All commodities are now on a rising cost curve, warns the Founder-Director of Forum for the Future.
By any standards, Isaac Newton was a smart cookie. But he wasn't smart enough to avoid getting caught up in the South Sea Bubble in the 18th century.
He put a bit of money in to start with, and then pulled out when he'd made a lot. As the Bubble grew, his friends persuaded him to put almost all his money back in. The Bubble burst, he lost everything, and was poor for the rest of his illustrious life.
I heard this sad story in a talk given by Jeremy Grantham at this year's Seminar for Senior Executives for the Business and Sustainability Programme. Jeremy is a rather extraordinary man. Back in 1977, he founded GMO, a successful investment management firm based in Boston. Managing around $100 billion of assets, GMO has built up a special reputation for understanding (and making money out of) commodity markets, and that includes understanding the way in which speculative bubbles influence those markets. His investors were particularly grateful to him for anticipating the bursting of the sub-prime housing bubble in the US.
A few years ago, Grantham began to think about commodity prices within a 'Limits to Growth' framework. And the conclusions he came to are pretty gloomy: "I became a Malthusian when I became an expert in bubbles". There can't be that many self-confessed Malthusian bankers out there today!
But it's precisely because he's also a successful investment banker that more and more people are listening to his words. He's not actually saying anything all that different from the original 'Limits to Growth' – celebrating the 40th anniversary of its publication later this year. But the basic thesis of it is, in essence, a Malthusian one. It focuses on the possibility (probability, even) that a continually rising human population, demanding more and more economically, will overwhelm the ability of the natural world to meet that demand. And it has been systematically ignored by pretty much every banker over the course of history.
The trick, from an investment point of view, is to be able to tell the difference between a bubble and a paradigm change. In Grantham's terms, that means telling the difference between the sub-prime mortgage meltdown (the one that nearly brought down the entire global economy), and the dramatic rise in commodity prices that has been going on over the last two or three years. The first was the culmination of a disaster that had long been waiting to happen. The second was a significant change in global demand and supply: "A paradigm shift which changes everything", as Grantham puts it.
For the last century, commodity prices have been declining by, on average, 1.2% per annum, with huge economic benefits for today's wealthy countries. But GMO's analysts demonstrate that almost all commodities are now on a rising cost curve, with almost no prospect of prices getting back to where they were even a few years ago. And we all know the principal reason for this: surging growth for countries like China, India and Brazil. For instance, more than half of all the concrete poured anywhere in the world in 2010, was poured in China.
The response of conventional economists is predictable: prices rise and prices fall. If you're talking sustainability, higher prices are not necessarily a bad thing. They encourage efficiency, one might argue, which drives innovation, creating new platforms for growth and value, which is good for the economy! Business as usual, then?
Grantham had nothing but contempt for these sustainability-illiterate economists. On commodities, resources and energy, significant demand from a new source means we have to get used to some new baselines. Oil is never going back below $75 a barrel, and high commodity prices are changing the balance of power between rich and poor countries. Keeping consumption within natural resource limits has become a whole new ball game.
Jeremy Grantham's quarterly briefings do not make comfortable reading even for sustainability activists – let alone investment bankers! Interestingly, he focuses as much on the critical indicators for sustainable agriculture (soil, nitrogen, potassium, phosphates, crop yields, water, biodiversity), as he does on climate change and carbon. Given that we're losing 1% of soil every year to produce no more than 60% of the food we're going to need in 2030 to feed 8.25 billion people, we might well be stuffed!
Which brings us back to Isaac Newton, who could so easily have invested the early returns from his South Sea speculation in other things. He might have bought a lot of land, as the safest possible 'hedge' against resource shortages and price volatility… Which is exactly what Grantham was recommending for worried investors in the 21st century.
Jonathon Porritt is Founder Director of Forum for the Future. www.jonathonporritt.com