Commodity Market Linkages in the Global Financial Crisis: Excess Volatility and Development Impacts

Abstract

This article examines how the increased interactions of financial and commodity markets have served as one fast transmission channel of the global financial crisis to the developing world. It suggests that a significant portion of the closely synchronised price dynamics in commodity and financial markets is explained by market liquidity cycles in global finance, as financial investors manage their portfolio at ease through 'virtual' stock holdings of commodities in derivatives dealings and markets. The article further argues that this has generated price volatility well in excess of what could be explained in demandsupply fundamentals, and that under such conditions futures markets would cease to perform their intended functions -that of price discovery and risk hedging for physical commodity stakeholders. It explores the development impacts of excess price volatility and the case for innovative price stabilisation mechanisms.

Macroeconomic impacts of oil prices and underlying financial shocks

“…However, to our best knowledge, no authors have yet attempted to extend Kilian's (2009) framework in order to identify an exogenous shock that arises from unexpected changes in financial market conditions and examine the consequent macroeconomic impacts of oil price changes. This extension must be meaningful because there is emerging evidence of the so-called financialization of commodity markets, a phenomenon characterized by a high degree of price correlation among a broad set of commodities as well as between commodities and financial assets, presumably due to the greater participation of financial investors in commodity markets (Henderson et al, 2012;Nissanke, 2012;Singelton, 2012;Tang and Xiong, 2012;Buyuksahin and Robe, 2012;Morana, 2013;Basak and Pavlova, 2013). A consequence of the financialization process is that commodity prices such as oil prices are determined not only by their supply and demand but also by the financial market conditions that affect financial investment.…”

Financeirização E O Mercado De Commodities: Uma Avaliação a Partir Do Setor De Mineral

“…Dessa forma, mais do que os "fundamentos do mercado" físico, os preços passariam a ser modificados a partir das expectativas de ganhos ou perdas dos grandes operadores do mercado financeiro. Nissanke (2012) exemplifica que, na crise de 2008, a perspectiva de perda de rentabilidade dos especuladores levou a uma liquidação maciça de investimentos de longo prazo, intensificando ainda mais a queda dos preços. Entretanto, poucos meses depois, no início de 2009, embora a economia global ainda estivesse em recessão, os preços das commodities voltaram a subir.…”

DodgingDodd‐Frank: Excessive Speculation, Commodities Markets, and the Burden of Proof

“…These investments are seen to offer large institutional investors, including pension funds, hedge funds, sovereign wealth funds, and university endowments, exposure to an asset class whose value is projected to grow well into the future and that boasts the additional benefits of both a hedge against inflation and a shelter from declines in other capital markets (Clapp and Helleiner ; Basu and Gavin ; Clapp ). Given these attractive properties, commodities came to be viewed as a safe haven, a source of “protection against financial instability” (Clapp and Helleiner , 188) that was especially valuable in the years surrounding the subprime crisis as capital fled to the relative safety of commodity index funds and other commodity‐based investments (Nissanke ).…”

“…In documenting the growth of commodity index funds from a market of less than $13 billion in 2003 to more than $260 billion in 2008 (Nissanke ), many policy reports reasoned that it was this influx of largely speculative capital that was responsible for driving commodities prices beyond their historic highs (Oxfam ; Schumann ; de Shutter ; UNCTAD ). This theory hinged on the particular relationship between index funds and commodities markets.…”