Tag Archives: scarcity

The energy price version of “this time it’s different”

Posted on by

Michael Giberson

David Wessel’s economics column at the Wall Street Journal takes a look at an IMF analysis of commodities prices since 1973. In the process, he makes an odd claim about energy prices.

CHART: Commodity prices since 1973 from the IMF World Economic Outlook

Commodity prices since 1973 from the IMF World Economic Outlook.

Wessel writes:

To help distinguish temporary trends from long-lasting ones, International Monetary Fund economists recently charted the inflation-adjusted prices of four baskets of commodities—energy, metals, food and agricultural raw materials (such as logs, cotton, rubber, wool and others) since the 1970s. For what it’s worth, the IMF’s bottom line: “The weak global economic outlook suggests that commodity prices are unlikely to increase at the pace of the last decade.”

But the IMF charts illuminate a bigger story.

• Something significant did happen in the 2000s: a sea change in what had been a downward drift in prices of commodities (other than energy) for decades. The consensus explanation: Demand from China, India and other emerging markets grew very rapidly as these big economies sprang to life….

• Energy prices are truly different. For one thing, they are much more volatile than other commodity prices for all sorts of reasons, including recurring geopolitical risks that oil supplies will be disrupted. For another, they are clearly rising—up 163% over the past four decades. The consensus explanation of energy’s exceptionalism: Rising oil prices depress economic growth and that depresses prices of other commodities.

• Metals prices have risen significantly in the past several years, as the IMF chart shows… Still, metals prices are roughly where they were in 1973, a clear contrast to the price of energy, which appears unlikely to ever be as cheap as it was then.

• Over the past several decades, the price of food is down substantially—despite the growth in the world’s population and the well-discussed change in the diets of the increasingly prosperous Chinese, and even after the uptick of the late 2000s. Food prices are roughly half what they were in 1973. Half. That long-lived trend is likely to continue.

Why should we believe “this time it’s different” about energy prices?

It seems an especially odd claim given the near two-decade period from about 1985-2003 during which energy prices were essentially the same as in 1973. That can’t happen again?

Maybe we’ve reached the global limits on energy-resource productive capability, but I doubt it. Instead I think we’ve seen significant growth in energy demand over the last decade or so, more or less exhausting any excess capacity (or, in economics jargon, the energy demand curve is now intersecting with a relatively inelastic portion of the energy supply curve). Energy supply has been increasing in response, but the effort is slow-moving, so we get higher and more volatile prices in the meantime.

My guess is that we will see inflation-adjusted oil prices back at 1973 levels within the next five years.

RELATED: The recent IMF World Economic Outlook analysis that inspired Wessel’s column.

Simon v. Ehrlich, again

Posted on by

Michael Giberson

Paul Kedrosky gave a short talk at TED 2010 on the Simon/Ehrlich bet on commodities prices, and posts a summary of the content as “Re-litigating the Simon/Ehrlich Bet.” If the Simon-Ehrlich bet is to be re-litigated, and Kedrosky comment is taken as offering a brief in favor of Ehrlich’s position, what can be said in defense of the Simon position?  Alex Tabarrok responds that Kedrosky’s argument misses the whole point.

Here is Kedrosky in excerpt:

By way of refresher, the situation was this: After a decade of soaring commodity prices, plus related worries about resource scarcity, in 1980, Paul Ehrlich, a dour population ecologist, took up Julian Simon, a cornucopian economist, on a bet. Ehrlich (on paper) put equal mounts of money into five commodities (he selected chromium, copper, nickel, tin and tungsten) whose prices would, he thought, be higher a decade later. Higher prices meant Ehrlich won; lower prices meant Simon won. The loser paid the winner the difference.

Ehrlich lost. A decade later, in 1990, all five commodities’ prices were lower than they were in 1980.

Kedrosky reexamines the data to see how frequently a 10-year bet on the selected commodities prices would have produced a win for either Simon or Ehrlich.  From 1980 to 1993, Simon would have won but for two years, then beginning in 1994, largely due to the run up in commodities prices that lasted from 2004 to 2009, Ehrlich would have won subsequent bets.  Kedrosky sums up:

So, what does all this mean? A few things. First, and most importantly, it means Simon was right but fairly lucky. There is nothing wrong with being lucky, of course, but compulsive Simon/Ehrlich-citers need to be reminded that it is no law of nature (let alone of rickety old economics) that commodity prices (inflation-adjusted or otherwise) trend inexorably downward, even over a decade.

Kedrosky then offers a discussion of short term price gyrations in oil markets and effects on the United States, suggesting  that “the market” will “break the largest and most elastic buyer’s back”, either “smoothly or through ugly societal and economic disruption.”  The metaphor got a little twisted there – is it possible to smoothly break someone’s back? Is it possible to break an elastic buyer’s back? – and so I get a little lost.

Essentially Kedrosky suggests that as oil becomes more scarce, prices will become higher and more volatile for a while, and then there will be a transition to lower priced oil (after substitutes emerge), and that transition will be either smooth or ugly.  This is hardly revolutionary analysis.  In fact, except for slight differences in tone, the message here is fairly consistent with the claims made in CERA’s “undulating plateau” analysis.  CERA seems to expect a smooth transition, a conclusion based on how markets usually respond to increasing resource scarcity.

Alex Tabarrok points out, however, the Kedrosky seems to be missing the key point of the Simon-Ehrlich dispute, which was fundamentally about scarcity, not prices:

The bet was never fundamentally about prices, the bet was about scarcity, living standards and whether we were running out of natural resources–remember that at the time Ehrlich was predicting hundreds of millions would die of starvation and even that England would not exist in the year 2000!  Prices were just a convenient but imperfect way to mark the bet to market.The reason prices have risen in the 1990s is not that things are getting worse but that things are getting better–especially in China and India where things have been getting much better.  As China and India have become richer demand has increased tremendously in these countries putting upward pressure on prices.  In other words, prices have risen because the value of resources has risen.  That’s quite different–indeed the opposite–of what Ehrlich was predicting. [Emphasis added.]