Oil price may have plunged, but excitement over commodity prices is misplaced
When the shouting is over and the turbulence has subsided, supply and demand asserts itself and prices respond accordingly
Which goods and services can you think of that are cheaper now than they were three decades ago? While you’re thinking about this let me offer an answer.
I’m talking about the price of oil, which is now around one third of the price it was over three decades ago. Go back to 1980 and the price spiked at almost US$114 a barrel, compared to today’s price range of US$36 to US$37. However the all time price high was seen in June 2008 when oil soared to over US$145.
My reference for oil prices remains stuck in the mid-1980s because this is when I was employed as The Observer newspaper’s energy correspondent. Those were heady days for the Opec price fixing cartel and I spent a great deal of time trailing around Opec meetings in exotic and not so exotic locations.
The meetings were conducted behind closed doors as befits the operations of any self-respecting cartel. The level of communication reached a new low during an epic 1983 Opec meeting held in London, chaired by Nigeria’s dour oil minister Yahaya Dikko who infuriatingly maintained absolute silence during this marathon negotiating session, leading one frustrated reporter to ask whether he was mute; Dikko’s only response was to nod his head in affirmation.
However when the meeting finally ended something dramatic was announced: for the first time in its history Opec agreed to a price cut, benchmark crude was to be priced at US$29 down from US$34, a price very close to that which prevails today.
Us excitable reporters trumpeted the news and declared that the power of Opec had been broken; two years later the price had more than trebled.
Why rake over all this old history? There are a number of reasons but basically I want to suggest that excitement over commodity prices is misplaced, confident predictions about commodity prices are almost always wrong and to remind readers of the truth of the much used biblical quotation: “there is nothing new under the sun”.
Let’s begin however with the way that Opec conducts business. No one expects its meetings to be open to the public but their outcome has international implications. This makes it a problem for an organisation with a solid reputation as a lousy communicator of its decisions and the means by which they were reached. Compare this to the US Federal Reserve, which also conducts its business in private but always offers a detailed commentary on its decisions. Whether or not you like these explanations, they are useful and, more importantly, provide a better understanding of where things are heading.
Then there is the underlying matter of commodity prices, which tend to be erratic. When it comes to products that are heavily traded internationally, it becomes clear that they are subject not just to the law of supply and demand but also to a complex array of political and emotional decision making that adds to the unpredictability. The safest prediction to make about any given commodity price is that it will sometimes go up and sometimes go down. I concede that this is not helpful but it sure does calm the nerves.
However in the case of oil there is a historic and fairly close correlation between oil and gold prices and there used to be an equally close correlation between these two prices and the value of the US dollar. Now that latter relationship is changing as the dollar rises while oil prices fall. So nothing is forever.
This brings us to the need not to get excited over these things because ultimately commodity markets are like all markets, meaning that when the shouting is over and the turbulence has subsided supply and demand asserts itself and prices respond accordingly.
An exception to the laws of fundamental value can be made for gold and other precious metals that tend to reflect what is happening in other markets. Because their utility is as a means of storing wealth and little of what is traded is actually used they go with other flows.
Yet the world is littered with gold nuts; some are bidding to be the US Republican Party’s presidential nominee. They are joined by other daft people who have developed a strange demi-fetishism over commodity prices. They tend to advocate their obsession with great fervour.
The reality is that this is all nonsense, presenting an obstacle to clear thinking about investment and indeed the importance of commodity prices in global economics. Of course these prices matter to countries that are heavily reliant on commodity production and have failed to diversify their economies but generally speaking the vagaries of commodity prices do not affect fundamentals and occupy far too much airtime.
Stephen Vines runs food companies in the food sector and moonlights as a journalist and a broadcaster