Conflict Commodities: Illicit Trades Fuel Armed Conflicts in Africa, Asia

Demand for rare commodities obtained from an impoverished region could often lead to horrible atrocities and provide fuel to armed conflicts. The concept of conflict commodity emerged initially in relation to conflict diamonds financing rebellions in Angola and Sierra Leone.

Diamonds are not the only minerals dug out in war zones; there are other equally important minerals such as tin, tantalum, tungsten and gold, which are largely destined for the global electronics industry to be used in mobile phones and laptops.

The ‘Conflict Minerals Law’ has been included in the Dodd-Frank Act. The provision tucked in the financial reform bill requires publicly-traded and major electronic companies such as Apple and Intel to submit annual reports outlining what are they doing to ensure their minerals are conflict-free.

Revenue from the cocoa trade has fuelled years of conflict in Ivory Coast, the largest producer of cocoa, which is used as a main ingredient in chocolates. Millions of dollars worth of cocoa revenue has funded both sides of the conflict with the tacit acceptance of cocoa companies. Conflicts financed or sustained through the harvest and sale of timber is emerging as a serious problem in many countries in Asia and Africa. Conflict commodities that cannot be easily hidden, like timber, are generally exploited with the overt connivance of actors connected to the state. The case of the once dreaded Veerappan in sandalwood smuggling is a pointer.

This creates clear opportunities for state actors to extort funds from illicit trade for personal gains. Warlords have clearly used conflict commodities to finance military operations. Commodities are bartered to trading partners either directly or in exchange for weapons and munitions needed to carry on wars. If carbon credit accounting could be managed in an integrated manner across business networks in order to save the climate for the future, why could we not do the same to save lives in conflict regions? Commodities that can be seized and transported easily are more likely to be used to fuel conflicts. The conflict resource fuelling the world’s deadliest war in the Congo is gold. Gold bars are less traceable than diamonds. Gemstone tanzanite was in for closer scrutiny after the attacks on the World Trade Centre because of a report that said Al-Qaeda members bought it to fund its networks and activities. Timber is more easily looted than oil but less easily than the surface deposits of diamonds or coltan, a mineral indispensable to the operation of cell phones.

Sometime ago, supermodel Naomi Campbell found herself in the dock facing uncomfortable questions about blood diamonds, a term, she was quick to point out that didn’t even exist back in 1997 when she met warlord Charles Taylor.

Let’s hope that CEOs don’t find themselves answering awkward questions how conflict resources might have made their way to their businesses and what efforts they should have taken to stop such things from happening.

Published in The Economic Times 

Futures Markets Are Helping in Price Dissemination Across India

Ten years ago, housewives trusted the neighbourhood shop for the price of grain and the family jeweller for the price of gold. Today, one can surf any channel or glance at any newspaper for commodity price information. Awareness about commodity prices has been made possible due to the unstated contribution of futures exchanges in India. The benefits that the country has derived by way of price dissemination promoted by futures exchanges remain unacknowledged. Traders can no longer fool consumers or producers.

The notion of nonmonetary benefits might sound strange but upon reflection, it makes perfect sense. Over the years, middlemen had greatly benefited by price opacity. However, the very fact that futures market in India has created an environment whereby everyone cannot be fooled about the price at all times is an acknowledgement of its contribution. The market has certainly moved towards a more transparent base.

Not many countries in the world can boast commodity market yards where computers installed at commission agents’ office disseminates crop price information. India is one of the few in the world. The price dissemination technology that is being used by the Indian commodity exchanges is the best price outreach programme in the world in contrast to many of the established exchanges in the world where it hardly gets out of the offices of the financial intermediaries.

Price discovery made on APMC yards, which are mostly fragmented over-the-counter markets, cannot deliver desired results because price discovery in spot market is affected by geographical dispersion, differential needs of buyers and sellers in terms of quality, quantity, place of delivery and difficulties associated with handling physical delivery and absence of option to settle the contract by payment of price difference. The spot market does not meet the need for price forecast felt by the participants in the physical markets. However, reference prices of commodities are reliably available on national future exchanges. Ten years ago, in the absence of such reference prices, deal structuring took more time or sometimes had to be abandoned.

We must acknowledge that the commodity futures market is an important vehicle for modernisation of the organised market. The primary social benefit from the commodity futures market is informed production, storage, and processing decisions. Well functioning markets can assist in stabilising prices by providing signals to producers to increase production of key commodities that are in short supply. Commodity price awareness of common man proves that the first stage of growth has already happened and the futures exchanges have contributed largely into this market evolution.

Published in The Economic Times

Velocity of Data Flow in Commodity Market Distorts Price Trends

A few days ago, I got a call from a commodity analyst asking me whether the explosion in France’s nuclear reactor is going to impact energy prices. On probing, I found that close to the nuclear power station, near Avignon, there was an industrial accident and not an explosion in the nuclear reactor. We have become information addicts. While increased amounts of data and information can be advantageous, it also comes with the feeling... how do I make sense of all this? Can’t we break this down into a handful of simple points? Supplementing the concerns of information overload, there is Wikleaks. Is it gossip mongering or are they genuine leak? Recently, a few interesting insights were revealed concerning the commodity market.

Hear No Evil: When oil prices surged to a ridiculous $147 a barrel, conventional wisdom held that normal supply and demand issues were the cause. US officials met a Saudi minister who expressed his deep concern that high prices would destroy the demand for crude. Adding that the Saudis were having a hard time finding buyers for their oil, he also asked the Bush administration to rein in Wall Street speculators. This brings out a very important fact that while market is sensitive to all sorts of information, the government prefers to keep its ears closed in proverbial the “hear no evil” manner.

See No Evil: An interesting cable (released earlier) by Wikileaks has shown that the US government was acting on behalf of the world's leading producer of genetically modified (GM) seeds in targeting the EU for its stand on GM crops. It certainly revealed to what extent governments can serve the interest groups. US and Spain trade officials strategized how to increase acceptance of GM food in Europe, including inflating food prices on the commodities market.

Speak No Evil: In India, income tax raids were conducted on big diamond merchants when the list of Indian Swiss bank account holders was reportedly leaked. Sticking with the diamond story, Grace Mugabe (Zimbabwean president’s wife) sued a newspaper for carrying reports from Wikileaks which revealed that that Mugabe's family and the central bank governor were directly involved in the illegal smuggling of blood diamonds. While the commodity world often seems to be grappling with information overload, it is clear that Wikileaks cables are not going to have any material impact on prices. While informed decisions are always good, the velocity of information flow in commodity market has distorted price trends.

Short-term thinking can be fatal in commodity markets, especially when they are propagated selectively. Analysts often tend to zero in on small, quantitative short-term improvements when assessing macro, strategic issues. While they may be statistically significant, are they meaningful?

We cling nervously to the melody, but we don't handle it freely,

we don't really make anything new out of it, we merely overload it.

- Brahms

Published in The Economic Times

New Investor-Driven Dairy Models May Push Cattle Owners Out of Biz

It is more than twelve years since India overtook the US as the world’s largest milk producer. The surge in milk production can be accredited to the establishment of dairy cooperatives under the Operation Flood program. Till recently, dairying in India was considered a success story. However, with the rising price of liquid milk at urban centres, the sector is being viewed with skepticism and alternative models of growth are being pursued.

The thrust of the Indian dairy growth was driven by the objective of making liquid milk available to the population. In the current demand spike, the prices of dairy products have risen due to the change in the food habits of people. The growing demand for pizzas is one example where large quantities of cheese and butter are used. Driven by the financial projections, a large number of entities have jumped into dairying which includes companies with interest in energy and real estate, with politicians not excluded. Overcapitalisation, clubbed with the investor’s expectations, is likely to send prices soaring in the Indian market. Earlier in 1990s, the global logic of dairying financialisation was aggressive local brand gobbling and killing them with global brands or co-branding. Companies, which marketed value-added products worldwide, had no commitment to make available liquid milk to the masses. The brands themselves became valuable financial assets and their value could be boosted through a blend of Wall Street wizardry and aggressive marketing. During this time, Parmalat, a multinational Italian dairy company, collapsed with a $20-billion hole in its accounts in what remains Europe's biggest bankruptcy.

Amusingly, some leading global dairy players who haven’t earlier contributed to India’s milk production growth are now offering help to increase India’s milk production, which is “said to fall short” by 3 million tonne from the projected demand. It would be interesting to note that there is a decrease in milk production in the EU, the US and Latin America. New Zealand’s production costs have tripled in the last decade and it is no longer a low-cost producer. The milk feed price ratio has changed due to maize and soybean price rise. Over the past two years, the average price of milk has doubled internationally. The world average herd size is 2-3 (1-2 in India) and one billion (75 million families in India) people are said to be living on dairy farming.

The financialisation of dairying in India looks inevitable. The dairy models which are pursued by some entities have an overriding dominance of capital in the production and marketing chain. Currently, India produces milk at 58% of the world average cost. The central logic that is suggested in new models has evolved under the influence of investor's expectations which is different from the socio-commercial goals that were earlier pursed. Cashstarved dairy farmers are likely to get increasingly marginalised in the suggested scenario. All seem to be missing the point that the biggest stakeholders in dairy industry are cattle-owners due to the highly perishable nature of the commodity. 40% of the global milk production is still not processed. The dairy industry will face grave supply chain crisis if the marginal and small dairy farmers are isolated in any business model.

Published in The Economic Times

Import Dependency of Commodity Supply a Cause for Concern

India is an important consumer of commodities, ranking fifth in overall energy use, and third largest consumer of coal. In agriculture, it has a much greater presence by being the largest consumer of sugar and tea and the second largest consumer of wheat, rice, palm oil and cotton. India has sharply increased its edible oil consumption. However, India’s commodity consumption has grown at a slower rates than China.

The import dependency of commodity supply remains a cause of concern. Using indicators, like the country concentration, import dependence and supply risks for high economic importance commodities, it is apparent that not only the price but also physical availability and counter party suppliers are some of the potential areas of concerns.

Country concentration risks for agricultural products and energy resources are relatively high in India. The entity concentration risk (dependence on a few companies for sourcing) is growing as well. Other counties like Korea too are dependent on four trading companies for its import of grains. China inspite of its huge international political clout is dependent on only three companies, like Vale, BHP and Rio, for its iron ore imports.

While China had been acquiring rights of commodities (through acquisition of mines and farm lands) around the world to mitigate concentration risk in sourcing, the Indian acquisition in the natural resources have not followed any commodity-based structured approach. Barring a few private sector acquisitions, the investments in commodity resource pooling have been very insignificant compared to projected surge in demand.

On the other hand, negotiated price settlement has been the order of the day in China but in India driven by the fear of CVC and RTI —the same has been sacrificed in favour of global tendering. This has resulted in India often having failed to get favourable prices. Unfortunately, the PSU trading houses & Oil PSUs have been relegated to mere channelising agency as sales facilitator rather than vehicles for strategic sourcing.China’s overseas investments in natural resources assets had focused on oil and minerals.

The price of food commodities such as rice, wheat and soyabeans had surged in 2008. Thereafter, state owned China Investment Corporation’s (CIC) purchase of an $856m stake in Noble Group (the commodities trading company) is the clearest indication that Beijing wants to secure agricultural commodities supplies. Since then, countries including Saudi Arabia and South Korea have invested in overseas farm plots to increase their food security.

India has also an import dependent model for Energy (Coal from Indonesia & Crude from West Asia). India’s low self-sufficiency rates for pulses (imported from Burma & Canada) and edible oil (imported from Indonesia, Malaysia and Argentina) can do little to blunt the commodity pressure. In fact, the nation’s already fragile self-sufficiency in food and grains is likely to decline steadily with the new food security bill despite its good intentions. While there is nothing wrong in being an import dependent commodity consuming nation but subjecting the economy to import mismanagement, whims & fancies of savvier suppliers and arm-twisting by countries (recent coal policy of Indonesia) is a matter of growing concern. Failure of the government in economic diplomacy as well as failure to leverage India’s position as a large consuming nation will be paid by millions of domestic consumers. Government in the past had remained mute spectators with long term policy starvation often reactively resorting to non- sustainable price control mechanism.

Published in The Economic Times