Why the commodities super cycle was a myth
In 1980, the economist Julian Simon challenged doom-mongering biologist Paul Ehrlich to a bet that the prices of any five metals would be lower in 10 years’ time. He won, and made his point: over the long run, technological progress means commodity prices are likely to fall in real terms.
From the early 2000s, many investors forgot that lesson. The idea that there are decades-long “super-cycles” in commodity prices has some respectability: a 2012 paper by Bilge Erten of the UN and José Antonio Ocampo of Columbia University found evidence for four such cycles during the period 1865-2009. But in the bastardised form that became popular in the 2000s , the concept gained less honourable currency, as a story that commodities were a one-way bet upwards.
With oil down about 57 per cent from its peak last June, and copper and iron ore down about 50 and 70 per cent respectively from their peaks in early 2011, it has become clear that story was profoundly misleading. Whether or not the supercycle exists, the regular old cycle definitely does, and there is nothing very super about it at all.
The past five years have nevertheless dealt a fatal blow to the popularised version of the supercycle story: that inexorably rising demand in emerging economies and constrained supplies of many commodities would inevitably put prices on a rising trend. With China apparently facing a future of slower growth than in the past two decades, and probably a shift away from resource-heavy investment spending towards consumption, the assumptions of strong long-term demand growth have been called into question.
For a shaky-looking world economy, the commodity crash is a worrying sign. The hangover from misinvestment by natural resources companies in terms of cuts to jobs, capital spending and possibly dividends will be an unwelcome drag on growth. It does, however, have a positive side. Ehrlich’s expectation of rising prices was rooted in expectations of scarcity and his belief that global population growth would have devastating consequences.
Simon’s more sanguine view was that natural resources were for practical purposes inexhaustible. Given market signals when shortages emerged, he said, people would always be able to increase supply and curb demand.
It has been a long-running debate between economists and environmental alarmists. So far the economists have been proved right every time. That does not mean commodity markets will never tighten again. The mistake the super-cyclists made was to believe that a shortlived set of market conditions would last indefinitely. Nothing is permanent in commodity markets. That is as true on the way down as on the way up. But falling commodity prices are a cheering reminder that, in a phrase Simon used as the title of his 1981 book, human inspiration is “the ultimate resource”.
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