Politics & Policy

From Copper to Capital

The message of commodity-price volatility.

According to a recent Wall Street Journal article, “police departments across the country have reported a surge in the number of copper-related thefts at homes, businesses and elsewhere.” With the price of copper up over 300 percent since 2001, thefts of vases from gravesites, air conditioner components, gutters, and water pipes have risen as criminals have sought to sell the copper they contain at inflated prices. Just as “scarcity” and rising demand from India and China have been fingered as the cause of oil’s rise, both are cited as the reason for copper’s rally — not to mention subsequent criminal efforts to access it illegally.

 

Monetary blunders are rarely mentioned in all this, despite the fact that since 2001 the nominal price rise in dollars of both copper and oil has been over double that registered in euros. Importantly, since commodities are priced in dollars, it seems that history often repeats itself every time the dollar loses value.

 

Indeed, amidst oil’s impressive price rise in recent years, we’ve predictably been assaulted with provocative books such as The Party’s Over and Twilight in the Dessert, which herald the coming decline of worldwide oil reserves. In the 1970s, books such as The Limits to Growth and The Oil Crisis: This Time the Wolf Is Here were released amid much fanfare, similarly suggesting that “scarcity and shortages” were part of our future.

 

But it’s conveniently forgotten that predictions of scarcity and austerity have always been stupendously incorrect. Oil discoveries in Pennsylvania in the mid-19th century ushered in the world rush for that commodity, yet according to Daniel Yergin’s The Prize, by 1885 the state geologist of Pennsylvania said oil was a “vanishing phenomenon — one which young men will live to see come to its natural end.” 

Statements like this one have been heard often throughout history, along with “expert” assumptions about where oil might or might not exist. While Venezuela is presently the world’s fifth largest oil exporter, efforts to explore Lake Maracaibo in the early 20th century were ridiculed. In 1926, Albania was thought to be the promising oil play, while eastern Arabia was said by one geologist to “not present any decided promise for drilling oil.” Yergin notes that as late as the 1940s, many in the oil business thought “offshore development was simply impossible.”

 

In light of the recent large oil discovery in the Gulf of Mexico, the evidence once again suggests that oil isn’t scarce. Yet investment to find it sometimes is. As recently as 1998, experts were predicting a worldwide “glut” when $10 oil materialized. Logically, however, they should have been predicting the supposed scarcity we’re now experiencing with oil at $65 a barrel. Cheap oil foretold today’s expensive oil, as investment in the sector was curtailed. 

Returning to current monetary blunders, every supposed oil and commodity “shock” since 1971 has occurred alongside a major drop in the value of the dollar versus gold, and subsequently all commodities. Since both oil and copper are world commodities, the fact that their prices have risen so substantially in dollars as opposed to euros in recent years makes plain the impact of dollar instability on the nominal price of commodities.

 

It follows that these nominal changes impact investment in future commodity discoveries, and go far toward explaining why commodity prices have surged past their ten-year averages. Changes in the dollar’s value quickly register in the spot price of all commodities, with a rising currency driving away investment, and a falling currency attracting capital. This mal-investment does a lot to explain the “gluts” and “shocks” that have occurred since we left the gold standard in 1971.

 

 

 

The above chart tracks the oil price since 1947 — and the contrast between the stable-dollar years of Bretton Woods (1944-1971) and the aftermath is pretty striking. Despite a major rebound of the world economy post-WWII, oil prices were largely flat up until 1971, as the stable dollar made investment in crude rational and allowed the oil industry to maintain large excess reserve capacity in case of supply interruptions or spikes in demand. Notably, charts of copper, silver, and platinum show much the same path as oil: mostly stable prices through the mid to late 1960s, followed by extreme volatility after we left gold in 1971.

 

On a positive note, since their May highs, silver, copper, and platinum are down respectively 25, 16, and 9 percent, while oil is down to $65 a barrel after nearly reaching $80. These price movements reflect the dollar’s 18 percent rise versus gold in recent months, not to mention discoveries like the one in the Gulf of Mexico which marginally defuse worries of a rapidly declining supply of oil.

 

Still, while the mini-bear market in commodities should be cheered, the volatility in prices once again speaks to the investment volatility that insures uncertainty in the future. 

The Bretton Woods years provide a modern example of what can be achieved when the dollar is stable. If we want to make the notion of “scarcity” a concept of the past, we also might consider ending our thirty-five year floating dollar experiment.

 

– John Tamny is a writer in Washington, D.C. He can be reached at jtamny@yahoo.com

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