Commodity prices and western consumerism

Businessworld

Kenneth Rogoff

Today’s soaring commodity prices scream a fundamental truth of modern life that many politicians, particularly in the West, don’t want us to hear: the world’s natural resources are finite, and, as billions of people in Asia and elsewhere escape poverty, western consumers will have to share them.

The US’ ill-considered bio-fuels subsidy programme demonstrates how not to react. Rather than acknowledge that high fuel prices are the best way to inspire energy conservation and innovation, the Bush administration has instituted huge subsidies to American farmers to grow grains for bio-fuel production. Never mind that this is hugely inefficient in terms of water and land usage.


Another wrong turn is the proposal recently embraced by two US Presidential candidates to temporarily scrap taxes on gasoline. But this is not the way to do it. The gas tax should be raised, not lowered. The sad fact is that by keeping oil prices high, OPEC is doing far more for environmental conservation than western politicians who seek to prolong the era of ecologically unsustainable western consumerism.

It is not just oil prices that are high, but all commodity prices, from metals to food to lumber. Prices for many have doubled over the past two years. Oil prices have risen almost 400 per cent in the past five years.

Admittedly, the global commodity price boom has had profound, albeit enormously complex and uncertain, effects on poverty. While surging commodity prices are helping poor farmers and poor resource-rich countries, they are a catastrophe for the urban poor, some of whom spend 50 per cent or more of their income on food.

For now, though, instead of whining about high commodity prices, governments should be shielding only their very poorest citizens, and letting the price spikes serve as a wake-up call for the rest of us. The end to western consumerism is not yet at hand, but high commodity prices are a clear warning that big adjustments will be needed as Asia and other emerging nations begin to consume a larger share of the global pie.

True, when today’s global economic boom ends, commodity prices will plummet, easily 25 per cent, quite possibly 50 per cent or more. Western politicians will cheer, and many pundits will express relief that less money will be flowing to undemocratic countries in the developing world.


ET

Gold prices in the 1970s, Japan’s equity market in the 1980s and tech shares in the 1990s all witnessed similar cyclical bear markets amidst secular bull runs. During their previous major bull phase from 1987-94, even emerging markets suffered two major setbacks of 30% in 1990 and 20% in 1992.

Research shows that commodity prices always lag the economic cycle and start to fall in earnest only four to five months after a major economic slowdown sets in. Admittedly, over the past decade emerging market demand has come to be the most important factor in determining commodity trends.

But changes at the margin matter the most in driving prices and US demand is still relevant for commodities such as oil. The US consumes just under a fifth of the total global oil output and latest data reveal that oil demand in the US is down 7% from a year ago.

Rising oil prices are currently the biggest obstacle in the way of stock markets rallying any further. Much of the bad news regarding the US credit crisis has already been discounted and valuations are supportive enough to engage long-term investors.

Lower oil prices will ease inflationary pressures and allow equity market valuations to expand again. In short, for the script of a secular bull-run in emerging markets to remain on track, commodity prices led by oil need to come off the boil, pronto.