Accurate market price formation model with both supply-demand and trend-following for global food prices providing policy recommendations

Abstract

Recent increases in basic food prices are severely affecting vulnerable populations worldwide. Proposed causes such as shortages of grain due to adverse weather, increasing meat consumption in China and India, conversion of corn to ethanol in the United States, and investor speculation on commodity markets lead to widely differing implications for policy. A lack of clarity about which factors are responsible reinforces policy inaction. Here, for the first time to our knowledge, we construct a dynamic model that quantitatively agrees with food prices. The results show that the dominant causes of price increases are investor speculation and ethanol conversion. Models that just treat supply and demand are not consistent with the actual price dynamics. The two sharp peaks in 2007/2008 and 2010/2011 are specifically due to investor speculation, whereas an underlying upward trend is due to increasing demand from ethanol conversion. The model includes investor trend following as well as shifting between commodities, equities, and bonds to take advantage of increased expected returns. Claims that speculators cannot influence grain prices are shown to be invalid by direct analysis of price-setting practices of granaries. Both causes of price increase, speculative investment and ethanol conversion, are promoted by recent regulatory changes-deregulation of the commodity markets, and policies promoting the conversion of corn to ethanol. Rapid action is needed to reduce the impacts of the price increases on global hunger.behavioral economics | agricultural commodities | food prices | nonequilibrium markets | global crisis I n 2007 and early 2008 the prices of grain, including wheat, corn, and rice, rose by over 100%, then fell back to prior levels by late 2008. A similar rapid increase occurred again in the fall of 2010. These dramatic price changes (1) have resulted in severe impacts on vulnerable populations worldwide and prompted analyses of their causes (2-57). Among the causes discussed are (i) weather, particularly droughts in Australia, (ii) increasing demand for meat in the developing world, especially in China and India, (iii) biofuels, especially corn ethanol in the United States and biodiesel in Europe, (iv) speculation by investors seeking financial gain on the commodities markets, (v) currency exchange rates, and (vi) linkage between oil and food prices. Many conceptual characterizations and qualitative discussions of the causes suggest that multiple factors are important. However, quantitative analysis is necessary to determine which factors are actually important. Although various efforts have been made, no analysis thus far has provided a direct description of the price dynamics. Here we provide a quantitative model of price dynamics demonstrating that only two factors are central: speculators and corn ethanol. We introduce and analyze a model of speculators describing bubbles and crashes. We further show that the increase in corn-to-ethanol conversion can account for the underlying price trends when we excl...

Co-benefits of intercropping as a sustainable farming method for safeguarding both food security and air quality

“…We did not consider the possible shift of equilibrium unit prices/ costs due to the changes in crop production and other external factors affecting those prices/costs, e.g. investor speculation on the commodity markets and demand for biofuels (Lagi et al 2015). The health cost associated with inorganic PM 2.5 pollution was estimated following the method presented by as the multiplicative product of the timelagged change in premature mortality rate induced by a current change in PM 2.5 concentration, and the present value of statistical life in China (see supplementary information D for details).…”

Global Governance Dimensions of Globally Networked Risks: The State of the Art in Social Science Research

“…Examples of globally environmental networked risks include political instabilities created by food riots resulting from price volatilities in food commodities in global markets linked to the expansion of biofuels globally (Lagi, Bar‐Yam, Bertrand, & Bar‐Yam, ); emerging risks in global financial markets produced by climate and environmental change (Galaz, Gars, Moberg, Nykvist, & Repinski, ); or emerging zoonotic disease risks induced by biodiversity loss, and changes in land use and climate globally (Keesing et al, ).…”

Bubbles, Froth and Facts: Another Look at the Masters Hypothesis in Commodity Futures Markets

“…At best, these studies provide circumstantial evidence supporting the Masters Hypothesis. At worst, they are erroneous due to poorly constructed data (Singleton, ) or not using actual position data (Lagi et al ., ). Either way, none of these studies provide the actual direct evidence needed to link commodity index fund positions to economically large changes in commodity futures prices.…”

“…Using a dynamic modeling procedure, Lagi et al . () tie the rise of the FAO Food Price Index in 2007–2008 and 2010–2011 to ethanol conversion and investor speculation. In the model, there is no direct measure of speculative positions.…”

“…Only Lagi et al . () attempt to quantify the economic size of the market impact; but their model focuses on cash prices and they do no use an actual measure of trader positions. At best, these studies provide circumstantial evidence supporting the Masters Hypothesis.…”