Commodity Economics: Feast or Famine

Stephen DeAngelis

April 24, 2009

For decades development strategists have been trying to get countries whose national economies are primarily dependent on exporting a single commodity to diversify. In the world of commodities, things are seldom stable — it’s either feast or famine. One day the price of oil is heading towards $200/barrel and the next it’s sinking below $50/barrel. The same is true with the prices paid for copper, rice, coffee, iron ore, etc. Economic diversification is one of the driving principles behind Enterra Solutions’ Development-in-a-Box™ framework. No country can expect to successfully meet the expectations of its citizens when its national budget is at the mercy of the commodity market. The other problem with an economy that relies on a single commodity is that battles for control of that commodity (and the profits generated from its sales) often lead to conflict. So-called “blood diamonds” aren’t the only natural resource that has caused lives to be lost. Niger is another good example. Last year’s rising oil and natural gas prices created renewed interest in nuclear power, which, in turn, increased interest in uranium. Niger sits on top of one of the world’s richest uranium deposits and the citizens of Niger have begun fighting over who should control it and profit from it [“Battle in a Poor Land for Riches Beneath the Soil,” by Lydia Polgreen, New York Times, 14 December 2008]. Polgreen reports:

“A battle is unfolding on the stark mountains and scalloped dunes of northern Niger between a band of Tuareg nomads, who claim the riches beneath their homeland are being taken by a government that gives them little in return, and an army that calls the fighters drug traffickers and bandits. It is a new front of an old war to control the vast wealth locked beneath African soil. Niger’s northern desert caps one of the world’s largest deposits of uranium, and demand for it has surged as global warming has increased interest in nuclear power. Growing economies like China and India are scouring the globe for the crumbly ore known as yellowcake. A French mining company is building the world’s largest uranium mine in northern Niger, and a Chinese state company is building another mine nearby.”

Profits from the extraction of uranium could work miracles in Niger. However, conflict and corruption, the twin curses of so many resource rich African states, threaten to crush any dreams of a better future.

“Uranium could infuse Niger with enough cash to catapult it out of the kind of poverty that causes one in five Niger children to die before turning 5. Or it could end in a calamitous war that leaves Niger more destitute than ever. Mineral wealth has fueled conflict across Africa for decades, a series of bloody, smash-and-grab rebellions that shattered nations. The misery wrought has left many Africans to conclude that mineral wealth is a curse.”

The battle for control of resources in northern Niger is as much cultural as economic. The nomads who have occupied the land that sits atop the uranium deposits have historically been considered outcasts by those living in the richer agricultural region to the south. Now, however, the lands to the north account for 70 percent of the country’s export earnings; yet, the nomads living there have seen little benefit from profits being made. As the fifth largest producer of uranium in the world, the conflict in Niger over how extraction profits should be used will probably linger for decades (which means profits will probably be consumed by war rather than benefitting the country’s economy).

Another country that sits atop an in-demand mineral deposit is Bolivia — almost half of the world’s known lithium reserves can be found there. With the demand for lithium batteries on the rise (to power everything from iPods to hybrid cars), Bolivia has become the Saudi Arabia of lithium. Knowing that they sit atop a fortune, the people of Bolivia are becoming more nationalistic [“In Bolivia, Untapped Bounty Meets Nationalism,” by Simon Romero, New York Times, 2 February 2009]. Economically what this means is that the lithium deposits are likely to be nationalized.

“For now, the government talks of closely controlling the lithium and keeping foreigners at bay. Adding to the pressure, indigenous groups here in the remote salt desert where the mineral lies are pushing for a share in the eventual bounty.”

Like the nomads in Niger, the indigenous groups in Bolivia could rebel if they believe they are not receiving their fair share of the profits from minerals extracted from their traditional lands. It is less likely to occur in Bolivia, however, since a new constitution gives “Indians control over the natural resources in their territory, strengthening their ability to win concessions from the authorities and private companies, or even block mining projects.” With such great wealth at stake, corruption is another challenge that must be addressed if natural wealth is going to be used to diversify the Bolivian economy.

One South American country that understands how fickle commodity economies can be is Ecuador, which exports oil. When oil prices plunged, the Ecuadorian economy plunged with it. The government’s immediate response was to pass protectionist policies in hopes of saving non-oil-related sectors of the economy [“Ecuador’s Protectionist Response to Global Crisis Helps Some, Worries Others,” by Juan Forero, Washington Post, 26 March 2009]. Ecuador’s protectionist moves surprised most people. “Ecuador, which, despite the government’s on-again, off-again battles with foreign oil operators, has what is considered to be one of the region’s more open economies.” The restrictions are aimed at decreasing the demand for foreign goods and increasing the demand for domestic goods. It’s a strategy that domestic producers in every country would like to see implemented — including many in the United States. The problem is that for small countries like Ecuador, with a limited domestic market, it is not a strategy for sustainable growth. Andy Wright, whose family-owned Corporacion Favorita operates supermarkets and sprawling Walmart-type stores in Ecuador, remarked, “To grow, we have to export, but to export we have to be open to imports.” Ecuador finds itself in this conundrum because it remains too reliant on oil revenue.

“Ecuador’s revenue is shrinking. Oil exports are expected to fall by nearly 50 percent this year from last, to $6.5 billion. Remittances, the money 3 million Ecuadorans abroad send home, is projected to contract to $2.3 billion this year, nearly $800 million less than in 2007. Loans will also be hard to come by, as Correa’s government had declared itself in default on payment of sovereign debt it considered unjust.”

Food is another commodity whose prices are subject to wild variation. Last year food prices rose dramatically as a series of events caused global shortages. Farmers, hoping that food prices would remain high, planted crops they hoped would make them rich [“West African Villagers Stake Their Fortunes on the Future Price of Rice,” by Lydia Polgreen, New York Times, 25 January 2009].

“Hoping to take advantage of high global food prices that brought many poor nations to the brink of chaos last year, farmers across West Africa are reaping what experts say is one of the best harvests in recent memory. But after investing and borrowing heavily to expand their production, these farmers also run the risk of being wiped out as global food prices plummet.”

Farming is always a gamble. One of the reasons that most governments have historically subsidized farmers is to help mitigate some of the risk they take. The volatility of food prices, however, means that countries that are dependent on food exports are no better off than countries that rely on oil or mineral revenues. They, too, must diversify. Poor agricultural countries, however, face unique challenges.

“African farmers and consumers have often been stuck with the sharp end of globalization, and when food prices soared in 2008, poor African nations with liberalized economies suffered enormously. In countries like Senegal, which, with a population of 13 million, consumes about 600,000 tons of rice a year, cheap imports of staples like rice and wheat from farms in Asia that are vastly more efficient, and often government-subsidized, typically flood local markets. The imports drive out more expensive locally produced rice. So when prices rose last year and many countries stopped or curtailed exports amid global panic over food supplies, this country had virtually no local supply to replace it.”

One of the solutions for places like Senegal is to modernize the agricultural sector so that farmers there can compete more evenly on the global stage. Such modernization would foster supporting industries and help diversify the economy. Unfortunately, modernization costs money and money is currently in short supply. In poor countries, it’s always in short supply. One way to tackle this problem is through a concept that Time Magazine calls “Rent-a-Country” [see my post entitled Time Magazine’s Small World and read item #7]. The basic idea is that rich countries with little arable land invest in the agricultural sector of poor countries thereby helping both countries foster better food security. If price volatility isn’t enough to worry about, farmers also have to worry about weather and other environmental issues. In Kenya, for example, disease and insects create other challenges. For example, a disease called stem rust is threatening global wheat crops [“In the Wheat Fields of Kenya, a Budding Epidemic,” by Sharon Schmickle, Washington Post, 18 February 2009]. Schmickle reports:

“A virulent new version of a deadly fungus is ravaging wheat in Kenya’s most fertile fields and spreading beyond Africa to threaten one of the world’s principal food crops, according to the United Nations’ Food and Agriculture Organization. Stem rust, a killer that farmers thought they had defeated 50 years ago, surfaced here in 1999, jumped the Red Sea to Yemen in 2006 and turned up in Iran last year. Crop scientists say they are powerless to stop its spread and increasingly frustrated in their efforts to find resistant plants. … Coming on the heels of grain scarcity and food riots last year, the budding epidemic exposes the fragility of the food supply in poor countries. It is also a reminder of how vulnerable the ever-growing global population is to the pathogens that inevitably surface somewhere on the planet. … Eighty percent of Asian and African wheat varieties are now susceptible, and so is barley, FAO experts said.”

We all suffer when food supplies shrink because it means that food prices inevitably rise. Food security remains one of the planet’s greatest challenges; but food crises always hit the poorest countries hardest. Although economic diversification won’t solve the food security problem, it can help countries weather periods of commodity volatility. Countries simply can’t function properly or hope to sustain economic growth if they have no way of mitigating the effects of fluctuating commodity prices. Neither can they sustain economic growth if they adhere to traditions of conflict, corruption, and tribalism. As the world pulls together to try and get through the current economic downturn, we can only hope that such cooperation teaches leaders of all nations valuable lessons that will help them seek the best interests of their citizens through continued cooperation and sound economic policies.