IN recent decades there has been growing concern about the sharp fluctuations of primary product prices, the effects of those fluctuations on particular groups of producers and particular countries, and the measures which might be taken to reduce or offset the fluctuations. The main facts are clear enough and have been set out in the growing literature on the subject, including reports by the United Nations and other international bodies. The prices of agricultural products such as sugar and wheat, of raw materials like rubber, and of metals, have at times doubled within less than 12 months, or fallen in the same period to less than half their previous level.

Obviously such fluctuations have very great effects on both sellers and buyers. For the actual producers, the fluctuations may be even more violent than those indicated by calculations based on world markets, since changes in transport and other costs incidental to getting the product to the market tend to vary less, so that the net return to the original producer suffers a more than proportionate share of the impact of fluctuation. Effects on consumers are less dramatic but still important. In a world in which security and stability are increasingly valued it must appear more and more inconvenient for the individuals concerned to have such very sharp changes in their incomes and necessary expenditures. Especially it must seem prima facie destructive of the orderly planning of economic affairs, whether or not one thinks of that planning as an individual or a state activity.

None the less, fluctuation of prices is no new thing. Records of prices over past centuries show innumerable examples of fluctuations just as violent and rapid. Why is it that people are now so much more concerned?

One reason, no doubt, is the general atmosphere of the times, the much greater disposition towards public intervention in economic affairs. People no longer accept price fluctuations or anything else as part of the order of things. They begin much more commonly with an assumption that by taking thought it should be possible to control things better. Especially, perhaps, there is a change in the general feeling about the rôle of prices in the economic and social system. In free economies (and to a quite considerable extent in Communist or controlled economies too) prices have two functions to perform. They determine, wholly or in part, the allocation of resources, how much of particular goods will be produced and by which groups of producers, and how much of particular commodities will be consumed and by whom. But in the process of doing that they also determine the total incomes of individual producers. If one concentrates on the first function, prices appear simply a part of the impersonal technical mechanism of the economic system; but if one looks mainly at the second, they appear as a potent and probably malignant influence on the social welfare of vast numbers of human beings. Especially does this social aspect loom large in our eyes when we are faced with whole communities or whole countries dependent on the price of a single commodity.

Greater emphasis on the social or welfare side of economics is perhaps the main reason for the increasing interest in the topic. The nineteenth century was more inclined to let the technical allocation of resources work itself out through the price system and to regard the incidental trials of individuals as part of a penalty worth paying for the over-all increase in output which the better allocation of resources produced. Today we want to avoid the pains while still securing the prizes of expanding output. Unfortunately that is never 100 percent possible, and one of the questions it is particularly necessary to ask about schemes of commodity price regulation is whether they will have untoward effects on the allocation of resources, on total production and therefore on aggregate real incomes.

Let us look, however, a little more in detail at some of the reasons for increased concern. As already noted, the effects of fluctuation are brought into greater prominence because of their international character and because of the way in which whole countries have become specialized in the production of individual commodities. This has meant that not merely the private incomes of individual producers but the whole revenues of the state have become dependent on the prices of one or two commodities. The countries so affected are, moreover, mainly the underdeveloped areas whose special needs are so generally accepted; and the idea of more stable prices for them gets mixed up with the idea of higher incomes for the poorer nations.

A second factor is, perhaps, that when the price of wheat fluctuated in, say, seventeenth-century England, the change was normally associated with and offset by an opposite change in the size of the harvest; low prices accompanied big crops and high prices followed small crops, so that the fluctuations in money incomes were less sharp than the fluctuations in price. In the international commodity markets of today, however, even though that may be true to some extent of producers of a particular commodity taken as a whole, it is less commonly true for any particular country. If Ghana has a good cocoa crop and the world price falls, Nigeria will feel the effect just as much even though the Nigerian crop may be no larger than usual. But in addition, fluctuations in prices, particularly of metals and industrial raw materials, are in the short term likely--perhaps more likely--to be brought about by changes in demand rather than by changes in supply, so that it may well happen that producers are actually able to sell less at lower prices than at high. The income fluctuations are then greater and not less than the price fluctuations.

Thirdly, the whole tendency in modern life is towards greater reliance on a steady supply of manufactured goods and more or less sophisticated services, so that what were luxuries for which the farmer of former generations could afford to pay in good times but did not very much mind doing without in bad years, tend now to become necessities which he must have at all times. This last aspect is perhaps particularly important if one looks at the over-all position of countries which have recently developed out of a very primitive level of economic organization. When the West African peasant started producing cocoa, or the Indonesian small-holder started growing rubber, the income he obtained was something entirely surplus to his basic economy. As has been pointed out in an interesting article by Hla Myint in the Economic Journal of June 1958, his product in these new lines was derived entirely from surplus resources, that is, resources which were latent and unused. If the income he derived from the use of those surplus resources then varied he had less to spend on what to him were luxuries, but his more fundamental way of life and the supply of his basic necessities were not affected. As time went on, however, both the individual peasant or small-holder and the governments, which began to rake off some of the income for public expenditure, grew more and more to depend on this originally "surplus" income. As Myint says, they became vulnerable.

This growing concern has been mainly about effects on producers. It is at first sight strange that consumers seem to be ignored, because it is an arithmetical truism that a given price change must affect the expenditures of the consumers of a product by exactly the same amount as it affects the incomes of the producers. One might therefore imagine that gain or loss of welfare among producers would be offset by loss or gain of welfare among consumers. That this is not at any rate apparent is due to several special features in the international economy. First, while there are many groups of producers dependent on single commodities there are no groups of consumers who buy only one commodity, so that the effects of price changes on consumers are much more diffused. A fall in the price of rubber which halves the income of a Malayan small-holder will reduce the expenditure of the average ultimate consumer of rubber by a small fraction of 1 percent. Even to the manufacturer who is the immediate consumer of rubber the cost of the raw material is only a part of his total costs.

Of course sharp price movements do not usually affect the prices of one commodity only. More commonly the prices of many or all primary products move more or less together. When that happens, the effect on consumers ceases to be negligible, but it is still likely to be less than on producers. When we look at the international position and compare the position of primary producing countries with industrial countries the same contrast appears. The comparatively small effect on the industrial countries which are consumers of primary products is further reduced because nearly all industrial countries are also substantial primary producers so that there is an internal balancing effect, while a good many primary producing countries are almost barren of manufacturing activity.

These considerations go a long way to explain the tendency to think only of the effects on producers. But we must not oversimplify. The clear-cut distinction between the primary producing country, poor, undeveloped and specialized in one product, and the rich, diversified, industrial country, can be very misleading. Some countries which specialize in the export of primary produce, like New Zealand or Denmark, rank near the top of the world scale in per capita income. Most countries which export primary produce are themselves large importers of other primary produce, so that they gain as well as lose by a general fall in commodity prices. Ceylon, for instance, exports principally tea and rubber but in turn imports much of her rice and other food supplies, to say nothing of mineral oils and coal. A highly industrialized country, on the other hand, dependent on large imports of food and raw materials, may find its external balance of payments seriously disturbed by general price changes; this has been a recurring problem for postwar Britain. Finally, the internal problems of countries with a mixed industrial and primary economy cannot be ignored--the problems of cotton-growers in the southern United States or of the United Kingdom's coal-mining areas in the inter-war years.

None the less, the center of the problem, above all the center of concern to the social conscience of the world, lies in the international field, and we must turn back to the implications of international instability. We must first reëmphasize that price fluctuation and income fluctuation are not necessarily identical. Where the main determinant of price for a particular group of producers is the level of their own total output, their income may be more stable if prices are allowed to fall at times of high production and to rise at times of low production, but as has already been noted, this situation is by no means the most usual and it can easily happen that income fluctuations are actually greater than price fluctuations. Again, we must not assume that price fluctuations affect all producers equally. Large groups of producers of many commodities are sheltered to a greater or less extent from the fluctuations of world markets, with perhaps an intensification of the effect on the residual "unsheltered" producers who bear the full effects. Thirdly, we must distinguish carefully between the stability of prices and the actual level of prices. It is very easy for critics of instability, if they look at the problem from the point of view of producers, to think how much better it would be if prices always stayed at their high points or, if they are looking at it from the point of view of consumers, to think how much better it would be if they always stayed at their lowest points. The problem of instability is one of whether, on the assumption of a given average price over a period of years, it is better to have that price prevailing more or less unchanged throughout the period or to have it very much higher at some times and correspondingly lower at others; that is, the problem of instability is not one of the total income available over any given period but of the variations in the rate of flow of income.

It may be argued that if people knew in advance what the average price would be they could adjust their plans accordingly. In fact, however, people cannot predict the average over any long future period, and the difficulties mainly arise because of the problems of forecasting and the consequent problems of planning, whether private or public. There is a very natural tendency for producers to assume in times of high prices that the boom is going to last and to make their plans accordingly. They may then be seriously embarrassed by a subsequent fall in prices. This seems to be even more true of governments than of private individuals. Especially in some of the underdeveloped countries, governments seem disposed to pitch their sights very high and to commit anticipated future income far in advance. If it then turns out that they have overestimated their income, all kinds of troubles follow. There may be serious distortion of priorities; there may be waste of resources because projects have been started which cannot be finished; and, perhaps most serious of all, there may be acute disappointment with the failure to fulfill high expectations, leading in turn to serious political disturbance.

Much doubt, however, must attach to the claim that the effect of sharp fluctuation in prices is generally to reduce development or investment expenditure to a serious extent. In the past, countries dependent on the production of commodities which sharply fluctuated in price have achieved a very respectable level of development expenditure, and direct investment in such unstable commodities as rubber and most minerals has been high both in the form of capitalistic investment in mines and plantations and in the form of rapid extension of small-holding products by a multiplicity of very small-scale local investors. Malaya, which in recent generations has had a very high level of capital creation, has always depended on two notoriously unstable commodities, tin and rubber. The creation by West African peasants of the greater part of the world's cocoa-producing capacity went on throughout a period of sharply fluctuating prices. Probably the right conclusion is that fluctuation is not of itself discouraging to investment but that false expectations based on failure to recognize the probability of fluctuation may lead to unproductive investment.

There may also be disturbances to monetary stability, in themselves destructive of confidence and future enterprise, as governments which have overextended themselves in times of high prices face balance-of-payments deficits when prices fall, and yield to the temptation to meet them by eating up their basic monetary resources, by exchange controls and all the expedients of the financially imprudent. (Not that all balance-of-payments deficits are a sign of bad management--within limits they may reflect a rational policy of maintaining a stable level of consumption and investment by the sensible use of resources accumulated for that purpose.) Governments which have avoided these difficulties of overextension--the governments, for example, of colonial territories under careful metropolitan control--may well have done so at the expense of undue caution and too slow a rate of investment. Certainly their example of prudence does not generally commend itself to the politically independent territories.

Clearly, therefore, price instability is practically inconvenient, socially disagreeable and politically dangerous to producing areas and, to a lesser extent, to consumers. What, then, can be done to reduce it? Measures of direct action include international schemes of one kind or another, action taken by national authorities acting independently of other countries, and action taken by private concerns or private corporations. The last type of action has been too frequently ignored, and perhaps too much attention has been paid to full-scale international activity. But there are also other wide fields of government action having an indirect bearing on the question of stability--the general techniques of economic stability and special encouragement of particular lines of production.

In the international field the most obvious type of action is a commodity agreement which in principle embraces all producers and consumers and aims at keeping prices within some stated or implicitly understood range of fluctuations. The simplest form of such schemes was that of the tin, rubber and tea agreements of the inter-war years. In each of these the producing countries were comparatively few in number, the commodities were produced almost entirely for export, and the technical resources of production were such that the creation of new capacity was necessarily slow. The schemes operated through production quotas which were varied from time to time with the broad object of maintaining a certain approximate level of prices, whether or not these were formally written into the agreements. These particular inter-war agreements were initially operated entirely by producing interests, and each for a time at least managed to achieve something approaching 100 percent membership.

In later agreements it has generally been policy to include consumers as well as producers and in some it has been thought essential to add provisions for the operation of buffer stocks designed to mitigate the efforts of short-term fluctuations of the market. Different types of schemes have been developed to suit the special conditions of other commodities, e.g. the wheat agreement, which amounted to a mutual promise by exporting and importing countries that they would respectively sell and buy certain quantities of wheat within certain price ranges, but which otherwise left the trade free. In the case of sugar a much more complicated agreement has been attempted which recognizes the existence of protective or preferential arrangements covering the production and sale of a very large proportion of the world's sugar and imposes various special types of restriction within that field, while establishing a more orthodox quota scheme for the comparatively few countries which export to the limited free market.

None of the various agreements of these types could be said to have been a complete and permanent success and those that survive at the moment are all in one degree or another inadequate. They all face two major difficulties, one of economic principle and one of practical administration. The difficulty of principle arises from the fact, already discussed, that one basic purpose of the price system is to take a vital part in determining the amount and location of production and the level and distribution of consumption of particular products. In the end, prices rise because either supply is decreasing or demand is increasing, and they fall because supply is increasing or demand is falling; that is, price changes are a reflection of the changes in the real conditions in the market for a particular commodity. In turn the movement of prices helps to counteract reverse changes on the supply and demand side. If at the extreme the price of a particular commodity were maintained absolutely unchanged, some other measures would have to be taken to offset changes in the real conditions. In particular, of course, the danger which has so often arisen has been that prices have been stabilized at a point where producers find it profitable to produce much more than the market can absorb and either the scheme of stabilization breaks down or quite different steps have to be taken to reduce output. The more effective a scheme is in creating price stability the more certain it is that other incentives or controls will be needed to bring about equilibrium of supply and some approach to the economic location of production. Here as elsewhere controls breed more controls.

The administrative difficulties flow from the necessity to establish control. The schemes can be fully effective only if all actual and potential producer countries are brought under control. That is enormously difficult for commodities which are widely produced, and these include nearly all foods and many minerals. Even where production appears narrowly limited geographically, as with tea or tin, it is not long before new producers emerge. In addition, the market conditions for each particular product are closely linked with those of others which are actual or potential substitutes for it. Hence we find still more ambitious projects for a completely comprehensive interlocking scheme of commodity controls. The more complex such schemes become the more they clearly depend on the existence of some kind of world government or, more correctly, some willingness throughout the world to coöperate in agreed regulation of economic affairs. It would be foolishly optimistic to assume that the present trend of world affairs is towards real increase in the willingness to coöperate, and it may be wiser to look at projects of narrower but more practicable scope than to rely on incompletely comprehensive commodity schemes.

There are indeed less ambitious projects of a still international character which may help in particular instances, as, for example, bulk marketing arrangements between pairs or groups of countries, and arrangements as to preferential marketing. These arrangements may be very helpful in bringing stability into particular areas. For instance, the British Commonwealth Sugar Agreement provides a market in the United Kingdom at reasonably stable prices for the great bulk of the exports of sugar from British Commonwealth countries. Unfortunately, schemes of this kind, while they protect certain groups of producers from the effects of fluctuations, intensify the effect of fluctuations on other groups not similarly sheltered. In the case of sugar the remaining free market has been greatly narrowed, and at times of pressure on the market from one side or another it is therefore particularly vulnerable. This was sharply illustrated by the rapid fluctuations in price at the time of the Suez scare, which happened to coincide with fortuitous declines in production of several important suppliers to the free market.

In the national field, action can be taken in the first place by marketing boards which may attempt to even out the effect of fluctuations for the producers of a particular commodity. Some of those which have been particularly discussed in recent years have been the marketing boards of the British colonies in West Africa handling the cocoa and oil-seed output of those areas. They have tried to reduce fluctuations from year to year by accumulating surpluses when prices were high and, in theory at least, using those surpluses to maintain prices to the producer when the general market fell. In practice, difficult problems of pricing and management of the accumulated surpluses have arisen. It is doubtful whether the theory of such price management has been thoroughly thought out, and in practice the surpluses have proved rather too tempting as a source of funds.

A second type of national action consists of a system of taxation or levies designed to rake off part of the producers' incomes at times of high prices. This may be combined with a system of refunds or subsidies when prices fall, as has been done at times in the case of Malayan rubber; or more simply it may take the form of accumulating the excess income in good times in the hands of the government, which then has the resources available to continue its own expenditure in less fortunate times.

More generally still, taxation policy may be so adjusted or the tax structure may be so framed as to ensure that the government takes a more than proportionate share of income in public revenues in good times. Where income taxes or consumption taxes of a luxury nature play a large part in the tax structure, this effect may be more or less built in, but in other cases it is conceivable (though it is difficult to find examples of it happening in practice) that the government may simply increase rates of taxes in good times in order to build up a surplus. Similarly, or rather complementarily, the government may plan to offset the effects of fluctuation in actual income as a result of price changes by changes of a contrary nature in its own level of development expenditure. This in fact is largely dependent on a prior revenue policy of the kind already described. That is, if the government is going to spend more in bad times it must have reserves with which to do it. In practice, although some governments have consciously pursued such a policy, it has been much commoner, as already noted, for governments to spend up to the hilt in good times and then find that they are unable to maintain, still less increase, the level of expenditure in times of depression.

Private action of the same basic nature has, I believe, been of far greater importance than is generally realized by economists thinking too much of public policy. There is every indication that private individuals and business concerns in countries dependent on primary products with markedly fluctuating prices appreciate very clearly the instability of their incomes and do a good deal on their private account to offset that instability by setting aside reserves in good times. This is most obvious in the case of commercial companies, such as mining or plantation concerns, which habitually refrain from distributing the whole of their current profits as dividends when profits are high but put aside reserves so that they are able to maintain dividends at later periods and, more important, to maintain their normal program of development with their own resources. It is less easy to get exact information about the behavior of private individuals, but the indications from figures of bank deposits, including savings bank deposits, are clearly that private individuals also do in practice put aside a very significant proportion of their increased income in times of boom. It is, of course, for this reason that the level of actual consumption in countries with highly fluctuating national incomes is much more stable than might be expected if it were assumed that everybody spent his income as soon as he got it. The private person deposits in a savings bank or simply hoards currency notes; the banks or the currency authorities in turn add to their external assets, and in good times the country runs a favorable balance of payments and accumulates external monetary reserves. In times of depression the private individual spends some of his accumulated savings, the government calls on its external monetary reserves, there is for a time an adverse balance of payments, but there has been a much more stable level of consumption and national expenditure than a mere examination of external income might have suggested.

If it can be achieved, this kind of "do-it-yourself" stabilization is probably the most healthy solution of all. It depends on a certain degree of economic sophistication but not one which is unreasonable to expect in underdeveloped countries, whose inhabitants are, as Mr. Peter Bauer has shown, much more economically wide-awake than many people think. But it is also possible for governments to do something to encourage private prudence by helping to ensure that knowledge of market fluctuations is widespread and by encouraging the growth of banking and savings institutions and by maintaining monetary stability which will give people the confidence to put aside cash reserves.

Finally, there are indirect actions which the more advanced countries may take to promote price stability. First comes the maintenance of their own economic stability. Nothing would be more likely to diminish violent fluctuations in the commodity markets than confidence in a steady rate of economic growth in North America and Europe.

In ensuring stability, however, it is sometimes forgotten that it is as important to avoid excess demand as to keep demand always at the "full-employment" level. Action by the principal consumer countries can be particularly useful in checking the more feverish booms in commodity markets, as was shown on a large scale during World War II and on a smaller scale by the short-lived but effective International Materials Conference which helped to check the boom in 1951.

Then there are the effects of ad hoc decisions by governments regarding their own acquisitions of particular commodities. The most important are stockpiling activities. Generally these are dictated by defense considerations of an emergency nature, but certainly governments may reasonably be expected to take account of the implications for producers of a decision to terminate or liquidate stockpiles no longer required.

The other main field of activity of indirect influence on prices is the wide field of protectionism. When one group of producers is given special favor in a particular area, the market for other producers is narrowed and the impact of changes on price levels is much more severe. Innumerable examples can be found: the classic case of sugar, beginning with the inroads made by the artificial growth of beet sugar over the last century; the special encouragement of wheat producers in nearly all industrial countries; the effect of American synthetic rubber production; and the difficulties of New Zealand butter producers competing with indirectly assisted output in Britain. There is little doubt that the industrial nations could, if they chose, do far more for the primary producing countries by modifying their agricultural protectionism than by any action they are likely to take directly in the field of stabilization.

There thus are a great many things which can be done to remove or mitigate the effects of price instability. In judging their respective merits, we do well to go back to our theoretical starting point. Prices are important in the narrower economic sense as part of the mechanism of ensuring the most efficient use of the world's resources; in the social sense as affecting the international distribution of incomes; and in the political sense in so far as the consequences of their fluctuation are more and more important to the stability of governments and their international relationships. Ideally we seek to reconcile economic efficiency with ideas of social justice and political stability. In our assessment of such principles the defect of the international commodity scheme approach is that it secures a measure of political stability and secures that version of social justice which consists in freezing the existing distribution of international incomes at the cost of increasing distortion of the economic allocation of resources. Probably international schemes are most useful as emergency and transitional measures. National price-equilibrating schemes based on marketing boards and the like do the same thing in lesser degree, and with less risk of international distortions, but with long-term dangers to the maintenance of the position of the particular country concerned in the international market. The stabilization of incomes rather than prices through adjustments of taxation and government expenditures, and the stabilization of private spending through individual prudence, involve no interference with the economic function of prices and therefore have the merit of promoting social and political objectives without endangering long-term economic efficiency. Indirect influences through the maintenance of general economic stability and the avoidance of the special interferences of protectionism have the same advantages with the additional merit of helping to remove the purely accidental or artificial causes of price instability. If advanced countries feel a conscientious duty to help the less developed it is in these directions that they can most usefully turn their efforts.

On grounds of long-term advantage, therefore, as well as political practicability in the present state of world organization, it seems better to look to the more limited and indirect methods than to the apparently simple procedures of direct regulation and control of prices and production.

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  • SIR SYDNEY CAINE, Director of the London School of Economics and Political Science; Deputy Under-Secretary of State, Colonial Office, 1947-48; Vice-Chancellor, University of Malaya, 1952-56
  • More By Sydney Caine