Special features

COMMODITY EXCHANGES AND DERIVATIVES MARKETS – A GLOBAL BOOM

* This special feature is courtesy of ANNE E. BERG^1/

In May of this year, FAO organized a one and a half day conference in conjunction with an important FAO intergovernmental meeting which discussed developments and prospects in world grains and rice markets^2/. The conference was held in Istanbul, Turkey, and was entitled “Commodity Exchanges and Their Role in Market Development and Transparency.” The Participants from multiple countries and organizations addressed an international audience on the evolution, developmental experience and prospects for commodity exchanges and derivatives markets. Experiences on exchange development were relayed by representatives from several countries, including China, India, Ukraine, Turkey, Malawi, Botswana, Argentina and the United States. Speakers from the international organizations such as FAO, the United nations Conference on Trade and Development (UNCTAD) and the Common Fund for Commodities (CFC) also contributed by providing statistical and thematic overviews of the cereal sector and by describing the increasing trend toward the application of risk mitigation solutions to agriculture. A variety of important related issues were raised during the conference, including matters of concern to rural development, credit extension, product options, crop insurance and income support. FAO is planning to make available the proceedings of this conference later this year.

On a global basis, commodity exchanges and derivatives markets are booming. Based on a new model that embraces electronic platforms, strict surveillance standards and a comprehensive approach to rural development, commodity and derivatives trading has garnered government support in a host of emerging countries. According to the Bank for International Settlements, the notional volume of exchange traded derivatives has topped a quadrillion dollars, exceeding by multiples the volumes traded on the world’s stock exchanges. Significantly, because of renewed focus on food security and the surge in bio-fuel development, agricultural trading has taken the lead among commodity sectors, experiencing a compound annual growth rate of 32 percent since 2001.

A confluence of several factors has contributed to the growth of agricultural exchanges and derivatives markets. Markets liberalization since the 1990’s has been critical: declining trade barriers have exposed the world to competitive forces. In addition, reductions in domestic support price programmes and the replacement of commodity price supports with direct income supports - as achieved by the EU - have propelled the need for risk management solutions. Some countries, such as South Africa, Brazil, Argentina and New Zealand now operate in a subsidy-free environment.

A surge in capital markets development and emerging markets’ productivity (now 50 percent of the world’s GDP) is another factor in agricultural exchange growth. Capital is flowing into emerging markets and into sectors previously state controlled. Many new exchanges and derivatives markets are private sector initiatives that envision the vast opportunities to be tapped from in these free market environments. This is particularly true in India where the major exchanges fiercely compete on products and franchise development. Plans to repeat the Indian success are now drawn for Africa. Moreover, as commodity prices respond to elevated consumer demand, they are increasingly viewed as alternative investments. Exchange volumes have attained record levels in countries such as China, the United States, Japan, Canada, and Argentina that trade basic foodstuffs - grains, oilseeds and sugar - since these products are progressively viewed as energy alternatives.

National identity is also proving a significant determinant of agricultural exchange development as countries prefer products that correlate with domestic trade practices and prices in terms of quantity, quality and currency. Because ocean freight rates have soared recently, local products can eliminate the basis risk associated with importation.

Finally, technological advancement has been the facilitator of rapid exchange development. Both commodity exchanges and derivatives markets have embraced the instant trade and price dissemination capabilities of electronic platforms. Many exchanges, such as those in India and Africa and one planned in Australia are using mobile phones for price information and trading. Governments are readily endorsing such systems since they are more transparent and suitable to regulatory oversight.

Derivatives markets and commodity exchanges are becoming significant drivers of rural development. As the two link together, they become important centres for supply chain integration, producer planting decisions and credit extension. By employing electronic trading, they are integrating fragmented markets across space and time, promoting producer “pricing power” and boosting incomes. Commodity exchanges that choose to become accredited warehouses to participate in the derivatives market delivery process are upgrading marketplace infrastructure and grading techniques. Commodity and derivatives markets are also serving as knowledge centres, allowing producers to learn valuable farm and marketing skills and to create products with quality rewards. By revealing a spectrum of deferred prices these markets are also encouraging the rational use of storage and enabling producers to avoid the traditional practice of selling during harvest time lows. In short, modern commodity exchanges and derivatives markets are a bringing a much needed revolution to the world’s agricultural economies.

1.  Independent consultant and commodities market expert. Ms. Berg also assisted in organizing the conference was among its key speakers. She can be reached at: [email protected].

2.  Papers presented at the meeting can be downloaded from the following site: http://www.fao.org/es/ESC/en/20953/21026/21634/event_110580en.html