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rsypp w / s id ; © s u m s © ir Sam Fm i nadis© © April 25, 1975 Commodity prices have declined on a broad front in the past half year, reflecting the impact of the worldwide recession on the de mand for farm products and industrial raw materials. The Bu reau of Labor Statistics' index of commodity prices, which meas ures spot price movements of two dozen internationally-traded commodities, now stands about 20 percent below last July's peak. Prices of some components have recently shown signs of stability, but the general trend still appears to be downward. The broad-based decline in pri mary commodity prices has worked to hold down prices for processed food and industrial goods at later stages of the production process, as evidenced by the steady decline since last winter in the overall wholesaleprice index. The consumerprice index continues to rise because of the pressure of rising middlemen's costs, but the rate of increase has slowed to about onehalf of the late-1974 pace. Commodity inflation This slump marks an abrupt end to the pervasive 1972-74 inflation in commodity markets. The quadru pling of crude-oil prices in the winter period a year ago was the most dramatic indication of this price upsurge, but there were 1 Digitized for FRA SER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis many other sharp increases posted during this two-year time-span. In fact, the BLS commodity index which—does not include petroleum—nearly doubled be tween mid-1972 and mid-1974. The only comparable episode during the past generation was the commodity “ crunch" at the onset of the Korean War, and that upsurge was followed by a weak ening trend that lasted for at least a decade and a half. The recent price surge was at tributable to a worldwide eco nomic boom that boosted the demand for both farm products and industrial raw materials. For the first time in two decades, the economies of most industrial nations moved together in the expansion phase of the business cycle. This synchronized boom stimulated employment and out put, but at the same time it strained the capacity of many basic industries, creating short ages and upward pressures on prices. Indeed, by the third quarter of 1973, U.S. production of such basic materials as petro leum, steel, nonferrous metals, forest products and textiles reached 96.3 percent of capacity, the highest since World War II. Meanwhile, strong worldwide demand for reduced supplies of farm products created a price (continued on page 2) Opinions expressed in this newsletter do not necessarily reflect the views of the management of the Federal Reserve Bank of San Francisco, nor of the Board of Governors of the Federal Reserve System. spiral in a sector which had experienced relative stability throughout most of the two preceding decades. The foodand feed-grain situation stabilized temporarily in late 1973 because of the expectation of bumper crops and a recession slowdown in demand, but as weather disasters destroyed crop hopes, prices headed upward again until the fall of 1974. Similarly, poor growing weather in the tropics helped boost prices for the world's coffee, cocoa and sugar crops. As for nonferrous metals, process ing capacity during this period proved inadequate to meet the sudden surge in worldwide de mand. New capacity had failed to come on stream in adequate amounts, reflecting such factors as a prolonged downtrend in the rate of return on investment in earlier years. In addition, a grow ing share of the available new investment had gone into (non producing) pollution-control equipment. Final push The Arab oil embargo during the winter of 1973-74 provided a final push to an already frenzied mar ket. By aggravating the overall inflation, undermining many na tional currencies and creating a general fear of shortages, the Digitized for FRA SER embargo touched off a wave of speculative buying that pushed industrial commodity prices to new heights. But then, as the embar go ended and the worldwide recession deepened, a specula tive sell-off and consequent de cline in raw-material prices was all but inevitable. Normally, commodity prices act as a leading indicator, turning downward before the onset of recession. That failed to happen this time. The hoarding sparked by the oil embargo postponed the price decline for raw industrial materials until April 1974, several months after the U.S. economy registered its first decline in physical output. For most food stuffs—and for the overall index—the turn didn't come until much later. Livestock prices peaked in early 1974 as the rising cost of feed forced ranchers to liquidate herds and reduce feeding operations, but it wasn't until late fall that prices began to tumble in the markets for grains, sugar, cocoa, and fats and oils. Once the decline began, how ever, prices fell with great mo mentum, so that the overall index now stands 20 percent below last summer's peak. Continued weakness The near-term outlook is for continued weakness in com modity prices, at least until a turnaround occurs in economic activity. In nonferrous metals industries, producers have at tempted to stabilize prices by cutting back production, but their efforts have been largely unsuc cessful because of the weakness of demand from the housing, auto and appliance industries, and also because of the excessive level of inventories throughout the world. In the food industry, prices could recede further if this year's crops come up to expectations, although heavy inventories (and therefore downward price pressures) are lacking in many sectors; for example, world grain stocks are now at the lowest level of the past two decades. While the immediate problem of shortages has been overcome, the question arises whether the world will be confronted in future decades with chronic and per sistent shortages of minerals, food and other primary commodities. The answer is probably no, ac cording to a Brookings Institute panel of 15 experts from the European Community, Japan and North America. Relative prices of primary products might very well rise over the long-run because of the growth of world demand, increased environ mental costs, and the necessity to utilize lower-quality land and mineral resources. However, the Brookings group does not believe in the inevitability of this course, principally because tech nological change will continue to 3 Digitized for FRA SER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis offset many of these cost press ures. Moreover, the experts doubt the ability of non-oil producer cartels to dictate prices and control supplies, partly because of the widespread incidence of primary commodities throughout the world, and partly because of the effect of artificially high prices in spurring conservation and encouraging the development of substitute materials and new sources of supply. At the same time, the Brookings panel argues that several require ments must be met to assure adequate supplies at relatively stable prices. In its view, produ cers must be assured of an ade quate rate of return on invest ment to encourage the develop ment of resources and necessary processing capacity. In that regard, producers and consumers may find it worthwhile to coop erate in the creation of buffer stocks, in order to stabilize prices in the face of shifting supply-anddemand developments. As an additional incentive to invest ment, the panel suggests the development of international rules—by the World Bank, for example—that would govern sensitive issues such as ownership rights and taxes in a manner mutually acceptable to host governments as well as foreign investors. Yvonne Levy uoiSum seM •L|ein • uoSaJO •EpEA9 [\| . ogspi ZSL Q"Q jjEMEH • EIUJOp|E3 . EUO V • E>|SE|y ZU 'o ssp u e jj ue§ ON JLIWtttd aivd 3DVlSOd s n nvw ssvid ±sau BANKING DATA—TWELFTH FEDERAL RESERVE DISTRICT (Dollar amounts in millions) Selected Assets and Liabilities Large Commercial Banks Amount Outstanding 4/9/75 Change from 4/2/75 + + + + Loans (gross, adjusted) and investments* Loans (gross, adjusted)—total Security loans Com mercial and industrial Real estate Consumer instalment U.S. Treasury securities O ther securities Deposits (less cash items)—total* Demand deposits (adjusted) U.S. Governm ent deposits Time deposits—total* States and political subdivisions Savings deposits O ther time depositst Large negotiable C D ’s 85,871 65,747 1,984 24,304 19,595 9,787 7,541 12,583 85,139 24,240 196 59,347 6,565 19,540 29,593 16,405 Weekly Averages of Daily Figures W eek ended 4/9/75 Member Bank Reserve Position Excess Reserves Borrowings Net free (+) / Net borrowed (-) Federal Funds—Seven Large Banks Interbank Federal fund transactions Net purchases (+) / Net sales (-) Transactions of U.S. security dealers Net loans (+) / Net borrowings (-) + - + + + + - + + - - 24 0 24 Change from year ago Dollar Percent + + + + + + + 460 354 192 209 13 13 4 102 501 920 70 190 21 46 237 153 - + + - + - + + + W eek ended 4/2/75 + + 5.05 + 5.13 + 106.24 + 7.36 + 4.30 + 6.31 + 26.82 5.08 + 8.38 + 2.63 46.30 + 11.87 .32 + 7.64 + 15.17 + 28.25 4,131 3,209 1,022 1,666 808 581 1,595 673 6,584 621 169 6,297 21 1,387 3,898 3,614 Comparable year-ago period 70 0 70 + 75 22 53 + 2,107 + 1,740 + 1,625 + 1,184 + + 715 77 ♦Includes items not shown separately. ^Individuals, partnerships and corporations. Information on this and other publications can be obtained by calling or writing the Public Information Section, Federal Reserve Bank of San Francisco, P.O. Box 7702, San Francisco 94120. Phone (415) 397-1137. Digitized for FRA SER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis