Recently I read a very thorough analysis of commodity prices from one of my favorite strategists, Jeremy Grantham of GMO. In his April 2011 Quarterly Letter, he claims it’s time to wake up for the days of abundant resources and falling commodity prices are over forever. In summary, Jeremy believes we’ve entered a new paradigm when it comes to world natural resources and in many ways it’s quite hard to argue. His basic premise has to do with population growth, the rise of China and India and their consumption of resources at a scale the world has never known.
For instance, as of 2010 China’s share of global consumption was:
Iron Ore 47.7%
And the list goes on…..He also analyzes oil and shows how from 1878 until 1971 oil hovered about $16/barrel +/- a small amount in today’s dollars. However, from 1971 to the present, it rose precipitously and today it is not only at record levels, but has moved 6 standard deviation above $16 in today’s dollars. This he concludes, along with many other commodities doing the same thing, is demonstrative of a paradigm shift in global natural resources supply and usage. To put a nail in the coffin on this idea, he discusses copper where since 1994, one has to dig up an extra 50% of ore to get the same tonne of copper and this 150% effort has to be done using energy at 2 to 4 times the former price.
He then switches to discuss agriculture and talks about the easiest land masses for farming are already in use and that the planet has almost reached land capacity for agriculture use and that yield increases can only be accomplished due to more fertilizer and genetic engineering anymore. Lastly, he discusses the ever optimistic American’s perspective that “we shall overcome” and why this isn’t going to solve our future problems. Jeremy believes in sounding an alarm as to where things have gotten to and where they’re going.
I do believe he forgot several other important issues however. Though the man has an excellent investment record and has been right many times before, the analysis of global supply and demand of materials and basic commodities is difficult to project. It’s hard to nail these projections well for a single commodity let alone “all” commodities. What he’s missing though isn’t good news unfortunately and only adds fuel to his fire. It involves the debt to GDP ratios of most of the developed world. He fails to mention it or talk about it much in this newsletter, but when you add this situation in the toxic stew, and throw in the fact that S&P recently issued a warning on U.S. treasury debt that it could be downgraded, you really get fearful.
For all good reasons, the U.S. cannot grow very much for very long. Therefore we can consider economic growth rates in the U.S. and Europe to stagnate at below 2% for some time, while the emerged economies of Asia continue to dominate growth and more and more account for greater percentages of world GDP. Mr. Grantham’s last alarm is that even these economies of China, Brazil and India will have a stumble or two in the next few years and that in the longer future, beginning 2050 the depletion of natural resources will mean the globe will reach a level of mediocrity for our standard of living, implying we’ll all live at the mean. I hope he’s not right.