A market economy at work

Several weeks ago, I wrote a blog post covering the rather emotional side of what has become the historic 2012 drought.  Today, I want to look at the situation from an economic perspective.

The price of corn is set by trading that takes place almost 24 hours per day at the Chicago Board of Trade.  Just a few years ago, most trading happened person to person in a “pit”, now the majority of trading has moved to an electronic form.  As I write this, the price of corn is $7.95 1/2 – it will be different when you read I am sure.

There’s a LOT that goes into the price of corn, various months of delivery, the very important factor of “basis”, various discounts for poor quality or premiums based on specific crop traits.  It would take several posts to explain all that, but the important thing to remember is that the price of corn is traded almost every weekday at the Chicago Board of Trade.

At various times, everyone hates how the corn market works.  As a farmer, it’s difficult to know when to sell, wild swings in the market seem to have become the norm, it’s easy to blame the large amount of speculative investment style money that moved around rapidly today.  But the Chicago Board of Trade serves a very important function, and for lack of a better way to put it:  “for all the ills of the market economy, no one has figured out a way to improve it”

You see, the challenge is this:  We are all well aware there is a lack of corn this year.  The problem is how we decide who gets the corn and who doesn’t?  Imagine what it would be like if we had a “corn czar” in charge, that was supposed to decide who got shorted?  For all it’s ills the job of the Board of Trade is to fairly distribute that corn, in years like this driving the price high enough so people quite using it, or find alternatives.  In years of abundance, the function of the market is to force the price lower, so more corn is used and so planting too much next year is discouraged.  It’s that basic concept of supply and demand and it works very well.  Yea, it’s inefficient, but even in a sever drought, we have 10 Billion, that’s 10,000,000,000 bushels of corn to distribute: to food processors, to livestock facilities, to ethanol plants, to end users both here and around the world.  It’s a difficult task, it’s fraught with inefficiency, but it’s almost far and away the most effective method anyone has come up with.

And one other note on the supply-demand equation.  It’s incredible the feed alternatives one can find when corn goes to $8 per bushel.  In our case, switching to feeding corn stalks vs. wheat straw saves almost 1 pound of corn per head every day we have cattle in our feedlot.  That may not sound like a lot, but at today’s corn prices it amounts to almost $25 per head, a significant number, and even in our small feedlot, it amounts to several thousand bushel of corn in a years time.  I’ve heard of livestock farmers in Florida feeding citrus waste that used to get thrown away.  Across the country, anyone using corn is finding a way to get by with just a little or in some cases a lot less.  It’s the way a market economy works, when there is a shortage, the price is forced high enough so that what we have lasts until new supply arrives next fall.

No one knows if we’ve reached a high enough price to accomplish that.  $8 corn may be high enough, we may need to go significantly higher, or we may learn that these historic prices have accomplished their purpose of reducing use.  Time is the only way that will be answered, and the market, in this case the Chicago Board of Trade, will show us.

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