Mauricio Mesquita MoreiraPrincipal EconomistIntegration and Trade Sector

Commodity prices: cycle, super-cycle or trend? Implications for Latin America.

G-20 Workshop on CommoditiesMay 19-20, Buenos Aires, Argentina

• The rapid increase of commodity prices initiated early this decade, and only briefly interrupted by the financial crisis at the end 2008, has been motivating a number of interconnected policy debates related to issues such as renewable energy, the poverty impact of higher food prices and “Dutch Disease” effects.

• An effective policy response to those challenges hinges on a reliable diagnostic of the drivers behind these price increases and on the prospects for the medium to long-term. Is this a regular cycle, a super-cycle or a new upward trend?

• Latin America, perhaps like no other region in the world, has its long term growth prospects closely tied to the answers to those questions.

• Our policy “hunch”, based on still preliminary, but suggestive evidence is that the region is likely to face a super-cycle, if not an upward trend, driven by the emergence of giant Asian economies, whose scarcity of natural resources has no parallel among the economies that have led world growth.

• If that is the case, LAC faces key challenges in (a) diversifying and adding sophistication to its exports and (b) generating jobs, both in the context of an inevitable specialization natural resources.

Motivation

• Putting the recent surge into perspective

• What is behind it? a review of the evidence available

• The role of the Asian giants and its impact on LAC’s growth prospects

• Making the most of the new trends

Outline

Getting some historical perspective

The recent surge

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 201050

70

90

110

130

150

All-commodities Index, IFS 1992-2010, real(deflactor: export unit value index for advanced

economies, 2005=100)

2005

= 1

00

The recent surge: determinants

• increased demand

• bio-fuel production

• lax monetary policy (interest rates)

• global growth, BRICs (India, China)

• speculation, risk

• constrained supply • input costs (crude oil)

• shortfalls (draught Russia Aug.‘10, flood Thailand ‘10)

• sluggish growth in production 1995-2003/1990s

• weak U$D

• policies (export taxes, import liberalization, bio-fuel subsidies)

Asia’s role

Asia’s role

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 20100

50

100

150

200

250

300

350

400

40

60

80

100

120

140

160

180

200

Imports of mining products, China and India: 1992-2009(Sources: IFS, WITTS)

Mining Imports (partner: World)Mining Imports (partner: Latin America)General Commodities Price Index IFS

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2005

=10

0 2005=100

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 20100

10

20

30

40

50

60

70

0

20

40

60

80

100

120

140

160

Imports of agricultural products, China and India: 1992-2009

(Sources: IFS, WITTS)Agricultural Imports (partner: World)Agricultural Imports (partner: Latin AmericaGeneral Commodities Price Index IFSFood Price Index IFS

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Objective a) identify China and India income elasticity for imports of agricultural and mining productsb) view its evolution over the past decade

Methodology Gravity model with a two step estimator that controls both for extensive and intensive margin, Helpman, Melitz and Rubinstein(2007)

Sample 99 countries, 1992-2009Usual gravity control variables (distance, area, colonial ties, etc.)“Religion” is the exclusion restriction

Growing Asia demand is not just the result of higher

growth but also increasing natural resource intensity

1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009

-1

-0.5

0

0.5

1

1.5

2

2.5

3

3.5 Income Elasticity of China and India

Mining products from Latin America

Agricultural products from Latin America

Agricultural products (non Latin America)

Mining products (non Latin America)

Source: Jaumotte and Tytell. WEO 2007. IMF

Source: Mesquita Moreira 2010

Growing Asia demand for natural resources is

compounded by growing competition in manufacturing

The competitive pressure: manufacturing

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 20100

5

10

15

20

25

30

0

0.2

0.4

0.6

0.8

1

1.2

1.4

1.6

1.8

2

Participaciones en las importaciones manufacturerasde EE.UU.: India, China y economías latinoamericanas

selectas. 1996-2010 (%)

Mexico China Peru India Brazil

Ch

ina

y M

exic

o (

%)

Ind

ia,

Bra

sil,

Cen

tro

Am

eric

a y

Per

ú

Fuente: IDB-INT con USITC data

The world has been experiencing a surge in commodity prices since the beginning of the decade, which raises challenging questions about medium and long-term trends;

A number of supply and demand determinants are discussed in the literature and all of them seem to play part in the surge, but we argue that the dominant factor in the long-term is Asia’s demand, driven by the super, natural-resource scarce economies of China and India.

We believe that China’s and India industrialization will fuel a long-term upward trend in commodity prices, perhaps unrivaled in world history, particularly with respect to manufacturing prices (the “Prebisch reversal”?)

A scenario like that challenges LAC’s long-held beliefs that it is the industry that will make us developed and rich.

It calls for different priorities: All-out protection and subsidies for manufacturing seems hopeless. Instead, the region should focus on: (1) maximize NR rents by improving regulatory frameworks and infrastructure; (2) allocate rents to (a) create conditions for tech upgrade within the NR cone of

diversification, i.e., investments in education and S&T; and (b) fund social programs to better distribute wealth and compensate for low job creation.

Conclusions