Speculation debate: part 100

Finance Watch blames speculation for price inflation, EDHEC offers contradictory evidence

The debate on speculators’ role in the price of commodities has been going on for decades, but was reignited by spikes in commodities, particularly crude oil, in 2008. This has led to wave of calls for restrictions on speculators across the globe. France’s EDHEC-Risk Institute took a critical look at the position paper, Investing not betting published by Finance Watch, a Belgian-based public advocacy group, which is advocating for more active restriction on speculators.

In the position paper Finance Watch takes a negative view of commodity speculation, asserting that it artificially inflates prices, which harms both producers and consumers and leads to increased social unrest. The group argues that speculators should constitute a minority of market participants, as “a market dominated by speculation quickly becomes divorced from economic activity, burdening society with a poor allocation of resources.”

To solve the problem, the group recommends numerous regulatory reforms, including the imposition of ex-ante individual and market limits on speculative positions.

EDHEC, however, challenges many of Finance Watch’s major points and cites several studies suggesting that commodities speculation actually tends to decrease price volatility. In a lengthy rebuttal, EDHEC also questions the premise that there should be a linear relationship between supply-and-demand and price.

Instead, EDHEC contends that price spikes often can be attributed to nonlinear factors, rather than speculative trading. In the case of the 2008 oil spike, the institute lists several alternate causes, including Chinese oil imports before the Beijing Olympics and instability in Nigeria.

The report acknowledges that spikes in oil and food prices are a legitimate concern, but urges regulatory restraint. “Before performing surgery on these institutions,” it reads, “we suggest that Finance Watch’s supporters tread carefully and not adopt ‘speculative’ regulatory proposals whose ultimate effects are unknown.”

Read Finance Watch's position paper here.

Read EDHEC's rebuttal here.

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