South-Western College Publishing - Economics  
Can You Spare Another Dollar for Some Nickel? Or Oil? Or corn?
Topic Supply and Demand; Equilibrium
Key Words Imports, Exports, and Trade Surplus
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Reference ID: A148421812

News Story In recent months, oil set a nominal record price of over U.S. $78 per barrel, and nickel passed US$26,000 per ton for the first time ever, a 70% increase in the last 10 years. Copper prices are rising sharply. Even the price of rapeseed oil, corn and other agricultural products are reaching record highs? Are we in the midst of a "super-cycle"?

Some people argue that people's inflationary expectations are too high, and that, as a result, we are seeing a bubble in commodity prices. Others point to a significant disequilibrium between supply and demand-with demand outstripping supply--in what they refer to a "super-cycle" of boom times, which are usually followed by a bust as prices drop sharply. Commodities analysts suggest that the cycle that we are now experiencing is lasting far longer than the average boom cycle--56 months compared to only 28 on average.

Why is this particular boom cycle so prolonged? The simple answer is lags in production increases. For example, twenty years ago when oil prices sat at record lows, oil companies had no incentive to invest in infrastructure. Now the companies face strong incentives to invest in production infrastructure, but can't do so overnight. Infrastructure increases on this scale take years to accomplish, and with lots of firms doing the same thing at once, input costs increase overall, raising the output price.

Demand is increasing for oil and minerals far faster than expected, most notably from China. China's GDP has increased by about 10% per year for the last few years, and shows no signs of slowing.

In terms of agricultural products, U.S. demand for ethanol has significantly increased the demand and hence the price of corn, but such increases won't last for long. Farmers can plant more crops far faster than mining companies can pull more minerals out of the ground.

Questions
Discussion Questions:
1. Upon what underlying intuition do those analysts who believe that the price of nickel and other minerals are increasing because of investor's expectations rely?
2. What role do you think government regulations play in this super-cycle? Explain.
Multiple Choice/True False Questions:
1. The "super-cycle" is producing high prices because
  1. Demand is increasing far faster than supply.
  2. Supply is increasing far faster than demand.
  3. Demand is falling far faster than supply.
  4. Supply is falling far faster than demand.
2. Assuming the "super-cycle" hypothesis is true, what will eventually happen to the price of a given commodity?
  1. Prices will continue to rise.
  2. Prices will not change.
  3. Prices will fall sharply.
  4. Not enough information to answer the question
3. In this "super-cycle," what is happening to consumer and producer surplus?
  1. Producer surplus is rising.
  2. Producer surplus is falling.
  3. Consumer surplus is rising.
  4. B and C.
Source "Oil that Glitters." The Economist. July 20, 2006.
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