Download Lecture VI - Financial Policy Forum

What If Joseph Had Used Derivatives?
Hedging commodity price risk
1. Many developing countries are highly dependent upon commodity
production for exports, and also dependent upon some key commodity
imports for food and energy. Thus exposes them to substantial amounts of
commodity price risk.
2. Correlation between commodity prices, revenue, exports and output
3. Prices are VOLATILE 4. Long swings
5. Long-term impact of short-term problem
Long swings in commodity prices
•
•
•
•
•
•
Raul Prebish, Singer (confirmed by Kindleberger) secular fall relative to
manufactured goods
Problem for terms of trade, national income and development
Attempts at import substitution
Attempts at commodity pools
Trend problems comes to fore when price take deep downward dive
This is sometimes misleadingly referred to as volatility
Export Dependence
of Developing Countries
Commodities as % of Total Merchandise Export (1996)
Africa
Commodities as %
of exports in 1996
Asia
Mauritania
99.8
Gambia, The
92.8
Yemen, Rep.
Mali
99.8
Malawi
92.7
Papua New Guinea
96
Nigeria
99.3
Ghana
92.3
Kuwait
95.3
Ethiopia
99.3
Cameroon
Saudi Arabia
93.2
Chad
99.1
Madagascar
85.6
Syria
90.8
Rwanda
98.4
Mozambique
83.9
Mongolia
89.8
Gabon
98.1
Guinea-Bissau
82.5
Myanmar
88.6
Angola
97.8
Burkina Faso
80.1
Iran
86.5
Congo, Rep.
97.9
Tanzania
78.2
Oman
86.1
Nigeria
97.6
Senegal
74.6
Cambodia
82.8
Algeria
96.3
Kenya
71.7
Laos
71.3
Libya
96.1
Uganda
70.7
Vietnam
63.7
Benin
95.4
Zimbabwe
70.4
Jordan
61.3
Sudan
95.4
Cote d'Ivoire
68.7
Latin America
Zambia
95.4
Namibia
68.4
Ecuador
91.1
Togo
93.6
Egypt, Arab Rep.
68.4
Venezuela
88.5
Burundi
93.5
Sierra Leone
57.8
Chile
85.3
Guinea-Bissau
93.1
Central African Rep 57.4
Peru
84
South Africa
Bolivia
84
Paraguay
83
Europe & Central Asia
Panama
79.7
Russian Federation
83.3
Costa Rica
75.5
Kazakhstan
82.2
Argentina
69.9
Georgia
82.2
Honduras
69.5
Turkmenistan
78.1
Guatemala
69.3
Moldova
77.3
Nicaragua
66.3
Tajikistan
75.3
Colombia
65.8
Azerbaijan
73.2
Uruguay
63.9
Ukraine
66.5
Trinidad and Tobago
61.3
Bulgaria
64.5
El Salvador
Kyrgyz Republic 61.6
Armenia
56.1
Macedonia, FRY 52.5
Yugoslavia, FR 51.1
92
50.8
99.4
58.8
TABLE 2
Correlations with Major Export Commodity Price
Country
Commodity
Burundi
Coffee
Colombia
GDP
Exports
Revenue
-0.55
0.44
1
Oil
0.05
0.3
0.62
Ethiopia
Coffee
0.44
0.33
0.36
Ghana
Cocoa
0.75
0.22
0.72
Kazakhstan
Oil
0.65
0.9
0.44
Nicaragua
Coffee
0.48
0.4
0.48
Nigeria
Oil
0.3
0.66
0.11
Uganda
Coffee
0.65
0.52
0.64
Uruguay
Beef
0.2
0
0.45
Venezuela
Oil
0.01
0.71
0.5
-- GDP and Revenue in real 1995 local currency values
-- Exports in nominal U.S. dollar values
-- International Financial Statistics
TABLE 4
Booms and Slumps in Commodity Prices
January 1957 – August 1999
TABLE 3
Duration of Commodity Price Shocks: 1957–1998
12 to 28 months
Aluminum
29 (1 & up)
Fishmeal
45, (18 & up)
Gasoline
44, 8 & up)
Iron Ore
32, (15 & up)
Lamb
14, (9 & up)
Rubber
43, (18 & up)
Soybean meal
26, (14 & up)
Soybean
30, (15 & up)
Sugar (U.S.)
27, (14 & up)
Wheat
44, (18 & up)
48 to 96 months
Beef
57, (20 & up)
Coconut oil
70, (22 & up)
Copper
81, (23 & up)
Groundnut oil
58, (20 & up)
Lead
64, (21 & up)
Maize
55, (20 & up)
Palm oil
64, (21 & up)
Phosphate rock 49, (19 & up)
Soybean oil
51, (0 & up)
Wool (coarse)
70, (22 & up)
Wool (fine)
57, (20 & up)
Zinc
94, (24 & up)
96 to 216 months
Coffee 150, (26 & up)
Cotton 152, (26 & up)
Nickel 175, (26 & up) 103 (24 &
up)
Rice
Permanent
Cocoa beans
Coffee
(Robusta)
Gold
Hardwood (logs)
Natural gas
Petroleum
Sawnwood
Tin
Tobacco
TSP
Note: Estimated average duration (half-life) of price shocks (in months) is given by the first number in each relevant column and is followed by
range of duration in parentheses.
Source: IMF Finance & Development (2001) “Do Commodity Price Shocks Last Too Long for Stabilization Schemes to Work? “
COPPER
Obs
Spearman Rank
Correlation
SR-Pvalue
Bravais-Pearson
Correlation
BP-Pvalue
Belize
Exports
42
0.48079
0.00481
0.34636
0.03107
Belize
GDP
29
0.47340
0.00540
0.34266
0.03250
Belize
GDP p. Cap.
29
0.20444
0.09260
0.10340
0.25139
Belize
Revenue
17
0.25735
0.14432
0.21243
0.19055
Chile
Exports
42
0.42883
0.00504
0.30887
0.03192
Chile
GDP
42
0.44813
0.00359
0.30734
0.03259
Chile
GDP p. Cap.
42
0.42982
0.00447
0.40872
0.00646
Chile
Revenue
40
0.38964
0.01058
0.44499
0.00424
Uganda
Exports
40
0.45596
0.00156
0.29836
0.02658
Uganda
GDP
42
0.45709
0.00153
0.29609
0.02750
Uganda
GDP p. Cap.
42
0.09681
0.27018
0.28892
0.03383
Uganda
Revenue
32
-0.06232
0.36223
-0.13924
0.21545
Zambia
Exports
37
0.36099
0.00965
0.53215
0.00028
Zambia
GDP
36
0.35840
0.01010
0.52969
0.00030
Zambia
GDP p. Cap.
36
0.33328
0.01539
0.30761
0.02310
Zambia
Revenue
35
0.32026
0.02141
0.36770
0.01002
COTTON
Spearman Rank
Correlation
Obs
SR-Pvalue
Bravais-Pearson
Correlation
BP-Pvalue
Chile
Exports
42
0.40199
0.00459
0.45343
0.00165
Chile
GDP
42
0.40264
0.00453
0.45395
0.00163
Chile
GDP p. Cap.
42
0.10607
0.24591
0.02586
0.43344
Chile
Revenue
40
0.35610
0.01216
0.32709
0.01929
Colombia
Exports
42
0.45450
0.00161
0.43064
0.00263
Colombia
GDP
42
0.45612
0.00156
0.43005
0.00266
Colombia
GDP p. Cap.
42
0.40183
0.00460
0.41971
0.00326
Colombia
Revenue
8
0.38095
0.14063
0.27729
0.21644
Nigeria
Exports
42
0.32907
0.01648
0.17580
0.12728
Nigeria
GDP
42
0.33004
0.01622
0.17523
0.12805
Nigeria
GDP p. Cap.
42
0.49097
0.00073
0.32366
0.01797
Nigeria
Revenue
37
0.37767
0.01080
0.34330
0.01839
Peru
Exports
13
0.36813
0.09220
0.51960
0.03050
Peru
GDP
13
0.36813
0.09220
0.51841
0.03080
Peru
GDP p. Cap.
13
0.43956
0.05650
0.23068
0.20278
Peru
Revenue
12
0.51049
0.03850
0.61456
0.01663
Zambia
Exports
37
0.30785
0.03237
0.47792
0.00207
Zambia
GDP
36
0.32124
0.02696
0.47466
0.00220
Zambia
GDP p. Cap.
36
0.33807
0.01987
0.44638
0.00331
Zambia
Revenue
35
0.39328
0.00999
0.55155
0.00055
PETROLEUM
Bahrain
Bahrain
Bahrain
Bahrain
Belize
Belize
Belize
Belize
Colombia
Colombia
Colombia
Colombia
Cote
d'Ivoire
Cote
d'Ivoire
Cote
d'Ivoire
Cote
d'Ivoire
Nigeria
Nigeria
Nigeria
Nigeria
Venezuela
Venezuela
Venezuela
Venezuela
Obs
36
27
Spearman
Rank
Correlation
0.51770
0.48962
SRPvalue
0.00357
0.00548
BravaisPearson
Correlation
0.35603
0.35915
BPPvalue
0.03216
0.03101
27
27
42
29
0.82537
0.62576
0.54187
0.55764
0.00000
0.00057
0.00176
0.00134
0.88841
0.44926
0.53663
0.54879
0.00000
0.00979
0.00193
0.00156
29
17
42
42
0.41194
0.70588
0.25023
0.26407
0.00380
0.00180
0.05244
0.04351
0.37678
0.33723
0.27126
0.27303
0.00731
0.08220
0.03938
0.03841
42
8
0.32335
-0.14286
0.01806
0.34308
0.26561
-0.08472
0.04259
0.40531
Exports
42
0.36097
0.00966
0.13182
0.19647
GDP
GDP p.
Cap.
42
0.35380
0.01093
0.12626
0.20661
42
0.38556
0.00623
0.23194
0.06640
Revenue
Exports
GDP
GDP p.
Cap.
Revenue
Exports
GDP
GDP p.
Cap.
Revenue
5
42
42
0.10000
0.33100
0.33003
0.41153
0.01597
0.01623
0.06426
0.29239
0.29144
0.44287
0.02905
0.02946
42
37
42
42
0.57496
0.39497
0.26879
0.24811
0.00010
0.00814
0.04076
0.05392
0.74699
0.51574
0.47233
0.46489
0.00000
0.00085
0.00110
0.00129
42
41
0.71274
0.31051
0.00000
0.02339
0.87463
0.72440
0.00000
0.00000
Exports
GDP
GDP p.
Cap.
Revenue
Exports
GDP
GDP p.
Cap.
Revenue
Exports
GDP
GDP p.
Cap.
Revenue
World Coffee Prices (NY): Monthly Nominal Percentage Changes
50
40
30
20
10
0
-10
-20
-30
1970
1975
1980
1985
1990
1995
2000
World Cocoa Prices: Monthly Nominal Percentage Changes
30
20
10
0
-10
-20
1970
1975
1980
1985
1990
1995
2000
Average Crude Petroleum Prices: Monthly Nominal Percentage Changes
100
80
60
40
20
0
-20
1970
1975
1980
1985
1990
1995
2000
World Cotton Prices: Monthly Nominal Percentage Changes
30
20
10
0
-10
-20
-30
1970
1975
1980
1985
1990
1995
2000
US Gulf Wheat Prices: Monthly Nominal Percentage Changes
30
20
10
0
-10
-20
1970
1975
1980
1985
1990
1995
2000
World Copper Price: Monthly Nominal Percentage Changes
30
20
10
0
-10
-20
-30
1970
1975
1980
1985
1990
1995
2000
Real Commodity Prices: Absolute Values (Deflated by World CPI (IFS)), Monthly 1969 - 2001, Source: Unctad
40000
5000
2400
35000
36000
30000
2000
4000
32000
25000
28000
1600
3000
20000
24000
1200
20000
15000
2000
16000
800
10000
12000
1000
400
5000
8000
4000
0
1970
1975
1980
1985
1990
1995
2000
0
1970
R_ALU
1975
1980
1985
1990
1995
2000
0
1970
R_COBNY
1600
1980
1985
1990
1995
2000
1970
R_COCONY
800
1975
1980
1985
1990
1995
2000
1980
1985
1990
1995
2000
R_COPPA
350
700
1400
1975
200000
300
160000
600
1200
250
500
1000
120000
200
400
800
150
80000
300
600
100
200
40000
400
50
100
200
0
1970
1975
1980
1985
1990
1995
2000
0
1970
R_COTTUSO
1975
1980
1985
1990
1995
2000
R_PETRACP
4000
30000
25000
3000
20000
2500
15000
1500
10000
1000
5000
500
0
0
1970
1975
R_WHUS
1980
1985
1990
1995
2000
1970
1975
R_ZINC
1975
R_SUGCAR
3500
2000
0
1970
1980
1985
1990
1995
2000
1980
1985
1990
1995
2000
1970
1975
R_TIN
Short-term price fluctuations
• Although the focus of many observers and economists has been towards longterm price movements, the importance of short-term fluctuations did not go
unnoticed. Singer (1950, 1958) made several observations about their importance.
• “fluctuations in the volume and value of foreign trade tend to be proportionately
more violent in that of underdeveloped countries and therefore a fortiori also more
important in relation to national income.” Singer (1950, p. 473)
• “The case for stabilization of terms of trade … has, it seems to me, nothing to do
with the existence of their secular trends but a great deal to do with their large and
extremely damaging cyclical and short-term fluctuations. Long-run trends are if
anything an argument against stabilization of terms of trade, as I believe most
sensible people agree. But the violent cyclical and short-term fluctuations certainly
add to the underlying difficulty discerned by Prebisch and others.” Singer (1958, p.
85)
• A clear and simple method for analyzing price movements is to break them down
into movements along a trend and then movements around that trend. The former
are associated with long-term economic factors while the latter are short-term
fluctuations that are associated with either short-term factors or even “noise.”
The costs of volatility
• Volatility interrupts investment, development and growth
• Income variability retards development by slowing savings, discouraging investment and
lowering living standards
• Hampers ability to service debt
• Reduces social welfare because the because of concave utility functions, i.e. diminishing
marginal utility of income means that benefit of upswing is less then cost of downswing.
• Government budget are correlated with commodity prices, and so fiscal policy becomes
pro-cyclical.
• Also, the volatility of prices of primary exports shapes the credit rating of the developing
country government. High volatility can thereby lead to higher borrowing costs because
investors take into consideration the dependence of the government on export commodity
prices for their revenue needed to service foreign debt.
• Effect on the integrity of prices as market signals, and use of signals for short and long term
signals for consumption and investment decisions
93
M
19 1
93
M
19 8
94
19 M3
94
M
19 10
95
19 M5
95
M
19 12
96
M
19 7
97
M
19 2
97
M
19 9
98
19 M4
98
M
19 11
99
M
20 6
00
M
20 1
00
M
20 8
01
20 M3
01
M
20 10
02
20 M5
02
M
12
19
400
Commodities vs Stocks
350
300
250
Cocoa
Coffee
Copper
Oil
Rubber
S&P
200
150
100
50
0
-0.3
2002M8
2002M2
2001M8
2001M2
2000M8
2000M2
1999M8
S&P
1999M2
Rubber
1998M8
Oil
1998M2
Copper
1997M8
Coffee
1997M2
Cocoa
1996M8
1996M2
1995M8
1995M2
1994M8
-0.2
1994M2
1993M8
1993M2
0.6
Commodities vs Stocks
0.5
0.4
0.3
0.2
0.1
0
-0.1