Resource World Magazine

18 www.resourceworld.com O C T O B E R / N O V E M B E R 2 0 1 9 Boom, Bust and Boom Again The history of commodity prices and the business cycle by Alf Stewart T he economy develops in cycles driven by consumer demand, as well as government spending and monetary policy. This is called the business cycle. Economies require basic commodi- ties like oil and copper to work, and the supply of basic commodities as well as the price of those commodities depends on how demand intersects with the supply in each individual case. In this article we will examine the price history, and general supply considerations of three vital commodities through past economic cycles for implications on their future prices. The his- torical prices of copper, oil, and gold will be compared to the business cycle over the last fifty years. How do we define a business cycle, and how many cycles have we had over the last 50 years, and why look at 50 years anyway? A business cycle is considered to be a sequence of an economic expansion or 'boom ' followed by an inevitable economic contrac- tion – a 'bust ' or recession. A recession is defined as a period of lower economic output over two quarters, or six months, and they typically last about 18 months. In the last 50 years we have had six or seven cycles depending on how you look at the 1980 to 1982 period when the economy had a bit of a double dip which could be considered one recession or two. Looking at the past 50 years is useful because 1970 was a recession, a good starting point, and major events occurred in the gold and oil markets in the early 1970s. Specifically, gold was unleashed from direct US government price setting when President Nixon 'closed the gold window ' in 1971. Up to that time gold was convertible into US dollars at a fixed price between governments, but foreign governments were exchanging their US dollars for gold, since the price of gold had been set too low, and the US gold reserve was being drained. Since then market forces have largely determined the price of gold. As to oil, in the 1970s the US had become dependent on imported oil and OPEC, led by Saudi Arabia, cut off the US from imported oil, leading to major price action and economic ramifica- tions for the business cycle. HISTORY OF RECESSIONS Recessions occurred in 1970, 1974, 1980-1982, 1990, 2001 and 2008. We may be on the cusp of another one but we won't know until after the fact; however, the stock market is shaky and many pundits are suggesting that the current economic boom is long in the tooth. This is why this article is timely. OIL PRICES AND RECESSIONS The chart above shows the price of oil for the last 50 years, cor- rected for inflation. Overall, one can see that oil has traded between US $20 to $120 per barrel and is trading in the middle of this range now. Reviewing the price spikes shows that oil has reacted to supply shocks, specifically an OPEC oil embargo in 1973-1974, the Iranian Revolution in 1979 and the invasion of Kuwait in 1990. Between 2000 and 2008, oil prices spiked on strong demand growth from Asian industrialization leading to demand outstrip- ping supply. This strong price signal led to technical innovation in the oil industry – the fracking boom – which ultimately tipped the market to oversupply in 2014. The great recession of 2008 caused a price drop of 50% but oil prices remained in a historically favorable range. Generally, oil price shocks led recessions and perhaps caused them rather than the other way around. Today's oil market appears balanced and the surge in US oil production has led to diminished OPEC clout. Looking at oil as a commodity market, it is clear that the sup- ply is inelastic in the short term, and since oil is consumed and cannot be recycled, is vital to the economy and is trading in the middle of its historic range. It looks like a good market. INVESTMENT Inflation-corrected 50-year oil price chart (WTI crude). Vertical bars are recessions. Source: Macrotrends.net

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