Rouse on Transformation

I recently read Javier Blas and Jack Farchy’s The World for Sale: Money, Power, and the Traders Who Barter the Earth’s Resources (Oxford University Press, 2021).  This fascinating book reads like a novel, almost a page turner.  What will the traders do next?

They chronicle the history of commodity traders of oil, grain, metals, and almost anything.  They focus on four case studies that illustrate how the markets for natural resources were transformed:

• Opening up of markets that had previously been tightly controlled – above all, oil.
• Collapse of the Soviet Union in 1991, which redrew a global network of economic relationships and political allegiances.
• The spectacular economic growth of China in the first decade of this century.
• Financialization of the global economy and the growth of the banking sector, beginning in the 1980s.

Developing counties nationalized their natural resource industries.  Traders took control away from big players, e.g., Seven Sisters in oil.  The result was that markets, not providers, set commodity prices.  Commodity traders tended to be risk takers, e.g., Marc Rich, who would bet on prices swings, often making enormous profits.  Blas and Farchy report on some of his amazing deals, e.g., rescuing Jamaica from insolvency.

Wikipedia describes “Marc Rich (as) an international commodities trader, hedge fund manager, financier, businessman, and (indicted) financial criminal. He founded the commodities company Glencore, and was later indicted in the United States on federal charges of tax evasion and making oil deals with Iran during the Iran hostage crisis.  He fled to Switzerland at the time of the indictment and never returned to the United States. He received a widely criticized presidential pardon from U.S. President Bill Clinton on January 20, 2001, Clinton’s last day in office; Rich had made large donations in his lifetime to the Democratic Party and Israeli organizations.”  Rich died in 2013 at 78.

The 1990s saw the rise of futures, options, and derivatives.  Commodity futures had been is use for hundreds of years.  Options could be used to hedge the downsides of futures.  This enabled the financialization of the oil market, including a new generation of math whizz-kids fluent in the language of Wall Street.  Who you knew, long the strong suite of commodity traders, was joined by what you knew in terms of financial analytics expertise.

Next up – the collapse of Soviet Union in the early 1990s.  The collapse led to the complete fragmentation of natural resource markets and opportunities for commodity traders to buy for prices far below market prices. The risks of doing business in the new Russia were substantial. The rules on private ownership of property were still being written, and there was no guarantee that a trader would be allowed to hold on to its share of Russia’s natural resources industry.  The tycoons and gangsters soon got involved and murders were frequent.  By the late 1990s, Vladimir Putin was in charge and western traders exited with what profits they could.  These commodity traders had taught the Russian oligarchs how to play the game.

The collapse of the Soviet Union had huge impacts on countries that depended on it such as Cuba.  When the price of oil soared and the price of sugar plummeted, Cuba was in trouble.  The traders paid in advance for Cuba’s sugar, who used the funds to buy oil through the traders, who were later paid in sugar, which they sold on the world market.  This worked until sugar crop yields weakened due to inability to afford fertilizers and pesticides.

The 15 new countries formed by the dissolution of the Soviet Union had natural resources, but little money.  The traders responded by setting up a system of barters involving oil, alumina, corn, milk, etc.  The “wild west” atmosphere was charged with corruption and conflicts, sometimes bloody.  What was paid for wasn’t always what was delivered, e.g., “aluminum that rusted.”  For the trading industry, it was a Darwinian period of consolidation which only the strongest survived.

Shell and BP started trading functions, but avoided risky countries.  Enron moved from trading of gas and electricity into trading virtually anything regardless of risk.  They went out of business in December 2001, filing for bankruptcy in a massive accounting fraud.  CEO Jeffrey Skilling and chairman Kenneth Lay were both found guilty of multiple counts of conspiracy and fraud. Its collapse was one of the largest ever in corporate America, transforming the crooked Enron logo into a symbol of impropriety.

China is the next case study, where Deng Xiaoping, the successor to Mao Zedong, unleashed three decades of spectacular growth in China.  The Chinese economic boom started almost immediately after Deng unveiled his reforms in 1978, but it didn’t make a significant impact on commodity markets until much later. However, by 2018, China had become the world’s biggest consumer of commodities by far, along with Brazil, Russia, India, et al.

Commodity prices soared.  Commodity traders that bet on these trends did very well.  Commodity traders would fall over one another to secure the precious raw materials necessary to feed China and other emerging markets’ seemingly bottomless appetites for commodities. And oil was the most prized resource of all.  The market for commodity options also soared.

Out of this reactive mix of a world desperate for oil and petrostates hungry for cash sprang two companies that leapt into the big league of global oil trading in just a few years — Mercuria and Gunvor who became critical outlets for Russia’s oil, helping to keep the billions of dollars flowing into the Kremlin’s coffers and providing a young president Putin the confidence to become more assertive on the world stage.  Their ability to connect Russian oil supply with Chinese when the market was booming had made them all rich.

Africa benefitted greatly from the increasing global demand for natural resources.  During the 1980s and 90s, the economies of African countries had suffered from low prices. During the 2000s, the economy of sub-Saharan Africa quadrupled.  Corruption increased as leaders had to be bribed for access to countries’ resources.  Commodity traders became the gatekeepers, providing these leaders a range of side benefits. Nevertheless, the African middle class benefitted from the economic growth.

The late 2000s brought the global financial crises, precipitated in part by the real state crisis in the US.  The crisis in credit markets was imperiling the global banking sector by the spring of 2008.  The commodity traders “shorted” futures markets, resulting in enormous profits.  It was a boom time for speculation.

In the late 2000s, bad weather led to soaring food prices and contributed to protests that precipitated the Arab Spring.  Commodity traders became more central than ever in feeding the world – which allowed them to make the biggest profits they’d ever seen.  Ethanol mandates, in part due to soaring oil prices, championed by traders in this area, further reduced the flow of corn into the food supply chain.

Politicians were soon protesting these outcomes and advocating regulation of the industry.  When one of the biggest players went public, i.e., conducted an IPO, an increasingly transparent world resulted, making it ever harder for less scrupulous commodity traders to make money through corruption or bribery.  It was a shift that some in the industry would later come to regret, as the greater visibility of the public markets also meant greater awareness of the scale and significance of the commodity traders.

Seemingly from every side, the industry was under fire. It was not just the corruption probes that were darkening the outlook.  In part that was because the great engine of the commodity boom, China, was slowing down.  However, the traders had several far deeper and more structural problems. The first was the democratization of information.  A second challenge to the traders’ profitability was threatened by the reversal of the liberalization of global trade.  Finally, as the world increasingly turned against oil and coal consumption, the traders’ business suffered.

But if anyone had thought the commodity traders were going to sail off quietly into the sunset, or that the world could somehow find a way of functioning without them, they would have been sorely mistaken. There may be pressure on the business model the commodity traders have hewn to over the past half century, but their position at the heart of the world’s commerce in natural resources means that they remain as essential to the global economy as ever.  The traders will likely remain powerful actors in world affairs for years to come. But after decades in the shadows, their influence can surely no longer be ignored.