cent of the market.
WDM say this has led to prices no longer being driven by supply and demand for food, but instead by the mood of speculators and the performance of their other investments.
It has also caused a rise in herd behaviour, when traders follow the actions of a larger group rather than acting independently and rationally. This has resulted in volatile price swings, seen during 2008/9 and 2010/11.
The rapid rise in the price of key food commodities such as wheat and maize in the last six months of 2010 pushed 44 million people into extreme poverty, says the report, with the price of food now 55 per cent higher in less industrialised countries than it was 4 years ago.
|Food prices have risen sharply in the past five years causing hunger and poverty (graph from WDM)|
As well as forcing people to eat less nutritious and cheap foods, it also means poor families have less money to spend on healthcare and education for their children.
The World Bank and the UN Food and Agricultural Organisation (FAO) are among others who have blamed food speculation, in part, for food price rises. The FAO said last year that prices, 'might have been amplified by speculators in organised futures markets.' However, it has argued that some speculation may be useful in helping markets function.
Crackdown on banking sector
The rise in speculators, says WDM's report, has been facilitated by lax regulations which have allowed investment banks, like Goldman Sachs and Barclays, to create new funds that let people bet on the price changes of these food futures contracts.
Most large institutional investors, including pension funds, have little knowledge of commodities markets, or the time to learn, so investment banks have tailor-made index funds that track the prices of key commodities like maize and give investors a return based on how they perform.
The banks act as the middlemen by taking that investment and speculating on the investors’ behalf; buying and selling futures contracts in food commodities.
A market that was once largely dominated by commercial hedgers, such as the bread manufacturer, has now become swamped by financial speculators.
WDM's report 'Broken Markets: How financial market regulation can help prevent another global food crisis' calls for two key reforms to curb the influence of food speculators.
Firstly, secretive trading of these derivatives created by investment banks should be moved into well regulated public exchanges - similar to the stock market. Secondly, there should be a limit on the size of the market that speculators can control.
The banks themselves argue that commodity markets would not operate as well without speculators. A report published this week by the Institute of International Finance (IIF), which represents leading global banks, said there was 'little convincing evidence' that speculation had led to volatile commodity prices.
UK 'sceptical' about role of speculators
The EU is due to publish its recommended reforms of the financial sector in 2012 - campaigners hope it will include controls on food speculators. However, similar reforms agreed in the US last year are still to be implemented after heavy opposition from Republicans and the banking sector.
Ironically, much of the argument in the US has been about fears the new rules would drive trading from US markets to less-regulated ones overseas, like Europe.
The UK government says it remains 'sceptical' about the impact of speculators on food prices.
A Treasury spokesperson said: 'Food supply and prices are affected by a number of factors including global energy prices, global stock levels, the size of harvests, changes in exchange rates and national agricultural trade and marketing policies. Whilst it is difficult to be definitive, we are sceptical about the degree to which speculation has played a causal role.
'More broadly, the Government strongly supports the G20 commitment to improve the regulation, functioning, and transparency of financial and commodity markets. The UK authorities are playing a full role towards meeting this objective – including through the EU and other international forums.'
The Food Ethics Council says waiting for conclusive proof of the link between speculation, food prices and hunger was not an option.
'There is a moral imperative to act now to regulate the commodities market if there is a chance that doing nothing will spark another food crisis,' a spokesperson said.
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