Chaos theory comes to commodity markets

Chaos theory is about seemingly random events coming together to have an unexpected impact. The most famous is the butterfly effect – the claim that a butterfly moving its wings can have a tiny atmospheric impact that may change weather events, such as heading off or causing a tornado. This is about mathematical possibility, but the farming industry is increasingly affected by far-off events over which it has no control. The most obvious at the moment is the crisis in Ukraine. While grain prices have stabilised, this threat to the 60 million tonnes of grain coming out of Ukraine could never have been factored in a few months ago. This makes it a random political event with massive potential consequences.

For now, the expectation is that things should be resolved by the time the harvest comes around, but it underlines why agricultural commodities are so volatile.

It seems ironic to be writing about this as the world marks 25 years since Sir Tim Berners Lee came up with the idea of the World Wide Web. There can be few technologies that have become universal so quickly. One result is that there is more information freely available than at any time in history. The availability of that – and the ability of some traders to manipulate it, as happened in 2012 over drought in Russia and Ukraine – has made commodity markets more volatile. That access to information should have this effect is ironic, but it is a trend that is here to stay.

When it comes to political events that could create chaos, imposing sanctions on Russia, if it continues its takeover of Crimea, is a high-stakes game. The EU is now the world’s biggest trader of agricultural products. It’s marginally ahead of the United States, which remains Europe’s biggest trade partner. But Russia is the EU’s second-biggest export market. This is a huge amount of trade to put at risk if Brussels joins the US in imposing sanctions on Russia over events in Crimea.

Russia can be aggressive with import bans, based on scientific arguments that would not satisfy World Trade Organisation rules. Examples have included a ban on seed potato imports and a blanket ban on dairy products from New Zealand over E Coli in product destined for China. More recently Russia imposed, and has maintained, a ban on EU pork imports, because of African Swine Fever in Lithuania.

On that basis it is not going to ignore sanctions over Ukraine. This would be self-defeating for Russia, since with its vast population and still largely inefficient agricultural industry it needs to import large quantities of pork, beef and dairy products. However logic will not dictate the decision.

Before recent events in Ukraine most people would have struggled to know much about the former Soviet state. The Crimean War there in the 19th Century brought Florence Nightingale and the disastrous charge of the Light Brigade. Ukraine is the former Soviet state closest to being an agricultural superpower and is famous for its fertile soil, which made it the bread basket of Europe. Agriculture accounts for 5% of its economy and a quarter of all exports.

The dependence of Europe on Black Sea grain exports can’t be ignored, and the situation has been complicated by some of the major Ukrainian ports being in the area that is now controlled by Russia.

Compelling as the case may look for normality returning by harvest, optimism could be swept away by politics. Just a few weeks ago no-one would have factored in Russia effectively annexing part of Ukraine, and that is chaos theory in practice.

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